By Marc Wieder, Anchin Block & Anchin
Think about this concept: Based on tax reform, if you make money, you may pay less taxes, but if you lose money, you might pay more taxes. If your business is losing money, why would you pay more in taxes?
The 2018 Tax Cuts & Jobs Act (TCJA) added a provision that provides for Excess Loss Limitations. The Excess Loss Limitation applies to all taxpayers other than Corporations and is effective for years beginning after 12/31/2017 and ending before 1/1/2026.
How does it work?
A taxpayer takes the aggregate income and losses from all flow through trades and businesses, including sole proprietorships. If the sum of all the income or gains and losses (investment income is not included in this calculation) from all the taxpayer’s trades and businesses is greater than a loss of $250,000 for a single tax filer and $500,000 for a married couple filing jointly, then the excess loss is disallowed in the current year.
The amount disallowed (the excess loss) becomes a Net Operating Loss to be used in future years, subject to its own limitation. This calculation is done after taking into account the passive activity rules.
Therefore, a taxpayer can have wages, interest, dividend and other income, which they used to fund businesses they own, that generated the losses and still have tax to pay.
Here is an illustration to bring this example to life:
Taxpayer has wages, interest and dividend income of $2 million.
Taxpayer has net aggregate losses from their trades and businesses of $2 million.
The taxpayer is married filing a joint return.
Per this example, the taxpayer would pay tax on $1.5 million.
If your flow through entities have been generating losses in the past and are projected to continue to generate losses, you will need to plan and in order to minimize the loss limitation.