Can I claim only a portion of business expenses to avoid reporting a Net Operating Loss?

[CrossBound]

There are rules regarding NOL for a "passive" income not being used to offset taxable "active" income. My wife was babysitting for my sister so earned self-employment income, however the expenses incurred were much higher than the income. Because of the family relation and passive income situation, I don't think I should be able to apply a loss from the income toward my taxable income (W2 wages).

Is it acceptable to only report enough expenses to cancel out the debt but not claim the entire amount of expenses so that we don't show a NOL?

We are filling jointly.

[JulieR]

No. Per IRS: "A self-employed individual is required to report all income and deduct all expenses. Revenue Ruling 56-407, 1956-2 C.B. 564, deals with the issue of taxpayers not taking all allowable deductions in computing net earnings from self-employment for self-employment tax purposes. Rev. Rul. 56-407 held that under §1402(a), every taxpayer (with the exception of certain farm operators) must claim all allowable deductions in computing net earnings from self-employment for self-employment tax purposes."

[CrossBound]

Will we not get in trouble with the IRS because of passive income rules?

[CrossBound]

I'm thinking this might fall under "hobby income" considering my wife had no intentions of making it profitable (even though it definitely was not recreation)