R ecent tax reform discussions have included possibly changing the tax treatment of business net operating losses (NOLs). This report provides an overview of the current tax treatment of NOLs as well as a brief legislative history. The report also explains how losses can be used to smooth income and tax liabilities. The report concludes by reviewing several policy options and considerations that Congress may find useful as it continues to debate tax reform. Overview

A business incurs an NOL when its taxable income is negative. Businesses have no tax liability in a loss year. In addition, under current law a business can use an NOL to obtain a refund for taxes paid in prior years or to reduce taxes owed in the future. Extend the Carryback Period

The intent of allowing loss to be carried back and carried forward is to give taxpayers the ability to smooth out changes in business income, and therefore taxes, over the business cycle. Currently, if a business is unable to fully utilize its losses by offsetting income earned in the past two years, it may carry them forward for up to 20 years. Tax Refund for Losses

As an alternative to a carryback and carryforward regime, Congress could allow taxpayers to receive a tax refund in the year losses were incurred.
Tax reform could result in any number of changes to current tax policy. One modification that could occur is the tax treatment of net operating losses (NOLs). An NOL is incurred when a business taxpayer has negative taxable income. A business has no tax liability in the year they incur a loss. Additionally, a loss can be "carried back" for a refund on taxes paid in the past two years or "carried forward" for up to 20 years to reduce future taxes. The intent of the NOL carryback and carryforward regime is to give taxpayers the ability to smooth out changes in business income, and therefore taxes, over the business cycle. Allowing losses to offset past or future income may also reduce the distorting effects of taxation, and promote investment and economic efficiency.
This report provides an overview of the current tax treatment of NOLs as well as a brief legislative history. The report also explains the mechanics by which losses can be used to receive a refund for taxes paid in the past, or to reduce taxes owed in the future. The report concludes by reviewing several policy options and considerations that Congress may find useful as they continue to debate tax reform, including extending the carryback period, allowing an immediate tax refund for losses, and allowing interest to accrue on losses that are carried forward. Any of these changes could enhance the ability to smooth income and economic efficiency depending on their design, but would also reduce federal revenue.
This report will be updated in the event of legislative changes.