Net Operating Losses (NOLs) can be a powerful tax planning tool for businesses and individuals facing inconsistent income over multiple years. An NOL occurs when a taxpayer’s allowable tax deductions exceed their taxable income, creating an opportunity to offset taxable income in other tax years. Strategic use of NOLs can significantly reduce future or past tax liabilities.
At PEAK Business Consultancy Services, we specialize in helping U.S. CPA firms and business clients utilize tax strategies like NOL carryforwards and carrybacks to optimize their financial outcomes. Our India-based team offers dedicated outsourcing support for U.S. tax filings. Visit our website to see how we can assist your firm with NOL planning and reporting.
What Is a Net Operating Loss (NOL)?
An NOL arises when a business or individual’s tax-deductible expenses exceed its taxable income for a particular year. NOLs are commonly generated in business operations where costs outpace revenue—such as startups, companies undergoing expansion, or those experiencing economic downturns.
Eligibility for NOLs
Generally, NOLs apply to:
- Corporations (C-Corps filing Form 1120)
- Partnerships and S-Corporations (the NOL passes through to partners or shareholders)
- Individuals (particularly sole proprietors and gig workers)
Investment losses, capital losses, and foreign income exclusions are typically not included in the NOL calculation.
NOL Carrybacks vs. Carryforwards
1. NOL Carryback
Prior to the Tax Cuts and Jobs Act (TCJA) of 2017, NOLs could generally be carried back two years. However, the TCJA eliminated NOL carrybacks for most taxpayers, starting in tax year 2018. Temporary exceptions were made for 2018-2020 under the CARES Act, allowing five-year carrybacks during that time.
2. NOL Carryforward
Currently, NOLs can be carried forward indefinitely. However, carryforwards are limited to offsetting a maximum of 80% of taxable income in a given year. This limitation ensures taxpayers pay some tax even when NOLs exist.
Reporting NOLs: Forms and Process
To use NOLs, you must accurately calculate and report them on the appropriate IRS forms:
- Form 1045: Used to apply for a tentative refund from an NOL carryback
- Form 1139: For corporations claiming carrybacks
- Schedule A of Form 1045: For computing the NOL amount
- Form 1120, Line 29a: For C-Corps applying carryforward NOLs
When not electing to carryback, a statement must be included with your return to waive the carryback and opt for a carryforward instead.
Strategic Use of NOLs
NOLs can be used for more than just tax savings—they’re tools for strategic business planning:
- Cash Flow Planning: Carrybacks can lead to immediate refunds, which can boost cash flow.
- Mergers and Acquisitions: NOLs can make a business more attractive to buyers, although limitations such as Section 382 must be considered.
- Quarterly Estimates: Future tax liability projections should account for available NOLs.
Common Mistakes to Avoid
- Failing to elect carryforward in years where carryback is disallowed
- Misclassifying capital losses or other non-NOL-eligible deductions
- Not applying the 80% limitation rule for post-2017 NOLs
- Overlooking passive loss limitations and at-risk rules
PEAK Business Consultancy Services partners with U.S. CPA firms to handle complex tax tasks like NOL tracking, carryforward application, and audit-proof reporting. Our skilled India-based professionals help ensure your clients benefit fully from their NOL opportunities. Let’s discuss your outsourcing needs.
Tracking NOLs Year Over Year
Businesses should maintain detailed NOL schedules for carryforward purposes. These include:
- Year generated
- Amount generated
- Amount used in future years
- Remaining balance
Such documentation helps ensure NOLs are not forgotten or misapplied in future years. Many tax software systems automate this process if properly configured.
Impact of State Taxes
Not all states conform to federal NOL rules. For example:
- California does not allow NOL deductions for certain years.
- New York limits carryforward usage in a more restrictive way than the IRS.
CPAs and tax preparers must verify the NOL treatment in each applicable state when preparing multi-state returns.
Conclusion
Properly managing Net Operating Losses is essential for maximizing tax efficiency. Whether you’re an individual entrepreneur, partnership, or corporation, understanding how and when to use NOLs could save you or your clients thousands of dollars over time.
Outsourcing these calculations to trusted partners ensures accuracy and compliance. PEAK Business Consultancy Services has deep expertise in assisting CPA firms across the U.S. with NOL-related tax filings. Contact PEAK BCS today to learn how we can support your tax planning processes.
