In Brief

CARES Act Addresses Net Operating Losses

April 2, 2020
CARES Act Addresses Net Operating Losses

[Track whether or not a state follows the CARES Act. Download an easy-to-scan summary of state conformity to the stimulus bill.]

The Coronavirus Aid, Relief, and Economic Security (CARES) Act, enacted on March 27, 2020, provides emergency assistance and addresses health care concerns of individuals, families, and businesses affected by the 2020 coronavirus pandemic. Among the tax changes, it addresses net operating losses and a drafting error contained in the Tax Cuts and Jobs Act.

The Situation

Section 2303 of the CARES Act allows a five-year carryback for net operating losses (NOLs) arising in the 2018, 2019, and 2020 tax years. That section of the act also temporarily repeals the 80% of income limitation (preventing an NOL carried to another tax year from offsetting more than 80% of taxable income) for tax years beginning before 2021, allowing companies to fully offset taxable income when utilizing the new carryback period provided in the act.

However, if the NOL is carried back to a year in which the TCJA transition tax applied, then the taxpayer will be treated as having made an election to not apply the NOL against the repatriation income inclusion under Section 965. Generally, this can be good news for taxpayers because Section 965 income was taxed at favorable rates, thus allowing taxpayers to use the NOL carryback against highly taxed income.

In addition, §2303 of the CARES Act corrects a drafting error in the Tax Cuts and Jobs Act (TCJA) regarding carrybacks, changing the original limitation on carrybacks to NOLs arising in tax years beginning after December 31, 2017, rather than to those arising in years ending after that date.

The CARES Act also provides a 120-day window from enactment in which taxpayers with an NOL for a tax year beginning before December 31, 2017, but ending after that date would be permitted to apply for a tentative carryback refund with respect to that NOL.

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The Background

Prior to passage of the TCJA, taxpayers were able to carryback an NOL to the two prior tax years. The TCJA eliminated this carryback period for NOLs arising in years ending after December 31, 2017. The use of “ending” was a drafting error – the provision was not meant to apply to taxpayers with fiscal years beginning before, but ending after, December 31, 2017.

The TCJA also instituted a limitation on the use of NOL deductions carried forward to future tax years, restricting the deduction to no more than 80% of taxable income (calculated without reference to the NOL deduction itself).

The Argument

The coronavirus pandemic, and particularly the forced closures of many businesses and demand declines resulting from social distancing guidelines and stay-at-home orders, has caused cash shortages for many businesses trying to maintain operations and staffing.

NOL carrybacks are eligible for refund procedures that allow businesses to receive expedited tentative refunds on prior year taxes to which the loss is carried. The intent is that these expedited procedures can be used by businesses to quickly access needed cash to sustain operations during this crunch time.

On the other hand, for most taxpayers, who have a calendar year tax year, this provision may be of limited usefulness. With the economy doing well in 2018 and 2019, a large proportion of businesses did not end up in a loss position, and their 2020 losses will not be known and available for carryback until early 2021. However, those businesses that did have NOLs in 2018 and/or 2019 may be particularly vulnerable or cash-strapped and be most in need of a quick refund.

Track whether or not a state follows the CARES Act with an easy-to-scan summary of state conformity to the stimulus bill.

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