Net Operating Loss (NOL) Carryforward

Overview: Navigating Net Operating Loss (NOL) Carryforwards in 2026

Understanding Net Operating Loss (NOL) carryforwards is crucial for individuals, estates, and trusts facing financial setbacks. An NOL allows taxpayers to offset taxable income in future years with past losses, providing significant tax relief. This comprehensive guide, tailored for the 2026 tax year, delves into the intricacies of NOL carryforwards, covering eligibility, claiming procedures, limitations, and common pitfalls to ensure you maximize your tax benefits.

What is a Net Operating Loss (NOL) Carryforward?

A Net Operating Loss (NOL) occurs when your allowable business deductions exceed your gross income in a given tax year. Instead of losing the benefit of these excess deductions, the IRS allows taxpayers to carry these losses forward to offset taxable income in future years. This mechanism is designed to smooth out income fluctuations for businesses and individuals, providing relief during unprofitable periods.

Historically, NOLs could be carried back to prior tax years, offering immediate refunds. However, under current tax law, specifically for NOLs arising in tax years after 2020, the carryback provision has been largely eliminated, with a notable exception for certain farming losses. This means most NOLs generated in 2026 will primarily be carried forward indefinitely until fully utilized.

Who Qualifies for NOL Carryforward?

The NOL carryforward primarily benefits individuals, estates, and trusts. Corporations have their own set of rules, which are not covered by Form 172. To qualify, your deductions must exceed your income, and this loss must generally stem from specific activities:

• Trade or Business: Losses incurred from the operation of a trade or business are the most common source of an NOL.
• Casualty and Theft Losses: Losses resulting from a federally declared disaster.
• Rental Property: Losses from rental activities can also contribute to an NOL.

It is important to note that for tax years 2018 through 2025, certain deductions like those from work as an employee or moving expenses are generally not deductible for most taxpayers when figuring an NOL. While partnerships and S corporations generally cannot claim an NOL themselves, their partners or shareholders can use their respective shares of business income and deductions to calculate individual NOLs.

How to Claim the NOL Carryforward

Claiming an NOL carryforward involves a structured process, primarily utilizing Form 172, Net Operating Losses (NOLs) for Individuals, Estates, and Trusts. The general steps are as follows:

1. Figure Your NOL: First, you must accurately calculate your NOL for the year it occurred (the NOL year). This involves adjusting your taxable income by disallowing certain deductions, such as capital losses exceeding capital gains, the section 1202 exclusion, nonbusiness deductions exceeding nonbusiness income, and the NOL deduction itself [1].
   2. Waive Carryback (if applicable): For NOLs arising after 2020, carrybacks are generally eliminated, except for certain farming losses which can be carried back two years. If you have a farming loss and wish to waive the carryback period, you must attach a statement to your original return for the NOL year, indicating this election under section 172(b). This election is generally irrevocable [1].
   3. Deduct the NOL: The NOL is then carried forward and deducted in subsequent tax years. You will use Form 172 to track and apply the NOL carryover.
   4. Determine Unused NOL: If the NOL is not fully absorbed in a given carryforward year, you will determine the remaining unused NOL and carry it to the next year. This process continues until the NOL is fully utilized or expires (though for post-2017 NOLs, they can be carried forward indefinitely) [1].

   For individuals, estates, and trusts, Form 172 is used to figure the amount of the NOL that is available for carrying back or forward. Corporations typically use Form 1139, Corporation Application for Tentative Refund, or Form 1120, U.S. Corporation Income Tax Return, to claim NOLs, but these are outside the scope of this guide for individuals, estates, and and trusts [1].

   2026 Limits, Amounts, and Rates

   For the 2026 tax year, several key limitations and rules apply to NOL carryforwards:

   • No Carryback (Generally): As established by the Tax Cuts and Jobs Act (TCJA), NOLs arising in tax years after 2020 generally cannot be carried back to prior years. The primary exception is for certain farming losses, which retain a two-year carryback period [1].
   • 80% Taxable Income Limitation: For NOLs arising in tax years beginning after December 31, 2017, and carried to tax years beginning after December 31, 2020, the NOL deduction is limited to 80% of your taxable income. This taxable income is calculated without regard to the NOL deduction itself, or deductions for Qualified Business Income (QBI) under section 199A, or section 250 deductions. Any NOLs carried from tax years before January 1, 2018, are not subject to this 80% limitation [1].
   • Indefinite Carryforward: NOLs generated in tax years ending after 2017 can be carried forward indefinitely until they are fully used [1].
   • Excess Business Loss Limitation: Noncorporate taxpayers may be subject to excess business loss limitations. For tax years 2021 through 2026, any disallowed excess business loss is treated as an NOL carryover to the next tax year [1].

   Common Mistakes That Cost Taxpayers Money

   Navigating NOLs can be complex, and several common errors can lead to missed opportunities or IRS scrutiny:

   • Incorrectly Calculating the NOL: Failing to properly adjust income and deductions when figuring the NOL can result in an inaccurate loss amount, leading to incorrect deductions in carryforward years.
   • Missing the Carryback Waiver Election: For farming losses, if you intend to waive the carryback period, failing to attach the required statement to your original return (or amended return within the specified timeframe) can lead to the loss of this election [1].
   • Ignoring the 80% Taxable Income Limitation: Applying the NOL deduction without adhering to the 80% taxable income limitation for post-2017 NOLs is a frequent error that can result in underpayment of taxes [1].
   • Inadequate Record Keeping: The IRS requires taxpayers to keep records for any tax year that generates an NOL for three years after the carryback/carryforward is used or expires. Poor record-keeping can make it difficult to substantiate your NOL claims if audited [1].
   • Not Distinguishing Business vs. Nonbusiness Income/Deductions: Properly classifying income and deductions as business or nonbusiness is critical for accurate NOL calculation, especially when nonbusiness deductions exceed nonbusiness income [1].

   IRS Code Section Reference

   The primary Internal Revenue Code section governing Net Operating Losses is Section 172. This section outlines the general rules for NOL deductions, carrybacks, and carryforwards. Additionally, other sections, such as Section 263A(e)(4) for farming businesses and Section 199A for Qualified Business Income, are relevant when calculating and applying NOLs [1].

   Book a Consultation with Uncle Kam

   Understanding and effectively utilizing Net Operating Loss (NOL) carryforwards can significantly impact your financial health. Given the complexities and specific limitations for the 2026 tax year, professional guidance is invaluable. Don\'t leave your tax savings to chance. Book a consultation with the expert tax strategists at Uncle Kam today to ensure you maximize your deductions and navigate the tax landscape with confidence. Visit https://unclekam.com/consultation/ to schedule your personalized session.

   References

   • [1] Internal Revenue Service. "Instructions for Form 172 (12/2024)." https://www.irs.gov/instructions/i172