The JGTRRA's effect on NOL planning.

• Position: Jobs and Growth Tax Relief Reconciliation Act of 2003, net operating losses

Individuals who expect to incur net operating losses (NOLs) during 2003 are already at a disadvantage over 2002, as some of the enacted tax cuts may do more harm than good. Tax advisers will need to address new NOL planning considerations, particularly the effects of the tax rate reductions and bonus depreciation increase.

The struggling economy will likely increase business losses, due to shrinking product or service demand. Tax advisers will be able to make the most of these unfortunate circumstances by maximizing the Sec. 172 benefits available to NOL taxpayers.

Individual NOEs

An individual can have an NOL from ,an S corporation, a partnership or a personal business or farm. If an individual does not have a loss on Schedule C, E or E an NOL is generally impossible.

NOLs arise only from business losses, as nonbusiness deductions are limited to nonbusiness income, under Regs. Sec. 1.172-3 (a) (3) (i). A traditional taxpayer with normal income items cannot have an NOL, as his or her itemized deductions cannot reduce taxable income below zero; only when he or she has a business loss can there be an NOL.

Generally under Sec. 172 and the regulations, if an individual has a loss on Schedule C, E or E his or her NOL will be very close to that loss when he or she has more itemized deductions than other income.

Example: Individual V has $10,000 in interest and dividend income and $15,000 of itemized deductions. The itemized deductions do not lower taxable income below zero and create an NOL. However, V owns a small business and reports a $2,500 loss on Schedule C, which creates an NOL. Thus, V's adjusted gross income (AGI) is $7,500 and his itemized deductions are $15,000. V's itemized deductions eliminate all income and reduce his taxable income to zero. V decides to itemize his deductions up to the nonbusiness income level, thus allowing $10,000 of deductions. He then sets this off against the $7,500 AGI, leaving a $2,500 NOL. V uses Schedule A of Form 1045,Application for Tentative Refund, to calculate the NOL.

Rate Cuts

The individual tax rate reductions over the past few years were a gift to the overwhelming majority of taxpayers. However, the rate differential between the carryback years and carryover years can have a major effect on taxpayers with NOLs, especially in 2003 and 2004.

NOLs are unique, in that taxpayers can use them in a range of tax years, if they so elect. Obviously, they would want to use this asset to maximize benefits...