How to Calculate Net Operating Loss for Corporations
A net operating loss (NOL) occurs when a taxpayer’s deductions for the year are more than its gross income for the year, with these deductions potentially offering taxpayer benefits at the federal level – and at the state level, in some cases. However, there are various points to consider if you want to use these deductions effectively and strategically.
In this article, learn more about the NOL formula, deduction calculation, and how changes to carryback and carryover rules may impact your corporate tax planning strategy.
What is an NOL deduction and why is it allowed?
An NOL deduction allows a taxpayer with a loss in one year and income in another year to pay tax on the net amount as if it were earned evenly over the same period, thus reducing the inequity that would otherwise result from use of annual accounting periods and the progressive rate structure.
The purpose of the NOL deduction is to relieve inequities caused by the determination of the income tax based on an annual accounting period. This federal tax planning strategy effectively averages a taxpayer’s income and losses over a period of years, thereby reducing the tax disparity that would otherwise exist between businesses with stable incomes and businesses with fluctuating incomes.
[NOLs arising in tax years beginning in 2018, 2019, and 2020 may be carried back for a period of five years and carried forward indefinitely. Download the NOL Carryback Flowchart to determine the carryback period for your context.]
Which taxpayers are allowed to deduct net operating losses?
The following taxpayers are allowed to deduct NOLs:
- Individuals
- C corporations
- Estates and trusts
- Exempt organizations with unrelated business taxable income
- Participants in a common trust fund
- Insurance companies
- Personal holding companies, under certain circumstances
The following taxpayers are not allowed to deduct NOLs:
- Partnerships
- S corporations
- Regulated investment companies
- Corporations subject to the accumulated earnings tax
- Common trust funds
Net operating loss formula
A net operating loss for a taxable year is equal to the excess of deductions over gross income, computed with certain modifications. Because of these modifications, an NOL approximates a taxpayer’s actual economic loss from business-related expenses. Which modifications must be made in calculating an NOL depend on whether the taxpayer is a corporation or an individual. For individuals, an NOL may also be attributable to casualty losses.
Net operating loss for individuals
An individual’s NOL is equal to the taxpayer’s deductions less gross income. In general, the following items are not allowed when figuring an NOL:
- The NOL deduction
- Capital losses in excess of capital gains
- Nonbusiness deductions in excess of nonbusiness income
- The IRC §1202 exclusion for gain from the sale or exchange of qualified small business stock
- The deduction for qualified business income (QBI)
Net operating loss for corporations
A corporation’s NOL is equal to the corporation’s deductions less gross income. In general, the following items are not allowed when figuring an NOL:
- The NOL deduction
- The dividends-received deductions under IRC §243 and 245 computed without regard to the aggregate limitations that normally apply to these deductions
- The deduction for foreign-derived intangible income
How to determine the NOL deduction
The NOL for any tax year is determined under the law applicable to that year. Thus, assume that an NOL is incurred in a loss year. That NOL is carried back or forward to earlier or later tax years in which it forms part of the NOL deduction. For purposes of determining the amount of the NOL deduction, the law of the year in which the NOL is ultimately deducted, rather than the law of the loss year, is controlling.
Determine the amount of the NOL deduction in four steps:
- Determine the amount of an NOL
- Ascertain the carryback and carryover periods
- Calculate the NOL carryback or carryover
- Determine the NOL deduction
NOL carryback and carryforward rules
In 2017, the Tax Cuts and Jobs Act (TCJA) significantly changed the NOL deduction by eliminating the carryback of most NOLs. The Coronavirus Aid, Relief, and Economic Securities (CARES) Act of 2020 effectively delayed the application of the TCJA amendments for carryback until 2021. The CARES Act also delayed the carryback effective date provision to apply to NOLs arising in taxable years beginning after 2017, so that an NOL that arises in a taxable year beginning in 2017 and ending in 2018 was still eligible for the two-year carryback.
The following table summarizes the general rules under the recent carryback and carryover regimes:
The carryback and carryover periods determine the maximum number of taxable years in which a taxpayer may offset taxable income with a given NOL.
[The length of a carryback period depends on multiple factors. Download our NOL Carryback Flowchart to determine the applicable carryback period.]
How many years can an NOL be carried forward or carried back?
