Will the IRS Treat My Farm or Ranch as a Hobby? The Section 183 Nine-Factor Test, Explained

In one sentence: The IRS decides whether your farm or ranch is a business or a hobby using a nine-factor test, and losing that argument means your losses stop being deductible while your income stays taxable. Current as of July 2026 — applies to tax years 2018 and later.

Direct answer: If the IRS decides your farm or ranch is an “activity not engaged in for profit” under IRC § 183 — the “hobby-loss rule” — your farm income remains fully taxable (reported as other income on Schedule 1 of Form 1040), but your losses generally stop being deductible. For tax years 2018 forward this disallowance is effectively permanent: the deduction category most hobby expenses fall into was suspended by the Tax Cuts and Jobs Act and the suspension was made permanent by the One Big Beautiful Bill Act (P.L. 119-21, § 70110) in 2025. Business-versus-hobby status is decided by a nine-factor facts-and-circumstances test in Treasury Regulation § 1.183-2(b). No single factor — and no particular count of factors — decides the outcome, but how you run the operation is largely within your control, and it is the evidence the IRS and the courts look at.

Who these rules apply to

IRC § 183(a) applies to individuals and S corporations. In practice, partnerships, estates, and trusts face the same profit-motive determination: IRS Form 5213 is expressly filed by individuals, estates, trusts, partnerships, and S corporations, and an election by a partnership or S corporation binds all of its partners or shareholders. Putting the ranch in an LLC or S corporation does not protect a hobby — the test follows the activity, not the entity.

What IRC § 183 does: when farm losses stop being deductible

Section 183(c) defines an activity not engaged in for profit as one for which deductions wouldn’t be allowable under § 162 (trade or business expenses) or § 212 (production-of-income expenses). If your activity is classified as a hobby, the income is still fully taxable — for tax year 2025 it is reported as “activity not engaged in for profit income” on Schedule 1 (Form 1040), line 8j, per the IRS Form 1040 instructions.

Section 183(b) throws a limited lifeline: deductions you’d get anyway regardless of profit motive (such as property taxes) remain allowable, and other expenses are allowed up to the activity’s remaining gross income. But the stakes changed in 2017 and again in 2025. The Tax Cuts and Jobs Act suspended miscellaneous itemized deductions for 2018 through 2025 (former § 67(g)), and the One Big Beautiful Bill Act (P.L. 119-21, title VII, § 70110, enacted July 4, 2025) made the disallowance permanent — it is now codified at IRC § 67(h), which allows no miscellaneous itemized deduction for any taxable year beginning after December 31, 2017, with no end date. Since that second category of hobby expenses could only be taken as miscellaneous itemized deductions, the practical result for an individual today is stark: hobby income is fully taxable, and hobby expenses are essentially nondeductible. One partial offset survives: in computing the activity’s gross income, receipts may be reduced by cost of goods sold — for example, the basis of livestock sold — provided the taxpayer does so consistently and follows generally accepted methods of accounting (Reg. § 1.183-1(e)).

For a farm or ranch, reclassification typically means losing the Schedule F loss you were using against wages or other income, plus exposure in every open year the IRS examines.

The nine factors — Treas. Reg. § 1.183-2(b)

The regulation is explicit about how this test works, and it is worth quoting: “all facts and circumstances with respect to the activity are to be taken into account. No one factor is determinative… [nor] is a determination to be made on the basis that the number of factors… indicating a lack of profit objective exceeds the number of factors indicating a profit objective, or vice versa.” (Treas. Reg. § 1.183-2(b).) In other words, this is not a scorecard where five out of nine wins. It is a weighing of your whole situation. Anyone who tells you a particular factor or count of factors guarantees an outcome is overstating what the law says.

The regulation also says a reasonable expectation of profit isn’t required — a genuine objective of making a profit is, and “greater weight is given to objective facts than to the taxpayer’s mere statement of his intent.” (Treas. Reg. § 1.183-2(a).)

