Net Operating Losses of NII
NOL deductions per the original proposed regulation were not deductible at all against the NII. The final regulation (§1.1411-4(f)(2)(iv) and (h)) allows a pro-rated deduction. However, no portion of an NOL incurred in a tax year beginning before 2013 is permitted to reduce net investment income.
Because NOLs are computed and carried over year-by-year, a separate ratio must be determined for each year. Thus, the final regulations provide that taxpayers may deduct a portion of an NOL deduction in determining their net investment income. The portion of an NOL deduction for a taxable year that may be deducted for section 1411 purposes is calculated by:
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First determining the applicable portion of the NOL for each loss year. The applicable portion of the NOL is the lesser of:,
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the amount of the NOL for the loss year that the taxpayer would have incurred if only items of gross income that are used to determine net investment income and only properly allocable deductions were taken into account in determining the NOL in accordance with section 172(c) and (d), or
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the amount of the taxpayer's NOL for the loss year.
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Next, the amount of the NOL carried from each loss year and deducted in the taxable year is multiplied by a fraction. The numerator of this fraction is the applicable portion of the NOL for the loss year as determined above. The denominator of the fraction is the total NOL for the loss year. A separate fraction is determined for each loss year. The result of this multiplication is the amount of the NOL deduction from the loss year that is allowed as a deduction in the taxable year, referred to as the section 1411 NOL amount. The sum of the amounts for each NOL carried to and deducted in the taxable year, referred to as the total section 1411 NOL amount, is the amount of the NOL deduction for the taxable year that is properly allocable to net investment income.
The amount of the NOL deduction included in AGI, regardless of the year in which the NOL originated and whether any portion of the NOL is investment-income related, is allowed when determining modified AGI for the NIIT threshold test. For losses arising in years beginning after 2020 (revised from 2017 by the CARES Act), the TCJA limits the NOL deduction to 80% of the taxpayer’s taxable income computed without the NOL. In this case, the limited NOL deduction amount would be the amount to use in (B) above for post-2020 NOLs.