Every business owner hopes for a string of profitable years. Real life rarely works that way. A slow market, a big equipment purchase, or one rough quarter can push your deductions past your income, and suddenly you are looking at a loss on paper.
Here is the part most people miss. That loss can still do something useful for you. The tax code lets you use it to lower your tax bill in a future year through what is called a net operating loss. This guide walks through how it works in 2025 and 2026, what changed recently, and how the rules apply if you run a business, manage a trust, or handle an estate.
A net operating loss, or NOL, happens when your allowable tax deductions for the year are larger than your gross income. In plain terms, your business spent more than it earned after counting the usual deductible business expenses like wages, rent, supplies, loan interest, and depreciation.
Not every loss qualifies. The IRS generally wants the loss to come from a trade or business, rental property, or a casualty or theft tied to a federally declared disaster. A regular business loss is by far the most common reason people end up with an NOL. For sole proprietors, freelancers, and other pass-through owners, the loss flows onto a personal return, so it often lands with people already juggling quarterly estimated taxes.
One thing trips people up. The number at the bottom of your return is not automatically your NOL. You have to strip out certain items first, such as personal exemptions and most non-business deductions that go beyond your non-business income. That adjusted figure is your real NOL, and it is usually smaller than the loss you first see.
Once you have a confirmed NOL, the question becomes when you get to use it. Today the answer is simple for most filers. You carry it forward.
For any NOL from a tax year that began after 2017, the loss carries forward indefinitely. There is no 20-year clock anymore, so an unused balance can sit and wait until you have income to apply it against.
There is a catch, and it is the rule that surprises people most. In any year you use the carryforward, your NOL deduction is capped at 80% of that year's taxable income, figured before the deduction itself. So even with a large loss banked, you cannot wipe your tax bill down to zero. The last 20% of income stays taxable.
Here is how that plays out. Say your business had a $200,000 NOL in 2024, then earned $150,000 in taxable income in 2026. The 80% limit lets you deduct up to $120,000 against that income. Your taxable income drops to $30,000, and the leftover $80,000 NOL rolls into 2027 and beyond.
If you have losses from more than one year, use the oldest first. And if any of your losses date back to before 2018, those get used ahead of newer ones, because they offset 100% of income with no 80% cap. Older losses are simply more valuable, so spend them first.
Carrybacks are where the rules have bounced around, so it helps to know the short history.
Before 2018, you could carry a loss back two years and forward 20, and use it against 100% of your income. The 2017 Tax Cuts and Jobs Act flipped that. It removed the carryback for most taxpayers, made the carryforward indefinite, and added the 80% limit. Then the CARES Act briefly reopened a five-year carryback for losses from 2018 through 2020, which has since expired.
The latest piece is the One Big Beautiful Bill Act, signed in July 2025. For NOL purposes it kept the same framework in place, so the current rules are not going anywhere soon. That means no carryback for most businesses.
The one real exception is farming. A farming loss can still be carried back two years, and only the farming portion of the loss qualifies. If a refund from a prior year would help your cash flow more than a future deduction, that exception is worth a close look with your accountant.
Estates and trusts can have NOLs too, and the basics work much like they do for a business. If the estate or trust runs a trade or business or holds rental property, a year where deductions outrun income can create a loss that carries forward.
There is one rule here that is easy to overlook and genuinely valuable. When an estate or trust closes, any unused NOL carryover does not disappear. It passes to the beneficiaries who inherit the remaining property, and they can use it on their own returns. So before you finalize a final return, check whether there is a loss carryover sitting there waiting to be handed off.
For figuring the loss, estates and trusts use the same form individuals do, which we will get to next. Just know that some deductions, like the income distribution deduction, get treated differently when you calculate the NOL, so the math needs care.
Knowing you have a loss is one thing. Reporting it correctly is another, and the paperwork depends on who you are.
