Turning Business Losses Into Tax Opportunities: Understanding Net Operating Losses (NOLs)

Even successful businesses can face unprofitable years. Fortunately, the federal tax code provides a potential silver lining: net operating loss (NOL) deductions. With careful planning, NOLs can help reduce future taxable income and cushion the financial impact of down years.

Who Can Claim a Net Operating Loss?

NOLs are designed to give businesses with fluctuating income a fairer tax outcome over time. If your deductions exceed your income for a given year, you may be eligible to carry that loss forward to offset taxable income in future years.

You might qualify for an NOL if the loss stems from:

• Business Activities – Schedule C or F losses, or Schedule K-1 losses from partnerships or S corporations

• Casualty or Theft Losses due to federally declared disasters

• Rental Real Estate – reported on Schedule E

However, certain items cannot be used to calculate an NOL, including:

• Capital losses exceeding capital gains

• Gains excluded from the sale of qualified small business stock

• Nonbusiness deductions that exceed nonbusiness income

• The NOL deduction itself

• The Section 199A Qualified Business Income deduction

** Eligible taxpayers include Individuals and C corporations. Partnerships and S corporations can’t claim an NOL directly, but partners and shareholders may use their portion of the loss on their personal returns.

Key Rules and Limitations

Prior to the Tax Cuts and Jobs Act (TCJA), NOLs could be carried back two years and forward 20 years, offsetting up to 100% of taxable income. The TCJA introduced several important changes:

• NOL carrybacks are eliminated (except for certain farm losses)

• Carryforwards are now allowed indefinitely

• Deduction is limited to 80% of taxable income in a given year

If your NOL carryforward exceeds the taxable income it offsets, the remaining balance becomes a carryover to future years. Multiple NOLs must be used in the order they were generated.

What About the Excess Business Loss Limitation?

An additional restriction — the excess business loss limitation — now applies to noncorporate taxpayers, including sole proprietors, partners, and S corporation shareholders.

As of 2025, business losses can only offset up to $313,000 (or $626,000 if married filing jointly) of nonbusiness income. Losses beyond this threshold are not immediately deductible but instead carried forward as NOLs — again, subject to the 80% limitation.

** Note: This rule, originally set to expire in 2026 under the TCJA, has been extended through 2028 under the Inflation Reduction Act.

Why Tax Planning Matters

Navigating NOLs, income limitations, and related tax rules requires a thoughtful strategy. Proper planning can ensure that losses from down years provide the maximum tax benefit in future ones.

If you believe you may qualify for a net operating loss, or want to plan around recent or expected losses, contact us for guidance tailored to your business' predicament.