1. Manner in which you carry on the activity — § 1.183-2(b)(1)

Businesslike operation: complete and accurate books and records, a separate bank account, and — importantly for struggling operations — changing methods and abandoning what isn’t working “in a manner consistent with an intent to improve profitability.” A ranch that culls an unprofitable herd, switches breeds, or leases out unused pasture is generating exactly this kind of evidence.

2. Expertise of you or your advisors — § 1.183-2(b)(2)

Study of accepted business practices and consultation with experts count: extension agents, veterinarians, agronomists, and yes, your CPA. The regulation adds a trap: getting expert advice and then not following it can indicate the opposite.

3. Time and effort you put in — § 1.183-2(b)(3)

Substantial personal time helps, especially where the work has no significant recreational side (few people fix fence in August for fun). Limited personal time is not fatal if you employ competent, qualified people to run the operation.

4. Expectation that assets will appreciate — § 1.183-2(b)(4)

“Profit” includes appreciation in the value of assets used in the activity, such as land. An operation can qualify even if operations alone never turn a profit, where income plus expected land appreciation exceeds costs. One important catch: where land is held primarily to profit from its appreciation and you also farm it, Treas. Reg. § 1.183-1(d)(1) treats the farming and the landholding as a single activity only if the farming income exceeds the farming-only deductions (those not directly attributable to holding the land, such as mortgage interest, property taxes, and depreciation on improvements). In plain terms: you generally can’t use the land’s appreciation to justify farm operating losses unless the farming at least covers its own direct costs.

5. Your success in other activities — § 1.183-2(b)(5)

Having previously turned unprofitable ventures profitable suggests you can do it again, even if the current operation is losing money.

6. Your history of income or losses — § 1.183-2(b)(6)

Startup losses are expected, and the regulation says so. Losses that continue “beyond the period which customarily is necessary to bring the operation to profitable status” hurt — unless explainable. The regulation specifically lists the explanations every rancher knows: “drought, disease, fire, theft, weather damages… or depressed market conditions.” Document those years. A drought year with a documented drought is a very different fact than an unexplained loss.

7. Amount of occasional profits — § 1.183-2(b)(7)

An occasional small profit against large losses doesn’t prove much; a substantial profit, even occasional, is meaningful. So is a genuine opportunity to earn a substantial ultimate profit in a speculative venture.

8. Your financial status — § 1.183-2(b)(8)

This is the factor that puts ranch owners with good W-2 or practice income under the microscope. Substantial income from other sources — “particularly if the losses… generate substantial tax benefits” and there are personal or recreational elements — points toward hobby. Lack of other substantial income points toward business.

9. Elements of personal pleasure or recreation — § 1.183-2(b)(9)

Enjoying the work does not disqualify you. The regulation says so expressly: personal pleasure “is not sufficient to cause the activity to be classified as not engaged in for profit” if the facts otherwise show profit motive. But recreational elements combined with other weak factors (see factor 8) are a bad mix.

Key limits and exceptions

• Deductions allowable regardless of profit motive (such as property taxes) survive hobby classification under § 183(b)(1).
• Losses caused by drought, disease, fire, theft, weather damage, or depressed markets do not count against you under factor 6 — if documented (Reg. § 1.183-2(b)(6)).
• Land appreciation counts toward profit motive only under the single-activity conditions of Reg. § 1.183-1(d)(1) (see factor 4).
• The 3-of-5-year presumption (2-of-7 for horses) is rebuttable in both directions: meeting it doesn’t make you bulletproof, and failing it creates no negative inference (IRC § 183(d); Reg. § 1.183-1(c)).

The farm examples in the regulation itself

The regulation’s own illustrations (Treas. Reg. § 1.183-2(c)) include two farms, and the contrast is instructive. In Example 1, a taxpayer with large dividend income inherits a never-profitable farm, lives on it by strong personal preference, employs a manager but doesn’t use modern methods — could be found not for profit. In Example 4, a factory worker inherits a 65-acre farm, works it himself, consults the state agricultural agent and follows the advice, and operates like similar area farms (many of which also lose money) — could be found for profit, despite 15 unprofitable years. Same activity, opposite indications — because the facts differ.

