Calculating Your Net Operating Loss (Page Four)

When, where and how to calculate this monster

(wHdc) The Net Operating Loss, as applied to individuals and small businesses, is one of the most complicated features of the U.S. Tax Code, perhaps second only to the calculation of recaptured depreciation. The IRS does not explain it clearly. In fact, I have found no resource which explains it clearly, that is why I created this article. This is Page Four, of a multi-page article which will investigate the Net Operating Loss calculation.


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Some online resources related to this topic

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Form 1045 Schedule A Line 6 Non-Business Deductions

Line 6 gets a real excoriation from me.  Whoever thought that this way of representing what they are trying to accomplish was a good thing, should be taken out behind the barn.  Here is what line 6 is trying to say in plain English: On the first page of your 1040, there is a section called "Adjusted Gross Income" which is used to reduce your Form 1040 line 22 "total income" by various things to arrive at your Form 1040 line 37 "adjusted gross income".  Some of those reduction amounts, we are going to consider to be business expenses, and some of them we are not.  However since they all went into your adjusted gross income, then we have to add back in those items we're not considering to be business-related.

Instead of the absolutely bizarre way they explain this in Publication 536, I give a very simple way below in a  table, where BR means "business related" and NBR means "not business related"

Form 1040
 Line Item Description  BR NBR
 23  Archer MSA Deduction    X
 24  Certain business expenses of...
 25  Health Savings Account Deduction
 26  Moving Expenses
 27  One-half of Self Employment Tax
 28  Self-employed SEP, SIMPLE, and...
 29  Self-employed health insurance deduction
 30  Penalty on early withdrawal of savings
 31  Alimony paid
 32  IRA deduction
 33  Student loan interest deduction
 34  Jury duty pay you gave to your employer
 35  Domestic production activities deduction

What they should have done, is simply use a table like the above, and say "transfer your amounts from your 1040 into this table".  Then "add up each column".  Wouldn't that have been so much simpler?

In addition to all this, business-related deductions on your Form 1040 Schedule A include only : state income tax on business profits (Form 1040 Schedule A line 5), casualty and theft losses (Form 1040 Schedule A line 19), and un-reimbursed business expenses (Form 1040 Schedule A line 20).  The remainder of your Form 1040 Schedule A deductions are non-business deductions.  So add them all in here now too.

Let me just say here, that for the majority of people, after going through this exercise, what you'll end up with here on Line 6 is simply the same as your "Itemized Deductions" from your Form 1040 Line 40.  Isn't it sounding a bit like they should explain what you can use instead of what you can't?  In fact, later, should this article prove popular, perhaps we'll go through the mathematics and see if we can create a much simpler formula for how to calculate Lines 6 and 7 directly from other entries in your return. simply by adding, without all this subtracting!

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Form 1045, Line 22

Overall a great article but I don't think the description for Form 1045, Line 22 is accurate. From my understanding, what this is doing is backing out capital losses that were not realized on the tax return since AGI was negative. This number will likely be at the limit ($3000 for single, $1500 married filing jointly) if you do much investing as many of us have carryover capital losses in this market exceeding the limits. For a single filer with the $3000 maximum capital loss amount, your NOL will be reduced this amount but your capital loss carryover will make up for it as that $3000 will be included there. Sound right?

Rob Garneau - 14 Oct 2009

Yes, I understand you can carry ALL the capitol losses forward to the following year. Thanks.

Rob Garneau - 14 Oct 2009

You're right this is complex. What I think they are doing is removing from your negative net income, that portion that was caused by the limitation figure you entered.

So what I think they are doing isn't backing out capital losses *not* realized, but rather backing out the limitation figure, out of the NOL. Since you have a negative net income, it's quite possible, that if your calculation shows you have a NOL at all, then you may not be able to realize any capital losses. I'm not quite sure, in that case, what happens to your capital losses, I would expect you could carry them ALL forward to next year's Schedule D, not just the amount less the limitation as you normally would with a positive net income.

Will Johnson - 14 Oct 2009