Net operating loss carryforwards (NOL) do not expire quickly, but recent history has limited carry-backs and ultimately plays an important role in reducing the harshness of the year-end concept.
For example, the taxpayer who breaks even over two years has approximately zero taxable income if the million loss year precedes the million dollar income year. If the figures are the same over two years, without a carry-back rule and the income year preceding the year of loss, the taxpayer owes taxes on one million in the previous year.
There is a possibility that this taxpayer will benefit from the NOL in the later year, but there is a delay in use and the possibility that the NOL will expire unused. In a no-return world, you could theoretically make a million on December 31st, have a million dollar loss deduction the next day, and owe a million in taxes, even though you break even over two days.
The CARES Act provides that NOLs from 2018, 2019 and 2020 can be carried back five years without being subject to the 80 percent income limit.
“The CARES Act also temporarily removes the taxable income limit and therefore enables taxpayers to use (to) NOLs to offset 100 percent of taxable income in the tax years 2018, 2019 and 2020…. Losses in tax years beginning before January 1, 2018 can be carried forward to tax years beginning after December 31, 2020 without the 80% limitation. ” Have M&A Transactions ”, Hall, Ruiz, Zucker, Mussio, McDermott, Will & Emery, mwe.com, 03/27/20).
If the loss carry-backs are large enough, a full tax refund may be possible in the carry-back years. The realization rate can be relatively high in these years, of course depending on the information provided by the taxpayer (see also IRS Publication 536 (2020), “Net Operating Losses (NOLs) for Individuals, Estates and Trusts”, p. 1). .
The carryback, a fundamentally irrevocable choice, can be dispensed with. If any part of the NOL relates to agriculture, special beneficial rules may apply (see Tax Cuts and Jobs Act, CARES Act and Rev. Proc. 2021-14).
New restrictions can limit major “excessive business losses”. The Excess Business Loss Rule generally limits losses to $ 250,000 or $ 500,000 on a combined rate of return. In a partnership and an S-corporation, the limits apply to the share of each owner in the loss of the company.
The restrictions were created with the Tax Cuts and Jobs Act and should apply for tax years beginning after 2017 and before 2026. These have been temporarily suspended by the CARES Act so that non-corporation taxpayers can deduct losses for tax years 2018, 2019, and 2020. Also consider government tax issues (see “FAQs: COVID 19- State Net Operating Loss,” BakerHostler; bakerlaw.com , 24.03.20; https://www.bakerlaw.com/alerts/faqs -covid-19-state-net-operating-loss-nol).
The Impact of Taxpayer Pass-on on NOLs
What happens to the C Corporation NOL after the death of its sole or controlling shareholder? There is no rule per se that eliminates the C Corporation’s NOL even if the sole shareholder exits (see e.g. Section 382 (1) (3) (B)).
What happens to the person’s net operating loss carryforward in the event of death? It expires in the year of death. It does not necessarily expire with death in a limited sense, it can be used in a joint declaration that includes the income of the bereaved for the whole year (Rev. Rul. 74-175, 1974-1 CB 52; Regs. 1.2-1 (C)). In this scenario, it would be possible for the income after the death of the surviving spouse to be offset against the NOL of the previously deceased spouse. One can deal with questions of the calculation of the NOLs of the predeceased spouse and the surviving spouse depending on the respective participation in the company (see Rose, TC Memo 1973-207; Zeeman, 395 F.2d 861 (CA-2, 1968)) .
The NOL of the deceased does not simply pass to the bereaved, even if the couple has been married for many years. This indicates a possibly surprising need for the tax professional to understand deductions and losses in view of the generally long transfer possibilities. The same rationale applies to the myriad of other transmissions that can be present at death.
A “checklist” topic here could be accelerating income to minimize the loss of transmissions that can occur upon death or shortly thereafter. The planning would take into account the increase in the event of death for estimated assets. In terms of planning for death, this can focus on the sale of the healthy spouse’s estimated assets as these assets are not increased in the event of death. In common goods states, on the other hand, both halves of the community increase to market value with the death of the previously deceased spouse.
Changes in ownership can reduce or eliminate C Corporation’s NOL. These rules are outside our scope, but they may address restrictions that do not apply if options can only be exercised in the event of death, invalidity or intellectual disability of the owner of a loss-making company (Regs. 1.382-9 (e) ‘(1), Temp Reg 1.382-2T (h) (4) (x) (D), “Restrictions on Corporate Income Tax Attributes, An Analysis of Section 382 and Related Provisions,” Alvarez & Marsal Taxand, alvarezandmarshal.com, Lee Zimet, May 12, 2019, Pp. 64, 125).
Given that the C-Corporation’s net operating loss does not simply go away with the death of the shareholder (or majority shareholder), another planning consideration is whether having net operating losses at C-Corporation can help, especially if it is likely that there might be something else that might be individual NOLs that are lost in the death of the shareholder.