Covid-19 resources

The Coronavirus Aid, Relief, and Economic Security Act (CARES Act) amended Internal Revenue Code Section 172(b)(1) to allow carryback of net operating losses (NOL) arising in tax years beginning after December 31, 2017 and before January 1, 2021 (NOL period). The “Carryback Period” includes each of the five taxable years preceding the taxable year in which the NOL arises. Taxpayers use the NOLs in the earliest taxable year, carrying forward unused amounts to each succeeding taxable year. Taxpayers can elect to waive carryback.

Taxpayers can also elect to exclude from the Carryback Period tax years in which they had a section 965(a) inclusion. This provision may be relevant to American taxpayers resident in Canada who have a controlling interest in a non-US corporation.

Rev. Proc. 2020-24, issued April 21, 2020, provides guidance for taxpayers to:

1. elect to waive the Carryback Period for an NOL arising in a taxable year beginning in 2018 or 2019,
2. elect to exclude all section 965 years from the Carryback Period for a COVID-19 period NOL, or
3. make an application for an NOL arising in a taxable year that began before January 1, 2018 and ended after December 31, 2017.

Election to Waive Carryback Period

A taxpayer may elect under Section 172(b)(3) to waive the Carryback Period for an NOL arising in a taxable year beginning in 2018 or 2019. The election must be made no later than the due date, including extensions, for filing the taxpayer’s Federal income tax return for the first taxable year ending after March 27, 2020. A taxpayer makes this election by attaching a separate statement for 2018 or 2019 taxable years for which the taxpayer intends to make the election to its Federal income tax return filed for the first taxable year ending after March 27, 2020. The election statement must state the taxpayer elects to apply Section 172(b)(3) under Rev. Proc. 2020-24 and the taxable year for which the statement applies. The election is irrevocable.

Election to Exclude Section 965 Years from Carryback Period

Section 965 generally required certain non-US corporations to increase so-called “Subpart F income” (as defined in Section 952) for the last taxable year that began before January 1, 2018 by the greater of the corporation’s accumulated post-1986 deferred foreign income as of November 2, 2017 or December 31, 2017. Correspondingly, Section 965 requires certain taxpayers to include in gross income their pro rata share of the above increase to Subpart F income. Section 965 affected many Americans resident in Canada who owned a controlling interest in a Canadian corporation at the end of 2017, including but not limited to medical practice, dental and professional corporations.

Section 965(n) and Treasury Regulation Sec. 1.965-7(e) allow a taxpayer to elect not to take into account Section 965(a) inclusions (adjusted for Section 965(c) deductions and associated Section 78 gross-ups) in determining the taxpayer’s (1) NOL deduction for the taxable year, or (2) its taxable income for the taxable year (computed without regard to the NOL deduction allowable) that may be reduced by NOL carryovers or carrybacks to the taxable year under Section 172.

A taxpayer elects under Section 172(b)(1)(D)(v)(I) to exclude all Section 965 years from its Carryback Period for NOLs arising in taxable years beginning in 2018, 2019, or 2020. The election for an NOL arising in a taxable year beginning in 2018 or 2019 is made no later than the due date, including extensions, for filing the Federal income tax return for the first taxable year ending after March 27, 2020. An election for an NOL arising in a taxable year beginning after December 31, 2019 and before January 1, 2021 is made by no later than the due date, including extensions, for filing the Federal income tax return for the taxable year in which the NOL arises.

Tentative Carryback Adjustment Claims

Section 6411(a) allows a taxpayer to apply for a tentative carryback adjustment of tax for a prior taxable year affected by an NOL carryback. The application must be filed on or after the return filing date for the taxable year of the NOL from which the carryback results and within a period of 12 months after that taxable year. For any portion of a business credit carryback attributable to an NOL from a subsequent taxable year, the application must be filed within a period of 12 months from the end of the subsequent taxable year.

Section 6411(b) provides a 90-day period during which IRS will make a limited examination of the application to discover omissions and errors of computation and determine the amount of the decrease in tax attributable to the carryback.

