The Business of Racing

[jwmbishop]

I opened this thread to create a sounding board and resource for those that truly ARE in the business of racing or those that wish to be. This is one of my pet representations. I am an Enrolled Agent - EAs are the ONLY profession allowed by the IRS to represent the taxpayer that are granted that auth by passing an IRS administrered test that covers ALL areas of US income taxation! Even the highly regarded CPA may be well trained on double entry books - but that does NOT mean he is authoritative on the Tax Code. EAs read the Tax Codes like most people read the newspaper!

 

Many folks ARE in racing as a business and leave losses on the table out of a lack of understanding how to model the operation to withstand the hobby loss scrutiny of the IRS. Conversly some try to meet the business rules while they are truly in it as a hobby. Either way cost the taxpayer $$$!

 

Hopefully everyone is aware of the ramifications of claiming your racing to be a business - IRS scrutiny usually determines it's a hobby and then losses are limited and can not exceed the actual earnings of the hobby. (A business can allow a loss to apply against other incomes - W2 included). Usually this determination is based on the taxpayer not being able to fully explain the "business" part of it and making statements that seem to support the arguement but actually help the IRS!

 

To open I will lay out the three basic rules for it to be a business:

1. Must be PROFIT motivated

2. Must be conducted like a business (separate books, business plan, marketing etc)

3. Must have reasonable expectation of profitability when compared to total earnings (if 98% of your time is earning wages its harder - but not impossible - to claim that 2% of your time is expected to be more profitable).

 

Nothing in there says if you love your work its a hobby! Nothing in there says if you DO end up spending more than you make its a hobby. Every racing operation must start somewhere and any start up incurs losses - its how you deal with CHANGING losses to profit that will help the most with business arguement.

 

With that I will take questions and comments and see how we can grow this part of our thinking to keep extra $$$ from going to taxes that are not legally due.

[carguy]

i own a auto repair shop and advertise my shop on my kart. i race at several tracks in the area, can the business pay for my racing as advertising? thanks

[jwmbishop]

Short of it - no. In that scenario the business as your alter ego is just footing the bill for your hobby.

 

If Miller light came on borad as a sponser of your cart would they have any say in running your car shop? THat shows the difference.

 

If you set up carguy racing as an entity and cut a check from carguy repair shop to car guy racing that is the first step of removing the alter-ego that is apparent. Carguy Racing would report as income the "sponsership dollars" and CarGuy Repair would deduct the advertising expense. THis passes the hobby loss rules completely out of CG Auto Repair and places the focus entirely on CG Racing. Then you would have to run CG Racing as you would any other business including doing what is necessary to produce a profit.

 

Staying as CG Repair and running its own car you would be allowed "ordinary and necessary"expenses for advertising. If you could show that other businesses pay that much for their advertising (with comparable market penetration leads) you would have the beginnings of the OandN arguement. But as always there is a little more to it, and I do not recommend that approach. I lost that one with a drag guy when my examiner happened to be a drag racer too and recognized parts on the reciepts!

[tabyrnes]

I've never owned a race car or been involved in racing, but currently thinking about getting a Legends car. How do I do this right from the start? What are the steps?

[jwmbishop]

First pick an entity type - sole propietor is the easiest, partnership next - I do not recommend LLC, LLP or Corporation mainly because of the Texas Franchise Tax requirements (you probably won't have a liability but must still file every year - a missed deadline can kill your entity), but also these entity's baic reason for existance is to sheild the owners personal assets from business liabilities such as lawsuit. The "veil" is too easy to pierce to justify all the documentation requirements. Insurance works better!

 

Pick a name for your organization, file it with the courthouse (dba), get an EIN from the IRS (even if you will not have employees!), open a checking account with the EIN - your business is now formed.

 

Create your five year operating plan (there are many Word templates for this available on the net). Obtain funding (either a loan in from your own cash or sponsership). I recommend not using race winnings monies as part of your planned income. The courts have ruled that the costs of building a car are not to earn money - but rather to earn the CHANCE to make money. The real income potential comes from sponserships, donations (yes these are taxable to you and non deductable to the giver) selling parts, helping to setting up other folks cars, and any other thing you can think of to create income. If you miss your mark - be ready to make changes to the plan. Even if they fail you are still demonstrating "profit motive" - and sucking at business is not a disqualifier until you stop trying to change it.

