Rules for the 80% NOL Limitation in 2022
The reinstatement of the 80% NOL limit impacts 2022 tax strategy. Understand how this rule applies and interacts with carryforwards from different periods.
A net operating loss, or NOL, occurs when a business’s tax-deductible expenses are greater than its income during a tax year. This provision allows businesses to use losses from one year to lower their taxable income in another year, which is particularly helpful for companies with fluctuating income. The rules governing how these losses can be used are specific and have changed over recent years. For the 2022 tax year, a limitation on the use of these losses was fully in effect, impacting how businesses could calculate their tax liability.
Understanding the 80% NOL Limitation
The modern framework for the 80% NOL limitation was established by the Tax Cuts and Jobs Act of 2017 (TCJA). For NOLs that arose in tax years starting after December 31, 2017, the TCJA restricted the deduction to 80% of taxable income. The TCJA also eliminated the option to carry back most NOLs to prior tax years, instead allowing them to be carried forward indefinitely.
This 80% limitation was temporarily suspended by the Coronavirus Aid, Relief, and Economic Security (CARES) Act in 2020. The CARES Act allowed NOLs from 2018, 2019, and 2020 to offset 100% of taxable income and temporarily reinstated a five-year carryback period for those same years.
The relief provided by the CARES Act was short-lived. The suspension of the 80% rule expired for tax years beginning after December 31, 2020. For the 2022 tax year, the 80% taxable income limitation was fully reinstated. This means that businesses calculating their 2022 taxes with NOLs generated after 2017 had to once again adhere to this restriction.
Calculating Your 2022 NOL Deduction
The first step is to compute the current year’s taxable income before considering any NOL deduction. This figure serves as the baseline for applying the limitation. Once you have determined the taxable income before any NOL deduction, the next step is to apply the 80% rule. You multiply this taxable income figure by 80% to find the maximum NOL deduction you can take for the year.
The final step involves a comparison. You must compare the 80% limit you just calculated with the total amount of your available NOL carryforwards from post-2017 years. The amount you can deduct on your 2022 tax return is the lesser of these two figures.
For example, if your taxable income before NOLs is $200,000, your 80% limitation is $160,000. If you have a total NOL carryforward of $300,000, your deduction for 2022 is capped at $160,000. The remaining $140,000 of your NOL ($300,000 minus the $160,000 used) is not lost. This unused portion is carried forward to future tax years.
Managing NOL Carryforwards
For NOLs that arose in tax years beginning after December 31, 2017, these losses are subject to the 80% limitation and can be carried forward indefinitely until they are fully utilized. The TCJA eliminated the ability to carry these specific losses back to prior tax years.
A different set of rules applies to NOLs that were generated in tax years beginning before January 1, 2018. These older NOLs are not subject to the 80% taxable income limitation. They can be used to offset 100% of taxable income in a given year. The trade-off is that these pre-2018 NOLs have a limited lifespan and expire after 20 years if not used.
When a taxpayer has NOL carryforwards from both pre-2018 and post-2017 tax years, specific ordering rules must be followed. IRS guidance stipulates that the older, pre-2018 NOLs must be used first. These are applied against 100% of taxable income until they are exhausted. Only after all pre-2018 NOLs have been used can the taxpayer begin to apply the post-2017 NOLs, which are then subject to the 80% limitation calculation.