Loss Carryback

Loss Carryback: Definition, History, and Example

Key takeaways

• A loss carryback allows a business to apply a net operating loss (NOL) to a prior year’s tax return, producing an immediate refund of taxes previously paid.
• A carryforward applies NOLs to future years’ returns instead.
• Carrybacks are generally more valuable than carryforwards because of the time value of money, though exceptions exist.
• Federal carryback rules have changed frequently; always confirm current law and any state limitations before electing treatment.

What is a loss carryback?

A loss carryback occurs when a company with a net operating loss applies that loss to a prior tax year’s income. Doing so reduces the tax liability for that earlier year and typically results in a refund of taxes already paid. Businesses can often choose whether to carry an NOL back, carry it forward, or in some periods waive the carryback and carry forward only. Rules about elections and reversibility vary by law and tax year.

How it works

• Apply the NOL to taxable income in a prior year, reducing that year’s taxable income and tax bill.
• The reduced prior-year tax liability generates a refund for taxes already paid.
• If the entire loss cannot be absorbed in one prior year, it may be applied across multiple prior years (subject to statutory limits) or carried forward for future use.

Carryback vs. carryforward

• Carryback: immediate tax refund, beneficial for cash flow and present-value reasons.
• Carryforward: defers tax benefit to future years; may be preferable if future tax rates are expected to be higher or when carryback is unavailable.
• Legislative limits and special rules (for example, percentage caps or exceptions for certain industries) can change which option is advantageous.

Historical overview — major changes

• 1918: Federal NOL carryover provisions introduced to smooth tax burdens for cyclical businesses.
• 1997 (Tax Relief Act): Limited carrybacks to two years and extended carryforwards to 20 years.
• 2009 (Worker, Homeownership, and Business Assistance Act): Temporarily allowed a five-year carryback for certain years (notably 2008–2009).
• 2017 (Tax Cuts and Jobs Act, TCJA): Eliminated the general two-year carryback (with exceptions for farming and non-life insurance), made carryforwards indefinite but limited annual utilization to 80% of taxable income for later years.
• 2020 (CARES Act): Temporarily relaxed TCJA limits and allowed five-year carrybacks for NOLs arising in specified tax years (effectively delaying some TCJA changes until 2021).

State tax rules can differ from federal rules and may impose stricter time limits or percentage limitations.

Real-world example

In 2009, federal law changes allowed five-year carrybacks for losses in certain years. Reports showed that a taxpayer applied NOLs to earlier years under that provision and received a substantial refund of federal income taxes paid in prior years, illustrating how extended carryback provisions can produce large immediate tax recoveries.

Practical considerations

• Confirm current federal and state rules before electing carryback or carryforward treatment — the availability and duration of carrybacks have varied widely.
• Consider cash-flow needs and the time value of money: immediate refunds usually have higher present value than future tax reductions.
• Industry-specific exceptions (for example, farming and some insurance rules) may alter options and limits.
• Procedural rules govern how to claim carrybacks (amending prior returns or filing specific claims) and whether an election to waive carryback is permitted or reversible.

Sources

Key references include IRS guidance on net operating losses (Publication 536), the Tax Cuts and Jobs Act (2017), the CARES Act (2020), and the Worker, Homeownership, and Business Assistance Act of 2009. Contemporary reporting and official Treasury/IRS guidance document how those laws were applied in specific years.