 

But the biggest caveat is - DO NOT try to make it "look" like a business. Make it a REAL business including all the tough decisions that business owners have to deal with. I saw one guy actually fire himself as GM and hire someone else (contract labor - pit pass plus 10.00 per event) to make those decisions. THAT carried a lot of weight with the examiner! The business was allowed in that case - even though he lost a lot of his claimed expenses as not being OandN.

 

And keep in mind that if you start up in one year with no income until the next - all the start up expenses (which would include the cost of the car) have to be spread over 15 years (remaining expenses are taken in the year of closure if less than 15 years). So plan those expenses at a point where you will earn at least $1.00 to deduct them currently.

 

I wish more track promotors would adopt a early registration policy that returns 1.00 of your registration fee if you pre pay you next year registration by 11-31 and do not cancel your number before 01-01 of the following year. That would help a lot of small racers meet the startup rules and deduct the current expenses.

[racer61]

wow, i learned more in 5 minutes of reading than in 20 years of dealing with the irs. cool.

[jwmbishop]

What - you mean the IRS is not helpful or enlightening? There's a REAL suprise!

 

lol

[CuttingEdgeRacing]

Thank you for the excellent advice and descriptions.

 

Here is my question:

 

I've opened and closed several small, one man band shops (CuttingEdgeRacing is not mine, its a team I build for). I'm considering doing it again, mostly for the sake of deductions. For example: I open up Ultimate Chassis Shop (UCS for now), create my DBA, and get my tax payer number. Is it legitimate to do small business workings (building a few cages and making small work) for the sake of being able to write off tools? Obviously, there is a point of deminishing return here, but I want to know at what point?

 

Also, is it ok to carry a DBA and tax ID# and simply file ZERO on the years I'm not active in the business? So I dont' have to continue "closing" the doors for the sake of ending the taxation process?

 

I hope that makes sense. I know I'm not the only one thats done this.

[supertx]

I was audited in 2002 because of my race team that was a seperate bussines Because I owned a race engine shop,and a graphics company that both dealt with racers there was not much they could do,but they tried they went back on me for years and seven trips to there office we finally walked out only owning a little they could nick pick only because we keep really good records.

[landlord]

I have written my racing off as advertisement for years.Never had any problems(knock on wood).I know guys doing it your way with success also.Guess it really depends on how much your spending.

[jwmbishop]

Thank you for the excellent advice and descriptions.

 

Here is my question:

 

I've opened and closed several small, one man band shops (CuttingEdgeRacing is not mine, its a team I build for). I'm considering doing it again, mostly for the sake of deductions. For example: I open up Ultimate Chassis Shop (UCS for now), create my DBA, and get my tax payer number. Is it legitimate to do small business workings (building a few cages and making small work) for the sake of being able to write off tools? Obviously, there is a point of deminishing return here, but I want to know at what point?

Yes - what you are doing is legitimate IF you are doing it for profit. Even a hobby can depreciate tools and such - but only to the point of income, not into a loss.

 

Also, is it ok to carry a DBA and tax ID# and simply file ZERO on the years I'm not active in the business? So I dont' have to continue "closing" the doors for the sake of ending the taxation process?

Absolutely - many corps cease doing business and still file returns simply as a way to keep the Corp veil in place to protect them from product lawsuits in the future. Just file the sched C with zeros (most softwares will not print it with all zeros so you may have to "force print" it). Until you actually check the "final return" box the IRS recognizes that the EIN is still in business.

 

I hope that makes sense. I know I'm not the only one thats done this.

[jwmbishop]

I was audited in 2002 because of my race team that was a seperate bussines Because I owned a race engine shop,and a graphics company that both dealt with racers there was not much they could do,but they tried they went back on me for years and seven trips to there office we finally walked out only owning a little they could nick pick only because we keep really good records.

