The legislation, informally known as TCJA, limits the amount of net operating loss (NOL) used in any given year, allowing indefinite carry-forward. Considered as another revenue raiser that helps pay the reduction in corporate taxes, companies, from 2018, can only use an NOL transfer up to 80% of the calculated taxable income. TCJA not only changes the NOL rules but also imposes rules to limit losses for non-corporate taxpayers. This is an important change from existing legislation and imposes new limitations, somewhat similar to the rules on passive losses, on losses of active businesses of individuals.
Net Operating Losses (NOL)
NOL limitations for losses after 2017: The rules for NOLs that appear in the years beginning on December 31, 2017, have changed so that the transfer of NOL from a corporation can only offset 80% of taxable income, the new deduction provided in section 199A. However, these NOLs can now be carried indefinitely, instead of being limited to 20 years. The reimbursement of these losses is no longer authorized.
NOL limitations for losses before 2018: The rules applicable to existing NOLs remain the same. These losses can be carried back for two years and forward for 20 years. There is no limit on taxable income for the use of losses before 2018.
Note: This effective date indicates that losses incurred in years beginning January 1, 2018, will not be subject to the 80% taxable income limit. Therefore, taxpayers will need to distinguish between the two types of loss when calculating the deduction for the unreported loss. Losses before 2018 should be monitored separately from losses after 2017. Also, fiscal year taxpayers with NOL that arise in fiscal year taxpayers beginning before December 31, 2017, and ending after December 31, 2017, would not be subject to the 80% limit, but would not qualify for profitability either; instead, they could be done indefinitely.
Example
XYZ Corporation has accumulated an NOL of $2 million since 2017 and prior years. XYZ generated an NOL of $ 15 million in 2018. The taxable profit for 2019 is expected to be $ 15 million. XYZ can use its entire $2 million before 2018 NOL and $12 million in 2018 NOL (80% times the pre-NOL revenue of $ 15 million). As a result, the taxable profit for 2019 would be $1 million, with an NOL transition of $ 3 million.
Effect of NOL Changes
Transfers can only offset 80% of taxable income, resulting in effective taxation of 4.2% in a profitable transfer year.
Impact on Insurance Companies
For an insurance company within the meaning of section 816 (a) which is not a life insurance company, i.e., property and non-life insurance company, the NOL for each exercise can be:
Transferred to each of the two fiscal years preceding the fiscal year of the loss and
Transferred to each of the 20 years following the exercise of the loss.
80% of the taxable income limit does not apply to the NOLs of property and accident insurance companies. Life insurance companies will now apply for NOL using the post-2018 processing described above.
Farm Losses
There is now a two-year time limit for farm losses instead of five, and you can waive it. Also, if an NOL consists of a farm loss and a non-farm loss, the two losses will be treated separately. Farm loss is recognized in the years following the non-farm loss. In other words, the non-farm loss, subject to the 80% limit, is first applied to taxable income, followed by the farm loss application.
Application of sections 381 and 382
The rules of section 381 continue to apply to NOLs acquired through certain business acquisitions, and section 382 continues to apply to changes in ownership of the business of business.
Restrictions for non-corporate employees
Limitation of losses for unincorporated taxpayers
Unlike the previous law, the TCJA limits the use of business losses by non-corporate taxpayers. Previously, business losses recognized by individuals could reduce non-business income (such as interest, dividends, and capital gains) without limitation. From 2018 to 2025, taxpayers can deduct up to $ 500,000 (for married taxpayers who file joint returns) from these losses related to non-commercial income. Amounts above the limit are considered "excessive business losses" and are transferred and processed as part of the taxpayer's NOL transition in subsequent years. These NOL transfers are also subject to the new 80% NOL limit.
An excessive loss to the business for the year is the excess of the taxpayer's total deductions attributed to its transactions or activity (determined without taking into account the limitation of the provision), in addition to the amount of gross profit added or of the taxpayer's profit plus a limit value, indexed by inflation after December 31, 2018, for a taxation year is $ 250,000 ($ 500,000 in the case of a joint declaration).
The limitation will apply to the partner or shareholder of S Corps. The limitation will apply after the application of the passive loss rules.
For Instance
In 2018, Q, a single taxpayer, deducts $ 500,000 from a business. The gross income Q of this business is $ 200,000, with a net business loss of $ 300,000. Q also has $ 300,000 in income from non-commercial interests and capital gains. Under the new restriction, the business loss of $ 300,000 million is not allowed in its entirety. Rather, it is limited to the limit of $ 250,000 TCJA. The remaining $ 50,000 loss is considered an excessive business loss.
Note: The limit of $ 250,000 is increased to $ 500,000 for taxpayers who file joint returns.
Q's commercial loss of $ 250,000 is available to reduce non-commercial revenues by $ 300,000, so Q has in 2018, adjusted gross income (AGI) of $ 50,000.
Assuming the same facts as before, if it was in 2017, Q's loss would be fully deductible in the current year, and Q's AGI would be zero.
The unused excess transaction loss of $ 50,000 is considered an NOL and is carried forward to 2019. It will be subject to an additional 80% NOL limitation rules.
Coordination with passive activity loss rules
This limitation applies after the application of the passive loss rules. The TCJA provides a control rule in this area, so the passive loss limitation rules are applied before the excessive commercial loss rule. Presumably, if a loss is rejected under the passive loss policy, no deduction or income from that passive activity would be taken into account in determining whether a taxpayer suffers an excessive loss of activity. However, to determine whether a taxpayer suffers an excessive business loss, the "aggregate deductions attributable to a trade or business" and "gross income or total profit attributable to that business or transaction" is not limited.
