California Suspends Net Operating Loss Deductions and Limits Tax Credits through 2022

These changes will affect estimated payments due in 2020, and taxpayers should plan corrective action now.

California A.B. 85, signed by Governor Newsom on June 29, 2020, suspends the use of NOLs for tax years beginning in 2020, 2021, and 2022. The NOL suspension applies to both individuals and corporations with more than $1 million of taxable income. The NOL carryover periods will be extended to allow their use in future years: there will be a three-year extension for NOLs incurred before 2020; a two-year extension for NOLs incurred in 2020; and a one-year extension for NOLs incurred in 2021.

California has suspended NOLs in the past and issued guidance on the practical aspects of this policy. See FTB Legal Ruling 2011-04 (Sep. 23, 2011). For example, during the last NOL suspension, California disallowed carryover extensions to NOLs that expired during the suspension period if the taxpayer lacked taxable income against which to use the expiring NOLs in the suspension years. We expect California will release similar guidance for this new suspension.

A.B. 85 also limits the application of business tax credits, for both individuals and corporations, to $5 million for each taxpayer during tax years beginning in 2020, 2021, and 2022. Credits affected include the R&D credit, enterprise zone credits, hiring credits, college access credits, and motion picture credits. Low-income housing credits are, however, not limited by A.B. 85. Notably, combined groups of taxpayers are subject to a single combined $5 million limit. The carryover period is extended as detailed above for credits disallowed by the annual $5 million limit in 2020, 2021, or 2022.

These two changes will affect estimated payments due in 2020 for a taxpayer who had planned to use NOLs or tax credits, and thus may prompt adjustments to their remaining estimated payments. Clients should review and plan any corrective action now.

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