The direct result of operating in a business-like manner! That is where most racers loose the argument. My personal experiences are that most teams do not operate the same as a business. One big example - do you consume alcohol on your weeknight thrash sessions? Do you consume alcohol on a wage earning job? See the diff? My rule when in charge of teams is no top is popped until the last tool is clean and in the box. IN WRITING as a team policy. One small step toward the "businesslike" arguement!

[jwmbishop]

I have written my racing off as advertisement for years.Never had any problems(knock on wood).I know guys doing it your way with success also.Guess it really depends on how much your spending.

That is okay if you can make the arguement. For example - a 1200 budget on the radio would reach X number of people in your specific target demographic. If your $10,000 budget (spent for the rear quarter of the car) reaches fewer - then its hard to call it Ordinary. It gets even trickier to make the arguement if your business is very localized and you are racing in a city that just won't drive the results of the dollars spent. For example it's not ordinary to advertise an oil change shop 600 miles from where the shop actually is located! Each determination must be made on specific facts and circumstances - try not to apply generalities and hope they fly!

[landlord]

Never have really thought much about it.My CPA set it up like that 20 years ago.I have always advertised local real estate and raced mostly local with some out of town excursions thrown in through the season.I have never claimed the whole amount of a season worth of racing,can you do that if it's a business?Nice imformative thread you got going here.

[jwmbishop]

I have never claimed the whole amount of a season worth of racing,can you do that if it's a business?Nice imformative thread you got going here.

Step back and look at it from the other side. I would not paint someones name on my car for less than 35% of what it costs me to run it (keep in mind though that for me driving is not my gig so the personal recreation factor working against me is minimized). And for that they get only left quarter and possibly trunk deck. The right quarter/hood would have to pony up at least 65%. If a driver did not bring a sponser to my table I would lease it. But either way I would NOT bear the cost of someone elses recreation.

 

If you look at a NASCAR team - their winnings only cover the hard costs (if even that) like cars, tools and equip (original not repair). This became really apparent with the start and parks we started seeing a couple years ago! The selling of the panel is where their income is derived.

 

If you are truly a business - you can show a loss - demonstrating a sale in your other business that is directly related to the racing advertisement shows the value of the ad dollars. So yes you can write off the entire season. The problem arises when the losses continue in the racing operation and there is no way to demonstrate the income (profit) potential. The potential can be realized by another venture in which you WILL show a profit!

 

In a case where the advertised business is not a vendor to other racers - it may be best to claim the car itself as a hobby - depreciating only the cost of the car against actual winnings. Leasing the car to the race team then using sponsor dollars as the income to the team with the cost of operation written off against it. Then your argument is that BUILDING the car is a hobby. Operating it is a business.

[landlord]

In a case where the advertised business is not a vendor to other racers - it may be best to claim the car itself as a hobby - depreciating only the cost of the car against actual winnings. Leasing the car to the race team then using sponsor dollars as the income to the team with the cost of operation written off against it. Then your argument is that BUILDING the car is a hobby. Operating it is a business.

Your going at from both sides!!!!!If thats legal then thats sweet!!!!!!

[jwmbishop]

Your going at from both sides!!!!!If thats legal then thats sweet!!!!!!

Of course its legal. You just have to create the entity - in Texas a handshake can do that with the same binding effect as a contract (although paper is ALWAYS recomended) - and operate it as such.

 

Its no different than my corp leasing a car for me to have business use access to. Even though I own the car! I just report the lease income as income on my personal return (not subject to SE tax - I am not in the business of leasing cars) and the corp deducts the expense of lease (and maintenece) - which reduces the amount of SE taxable income that does pass through to me. This stood up to an NRP (which is a complete line by line exam) audit. As long as the paper trail exists (actual checks written - not just book entries) its good. Separation of entity (done correctly) is a demonstration of "business-like" behavior.

[landlord]

A souped up racing accountant!!!!!Where you been all our lives??????(LOL) seriously,thanks for the info!!!!!!!

[jwmbishop]

Just follow one simple rule - make the arguements BEFORE taking the actions. In other words PLAN to run as a business! Making the argument fit your actual business model is far riskier than making the business model fit the argument.