MANAGING YOUR MONEY : THE RIGHT PATH : Hobby Income Can Be Taxing : The IRS verdict on whether an activity is business or pleasure is sometimes a judgment call.

American taxpayers who mix business with pleasure have to be careful not to get tangled up with the Internal Revenue Service.

As old as that precept may be, it carries an up-to-date message for moonlighters who earn income from a hobby or other sideline activity.

Whether the endeavor in question is composing greeting-card verses, breeding show dogs or growing vegetables in your back yard, Uncle Sam has a claim on any proceeds it brings in.

The size of that claim may well depend on whether the enterprise qualifies as a business or is deemed a not-for-profit hobby.

In the case of a bona fide business, taxpayers are normally allowed to write off all expenses, even if to do so produces a loss that reduces their other taxable income.

With a hobby, by contrast, expenses can be deducted only against income from the activity itself. “Hobby losses are considered non-deductible personal losses,” point out the authors of the just-published 1991 edition of “J.K. Lasser’s Your Income Tax.”

Just how do you distinguish between the two? Through legislation and rulings over the years, a series of standards has evolved.

First of all, any venture that shows a net profit for three out of five consecutive years is presumed to establish itself as a business in earnest.

If you breed or train horses for racing or show, the requirement is two years out of seven.

In the event that those criteria aren’t met, notes the United & Babson Investment Report, a Boston-based advisory service, “the status of an activity is judged on a case-by-case basis, since the circumstances and facts of each are unique.”

Among the yardsticks that can be applied: Is the venture operated in a businesslike manner, with a substantial amount of expertise, expenditure of time and effort and diligent record-keeping?

Does it hold out the prospect of some reasonable return on investment? Is there a practical basis for hope that assets used in the activity will increase in value?

And, conversely, does it involve spending a lot of time in pursuits that are recognized as sources of recreation and personal enjoyment? Can the money it brings in make a real difference in your personal financial affairs?

“While none of these tests alone would qualify an activity as a hobby, the general picture that evolved from all the tests would,” United & Babson says.

With all the effort that has been devoted to defining the difference between hobby and business, the verdict often comes down to a judgment call.