Net Operating Loss (NOL) Carryforward: How to Maximize the Value of Business Losses Under IRC §172 in 2026 — Post-TCJA Rules, 80% Limitation, and Strategic Planning for Profitable Future Years
A net operating loss (NOL) arises when a taxpayer’s allowable deductions exceed gross income for the taxable year. Under IRC §172, NOLs generated after December 31, 2017 (post-TCJA) can be carried forward indefinitely but are limited to 80% of taxable income in the carryforward year (before the NOL deduction). This 80% limitation — one of the most significant changes made by the Tax Cuts and Jobs Act — means that a taxpayer with a large NOL carryforward can never fully offset taxable income in a single year; they will always owe tax on at least 20% of taxable income. Understanding the post-TCJA NOL rules, the interaction with other deductions and credits, and the strategic planning opportunities for clients with NOL carryforwards is essential for practitioners who serve business owners, real estate investors, and startup founders. This guide covers the post-TCJA rules, the excess business loss limitation under §461(l), the interaction with the QBI deduction, and the specific planning strategies to maximize the value of NOL carryforwards.
The Loss Limitation Ordering Rules: What Happens Before the NOL
Before a business loss becomes an NOL, it must pass through a series of loss limitation rules in a specific order. Practitioners who skip these ordering rules will produce incorrect NOL calculations. The correct order is:
- Basis limitation (IRC §704(d) for partnerships, §1366(d) for S-Corps). A partner or S-Corp shareholder can only deduct losses up to their tax basis in the entity. Losses in excess of basis are suspended and carried forward until the taxpayer has sufficient basis.
- At-risk limitation (IRC §465). Even if the taxpayer has sufficient basis, losses are further limited to the amount the taxpayer has “at risk” in the activity. At-risk amount generally equals the taxpayer’s cash investment plus the adjusted basis of contributed property, plus certain recourse debt. Nonrecourse debt (with limited exceptions for qualified nonrecourse financing in real estate) does not increase at-risk amount.
- Passive activity loss limitation (IRC §469). Losses from passive activities (activities in which the taxpayer does not materially participate) can only offset passive income. Excess passive losses are suspended and carried forward to future years when the taxpayer has passive income or disposes of the passive activity.
- Excess business loss limitation (IRC §461(l)). After applying the basis, at-risk, and passive activity limitations, the remaining business loss is subject to the excess business loss (EBL) limitation. In 2026, the EBL limit is $313,000 single / $626,000 MFJ. Business losses exceeding this threshold are disallowed and converted to an NOL carryforward for the following year.
- NOL carryforward (IRC §172). The NOL carryforward (including amounts converted from disallowed EBLs) can offset up to 80% of taxable income in the carryforward year.
Strategic Planning for Clients With Large NOL Carryforwards
A client with a large NOL carryforward has a valuable tax asset that requires careful planning to maximize. Key strategies include:
Accelerate income into years with NOL carryforwards. The 80% limitation means the client will always owe tax on 20% of taxable income, but the NOL carryforward reduces the effective tax rate on the remaining 80%. In years when the client has a large NOL carryforward, it may be advantageous to accelerate income (Roth conversions, installment sale elections, deferred compensation distributions) to use the NOL carryforward at the current tax rate before rates potentially increase.
Roth conversion strategy. A client with a $500,000 NOL carryforward and $400,000 of traditional IRA assets can convert $400,000 to a Roth IRA, using the NOL to offset 80% of the conversion income ($320,000). The client pays tax on only $80,000 of the $400,000 conversion. The Roth IRA then grows tax-free, and future distributions are tax-free. This is one of the most powerful uses of a large NOL carryforward.
Avoid unnecessary deductions in high-NOL years. If the client already has more NOL carryforward than they can use in the foreseeable future, accelerating additional deductions (prepaying expenses, taking bonus depreciation) may be counterproductive. The additional deductions increase the NOL carryforward but do not produce immediate tax savings, and the time value of the deferred tax benefit is reduced.
Frequently Asked Questions
This is one of the most common NOL questions and the answer is nuanced. Pre-TCJA NOLs (generated before January 1, 2018) are not subject to the 80% limitation — they can offset 100% of taxable income. Post-TCJA NOLs (generated after December 31, 2017) are subject to the 80% limitation. When a taxpayer has both pre-TCJA and post-TCJA NOL carryforwards, the ordering rules matter significantly. Under IRC §172(b)(2), NOLs are used in the order in which they arose — the oldest NOLs are used first. This means pre-TCJA NOLs (which can offset 100% of taxable income) are used before post-TCJA NOLs (which are limited to 80%). From a planning perspective, this is generally favorable: the pre-TCJA NOLs provide full offset, and the post-TCJA NOLs are preserved for future years. However, if the client has a large pre-TCJA NOL that will take many years to use, and the post-TCJA NOL is growing each year, the practitioner should model the projected NOL usage to determine whether the client will ever fully utilize the carryforwards. If not, strategies to accelerate income (Roth conversions, installment sale elections) should be considered to use the NOLs before they become economically worthless due to the time value of money.
The interaction between the NOL deduction and the QBI deduction is one of the most complex areas of post-TCJA tax planning. The key rule under IRC §199A(b)(1)(B): the QBI deduction is calculated based on the taxpayer’s “combined qualified business income” which is reduced by any prior year QBI carryforward losses. If the taxpayer has a negative QBI in the current year (i.e., the qualified business generated a loss), that negative QBI is carried forward to the next year and reduces the QBI deduction in the carryforward year. This is separate from the NOL carryforward. The NOL and the QBI carryforward are two separate items that must be tracked independently. In a year when the taxpayer has both an NOL carryforward and a QBI carryforward, the NOL reduces taxable income (subject to the 80% limitation), and the QBI carryforward reduces the QBI deduction. The practical implication: a client who had a large business loss in a prior year may have both a large NOL carryforward AND a large negative QBI carryforward. In the year the business returns to profitability, the NOL reduces taxable income, and the negative QBI carryforward reduces the QBI deduction. The client may owe more tax than expected because the QBI deduction is reduced by the prior year loss. Practitioners must track both carryforwards separately and model the interaction in profitable years.
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Learn How to Implement ThisThe information on this page is intended for licensed tax professionals (CPAs, EAs, and tax attorneys) and is provided for educational and research purposes only. Tax law is complex and fact-specific — all strategies discussed are subject to limitations, phase-outs, and conditions that may not apply to every client situation. Practitioners should independently verify all information against current IRS guidance, Treasury Regulations, and applicable state law before advising clients. This content does not constitute legal or tax advice.