March 19, 2019

Some rules have changed for self-employed taxpayers under the Tax Cuts and Jobs Act (TCJA)

Sometimes businesses may experience tax losses. The deduction of those losses may be limited by tax law in certain situations. TCJA places additional controls over the amount of losses that sole proprietors, partners, S corporations shareholders and, typically, limited liability company (LLC) members can currently deduct – commencing in tax year 2018.

Deducting business losses prior to the new law

In past years, a taxpayer could fully deduct their business losses in the tax year it was incurred unless:

  The PAL (Passive Activity Losses) rules or another provision of tax law limited that advantageous outcome, or

  The business loss was so large that it exceeded taxable income form other sources, creating an NOL (Net Operating Loss)

After the new tax law

TCJA changes the rules beginning 2018 through 2025. If your pass-through business generates a tax loss during these years, you can’t deduct an excess business loss” in the current year. An excess business loss is the excess of your collective business deductions for the tax year over the sum of:

  Your collective business income and gains for the tax year, and

  $250,000 ($500,000 if you’re a married taxpayer filing jointly)

The excess business loss must be carried over to the following tax year and can be deducted under the NOL rules.

For business losses passed through to individuals from S Corporation, partnerships and LLCs treated as partnerships for tax purposes, the new excess business loss limitation rules apply at the owner level. In other words, each owner’s allocable share of business income, gain, deduction or loss is passed through to the owner and reported on the owner’s personal federal income tax return for the owner’s tax year that includes the end of the entity’s tax year.

Keep in mind that the new loss limitation rules apply after applying the PAL rule. So, if the PAL rules disallow your business or rental activity loss, you don’t get the new loss limitation rules.

Expecting a business loss this year?

The rationale underlying the new loss limitation rules is to restrict the ability of individual taxpayers to use curt-year business losses to offset income from other sources, such as salary, interest, dividends, and capital gains.

The practical impact is that your allowable current-year business losses can’t offset more than $250,00 of income from such other sources (or $500,000 for joint filers). The requirement that excess business losses be carried forward as a NOL forces you to wait at least one year to get any tax benefit from those excess losses.

Sieler, Singleton & Associates, PA
David Singleton, CPA became managing principal in 2013
Beth Yates, CPA became a firm principal in 2015