Carrybacks are generally eliminated for NOLs arising in taxable years beginning after 2020, but may be carried forward indefinitely to subsequent taxable years. There are exceptions for certain farming losses and certain non-life insurance entities. Farming losses arising in tax years beginning in 2021 or later may be carried back two years and carried forward indefinitely. NOLs of non-life insurance companies arising during these years may also be carried back two years and carried forward 20 years.
Generally, under IRC §172(b)(1), NOLs arising in a taxable year beginning in 2018, 2019, or 2020 may be carried back to each of the five tax years preceding the tax year in which the loss arises, and carried forward indefinitely. Taxpayers may elect to waive the entire five-year carryback period for NOLs arising in these years under IRC §172(b)(3) or instead may elect to exclude only tax years in which they have IRC §965(a) inclusions from the carryback period under IRC §172(b)(1)(D)(v)(I).
Losses incurred in taxable years beginning after 2017 and carried forward to taxable years beginning after 2020 are limited to offsetting only 80% of a taxpayer’s taxable income.
There are additional provisions affecting carrybacks and carryovers, aside from the farming loss and non-life insurance company exceptions. For example, IRC §381 describes the terms under which NOL carrybacks and carryovers apply to an acquiring corporation. Additionally, under IRC §382, the use of NOL carryovers is restricted when there is a substantial change in the ownership of a loss corporation, with certain limitations on carrybacks and carryovers applied to consolidated groups.
For situations where carrybacks are still permitted, a taxpayer can obtain a “quick refund” resulting in a tentative adjustment of tax in a carryback year by filing Form 1045 for an individual or Form 1139 for a corporation. If Form 1045 or Form 1139 is not filed, an individual can file an amended return utilizing Form 1040-X and a corporation can file Form 1120-X to get a refund from an NOL carryback.
NOL 80% carryover limitation
Generally, for a taxable year beginning in 2021 or later, an NOL deduction for any taxable year equals the aggregate amount of the NOL arising in taxable years beginning before 2018, carried to the taxable year, plus the lesser of:
- The aggregate of the NOL arising in taxable years beginning after 2017, carried forward to the taxable year
- 80% of the excess of (1) taxable income (computed without regard to the NOL deduction, QBI deduction, or the foreign-derived intangible income), over (2) the aggregate amount of NOL arising in taxable years beginning before 2018, carried to the taxable year
The 80% limitation applies to real estate investment trust (REIT) NOLs, but it does not apply to losses of non-life insurance companies.
Note that only NOLs arising after 2017 and carried forward to a year after 2020 are subject to the 80%-of-taxable-income limit. Prior to the CARES Act, NOLs arising in years after 2017 could not be carried back, had an unlimited carryover period, and were limited to 80% of taxable income. The CARES Act retroactively modified and expanded those rules. Under the CARES Act, NOLs arising in years beginning in 2018 through 2020 may be carried back five years, and the 80% NOL deduction limit was temporarily repealed for NOLs generated in taxable years beginning before 2021.
Under IRC §172(b)(3), a corporation can elect to waive this five-year carryback. A corporation making an election under §172(b)(3) can still take advantage of the temporary changes to the 80% limitation rules and offset 100% of taxable income with NOL carryovers that would otherwise be subject to the limitation.
Do states follow federal NOL rules?
Although federal NOL provisions have changed, all states do not follow these rules. States set their own independent policies, and many have decoupled from federal law – with some state-level changes linked to local budget considerations and projections.
In fact, states vary when it comes to whether the NOL deduction is limited to a certain amount of taxable net income for the tax year, as well as with the time allowances for NOL carryover periods. Currently, some states have suspended the NOL deduction or do not allow the deduction at all.
For example, Nevada and Texas, which have gross receipts taxes as their primary corporate tax, do not offer NOL deductions. Also notable is California, which suspended NOLs for most of its corporate and personal income taxpayers for tax years beginning in 2024 through 2026 (with a limited small business exception).
Some states have expanded their loss carryover periods and created more favorable conditions for taxpayers. For example, for NOLs incurred in income years beginning in 2025, Connecticut increased the carryover period from 20 income years to 30 income years following the loss. Similarly, in 2024, Rhode Island extended the NOL carryover period from five to 20 years for any tax year beginning on or after January 1, 2025.
State policies also vary when it comes to carryback periods. For instance, a few states, including Montana and New York, permit three years of carrybacks, which is more than federal rules permit. Some other states, including Idaho and Mississippi, offer two years, while most states do not offer carrybacks at all.