The CARES Act provides a special rule for NOLs arising in taxable years which begin before January 1, 2018, and end after December 31, 2017 under which applications under Section 6411(a) will be treated as timely filed if filed no later than 120 days after March 27, 2020. Elections to forgo or reduce the carryback of such NOLs, or elections to revoke any such prior elections, shall be treated as timely made if made no later than 120 days after March 27, 2020.

Taxpayers with an NOL arising in a taxable year that began before January 1, 2018, and ended after December 31, 2017, who make an application under Section 6411(a) on either Form 1045 or Form 1139 with respect to a carryback of such NOL, will be treated as having timely filed if the application is filed no later than July 27, 2020. Elections for such taxable years with an NOL to waive any carryback period, to reduce any carryback period, or to revoke any election made under Section 172(b) to waive any carryback period will be treated as timely filed if filed no later than July 27, 2020.

A taxpayer files these elections where it files its Federal income tax return by attaching the statement required to make the election, with “Filed Pursuant to Rev. Proc. 2020-24” at the top, to an amended return, Form 1045, or Form 1139 containing only the taxpayer’s name, address, and taxpayer identification number. The statement must indicate the section under which the election is made and set forth information to identify the election, the period for which it applies, and the taxpayer’s basis and entitlement to make the election.

Taxpayers with NOLs arising in taxable years beginning after December 31, 2017 should consult Notice 2020-26 for procedures on how to file applications under Section 6411(a) for taxable years outside of the period for filing such applications.

Making and Timing of Elections

A taxpayer makes the elections by attaching a statement to the earliest filed of:

1. The Federal income tax return for the taxable year in which the NOL arises,
2. A claim for tentative carryback adjustment (Form 1045, Application for Tentative Refund; or Form 1139, Corporation Application for Tentative Refund) applying the NOL to a taxable year in the carryback period, or
3. The amended Federal income tax return applying the NOL to the earliest taxable year in the carryback period that is not a section 965 year.

A taxpayer claiming a refund or credit due to an NOL carryback will file amended Federal income tax returns for taxable years in the carryback period attaching an election statement to each return. The election statement must state the taxpayer elects to apply Section 172(b)(1)(D)(v)(I) under Rev. Proc. 2020-24, the taxable year in which the NOL arose, and the Section 965 years. The election is irrevocable.

An election under Section 172(b)(1)(D)(v)(I) to exclude all Section 965 years from the NOL carryback period allows the taxpayer to disregard those taxable years when applying an NOL to the carryback period to determine whether the taxpayer has an overpayment and can receive a refund or credit for any of the remaining years in the carryback period. A taxpayer who makes an election under Section 172(b)(2)(D)(v)(I) includes all Section 965 years for purposes of counting the five taxable years in the carryback period. No Section 965 years are excluded.

To the extent a taxpayer carries back an NOL under Section 172(b)(1)(D)(i) to a Section 965 year, the deemed election under Section 965(n) pursuant to Section 172(b)(1)(D)(iv) may not be waived for that Section 965 year (even if a taxpayer previously revoked an election under Section 965(n) for that Section 965 year). If the deemed election under Section 965(n) applies to a Section 965 year for which a taxpayer previously revoked or did not previously make an election under Section 965(n), the deemed election only applies for purposes of the NOL carryback to that Section 965 year.

The CARES Act deems taxpayers who do not elect the carryback waiver or 965 inclusion year exclusion but rather opt to carry NOLs to Section 965 inclusion years to have made a Section 965(n) election with respect to the Section 965 inclusion year. The Section 965(n) election operates to isolate net Section 965 income from being absorbed by the NOL (i.e., the NOL only offsets non-section 965 income in a Section 965 inclusion year preserving use of foreign tax credits against tax from Section 965 income).

IRS has provided a series of frequently asked questions (FAQS) on its website regarding NOL carrybacks to Section 965 inclusion years. These FAQs follow and apply Rev. Proc. 2020-24.

Fuller Landau thanks Jeffrey Brown for sharing this information with our clients and friends.