Net Operating Loss If the taxpayer’s deductions for the year exceed gross income, the taxpayer may have a net operating loss (NOL). The NOL is used to reduce taxable income in other years. There are limits on the kinds of deductions, and the amounts, that can be used in computing an NOL. These limits are different for individuals and for corporations and for federal and Minnesota returns. For C corporations, if the NOL is attributable to business carried on both in and outside Minnesota, a computation allocating a portion of the NOL may be required on the Minnesota return. Minnesota has decoupled its tax treatment of a NOL from the federal tax treatment. Minnesota tax law must be followed in taking the NOL deduction for Minnesota income tax purposes. Significantly, in 2023 Minnesota reduced the NOL deduction from 80 percent to 70 percent for tax years beginning after December 31, 2022. In a July 2023 release the Minnesota Department of Revenue indicated that the effective date of that reduction may change to December 31, 2023 since the legislature has given the Commissioner of Revenue a letter of intent to accomplish that change in the future. Sole Proprietorship. The NOL is determined on the proprietor’s gross income from all sources as reported on the Form 1040, not just on the income or loss from the business reported on Schedule C. In general, an NOL is computed in the same way taxable income is computed: deductions are subtracted from gross income, and if deductions exceed gross income there is a net operating loss. However, there are rules that limit what deductions may be taken in computing an NOL. In general, these rules do not permit a deduction for net capital losses, nonbusiness losses, nonbusiness deductions, personal exemptions and NOL carryovers or carrybacks from previous years. Some deductions also must be modified in taking the NOL. Internal Revenue Service regulations and those of the Minnesota Department of Revenue determine the years to which the NOL is carried, and the order in which NOLs are deducted. Partnership. A partnership is not allowed to take an NOL deduction. All losses to the partnership for tax purposes are passed through to the partners each year. The partners may use their separate shares of the partnership’s loss to compute their individual NOL. The rules for sole proprietors discussed above apply. C Corporation. For federal tax purposes, a C corporation determines and deducts an NOL in much the same way an individual does. The same carryback and carryover periods apply and the same rules apply when two or more NOLs are carried to the same year. A corporation’s NOL differs from an individual’s NOL in three ways. First, a corporation is allowed to take different deductions in figuring an NOL. Second, a corporation must make different modifications to its taxable income in the carryback or carry forward year when figuring how much of the NOL may be deducted. Third, Minnesota does not permit carryback of an NOL. (An NOL may be carried forward 15 years.) Because the corporation is a separate taxable entity, the NOL is deducted by the corporation and is not passed through to shareholders. Minnesota’s tax laws must be followed in taking the NOL deduction for Minnesota income tax purposes. S Corporation. The S corporation, like a partnership, is not allowed to take an NOL deduction. If the S corporation incurs a loss for the year, it is passed through to shareholders in proportion to their shareholdings. The shareholders of the S corporation may use their share of the corporation’s loss to compute their individual NOL.
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