A net operating loss (NOL) is when a business’ operating expenses exceed its income. It can occur when a company has more deductions than it can carry over or when it has negative taxable income. A NOL can be used to offset future profits and may result in a tax benefit.
What Causes a Net Operating Loss?
A net operating loss occurs when a business reports expenses that exceed gross income. Expenses can include operations costs, capital expenditures, and debt payments. Business owners may also need to pay taxes on profits, which adds to the expenses of the business.
Additionally, if the business has too many deductions, its taxable income may dip below zero. When this happens, the business has a net operating loss (NOL). It’s important to note that NOLs do not always happen as a result of high expenses. It can also be caused by unexpected downturns in the market or other factors beyond the business owner’s control.
What Are the Benefits of a Net Operating Loss?
A net operating loss can benefit the business in a couple of ways:
- A NOL can be used to offset other income in the same or following tax year. This can reduce the amount of taxes the business needs to pay.
- It can also provide cash flow support in a difficult period, as the business can “carryback” the NOL to the previous tax year and receive a tax refund for that year.
Examples of Net Operating Losses
As an example, let’s take a look at a business that had total expenses of $120,000 and a gross income of $80,000 in the current year. After taking into account deductions and taxes, the business’ taxable income is -$20,000, resulting in a net operating loss of $20,000. This NOL can be used to reduce the business’ taxes in the following year.
Another example is a business that had total expenses of $200,000 and a gross income of $150,000 in the current year. After taking into account deductions and taxes, the business’ taxable income is -$30,000, once again resulting in a net operating loss of $30,000 — which can be used to reduce the business’ taxes in the following year.
Conclusion
Net operating losses (NOLs) occur when a business’ expenses exceed its income. It can also occur when the business has too many deductions and its taxable income dips below zero. A NOL can be used to offset other income and may result in a tax benefit. With that said, it’s important to understand how net operating losses work and how to take advantage of them in order to maximize your business’ tax savings.