We did an article for IHRA in 2006 about racing as a business. The full article can be found in our articles section of our website. We did an extension of that article about a racing business and IRS audit info in last year’s Newsletter, 3-2011, on Racing & Taxes in the USA. The next section is a further extension of these previous articles.

Please see the disclaimer at the end of the section.

Rules Review for What Constitutes a Racing Business for Tax Filing
In the past, we were advised of simple rules to reduce audit rating for a racing business:

1. show a profit at least 2 out of 5 years for a USA schedule C filing
2. principle or significant source of income
3. reasonable ratio of income vs. expenses
4. And a few others.

Rules for What Constitutes a Racing Business in an IRS Audit
We were also advised that there is a greater standard practiced in an IRS audit:

1. showing positive trend
2. you materially participate
3. advertising labor or expenses such as a web page or web site showing intent to expand sales
4. operate to make a profit with reasonable business expense decisions and cost outcomes
5. written records
6. separate bank account with funds not co-mingled with personal funds
7. balance statement showing money in, money out, and balance to demonstrate no unreported income
8. have a substance to the business going beyond the racer such as inventory, a dedicated garage or shop, tools, machinery, business assets, unique or significant designs, trademarks, copyrights, and/or patents
9. And a few others beyond that.

Capital Loss from Selling a Racing Vehicle, Vessel, or Business

We were advised that if you are selling a race car, race boat, or an entire racing operation in the USA, an IRS Schedule D is used to report the sales price. Racing costs are often excessive, beyond the income of the racing business. And often not all costs that added value to the racer are deducted in prior tax return years. For these cases, you can report those on an IRS Form 8949. Then you can show them as a capital loss on your Schedule D in the year of the sale. You are entitled to a limit of <$3,000> for that year. That is the case even if your loss is greater than that. However, you can carry that excess loss forward. You can take <$3,000> per year until the capital loss is all taken.

Capital Loss Example
A race boat operation was sold out for $24,000. The total capital expenditure over the life of the race boat ownership was $80,000. The business nature of the race boat was established in several previous years. That was done by a Schedule C business filing on the tax return for those years. A couple years were profitable. A tax was incurred as a result. Only $20,000 of costs were ever deducted in those prior tax returns. Although a lot more costs occurred through the years. Deductions of costs were limited in some of the years because of little or no income. On other years, they were not taken again because of little or no income from the race boat business. That was also the case when the boat was first built, long before income from sponsorship or winnings could be earned.

Capital Loss Taken & Carried Forward
So the remaining $80,000 – $20,000 = $60,000 capital expenditure.
The sales price of $24,000 – $60,000 capital expenditure = <$36,000>.
That is a total capital loss.
Only <$3,000> of that <$36,000> can be reported as a capital loss for the year of the sale.
But then another <$3,000> can be reported next year, the year after, and so on until <$36,000> is fully written off.
That is a total of <$36,000> / <$3,000> per year = 12 years!
The <$3,000> per year capital loss can be used to offset $3,000 of other income each year for 12 years.
That is according to current tax rules for 2011 filings.

We were advised that costs that add value to a race car or race boat operation have a tangible paper value. That value exists even if they are not deducted the year they are made. They can be taken as a capital loss starting on the year of sale. Keep those records and receipts. And keep a business definition of the racing business that can be illustrated or explained. A tax preparer or consultant would have more information on capital losses and carry forward limits.