What is a Net Operating Loss (NOL)?
How Recent Tax Changes Affect Net Operating Losses
A net operating loss (NOL) results from the situation in which a business or individual has more allowable tax deductions than it has taxable income. In this case, the business has negative income or a net operating loss. That's the bad news. But the good news is that you may be able to take that net operating loss and move it to a future tax year (or years) in which you had a profit (actually, net operating income).
To have an NOL, your loss must generally be caused by deductions due to expenses from:
- A business (but see restrictions on losses depending on types of business below)
- Your work as an employee
- Losses due to casualties or theft
- Moving expenses
- Rental property
Most net operating losses are related to business losses. To take the loss, you must include it on your personal tax return. The net operating loss, therefore, is applicable only to certain pass-through businesses, specifically sole proprietorships and single-member LLCs.
The IRS says that generally partnerships and S corporations cannot claim net operating losses, but the individual partners or S corp owners can figure their share of the loss on their individual tax returns.
Corporations can also have a net operating loss, but this loss doesn't affect individual owners (shareholders). See IRS Publication 542 Corporations for more information.
New Tax Law Changes for Net Operating Losses
The Tax Cuts and Jobs Act affects net operating loss calculations beginning in 2018 and beyond.
No NOL Carryback Allowed. In years before 2018, you had the option to carry an NOL forward to future years or back to past years to reduce taxes. Beginning in 2018, you can only carry over a NOL into a future year.
NOL Limited. A net operating loss deduction from your taxes can't exceed 80% of taxable income in any year. If your NOL for a year is greater than 80% of taxable income, you will have a carryover to the next year.
Excess Business Losses Limited. In any one year, you can't deduct losses in excess of a threshold amount. Losses over this amount are called excess losses, the amount by which your total business deductions are greater than your total gross business income and business capital gains plus $250,000 (or $500,000 in the case of a joint return). The excess business loss can be carried over to a later tax year.
Information Needed to Figure a Net Operating Loss
To figure your net operating loss you will need (in addition to your Form 1040 and other schedules)
IRS Publication 536 Net Operating Lossdx (NOLs) for Individuals Estates and Trusts (the worksheet on Page 3), and
IRS Form 1040 Schedule D (if you have a capital gain or loss)
Your business tax report included on your personal tax return:
Steps in Figuring a Net Operating Loss
Complete your tax return for the year, including your business income or loss.
Run a calculation to see how much of this loss was due to your business activities to see if you have a net operating loss. You will need to complete a worksheet for this calculation, excluding other types of losses, including
If your net operating loss deduction is over $18,000 for the year, you can't take the excess loss in this year, but you may be able to carry over the excess to a future year.
Check excess loss limits. At this point, if you have large losses, you may need to calculate excess loss limits. Before you do this calculation, you must apply other limits on business losses, specifically the at-risk limits and passive activity limits. Then you would use the worksheets in IRS Publication 536 to calculate the amount of the excess NOL.
Carrying Forward a Loss to Minimize Taxes
A net operating loss in one year can be used to minimize tax profits in one or more years. Net operating losses may be carried forward (used to offset profits in future years) depending on IRS regulations in effect at the time of the loss.
The process of calculating a carryforward for a net operating loss depends on which year you are carrying it to and whether you had previous years carryovers. See IRS Publication 536 on Net Operating Losses.
Ignore any references on Publication 536 to net operating loss carrybacks. These are not allowed beginning in the 2018 tax year and beyond.
As you can see from this brief discussion, the process of determining, calculating, and carrying over a net operating loss is complicated. The IRS has limits and restrictions on this process and the amounts you can carry forward and the calculations are daunting. Get the help of a tax professional if you think you have a net operating loss and you want to use it to reduce taxes.
IRS. "Publication 536 Net Operating Losses (NOLs) for Individuals, Estates, and Trusts." Accessed Nov. 22, 2019.
IRS. "The Highlights of Tax Reform for Businesses." Accessed Nov. 22, 2019.
IRS. "Publication 536 Net Operating Losses (NOLs) for Individuals, Estates, and Trusts." How to Figure an NOL Page 2. Accessed Nov. 22, 2019.
IRS. "Publication 536 Net Operating Losses (NOLs) for Individuals, Estates, and Trusts." Excess Business Loss, Page 10. Accessed Nov. 22, 2019.
IRS. "Publication 536 Net Operating Losses (NOLs) for Individuals, Estates, and Trusts." how to Figure an NOL Carryover, Page 7. Accessed Nov. 22, 2019.