By: Suzanne Meiners-Levy
Understanding the Value of Equipment Expensing and Carryback Net Operating Losses
In uncertain times, businesses and individuals often delay large purchases and investments they had long anticipated, and that will ultimately serve the long-term interest of the company, for fear of uncertain outcomes or with a mistaken belief that it is not the right time. In our practice, where we interact with over 1,500 general aviation owners and operators on an on-going basis, we have fielded many questions and concerns about purchasing and operating company aircraft in 2020.
Anticipating this anxiety, coupled with the real economic loss that is anticipated as a result of the impact of COVID-19, the drafters of the CARES Act reinstituted powerful tax incentives to motivate companies to move ahead with equipment purchases in 2020. This article will focus on one of those incentives—the carryback net operating loss (NOL) and how it can serve to both help finance the aircraft purchase and provide additional working capital for your business.
The 2017 passage and signing of the Tax Cuts and Jobs Act (TCJA), the Trump administration’s tax reform package, reshaped the business and individual tax landscape. A highlight of the TCJA was the revision of the bonus depreciation provisions pursuant to Section 168(k) of the Internal Revenue Code to allow for 100 percent bonus depreciation for qualifying new and pre-owned aircraft purchased and placed in service after September 27, 2017, gradually phasing down beginning in 2023. Additionally, Section 179 expensing elections have increased substantially, allowing additional first-year write offs for equipment and component parts placed in service. In order to use bonus depreciation, the equipment must be used at least 25 percent of the time for qualified business use, and at least 51 percent of the time for total business use.
Additionally, the TCJA cut business tax rates, with the most substantial rate cut going to C-corporations. Closely held companies and individuals also experience small rate cuts, coupled with potential taxable income deductions for qualifying businesses.
The CARES Act’s NOL provisions
On March 27, President Trump signed the Coronavirus Aid, Relief, and Economic Security Act (also known as the CARES Act), a $2 trillion stimulus package intended to help mitigate the economic impact of the coronavirus.
The CARES Act includes changes to the tax treatment of business net operating losses (NOLs) for corporations and other taxpayers. An NOL occurs when a company’s tax deductions exceed its taxable income within a given tax period. While the TCJA had allowed carry-forward NOLs (with some limitations), it had not allowed businesses to carry NOLs back to prior tax years. The CARES Act now allows a five-year carryback of any NOL generated in a taxable year beginning after December 31, 2017, and before January 1, 2021. In addition, fiscal year 2017 returns (returns that began before January 1, 2018, and ended after December 31, 2017) can now be carried back two years as a result of the technical correction to the effective date language in the TCJA (which originally applied the prohibition on carrybacks to taxable years ending after December 31, 2017).
The mechanics of the NOL
Generally, the entire amount of the NOL for any taxable year (a loss year) must be carried back to the earliest taxable year to which such loss may be carried. (In the event that a business activity did not begin until a later year, i.e., 2017, the loss gets carried to that year first. In the event that the five-year period cannot absorb the full deduction, a taxpayer may be able to carry forward the additional loss into 2021 or elect an alternate depreciation deduction.) Such carryback must be applied until the maximum NOL is absorbed with respect to that year. Any remaining NOL is then carried forward to the next carryback year, and so on.
For example, if I purchase an aircraft for $1 million in 2020 and am eligible to take bonus depreciation, I first use that deduction against this year’s taxable income. Should the $1 million exceed my net income, I can go back to my prior-year returns, beginning in 2015 if I had taxable income in the activity in that year, and generate a tax refund from the IRS for the previously paid taxes. If my $1 million deduction is still not exhausted, I then carry the remainder to 2016, then 2017, and forward until I have been able to utilize the full deduction to generate tax refunds.
The value of the NOL
Why is the carryback NOL a powerful business tool? Many companies have had robust years building up to 2020 and recognize the utility of general aviation aircraft in the years ahead as the economy eventually returns to normal. The carryback NOL allows companies to tap into the value of those prior years—and the significant tax revenues that they generated—in order to plan for the future. By filing a 2020 return with a carryback loss reflected, you can generate a refund from prior year taxes that creates working capital now. For companies that experienced a significant rate change in 2018 as a result of the TCJA, the value of the refund is even higher because it occurs at the tax rate that applied to the return rather than the current lower rate, increasing the true value of the deduction.
General aviation aircraft grow businesses and allow them to work more efficiently. In the current economic and political climate, they can provide peace of mind when commercial airlines are cutting routes and causing significant anxiety among some travelers. The carryback NOL in the CARES Act stimulus may mean that 2020 is a great year for an aircraft investment for your business.
Advocate Consulting Legal Group, PLLC is a law firm whose practice is limited to serving the needs of aircraft owners and operators relating to issues of income tax, sales tax, federal aviation regulations, and other related organizational and operational issues.
Tax Disclosure. Any tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under tax laws, or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein.