Business Income and Loss

Question 1

Items not allowed when calculating NOL

Answer 1

Calculate the NOL only on the income and expenses directly related to a trade or business. The following items are not allowed when figuring NOL:

• Capital losses in excess of capital gains of taxpayers other than corporations
• The Section 1202 exclusion of the gain from the sale of qualified small business stock
• Non-business deductions (alimony, IRA contributions, most itemized deductions, etc.) in excess of non-business income
• Net operating loss deduction

Question 2

Net Operating Loss (NOL)

Answer 2

Pursuant to the CARES Act, taxpayers may carry back NOLs arising in taxable years 2018, 2019, or 2020 to each of the five preceding tax years. The 80% limit is temporarily suspended. NOL may be carried forward indefinitely and used as a deduction in the future period.

NOLs arising in taxable years beginning before 2018 remain subject to prior law. Accordingly, such NOLs are not subject to the 80-percent limitation and remain subject to the prior-law carryback rules and the 20-year carryover limitation.

Question 3

Material participation

Answer 3

Participation is material if meeting any of the following tests:

• The taxpayer participates for more than 500 hours during the tax year.
• The taxpayer’s participation was substantially all of the participation in the activity of all individuals for the tax year.
• The taxpayer participates for more than 100 hours during the tax year, and at least as much as any other individual for the year.

Question 4

Passive activities

Answer 4

A taxpayer with a loss from a passive activity can offset the loss with income from other passive activities. Generally, a taxpayer is unable to deduct a loss from a passive activity. Carry forward any excess passive activity loss (PAL) or credit to the next tax year and use to offset only passive income. There are two kinds of passive activities:

• Business activities in which the taxpayer does not materially participate during the year
• Rental activities (regardless of material participation, unless a real estate professional)

Question 5

At-risk limits

Answer 5

A loss is allowed only to the extent of the amount at risk in the activity at the end of the tax year. Disallowed losses are deductions from the same activity in the next tax year. A taxpayer is at-risk in any activity for:

• Money and the adjusted basis of property he contributes to the activity, and
• Amounts he borrows for use in the activity if personally liable for repayment, or he pledges property (not used in the activity) as security for the loan.

Question 6

Basis rules

Answer 6

Generally, a taxpayer may not claim a loss greater than the adjusted basis of his S corporation or partnership interest. The taxpayer may carry forward disallowed losses and deductions due to the basis limit indefinitely and deduct them subject to the basis limit for that year.

Question 7

Business loss limitations

Answer 7

An individual taxpayer may not take a deduction against ordinary income for a loss, if the loss is in excess of basis, if the amount is not at-risk, or if the loss is the result of a passive activity. If a loss is allowed after the basis rules, the at-risk and passive activity loss limitations, the deduction for the loss is then subject to the excess business loss limitation.

The CARES Act suspends the excess business loss limitation for tax years 2018, 2019, and 2020.