Net Operating Loss (NOL) Carryforward: How to Use Business Losses to Reduce Future Taxes

By Yarik Yarosh, CPA ·September 5, 2026 ·6 min read

Written by Yarik Yarosh, CPA (US & Canada) September 5, 2026 · FL CPA license AC61704 · CPA Ontario

A net operating loss (NOL) under IRC 172 arises when a taxpayer’s allowable deductions exceed gross income for the tax year. For individuals, the NOL is generally computed by removing non-business deductions that exceed non-business income (personal itemized deductions, the standard deduction, and personal exemptions do not create or increase an NOL). The current rules, as modified by the TCJA and extended by subsequent legislation, allow NOLs to be carried forward indefinitely but limit their use to 80% of taxable income in any carryforward year. This means a business with a large NOL carryforward will always pay tax on at least 20% of its income in profitable years. The TCJA eliminated the prior 2-year carryback option for most taxpayers (farming losses retain a 2-year carryback, and certain insurance company losses have a special carryback period). The CARES Act temporarily restored a 5-year carryback for NOLs arising in 2018, 2019, and 2020, but that provision has expired.

✓Key takeaway

NOL rules (current law):

Factor	Details
Carryforward period	Indefinite (no expiration)
Carryback	Not available (except farming losses: 2-year carryback)
Usage limitation	80% of taxable income in the carryforward year
Applies to	Individuals, C-Corps, estates, trusts
For S-Corps/partnerships	NOL passes through to owners; tracked at the individual level
How to calculate	Form 1045 (Application for Tentative Refund) or Schedule A of Form 1045 for the NOL computation

Computing an individual NOL:

Start With	Modification
Negative taxable income	Add back:
	+ Standard or itemized deductions (to the extent they exceed non-business income)
	+ Personal exemptions (if any)
	+ Non-business capital losses exceeding non-business capital gains
	+ Non-business deductions exceeding non-business income
= NOL	Can only be created by BUSINESS losses

The 80% limitation in practice:

Taxable Income (Before NOL)	NOL Available	NOL Used (80%)	Taxable Income (After NOL)	Minimum Tax
$100,000	$500,000	$80,000	$20,000	Tax on $20,000
$200,000	$500,000	$160,000	$40,000	Tax on $40,000
$500,000	$500,000	$400,000	$100,000	Tax on $100,000
$625,000	$500,000	$500,000	$125,000	Tax on $125,000
$700,000	$500,000	$500,000 (fully used)	$200,000	Tax on $200,000

How do NOL carryforwards work across multiple years?

Hypothetical example

Round numbers. For current guidance, see IRS net operating loss guidance. A sole proprietor who started a business that lost money for 2 years before becoming profitable.

NOL generation:

Year	Business Income/(Loss)	Other Income (W-2 spouse)	Taxable Income	NOL Created
Year 1	($200,000)	$80,000	($120,000)	$120,000
Year 2	($100,000)	$80,000	($20,000)	$20,000
Total NOL carryforward				$140,000

NOL usage in profitable years:

Year	Business Income	Other Income	Taxable Income (Before NOL)	NOL Used (80%)	Taxable Income (After NOL)	Remaining NOL
Year 3	$50,000	$80,000	$130,000	$104,000	$26,000	$36,000
Year 4	$100,000	$80,000	$180,000	$36,000 (remaining NOL)	$144,000	$0

Tax savings from NOL carryforward:

Year	Without NOL	With NOL	Savings
Year 3 (taxable $130,000)	Tax on $130,000 = ~$21,500	Tax on $26,000 = ~$2,900	$18,600
Year 4 (taxable $180,000)	Tax on $180,000 = ~$33,400	Tax on $144,000 = ~$26,300	$7,100
Total savings			$25,700

The 80% rule’s impact: Without the 80% limitation (pre-TCJA rules), Year 3 would have used $130,000 of NOL (100%), leaving $10,000 remaining. The 80% rule forces the proprietor to pay tax on $26,000 in Year 3 even though they have a $140,000 NOL.

Factor	Old Rules (Pre-TCJA)	Current Rules
Year 3 NOL used	$130,000 (100%)	$104,000 (80%)
Year 3 taxable income	$0	$26,000
Year 3 tax	$0	$2,900
Total recovery period	Year 3 (one year)	Year 3-4 (two years)

NOL for S-Corps vs. sole proprietorships: S-Corps do NOT have their own NOL. Instead:

Entity	How NOL Works
Sole proprietorship	Schedule C loss creates NOL directly on Form 1040
S-Corp	Loss flows through on K-1 to shareholder’s 1040. Subject to basis, at-risk, passive activity, AND excess business loss limitations before creating an NOL.
C-Corp	C-Corp has its own NOL (carried forward at the entity level, 80% of taxable income limitation). Does NOT flow through to shareholders.
Partnership	Loss flows through on K-1 to partner’s 1040. Same limitations as S-Corp.

S-Corp shareholder NOL complications:

Limitation	Order	Effect
1. Stock and debt basis	First	Loss limited to shareholder’s stock + loan basis
2. At-risk limitation	Second	Loss limited to amount at risk
3. Passive activity limitation	Third	Passive losses only offset passive income
4. Excess business loss limitation (IRC 461(l))	Fourth	$305,000/$610,000 cap
5. NOL limitation (80% of taxable income)	When used	Carryforward limited to 80% of income

A loss must survive ALL FIVE limitations before it becomes a usable NOL carryforward. Many S-Corp shareholders have “trapped” losses at the basis limitation step, which never even become NOLs.

Planning strategies:

Strategy	Effect
Maintain shareholder basis (contribute capital, make loans)	Ensures S-Corp losses flow through to create NOLs
Time income recognition	Concentrate income in years with large NOL carryforwards
Avoid the 80% waste	Consider accelerating income into NOL years to maximize the 80% usage
Coordinate with excess business loss rules	The $610,000 cap creates additional NOLs; plan accordingly
Consider amended returns	If NOL was miscalculated, amend within 3 years to claim correct NOL

Illustrative numbers only, not a real client and not advice for your facts.

How do net operating loss carryforward rules work for small businesses?

Net operating losses arising in tax years after 2017 can be carried forward indefinitely but are limited to offsetting 80% of taxable income in any future year under IRC 172(a). The 80% limitation means a business with a large NOL carryforward will always pay some tax in profitable years, unlike pre-TCJA rules that allowed 100% offset. NOLs can no longer be carried back to prior years for most businesses (the CARES Act temporarily allowed 5-year carrybacks for 2018-2020 losses, but that provision has expired). Farming businesses retain a 2-year carryback option, and property and casualty insurance companies retain a 2-year carryback with no 80% limitation, which are the only remaining exceptions to the forward-only rule.

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Cite this page

Yarik Yarosh, CPA. "Net Operating Loss (NOL) Carryforward: How to Use Business Losses to Reduce Future Taxes." Blue Cloud CPA, September 5, 2026. https://bluecloudcpa.com/guides/small-business-tax-loss-carryforward-nol-rules-irc-172

This guide is general information, not tax advice for your specific situation. Which points apply, and how, depends on your facts.

Net Operating Loss (NOL) Carryforward: How to Use Business Losses to Reduce Future Taxes

How do NOL carryforwards work across multiple years?

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