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Consequences of Proposed Changes to the Net Operating Loss Rules

Author: Todd B. Reinstein

Consequences of Proposed Changes to the Net Operating Loss Rules

Reproduced with permission from Federal Tax Blog (November 21, 2017). Copyright 2017 by The Bloomberg Bureau of National Affairs, Inc. (800.372.1033) http://www.bna.com.

Under current tax rules, a corporation can generally carry back a net operating loss (NOL) to the two preceding taxable years and carry it forward for up to 20 taxable years following the loss to offset 100 percent of federal taxable income and 90 percent of alternative taxable income.

Section 3302 of H.R. 1, introduced on Nov. 2, 2017, proposes to change the NOL rules. Section 3302 would eliminate the ability to carry back NOLs, except for carrybacks provided for under disaster relief legislation. The NOL carryforward period would change from the current 20 succeeding taxable years to an indefinite period. A similar provision in the proposed legislation introduced by the Senate would also allow for an indefinite carryforward period of NOLs incurred after Dec. 31, 2017. With the elimination of the alternative minimum tax, all NOLs would be able to offset only 90 percent of federal taxable income. The original Senate bill, however, would only limit NOLs incurred after Dec. 31, 2017, to offset 90 percent of taxable income. The Chairman’s modification to the Senate bill limits the NOL offset to 80 percent of taxable income (determined without regard to the deduction) in taxable years beginning after Dec. 31, 2023. 

The new carryforward period for NOLs in the proposed legislation could result in some interesting financial statement reporting issues. Under GAAP, a loss corporation is typically required to record a deferred tax asset for the value of the NOL carryforward. A corporation may also be required to record a contra asset, a valuation allowance, to offset its deferred tax asset if the future utilization of the NOL is uncertain. One significant factor in making this determination is the limitation imposed by the current 20-year carryforward period. If the carryforward period is changed to be indefinite, companies may have to continue to record a valuation allowance on the NOLs generated prior to Dec. 31, 2017, and not on the NOLs generated after that because they have an indefinite carryforward period.

Section 3302 also contains a provision that would increase the amount of the NOL in any year the NOL went unutilized by a factor computed by the short-term tax-exempt rate plus 4 percent. Of note, the Senate bill does not include a similar provision. Taxpayers may want to think about adopting favorable accounting method changes even if they relate to differences in the timing of the deduction if it increases an NOL incurred after Dec. 31, 2017, if the legislation passes. The value of the Section 481(a) adjustment will be enhanced for taxpayers carrying the NOL forward as the multiplier will be essentially added to the Section 481(a) adjustment.

The material in this publication was created as of the date set forth above and is based on laws, court decisions, administrative rulings and congressional materials that existed at that time, and should not be construed as legal advice or legal opinions on specific facts. The information in this publication is not intended to create, and the transmission and receipt of it does not constitute, a lawyer-client relationship. Internal Revenue Service rules require that we advise you that the tax advice, if any, contained in this publication was not intended or written to be used by you, and cannot be used by you, for the purposes of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein.

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