Because state policy can vary from federal policy, it’s important for tax professionals to review and follow individual state regulations.
To save time and reduce risk, tax teams can use Bloomberg Tax Research’s IRC Conformity Chart Builder to compare rules for NOL deductions across states and against federal law. And for other questions regarding NOLs and the varying rules from states (including carryback and carryforward periods and apportionment of NOLs), use the Corporate Income Tax Chart Builder.
Strategic planning considerations for NOL carrybacks and carryovers
Effective planning requires tax advisers to think through myriad scenarios, including the potential impact of NOL deductions and the effects of carrybacks and carryforwards. Here, we have outlined what tax professionals should consider before taking action.
Benefits of carrybacks vs. carryovers – and when it’s better to carryover and elect to waive carryback
The mechanism for NOL carryovers and carrybacks allows businesses with fluctuating cycles to compete with businesses that generate stable taxable income over the same period.
When carrybacks are allowed, they can offer significant benefits to the taxpayer. When an NOL is carried back, the loss generates an additional deduction for that year resulting in a tax refund.
NOLs can reduce taxes owed during profitable years, thereby creating a positive cash flow in the year the NOL is deducted. When financial times are uncertain or when tax rates have changed, the number of years in the carryback can make a significant difference – the more years in the carryback period, the more years of taxable income available for an NOL to generate tax refunds.
An NOL carryover produces a deduction in future years and offsets future taxable income. Because NOLs can be carried forward indefinitely, conserving NOLs to be used as a carryover can help improve cash flow and provide a safety net for volatile industries. However, NOLs that arose after 2017 and were carried forward to a year after 2020 are subject to the 80%-of-taxable-income limit.
The difference between a present benefit of a cash refund and a deferred benefit from a future deduction is significant, so it is important for a taxpayer to consider its specific tax consideration to determine whether the carryback (if available) or the carryover is advantageous.
For example, a taxpayer may find it advantageous to forgo a carryback and carry over an NOL when income was taxed at a lower effective tax rate in the carryback years. Similarly, if the taxpayer expects to be in a higher tax bracket in the future, it would be more beneficial to conserve the NOLs. Alternatively, obtaining a cash refund utilizing an NOL carryback can provide immediate cash flow.
A taxpayer also may prefer to waive the carryback period if the estimated tax savings from using the NOL deduction in the carryover period exceed the tax that could be refunded by deducting the loss in the prior taxable years. A taxpayer should be cognizant that an election to waive the NOL carryback period is irrevocable once made, so the taxpayer should carefully consider future taxable income and estimate the amount of expected profits in future years when analyzing the tax consequences of forgoing the carryback period.
The impact of estimated taxes and reporting
Strategic planning also is important when it comes to estimated taxes and reporting.
In situations where carrybacks are still permitted and the NOL carryback has been ascertained, a taxpayer can claim a refund or credit with respect to the overpayment by either:
- Filing an amended tax return for the carryback year using Form 1040-X (for individuals) or Form 1120-X (for corporations)
- Filing an application for a tentative carryback adjustment under IRC §6411 using Form 1045 (for individuals) or Form 1139 (for corporations)
The application for tentative carryback is advantageous in that it provides for a “quick refund” but, if the deadline for using the tentative carryback procedure has expired, the only method for claiming a carryback is to file a timely amended return.
The “quick refund” forms must be filed on or after the date the taxpayer filed its tax return for the NOL year, but not later than 1 year after the end of the NOL year.
When an individual’s NOLs are carried over to a tax year after the loss year, the deduction is entered on Schedule 1 attached to the taxpayer’s Form 1040. When a corporation’s NOLs are carried over to a tax year after the loss year, the deduction is entered on the taxpayer’s Form 1120.
Regardless of whether an NOL deduction is attributable to a carryback or carryover, a taxpayer must provide a statement regarding the deduction and a detailed schedule showing the computation of the deduction.
Deferred tax assets and valuation allowances
Deferred tax assets (DTAs) must be evaluated for realizability. A valuation allowance is established by any DTA that is more likely than not to be realized. NOLs can create valuable DTAs because they can be carried forward to offset future taxable income and can increase cash flow.
ASC 740 requires consideration of all possible sources of taxable income and other available evidence when assessing the need for and amount of a valuation allowance. As part of a tax-planning strategy, companies must consider tax elections available, including elections to carry forward a loss in lieu of a carryback.
