When businesses suffer losses in a calendar year, well-structured corporate taxA tax is a mandatory payment or charge collected by local, state, and national governments from individuals or businesses to cover the costs of general government services, goods, and activities. codes allow them to deduct those losses against previous or future tax returns. These provisions are called net operating loss (NOL) carrybacks and carryforwards. While the federal code allows 20 years of NOL carryforwards and 2 years of NOL carrybacks, states vary widely on their net operating loss policies.
Net operating loss deductions are important because many businesses operate in industries that fluctuate greatly with the business cycle. They might experience considerable profits one year, but then be in the hole the next year. Net operating loss carryforwardA Net Operating Loss (NOL) Carryforward allows businesses suffering losses in one year to deduct them from future years’ profits. Businesses thus are taxed on average profitability, making the tax code more neutral. In the U.S., a net operating loss can be carried forward indefinitely but are limited to 80 percent of taxable income. s and carrybacks help those businesses to “smooth” their income, so that the tax code is more neutral with respect to time.
Below are two maps taken from data in our 2016 State Business Tax Climate Index, one showing the number of NOL carryforward years allowed by each state’s corporate income taxA corporate income tax (CIT) is levied by federal and state governments on business profits. Many companies are not subject to the CIT because they are taxed as pass-through businesses, with income reportable under the individual income tax. code, and the other showing NOL carryback years.
Thirty states and the District of Columbia conform to the federal standard of offering 20 years of NOL carryforwards, while six states offer 15 years. Other states are less generous; Illinois offers 12 years; Kansas, Michigan, New Hampshire, and Vermont offer ten years; Montana offers seven, and Arkansas and Rhode Island only offer five. This year, Louisiana and New York both increased their number of carryforward years from 15 to 20.
Twelve states conform to the federal standard of offering 2 years of NOL carrybacks, and three states have a more generous provision of three years. Twenty-nine states and the District of Columbia do not allow NOL carrybacks. This year, New York increased its number of carryback years from 2 to 3, while Louisiana eliminated its carryback provisions while increasing the amount of available carryforward years.
NOL Caps
It is also important to mention that some states limit the effectiveness of their NOL policies by placing a “cap” on the net operating losses that businesses are allowed to carry forward or back. New Hampshire caps its carryforwards at $10 million and Pennsylvania caps its carryforwards at $5 million. Illinois allowed a particularly low $100,000 cap to expire.
Utah caps its carrybacks at $1 million, West Virginia at $300,000, Idaho at $100,000, and Delaware at $30,000. As part of a corporate tax reform package, New York eliminated its nation’s lowest $10,000 carryback cap this year.
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