A real case: Engdahl v. Commissioner

In Engdahl v. Commissioner, 72 T.C. 659 (T.C., filed July 11, 1979), a California orthodontist and his wife ran an American saddle-bred horse-breeding operation that produced what the court called “an uninterrupted series of losses” — and won. The U.S. Tax Court held, on the facts, that the operation was an activity engaged in for profit under § 183. Among the court’s findings: the couple kept books and records following procedures suggested by their certified public accountant, who reviewed and summarized the books quarterly; income from the horse operation was deposited in its own separate savings account; they did most of the ranch work themselves; and neither of them rode the horses — the court found they did not use the horses or the ranch for personal pleasure. The holding is limited to its facts. The broader takeaway — that sustained losses alone don’t decide the question where the objective evidence of businesslike operation is strong — is our reading of the case, not language from the court.

The presumption: § 183(d) and Form 5213

If an activity shows a profit in 3 of 5 consecutive tax years (for activities consisting in major part of breeding, training, showing, or racing horses: 2 of 7), IRC § 183(d) presumes it is engaged in for profit. Two things people routinely get wrong about this: the presumption is rebuttable — the IRS can still challenge with contrary evidence — and failing the presumption does not mean you’re automatically a hobby. It just means the nine-factor test decides without the presumption’s help.

A new operation can also file Form 5213 to elect under § 183(e) to postpone the determination until the end of the presumption window (the 4th tax year after the first year of the activity; the 6th for horse activities), letting the operation establish its profit years first. Per the form’s instructions, it must be filed within 3 years after the due date (without extensions) of the return for the first year of the activity — or, if the IRS has already sent written notice proposing to disallow the deductions under § 183, within 60 days of that notice.

The trade-off, also stated on the form: filing automatically extends the statute of limitations for assessing tax attributable to the activity for all years in the presumption period. Whether filing it is wise is a judgment call — and exactly the kind of decision to make with your CPA, not from an article.

Common mistakes that trigger hobby classification

• Treating the nine factors as a checklist and assuming “I pass 5 of 9, I’m safe.” The regulation expressly rejects factor-counting. (Treas. Reg. § 1.183-2(b).)
• No separate bank account, no books beyond a shoebox of receipts, no budget or written plan — surrendering factor 1, the factor most within your control.
• Failing to document why a bad year was bad. Drought, disease, and depressed markets are named in the regulation as losses that don’t count against you — but only if you can show them. (§ 1.183-2(b)(6).)
• Continuing an unprofitable approach unchanged for years. Changing methods is itself evidence of profit motive. (§ 1.183-2(b)(1).)
• Assuming profit-in-3-of-5-years makes you bulletproof, or that failing it makes you a hobby. The § 183(d) presumption is rebuttable and one-directional.
• Assuming hobby classification just means “no loss.” Under IRC § 67(h), as amended by P.L. 119-21 (2025), it generally means taxable income with no deduction for most expenses — worse than break-even.
• Ignoring the issue because “we own the land and it’s appreciating.” Appreciation can count toward profit motive (§ 1.183-2(b)(4)), but under § 1.183-1(d)(1) the farming and the landholding count as one activity only if farming income covers the farming-only deductions — don’t rely on appreciation without advice.

How to document profit motive: planning steps

• Run the operation so the record makes the case for you: separate account, real books (even simple software), an annual written plan or budget, and notes on decisions made to improve profitability.
• Keep a file of expert consultations — extension agent visits, vet and agronomy advice, CPA planning meetings — and evidence you acted on them.
• Log time spent, especially for owners with substantial off-farm income (factor 8 will be against you; factors 1–3 are how you answer it).
• Document loss causes contemporaneously: drought declarations, market prices, disease and vet records.
• If the operation is new, discuss with your CPA whether the Form 5213 election helps or hurts in your situation before any IRS contact.
• Revisit structure and strategy when losses persist — both because it’s good business and because course-correction is itself favorable evidence.

