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When you have a business loss for any year, you can either carry the loss back to prior years or forward to future years. When you carry a loss back to prior years, you can get refunds of taxes you paid in prior years (usually within 90 days of filing the refund claim). If you carry losses forward, you have to wait for future years to get a tax benefit.
Prior to the 2009 American Recovery Act, you could only carry a loss back two years. The 2009 Act allowed you to carry losses back up to five years. This allowed you to carry losses back to 2003 and get refunds of taxes you paid during the boom years. Under the Recovery Act, the five year carryback was ONLY available for the 2008 tax year.
Congress just extended this tax break to 2009. On November 6, Congress passed the Worker, Homeownership, and Business Assistance Act of 2009. This allows business owners to carry back losses suffered in 2009 for up to 5 years prior. So you can carry back losses to 2004. However, the loss that you can carry back to 2004 is limited to 50% of your taxable income for 2004. This 50% limit does not apply to years 2005 to 2008. If the losses exceed 50% of your taxable income for 2004, the excess loss is carried forward to future years.
Example: Joan had a successful business earlier in the decade, but she’s had a tough past few years. Her taxable income over the past few years is:
Year Taxable Income Tax Rate
2004 $150,000 28%
2005 $100,000 28%
2006 $ 50,000 25%
2007 $ 15,000 15%
2008 $ 50 0%
In 2009, she loses $100,000 in her business. Under the new law, she can carry the $100,000 back up to five years to 2004. However, the loss is limited to 50% of her taxable income in 2004 ($75,000). The remaining $25,000 loss can be carried forward into 2005.
Under old law, taxpayers could carry losses back only 2 years and forward 20 years. Under old law, Joan could carry her loss back to 2007 (offsetting $15,000 of income) and 2008 (offsetting $50 of income). The remaining $84,950 loss would have to be carried forward.
Notice that by carrying the loss back 5 years, her loss offsets income that was in a higher tax bracket. The purpose of the 5 year carryback is to put money in taxpayers pockets sooner than if they could only carry losses back two years and forward twenty years. By allowing taxpayers to carry back losses to the boom years, their losses will offset income that was taxed at a higher tax rate rather than if they had to carry losses into the future when their tax rates may not be as high (as they are rebuilding their businesses).
My theory for the 50% loss limitation in 2004 is that 2004 was a boom year in tax revenues and the government wants to limit how much of that tax revenue they have to refund to taxpayers.
A few remaining notes:
- If you received any TARP funds, you are not eligible for the increased carryback period
- the claim for extended carryback has to be filed by the extended due date of your tax return by filing
- Form 1045 or 1040X if you are an individual
- Form 1139 or 1120X if you are a C corporation
- the carryback period is 3, 4, or 5 years. You should experiment with the carryback period that yields the highest refund.
Fine Print: This posting contains general tax information that may or may not apply in your specific tax situation. Please consult a tax professional before relying on any information contained in this post.