NOL Carrybacks Under the CARES Act: Why it's important to accelerate or otherwise maximize losses in 2020.

• Author: Collins, Bryan P.
• Position: Net operating losses, Coronavirus Aid, Relief, and Economic Security Act of 2020

Due to the disruptions and economic shutdowns caused by COVID-19, many corporate taxpayers will have net operating losses (NOLs) in 2020. The Coronavirus Aid, Relief, and Economic Security (CARES) Act offers these taxpayers the opportunity to turn 2020 NOLs into cash refunds. The CARES Act revived the NOL carryback that was previously eliminated by the Tax Cuts and Jobs Act of 2017 (TCJA). For a limited time, 2018, 2019, and 2020 NOLs can be carried back for up to five years.

Prior to this CARES Act amendment, the TCJA had eliminated carrybacks and permitted NOLs to be carried forward indefinitely for post-2017 NOLs subject to a limitation of eighty percent of taxable income (hereafter called the eighty percent limitation). Special rules apply to non-life insurance companies (that is, insurance companies other than life insurance companies) and farming losses. Non-life insurance companies are allowed to carry NOLs back two years and forward twenty years and are not subject to the eighty percent limitation. Farming losses may be carried back two years and carried forward indefinitely, subject to the eighty percent limitation.

Under the TCJA as modified by the CARES Act, an NOL deduction for the year is the sum of 1) the total NOLs arising in taxable years beginning before January 1, 2018 (pre-2018 NOLs) that are carried to that year plus 2) the lesser of the total of NOLs arising in taxable years beginning after December 31, 2017 (post-2017 NOLs), or eighty percent of taxable income less pre-2018 NOLs.

Corporate taxpayers with taxable income during the 2015-2019 tax years should consider the potential benefit of maximizing 2020 NOLs to claim a refund from those earlier tax years. It is important to accelerate or otherwise maximize losses in 2020, because unless Congress extends the CARES Act NOL carryback provision, losses recognized beyond 2020 may only be carried forward (and NOL carryforwards from taxable years beginning after 2017 are subject to an eighty percent limitation when carried to tax years beginning after December 31, 2020).

In some circumstances, however, it may not be in a taxpayers best interest to maximize its 2020 losses or to carry them back. For example, as discussed below, the interaction of NOL carrybacks with other TCJA provisions (for example, GILTI, BEAT, and Section 965) may make such carrybacks inadvisable. In addition, if tax rates are expected to rise in future years, an NOL may be more valuable in a subsequent tax year than during the post-TCJA reduced-rate years. In addition, the rules under Section 382 regarding ownership changes and the resulting limitations on NOLs and other tax attributes must be considered in connection with NOL planning. Taxpayers must also consider state and local tax implications, since state and local income tax calculations based on federal taxable income may be affected. Many states do not conform to the CARES Act provisions and, even where they do, some states limit the ability of certain taxpayers to carry back NOLs.

Potentially Surprising TCJA Interactions

Taxpayers considering carrying back NOLs to 2017 and later taxable years will need to consider a variety of potential interactions with the TCJA. As described in more detail below, NOL carrybacks to 2017 and later years may be considerably less valuable than NOL carrybacks to earlier years. Moreover, although taxpayers can waive the carryback of NOLs to Section 965 inclusion years, they cannot elect what years NOLs may be carried back to on a year-by-year basis. (1)

Taxpayers carrying back NOLs to 2017 and 2018 will need to consider the potential interaction of the NOL carryback with their Section 965 inclusion. Section 965 imposes a transition tax on earnings of controlled foreign corporations (CFCs) in connection with tax reform. Whether 2017 or 2018 or both were Section 965 inclusion years for a taxpayer depends on the year-end of the CFCs to which the Section 965 transition tax applied. Because these CFC earnings were taxed at a lower rate than corporate income in general, Congress permitted taxpayers to elect under Section 965(n) not to apply NOLs to offset their Section 965 inclusion so taxpayers could instead utilize NOLs to offset income taxed at a higher rate. In addition, Section 965(h) permitted taxpayers to elect to pay their Section 965 transition tax liability over an eight-year period. The CARES Act prevents taxpayers from utilizing NOL carrybacks to offset their Section 965...