What hobby reclassification costs: a worked example

Illustration only — not a real client and not advice. A couple with $250,000 of combined W-2 income runs a small cow-calf operation on inherited land: $18,000 of cattle sales, $45,000 of expenses, a $27,000 Schedule F loss used against wages. If the operation is a business, the loss is deductible (other limitations aside). If the IRS reclassifies it as a hobby: the $18,000 stays taxable, roughly $27,000 of net deductions is lost in each reclassified year, and at a 24% federal marginal bracket that’s about $6,500 more federal tax per year, per open year examined (the IRS generally may assess tax within 3 years after a return is filed, IRC § 6501(a)) — plus potential penalties and interest. The same couple with a separate ranch account, herd records, a grazing plan from the county extension office, and documented drought losses in the two worst years presents a completely different case under the nine factors — though, again, no set of facts guarantees an outcome under this test.

Frequently asked questions

Related reading

• Are my farm or ranch losses passive? The Section 469 rules
• Farm & Ranch Taxation: A Complete Guide
• Farm & Ranch Advisory and Taxation at Chris Willis CPA
• Why a Once-a-Year Tax Return Is Costing You Money
• A Plan Beats No Plan: What a Multi-Year Roth Conversion Strategy Can Actually Do

Talk to a CPA before the IRS asks

If your farm or ranch has shown losses for several years and you’re not sure how your facts stack up under the nine factors, that’s a planning conversation worth having before the IRS asks. Schedule a consultation with Chris Willis CPA — we work with farm and ranch owners across all fifty states.

About the author: Chris Willis, CPA is a Certified Public Accountant and partner at Dunaway & Willis, PC, advising farm, ranch, and small-business owners on tax planning and IRS matters. Written and reviewed by Chris Willis, CPA.

Disclaimer

This article is general educational information about federal tax law as of the date last reviewed. It is not tax advice for any person’s specific situation, and it is not legal advice — I am a CPA, not an attorney, and nothing here predicts how any court would rule on a particular set of facts. The hobby-loss determination is a facts-and-circumstances test with no bright-line answer; outcomes depend on each taxpayer’s complete situation. Before relying on anything here or taking a position on a return, consult a CPA who can evaluate your specific facts.

Sources

1. Treas. Reg. § 1.183-2 (26 C.F.R. § 1.183-2): law.cornell.edu/cfr/text/26/1.183-2
2. Treas. Reg. § 1.183-1 (26 C.F.R. § 1.183-1), incl. (d)(1) and (e): law.cornell.edu/cfr/text/26/1.183-1
3. IRC § 183: law.cornell.edu/uscode/text/26/183
4. IRC § 67, incl. current § 67(h): law.cornell.edu/uscode/text/26/67
5. One Big Beautiful Bill Act, P.L. 119-21, title VII, § 70110(a),(b), 139 Stat. 164 (July 4, 2025): congress.gov
6. IRS Form 5213 (form and instructions): irs.gov/pub/irs-pdf/f5213.pdf
7. IRS Form 1040 instructions (2025), Schedule 1 line 8j: irs.gov/instructions/i1040gi
8. IRC § 6501(a): law.cornell.edu/uscode/text/26/6501
9. Engdahl v. Commissioner, 72 T.C. 659 (T.C. 1979) (filed July 11, 1979): CourtListener (full opinion)
10. Covington & Burling, OBBBA key provisions (2025): cov.com
11. Iowa State CALT, OBBBA analysis: calt.iastate.edu
12. The Tax Adviser, “Avoiding the hobby loss trap after the TCJA” (2018): thetaxadviser.com

Author: Chris Willis, CPA — Partner, Dunaway & Willis, PC. Published July 23, 2026. Last reviewed July 23, 2026. Last updated July 23, 2026.