CARES Act – Changes to Net Operating Loss Carry Forwards

Volume No. US-20-12

In prior U.S. Tax Tips we looked at who is eligible for the Economic Impact Payment (also known as the COVID-19 Stimulus Check), under the CARES Act.  This US $1,200 payment is for eligible individuals which includes U.S. persons who live abroad.  The CARES Act also has a number of provisions that are aimed primarily at businesses based in the United States and would provide little benefit to U.S. persons abroad.  There are, however, other potential provisions that may be relevant for U.S. persons abroad.  One such provision relates to the utilization of net operating losses (NOLs).

In general, the 2017 Tax Cuts and Jobs Act (TCJA) limited the amount of losses from the trades or businesses of noncorporate taxpayers that the taxpayer could claim each year. Taxpayers could no longer deduct overall net business losses that are more than a threshold amount in the current year, the threshold being 80% of taxable income (determined without any NOL deduction). The amount of the excess business loss is treated as an NOL carryover in the subsequent year. The ability to carry back an NOL to a prior year was eliminated.

The IRS has now issued guidance (IR 2020-67 and Rev. Proc. 2020-24) outlining changes under the CARES Act which have relaxed or suspended a number of the TCJA restrictions.  NOLs arising in tax years beginning after December 31, 2017, and before January 1, 2021 may now be carried back to each of the five tax years preceding the tax year of such loss.  The CARES Act also temporarily removes the 80% limitation, reinstating it for tax years beginning after 2020.

As a result of changes under the CARES Act, taxpayers with eligible NOLs may now be able to claim a refund for tax returns from prior tax years. The CARES Act did not modify IRC Section 172(b)(3), meaning that a taxpayer can still waive the carryback and elect to carry NOLs forward to subsequent tax years.

Taxpayers that own a controlled foreign corporation (CFC) need to consider the interaction of an NOL carryback with other IRC provisions such as IRC §965 (known as the “transition tax”).  IRC §965 dealt with the (forced) repatriation of a deferred corporation’s earnings and profits as at November 2 or December 31, 2017 (whichever E&P was higher).   The CARES Act does not generally prohibit taxpayers from using an NOL from a tax year with a lower corporate tax rate (e.g., 2020) to offset taxable income that was subject to a higher corporate tax rate in an earlier tax year (e.g., 2017).

Taxpayers may also want to consider how a carry back of an NOL will affect any foreign tax credits claimed or AMT paid in the prior year.  We at Cadesky U.S. Tax can assist with any required computations.

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