Tax Act Makes a Plus Out of Losses
Mark E. Battersby is a free-lance writer and consultant on tax and financial issues based on Ardmore, Pa. He can be reached at 610-789-2480 or by e-mail at MEBatt12@earthlink.net.
The Worker, Homeownership and Business Assistance Act signed into law early in November gave new life to two popular but temporary tax incentives: the first-time homebuyer credit and an expanded five-year net operating loss (NOL) carryback. While most service center owners are not first-time homebuyers, many can potentially take shelter in new provisions that allow them to apply this year’s losses against prior years’ gains.
Changes in the new law extend the five-year carryback period of NOLs to include losses from 2009. Those changes further expand the five-year carryback’s availability to include more businesses—not just small businesses as under earlier legislation. The new rules are tricky, however, and include a new 50 percent limit on the amount of a loss that can be carried back to the 5th preceding tax year, at least for 2009 NOLs.
To pay for the estimated $40 billion in tax breaks contained in this legislation, lawmakers ramped up the requirement that some tax returns must be filed electronically, increased the penalties for failing to file partnership and S corporation returns, and accelerated estimated tax payments that certain large corporations are required to make.
Plus side of net operating losses
Under the new law, availability of quick refunds from 2008 and 2009 net operating losses are likely to provide a much-needed boost to metals distributors. Usually limited to business losses, a net operating loss is defined as an excess of allowable deductions over gross income.
Generally, NOLs may be carried back two years and forward for as many as 20 years. The NOL is first carried back to the earliest tax year for which it is allowable as a carryback or a carryover, and is then carried to the next earliest tax year. A metal center operator can, of course, also choose to forego the entire carryback period for a loss and instead carry it forward.
In other words, a metal center that incurs a net operating loss pays no taxes in the current tax year, claims a refund of taxes previously paid, and then carries over any unused NOL to offset future taxable income. The American Recovery and Reinvestment Act that became law early in 2009 allowed eligible small businesses (those with average gross receipts of $15 million or less) to elect to carry back net operating losses from 2008 for 3, 4 or 5 years rather than the standard two years.
The new law provides a similar election, only it is for all U.S. businesses, of any size, to carry back NOLs up to five years, with a new 50 percent income limit on NOL offsets in the fifth year. The new, expanded election is available for losses incurred in either 2008 or 2009, but not for both. However, an eligible company, such as a metals distributor, that elected under the 2009 Recovery Act to carry back 2008 NOLs may make the election for an additional year, enabling the business to carry back NOLs from both 2008 and 2009 for up to five years.
A service center that carries back a loss to a prior profitable year can obtain a quick refund from the IRS for that prior year. NOL refunds provide additional cash that can be used to pay expenses, maintain operations or make new investments.
For example, say Jones Metals takes in profits of $50,000 each year from 2004 through 2008. For 2009, Jones experiences a net operating loss of $100,000. Jones can elect to carry back the 2009 NOL five years, to 2004 and subsequent years.
For 2004, Jones Metals can claim a NOL deduction of 50 percent of its 2004 taxable income, or $25,000. The NOL balance of $75,000 can be used to fully offset Jones’ 2005 income of $50,000. The remaining NOL of $25,000 can then be deducted against 2006 income, reducing the NOL to zero.
Companies, like Jones Metals, can use the tentative or “quick” carryback procedure to expedite the recovery of the refund. Thus, taxpayers can recover a refund attributable to a net loss carryback before the IRS processes the return filed for the year the NOL arises. Using the tentative carryback procedure, the business does not have to wait until the IRS processes the tax return for the NOL year in order to get the refund. For many service center operators, the availability of quick refunds from 2008 and 2009 NOL five-year carrybacks will provide a badly-needed infusion of cash.
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