A net operating loss (NOL) is when a business’s tax deductions exceed its income in a tax period. Tax rules allow owners to use losses incurred in one year to reduce income in other years and boost their refund. Presently, the NOL deduction is limited to 80% of taxable income, determined without regard for the deduction itself, the qualified business income deduction (QBID), or the Section 250 deduction.
How To Calculate Your Net Operating Loss
The NOL is calculated on the tax return where income tax is paid on the business income. For instance, a C corporation’s (C-corp’s) NOL is determined by reviewing the Form 1120, U.S. Corporation Income Tax Return, since the C-corp must pay tax at the corporate level. Meanwhile, NOLs for partnerships and S corporations (S-corps) are determined on their owner’s tax return since their income flows through and is taxed to the owner.
Click on the header that applies to your business to see how your NOL can be calculated.
The NOL on an owner’s individual tax return is calculated based on total business income and loss shown on the return, not business by business. A loss from one business must offset income from any other business before being treated as an NOL.
Personal deductions on the individual return cannot contribute to an NOL. Form 1045, Schedule A, is used to calculate the NOL on an individual tax return by adding back certain personal items to the negative taxable income on the return.
The NOL of a C-corp is easy to calculate since all the deductions on the return are business deductions. The NOL generated for any year is simply any negative taxable income reported on Form 1120, Line 28.
Eligible Deductions for Net Operating Losses
As discussed above, NOLs on the tax returns for individuals are not always easy to calculate because the return is a mixture of business and personal deductions. Generally, only business losses can be included in NOLs and used to offset income in other years.
Eligible Losses Included
Personal Deductions Not Included
Who Can Deduct a Net Operating Loss?
|Taxpayers Allowed To Deduct NOLs||Taxpayers Not Allowed To Deduct NOLs|
|Individuals||Partnerships (losses might create an NOL on the partner’s return)|
|C-corporations||C-corporations subject to the accumulated earnings tax|
|Exempt organizations with unrelated business taxable income||S-corporations (losses might create an NOL on the shareholder’s return)|
Net Operating Loss Carryback vs Carryforward Rules
NOL carrybacks have been eliminated for tax years after December 31, 2020—except for NOLs arising from certain farm losses. Farm losses must be carried back two years unless the business owner elects to waive the carryback period. Conversely, losses may be carried forward indefinitely or until all losses have been used.
Deducting a Net Operating Loss Carryforward in the Future Year
For individuals, carrying an NOL into a subsequent tax year requires a negative entry on Schedule 1 (Form 1040) or Form 1040-NR’s “Other income” line (line 8 for 2022). Corporations deduct an NOL carryforward by showing the amount on Form 1120, Line 29b for the future year.
You have to include a statement with all the important information about the NOL. In your statement, you should show the year the NOL was generated and the amount, if any, that has been utilized in years prior to the current year. If you deduct more than one NOL in the same year, your statement must include each one.
Mr. X owns a business called “ Widgets ‘R’ Us.” In the years 2019 to 2021, the business failed to generate a positive net income.
- In 2019, it had an NOL of $100,000.
- In 2020, it had an NOL of $200,000. It will also have to carry these losses forward to 2021.
- In 2021, it continued to struggle and incurred more losses than the year before—it incurred losses in the amount of $320,000.
In 2022, the business finally started to recover, and Mr. X generated $300,000 in income. Since the business had a positive net income, Mr. X was finally able to put his NOLs to use.
- In 2022, he deducted $240,000 of his NOL from prior years: $100,000 from 2019 and $140,000 from 2020.
- He arrived at this figure by applying the 80% limitation on NOLs. The calculation is provided below.
$300,000 x 80% = $240,000
Mr. X carried forward the remaining $380,000 in NOLs to future years. Mr. X must attach a table similar to the one below to his 2023 tax return to show when the NOLs being carried into the return were generated.
Used in 2022
Carried Forward to 2023
Frequently Asked Questions (FAQs)
Yes, an NOL generated in one year can be carried forward and reduce taxable income in future years.
For tax years 2021 through 2028, business losses reported on individual returns are limited to $270,000 ($540,000 for joint returns). Any excess business loss is treated as an NOL that can be carried forward (or back in the case of a farmer).
After 2020, only farmers are allowed to carry back NOLs. All other entities have to carry forward NOLs to future tax years.
Net operating losses must be carried to other tax years to offset taxable income and provide tax savings. If you’re a business owner and have some NOLs generated in prior years, don’t forget to include the losses on your tax return.