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Kohl & Company CPAs
Jul 03, 2020

How is a net operating loss for your business handled on your tax return? Do you have to pay taxes on any income you've received still? Can the loss be deducted from your personal income? This blog will give you the answers, and our business tax experts can help ensure your business's taxes are handled properly.

As a business owner, you know that you have to pay taxes on all of your business income. Frequently, this means making quarterly estimated payments, which in and of itself can be complex. But what happens if your business operates at a loss? This year, many businesses (particularly small ones) were heavily impacted and experienced large losses as a result of the COVID-19 pandemic. So, if your business operated at a loss this year, you might be wondering what your tax situation will be come April of next year. This blog will give you a brief idea of how a net operating loss is handled on a business tax return. However, we do strongly recommend that you work with a CPA experienced in handling business returns to ensure your taxes are filed properly.

Numerous Influencing Factors

Your business’s net operating loss (NOL) will be handled differently depending on what your business’s legal structure is. Additionally, whether your investment in the business is considered to be wholly or only partially “at risk” will also be an influencing factor. And finally, any additional income you have aside from your business’s income can also impact how the NOL is handled on your taxes.

As you can see, there are a number of influencing factors that can alter how you should report your business’s operating loss. This is why it is essential to work with a business tax expert to ensure that all of the influencing factors are taken into consideration and the NOL is reported properly on your taxes.

Changes from the TCJA

If your business operated at a loss prior to 2017, you might feel confident in knowing how to handle this situation. However, when the Tax Cuts and Jobs Act (TCJA) was signed into law in 2017, it introduced a few new tax laws that impact how a business NOL is handled.

First, you no longer have the option of carrying a loss back to a previous tax year. However, you can still carry a loss forward to future tax years; the amount you can carry forward is, however, limited to 80% of taxable income, but there is no limit to the number of years that you can use the carry-forward option. Please note that carrying a loss over is not an option for corporations.

Another major change you need to know about is the new limits put into place for excessive losses. While a business loss can still be deducted on your personal return to reduce your personal taxable income, the amount you can deduct is now limited to $250,000, or $500,000 for couples filing jointly. This limit only applies to pass-through business entities, such as single-member LLCs, sole proprietorships, partnerships, and S corporations. It does not apply to other types of corporations.

Also not that you must first calculate the amount you have at risk as well as the passive activity of the business before you can calculate your excess business loss. Keep reading to learn more about these two factors.

Amount at Risk Rules

As we already mentioned, whether your investment is wholly or partially “at risk” is in the business is another impacting factor in determining how your NOL is handled. This means that your businesses losses are limited to the amount that you have actively at risk in the business. Essentially, you cannot write off more than you actually invested. This applies to all partners in a business and to shareholders in an S corporation. If you have a sole proprietorship or single-member LLC, you’ll calculate your at-risk situation and report it on Form 6198.

Passive Activity

The second thing you need to determine before calculating your excess business loss is the passive activity on your business. This applies to any company where the owner(s) do not actively participate in its operation on a regular or significant basis. If your business loss is a result of passive activity, you can zero out the income from your business, but you cannot deduct it from your personal income. In essence, if you’re not actively engaged in building and operating your business, you can’t use its losses to reduce your other income; you can only deduct enough of the losses to zero out your income from that business.

Claiming the Loss on Your Return

So, aside from the limitations mentioned above, most business owners and self-employed individuals can deduct a NOL on their personal returns. The process for doing this varies based on your type of business:

• For sole proprietorships and single-member LLCs, you’ll use Schedule C as part of your personal tax return. Deduct the loss from your other income to reduce your overall tax liability.
• For partnerships and multiple-member LLCs, you’ll calculate the business’s taxes on a partnership tax return. Your share of the loss is then passed on and can be deducted from your personal return (just as profits would be passed to you and reported on your personal return).

Please note that C corporations are considered their own entity, and so business losses cannot be deducted from owners’ personal returns.

If you have questions about reporting your business’s NOL or filing your business tax return, contact the business tax experts at Kohl & Company CPAs. We’ll ensure that it’s done the right way the first time, and we’ll get it done quickly. Give us a call to set up an appointment today!