Net operating losses (NOLs) are valuable tax attributes – they can offset future taxable income. But if a corporation with NOLs undergoes an ownership change, § 382 severely limits the use of those NOLs.
An “ownership change” occurs if the percentage of stock owned by 5% shareholders increases by more than 50 percentage points over the lowest percentage in the prior three years. § 382(g)(1). After an ownership change, the annual NOL limitation is the value of the loss corporation (its stock) multiplied by the “long‑term tax‑exempt rate” (a kind of federal interest rate). § 382(b)(1).
For example, if a loss corporation is worth 3 million per year. Big NOLs could take decades to use up.
There are exceptions. Section 382(l)(4) provides a special rule for “built‑in gains.” If the loss corporation has net unrealized built‑in gain, that gain can increase the NOL limitation. Section 382(c) requires the corporation to continue its business for two years after the change; otherwise, the NOL is disallowed entirely.
What if the loss corporation is worthless? Then the NOL may be lost. Rev. Rul. 2003‑125, 2003‑52 I.R.B. 1243, held that if a subsidiary is insolvent, § 332 doesn’t apply, and the parent can take an ordinary loss on the stock under § 165(g)(3), but the subsidiary’s NOLs vanish – not carried over.
Section 269 also allows the IRS to disallow NOLs if the principal purpose of the acquisition is tax avoidance.
So if you’re acquiring a loss corporation, be aware of § 382. The NOLs may be worth much less than you think.
This article is for general informational purposes only and is subject to change. Tax laws are complex and vary by situation. You should consult a qualified professional for advice specific to your circumstances. For questions, contact Alan Goldstein.
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