MLM Basics: Just What is Deductible in MLM, and what is NOT?

One of the "advantages" of opening your own business, MLM proponents touted, was that you can deduct a lot expenses as cost of doing business. But can you really?

In terms related to MLM, can you deduct the trips (tickets, hotels, travel expenses, etc.) to attend meetings all over the country?

Under rules in the Federal Tax Code, Section 162 provides that a taxpayer who is carrying on a trade or business may deduct ordinary and necessary expenses incurred in connection with the operation of the business.  The taxpayer has the burden of proving entitlement to a business expense deduction. The deductibility of their MLM expenses depended on whether their activity was engaged in for profit.

To determine whether an activity is engaged in for profit, Section 183 provides a list of factors for the court to consider: (1) The manner in which the taxpayer carried on the activity; (2) the expertise of the taxpayer or his advisers; (3) the time and effort expended by the taxpayer in carrying on the activity; (4) the expectation that the assets used in the activity may appreciate in value; (5) the success of the taxpayer in carrying on other similar or dissimilar activities; (6) the taxpayer's history of income or losses with respect to the activity; (7) the amount of occasional profits, if any, which are earned; (8) the financial status of the taxpayer; and (9) elements of personal pleasure or recreation.

This brings us to the case of the Olletts in 2004. They joined Amway in 1996. They kept their day jobs and made about $100K in 1999 and 2000 respectively, and claimed Amway expenses of $17500 in 1999 and $23000 in 2000, both year with losses (-1450 in 1999 and -3235 in 2000). IRS denied their deductions and it went into tax court, where they were ruled against (i.e. deductions are disallowed) in 2004. Do you know why? The hints are listed above, but let's be specific...