Individuals, estates, and trusts now use Form 172 to figure the NOL available to carry forward or back. This is a recent shift worth noting. The IRS has said it will no longer update Publication 536, the old go-to guide, so Form 172 and its instructions are the current source to rely on.
Once you have the figure, the carryforward shows up as a negative adjustment to income on Schedule 1 of your Form 1040, which lowers your taxable income for the year.
If you fall under the farming exception and want to carry a loss back for a refund, individuals generally use Form 1045 or an amended return, and Form 1045 usually has to be filed within one year after the end of the loss year. Corporations report carryovers on Form 1120 and use Form 1139 for a quick carryback refund. Deadlines on the carryback forms are tight, so do not sit on them.
Getting the federal NOL right is only half the job. States set their own rules, and plenty of them do not follow the federal playbook.
California is the big one to watch. It suspended the NOL deduction for tax years 2024 through 2026 for taxpayers with business income above $1 million, though you can still compute and carry the loss over for later. Minnesota caps the deduction at 70% of income instead of the federal 80%. Connecticut stretched its carryover period to 30 years for losses starting in 2025, and a few states like Montana and New York still allow a carryback even though the federal version is gone.
The takeaway is to treat your state return as its own calculation. A loss that helps your federal bill might do nothing for your state taxes this year, and assuming otherwise can leave you with a surprise.
The hard part with NOLs is rarely the concept. It is the tracking. You need a clean record of when each loss happened, how much you have used, how much is left, and whether older pre-2018 losses should go first. Stretch that across several years and a few entities, and a manual spreadsheet starts to crack.
This is the kind of work the Madras Accountancy team handles for CPA firms day in and day out. We keep your loss carryovers documented year over year, apply the 80% limit correctly, watch the state differences, and make sure nothing valuable slips through. Good records also matter if the IRS ever asks questions, because you may need to defend a deduction tied to a loss from years earlier.
If you are carrying losses and want them tracked properly, that is exactly the kind of behind-the-scenes support we are built for.
Can you still carry back a net operating loss? For most businesses, no. The carryback was removed for losses arising after 2017, and the rule still stands today. The main exception is a farming loss, which can be carried back two years. Everyone else carries the loss forward.
How long can an NOL be carried forward? For losses from tax years that began after 2017, there is no time limit. The loss carries forward indefinitely until you use it up. Losses from before 2018 follow the older rule and expire after 20 years.
Why can't my NOL erase my entire tax bill? Because of the 80% limit. Your NOL deduction can offset only up to 80% of your taxable income in a given year, figured before the deduction. The remaining 20% stays taxable, even if your loss is large enough to cover everything.
Can I save my NOL for a higher-income year on purpose? Not really. You apply the loss in the earliest year you have income to use it against, and you use older losses before newer ones. There is no option to skip a profitable year and bank the loss for later just because it would suit you.
What form do individuals, estates, and trusts use for an NOL? They use Form 172 to figure the loss available to carry forward or back. Publication 536 used to be the main guide, but the IRS has stopped updating it, so Form 172 and its instructions are now the place to look.
What happens to an NOL when a trust or estate closes? It does not go to waste. Any unused NOL carryover passes to the beneficiaries who receive the remaining property when the estate or trust terminates, and they can claim it on their own returns. It is worth checking for before filing a final return.
Do state taxes follow the federal NOL rules? Often they do not. Some states suspend the deduction, cap it differently, or still allow carrybacks. California, Minnesota, Connecticut, and New York all handle NOLs their own way, so your state result can differ from your federal one.
Is an NOL just the negative number on my tax return? No. You have to adjust that figure before it becomes a usable NOL, removing items like personal exemptions and most non-business deductions that exceed non-business income. The real NOL is usually smaller than the loss you first see on the return.
A net operating loss will not undo a tough year, but handled well it can take real pressure off the years that follow. If you want help making sure yours is calculated, tracked, and claimed the right way, that is what we are here for.
This article is for general information and is not tax advice. NOL rules change and depend on your specific situation, so check with a qualified tax professional before acting.
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