California Bill Affects Use Of Net Operating Losses

July 10, 2020

California taxpayers with net business or modified adjusted gross income of $1 million or more are no longer able to use net operating losses for taxable years 2020, 2021, and 2022.

California Appropriations Bill 85 (the “Act”) was signed into law on June 29, 2020, by Governor Gavin Newsome. The Act generates $4.4 billion dollars in revenue from the suspension of net operating losses for certain taxpayers, and temporarily limits the amount of business credits a taxpayer can use in any given year to $5 million. The Act was in response to a projected state budget deficit of approximately $54 billion as a result of the COVID-19 pandemic.

For tax years beginning on or after January 1, 2020, and before January 1, 2023, California taxpayers with net business or modified adjusted gross income greater of $1 million or more will have their net operating loss deductions suspended. The suspension applies to owners of pass-through entities and business entities for tax years 2020, 2021, and 2022. To compensate for the suspension, the Act provides for an extended carryforward period of one year per year of suspended losses. Net operating loss deduction rules remain unchanged for tax year 2019.

The Act also requires that business tax credits are limited and may not reduce applicable tax by more than $5 million. This limitation applies for tax years 2020, 2021, and 2023, and impacts both corporate and individual taxpayers. The ability to carryforward unutilized credits is similar to carryforwards for NOLs, providing an extra year for each year the credit is limited.

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