Net Operating Loss (NOL) Rules for 2026

A bad year in business does not have to be a wasted year for tax purposes. When your deductions exceed your income, the shortfall becomes a Net Operating Loss (NOL) that can shelter income in later years. The rules changed substantially in 2018, changed again temporarily during the pandemic, and were tightened once more in 2025. This guide walks through what an NOL is, how much of it you can actually use each year, the new IRS form you need, and the California rules that differ from federal law.

What counts as an NOL

An NOL is not simply "my business lost money." It is computed on your entire return after removing items that do not belong in the calculation. For an individual, start with negative taxable income and add back:

• the standard deduction or itemized deductions to the extent they exceed non-business income (personal deductions cannot create a business loss);
• capital losses in excess of capital gains;
• the Qualified Business Income deduction under §199A; and
• any NOL deduction carried into the year from earlier years.

What remains is usually driven by Schedule C or F losses, rental losses on Schedule E that survived the passive loss rules, casualty losses from a federally declared disaster, and losses passed through on a K-1 from a partnership or S corporation. The partnership or S corporation itself never has an NOL; the loss flows to the owners, who compute their own.

Carryback is gone, carryforward is unlimited, but capped at 80%

For losses arising in 2018 and later, three rules apply:

1. No carryback. You cannot amend prior returns to get a refund. The only exception is a two-year carryback for certain farming losses. (The CARES Act allowed a five-year carryback for 2018–2020 losses, but that window closed years ago.)
2. Indefinite carryforward. The old 20-year expiration no longer applies. A 2026 loss can still be used in 2050.
3. 80% limitation. In any year you use the NOL, the deduction cannot exceed 80% of that year's taxable income computed before the NOL. If you have $100,000 of taxable income and a $150,000 carryforward, you deduct $80,000, pay tax on $20,000, and carry $70,000 forward.

Losses that arose before 2018 keep their old rules: they can offset 100% of income but still expire after 20 years. If you hold both kinds, the pre-2018 losses are used first.

The excess business loss wall: now permanent

Before a loss can even become an NOL, non-corporate taxpayers face the excess business loss limitation under §461(l). Total business losses that exceed business income by more than a threshold are disallowed in the current year and converted into an NOL carryforward. The threshold is indexed annually: $313,000 for single filers and $626,000 for joint filers in 2025, rising to roughly $320,000 and $640,000 in 2026.

The 2025 tax legislation made this limitation permanent. It had been scheduled to expire after 2028. In practice, this means a physician who invests in a real estate syndication generating a $900,000 loss cannot use more than about $640,000 of it against her wages this year even if the passive loss rules are satisfied; the rest becomes an NOL subject to the 80% cap next year.

Note the order of operations, because it matters: basis limits first, then at-risk limits, then passive activity limits, then the excess business loss limit, and only then does an NOL arise.

New paperwork: Form 172

Starting with 2024 returns, individuals, estates and trusts must attach Form 172, Net Operating Losses (NOLs), in the year an NOL arises and in each year it is carried forward and used. Previously the computation lived on a worksheet in Publication 536 that many preparers skipped. The IRS now wants the schedule on the return itself, and returns that claim an NOL deduction without Form 172 are being flagged for correspondence. Keep a running NOL schedule by year of origin; you will need it for the 80% computation and for the pre-2018 versus post-2017 split.

C corporations

Corporate NOLs follow the same 80% cap and unlimited carryforward. Two additional traps: a change in ownership of more than 50 percentage points triggers the §382 annual limitation on NOL usage (the value of the company multiplied by a published federal rate), and NOLs do not survive a conversion to S corporation status except to offset built-in gains tax.

California is different

California generally conforms to the federal NOL concept but with its own numbers. State NOLs carry forward 20 years, there is no carryback, and there is no 80% cap. More importantly, California suspended the NOL deduction for tax years 2024, 2025 and 2026 for taxpayers with net business income or modified adjusted gross income of $1 million or more. The suspended years are added to the carryforward period, so the loss is deferred rather than lost, but cash flow planning must account for paying state tax on income that is fully sheltered on the federal return.

Planning points

• Roth conversions in a loss year. If you have a large NOL, converting a traditional IRA to a Roth can absorb the loss at little or no tax cost. Because of the 80% cap this works best when the conversion is timed in the same year the loss arises rather than a carryforward year.
• Do not waste the standard deduction. An NOL deduction reduces taxable income before the standard deduction is applied; if the NOL takes you to zero, the standard deduction produces no benefit and is not carried over. Sometimes taking less loss in one year (for example, by electing out of bonus depreciation) preserves value.
• Track basis and at-risk amounts. Most disputes over disallowed losses for S corporation and partnership owners are basis disputes, not NOL disputes.
• Estimated taxes. A carryforward reduces next year's liability; adjust quarterly payments so you are not lending money to the Treasury.

Summary

An NOL is valuable but slow money. Expect to recover it over several years at 80% of income, keep Form 172 in every return, run the excess business loss test before assuming a loss is usable, and model California separately for high-income years. Reviewing these numbers before year-end, while there is still time to shift income or deductions, is where most of the value is created.

OKLEM CPA Group · Los Angeles Korean-speaking CPA Shin S. Oh · (213) 788-3388 · Individual and business tax, bookkeeping, payroll