Not your ordinary losses!

iStock and Amy Frushour Kelly

iStock and Amy Frushour Kelly

Posted by Konstantinos A. Kokkosis, Senior Tax Accountant

New year, new blog… and time to dive into some of the new changes that have made ordinary tax concepts, well, not so ordinary. What better way to start than with net operating losses (NOLs).

Net operating losses have always featured two elements. One element was how an entity or individual used the NOL, which was to offset dollar for dollar any losses carried forward or back against taxable income. The second element was how the entity or individual was able to apply an NOL. Historically, we would carry the NOL back two years or forward 20 years to offset any taxable income that the entity or individual incurred in the preceding or subsequent years. Thanks to the Tax Cuts and Jobs Act, as of December 31, 2017 and going forward, we have big changes. Changes that make us look at net operating losses entirely differently. Firstly, we will not be allowed to take a dollar for dollar deduction anymore. We will only be allowed to offset 80% of our taxable income with the NOL. Secondly, we will no longer be able to carry back the NOLs two years and instead of carrying them forward for only 20 years, we will be allowed to carry forward the NOLs indefinitely. How lucky are we! Due to the different treatment of the NOLs, the pre-2018 NOLs and the post 2018 NOLs need to be tracked separately.

Now, this is where we venture off into the great unknown. Things get a little tricky in the year where we need to use the pre-2018 NOLs and the post-2018 NOLs. As I stated earlier, for any NOLs incurred prior to December 31, 2017, we can take a full dollar for dollar deduction. But as of January 1, 2018, under the new tax law, we are only allowed to offset 80% of our taxable income by using up NOLs. The following example illustrates why there is uncertainty:

  • Corporation A has $90 million in NOLs generated in 2017 and $20 million generated in 2018.

  • In 2019, if corporation A had $90 million of income, Corporation A would be able to use up the entire 2017 NOL against the $90 million of income.

  • If on the other hand, Corporation A had $100 million of income, the correct answer is not as clear as before.

    • Could Corporation A argue that they should be able to offset the additional $10 million of income with the $8 million of NOL? …or…

    • Are they not allowed to utilize the 2018 NOL at all, since 80% of $100 million is $80 million, which is less than the $90 million of NOL applied to the current tax year?

The answer? Nobody knows… yet.

With so many changes that are being made to the tax law via the Tax Cuts and Jobs Act, tax planning has become more complicated than ever. The changes that have been made to NOLs will change how many entities and individuals plan for not only this year but for many years into the future! It is never too late to consult your tax advisor and see how these new changes affect you.