Companies should consider if the benefit from a carryover of an NOL would further reduce the amount of a valuation allowance for DTAs compared with the benefit provided by the carryback of the loss, if carrybacks are permitted in the tax jurisdiction. Companies might forgo a carryback provision if a carryback would result in a loss of foreign or other tax credits.
Tax professionals also may want to consider electing to include subsidiaries in consolidated returns, assuming such an election is feasible.
Generally, NOLs of subsidiaries which arose in a separate return limitation year (SRLY) may not be used to offset taxable income of other group members in consolidation, but may only offset against income of the corporation that generated those losses.
By applying a tax-planning strategy to elect to file a consolidated return, a company might be able to recognize the benefit of one subsidiary’s deductible temporary differences by offsetting taxable temporary differences of another subsidiary.
The changes implemented in the TCJA have added complexity to valuation allowance assessments. Indefinite carryovers result in indefinite-lived DTAs, which necessitate a revised approach to valuation assessments. Further, the 80% offsetting limitation for taxable income necessitates reversal scheduling of existing deferred tax liabilities (DTLs) and DTAs to determine realization potential.
How NOL carryback rule changes interact with other tax provisions
There are complicated interactions with other rules, particularly for multinational corporations. Those corporations that repatriated income under IRC §965 between 2016 and 2019 may not offset inclusion income under a deemed election under IRC §965(n). However, the CARES Act provides for an election to skip IRC §965 years while still applying the NOL carryback to other years.
The impact on other tax attributes needs to be carefully considered as well. For example, general business credits (GBCs) and foreign tax credits (FTCs) may be freed up by the NOL carryback and may now carry back or forward to other years. The alternative minimum tax (AMT) may also come into play, not only with a minimum tax but with the limitation for GBCs as well.
The SRLY limitation may apply as a principal limitation on a consolidated group’s use of NOL carryovers arising prior to the time a corporation entered a consolidated group. NOLs may need to be allocated to a departing consolidated return member.
Practice tools to assist corporate tax teams with using NOL carryovers
Instead of spending hours on manual calculations that may result in errors, savvy teams use automation capabilities, like those included in Bloomberg Tax’s suite of solutions, to track and calculate NOL carrybacks and carryovers, or evaluate their impacts.
Scenario planning tools
Use time-saving automation to analyze the impact of uncertain tax positions. Bloomberg’s Corporate Tax Analyzer lets you automatically calculate NOL carrybacks and carryovers to easily compare the impact of each, so you can better navigate an audit. Its automated calculations, analysis, tax law updates, and reporting remove manual risk and give you more precision, control, and visibility over every aspect of corporate income tax management.
Tax calculation software
Bloomberg Tax Workpapers provides smart spreadsheets with the latest tax law updates for accurate NOL calculations, including limitations for carryovers and potential carryback options for specific types of NOLs. It also integrates with other Bloomberg Tax products such as Fixed Assets and Provision to help you analyze the potential effects of NOLs on a company’s tax position.
This powerful tool offers automatic data transformation and time-saving tax-specific functions that help automate the key areas of the workpaper process: data, controls, and calculations.
ASC 740 compliance
NOLs and tax credits impact the ASC 740 provision for income tax, which governs how companies recognize the effects of income taxes on their financial statements under U.S. GAAP. When used, NOLs and tax credits impact the ASC 740 tax provision for income tax – subject to certain exceptions. But ASC 740 does not specifically address how to account for the tax benefit of a tax credit carryover or carryback.
Bloomberg Tax Provision makes NOL and credit carryovers easier. The tool can help calculate ASC 740 accurately and efficiently by offering a consolidated view of NOLs and credits, helping you see key details, and providing jurisdiction-specific tracking to facilitate accurate calculations, automated valuation allowances, and seamless integration to avoid manual errors.
Essential resources and technology from Bloomberg Tax
These NOL carryover rules provide many federal tax planning opportunities to provide an infusion of cash to cash-strapped businesses, but it is critical to evaluate all the possible corporate tax strategies and scenarios to avoid any unintended negative consequences. The length of the carryback period depends on multiple factors. Use our NOL Carryback Flowchart to determine the applicable carryback period.
From in-depth research and analysis to timesaving practice aids, Bloomberg Tax offers the resources you need to stay ahead of federal tax developments and remain compliant.
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