LarsonAllen eFlash News Service
May 14, 2009 - Release No. 2009-003

New Flexibility in Farm Loss Carrybacks

The 2009 Economic Stimulus legislation contains a flexible three, four or five-year NOL carryback provision for Electing Small Businesses that incur a 2008 loss. Most farm clients will qualify for this provision, and should consider this elective choice in lieu of the automatic five-year farm NOL carryback.

Background

Since 1997, the general rule has been that a net operating loss is carried back two years, and any excess is carried forward 20 years. However, a five year carryback is allowed for a farming loss. This five-year farm loss carryback provision applies to both individual and C corporation taxpayers [IRC Secs. 172(b)(1)(G) and 172(i)].

A farming loss for the special five-year carryback includes the normal grain and livestock operations. It also includes the operation of a nursery or sod farm, the raising or harvesting of trees bearing fruit, nuts or other crops, and ornamental trees other than evergreen trees which are more than six years old when cut.

A taxpayer may irrevocably elect to forego the five-year carryback period for a farming loss. In that case, the net operating loss becomes subject to the general two-year carryback rule [IRC Sec. 172(i)(3)]. The election to forego the carryback period must be attached to the tax return for the loss year, or to an amended return for the loss year filed within six months of the due date of the original return, excluding extensions [IRS Publ. 536; IRC Sec. 172(i)(3)].

New Eligible Small Business NOL Carryback

The February 2009 Economic Stimulus legislation allows an Eligible Small Business (ESB) to elect a net operating loss carryback of three, four or five years with respect to a 2008 net operating loss [IRC Sec. 172(b)(1)(H)].

An ESB is a corporation, partnership or proprietorship with average three-year gross receipts of $15 million or less. The three-year period is measured ending with the NOL year (i.e., 2006, 2007 and 2008). The average annual gross receipts test is applied at the business level, which is the partnership, corporate or sole proprietorship entity. However, aggregation rules for commonly controlled entities, by reference to IRC Sec. 448(c)(2), must be considered in measuring the $15 million average gross receipts threshold.

Fiscal year entities. For fiscal year entities, the 2008 NOL which receives the flexible carryback privilege is the NOL for the tax year ending in 2008. However, the taxpayer may elect to treat this special carryback as applicable to the tax year beginning in 2008 [IRC Sec. 172(b)(1)(H)(ii)].

How to elect. The election to claim the special ESB three, four or five-year NOL carryback for 2008 must be made by the due date, including extensions, for the 2008 loss year return. Similarly, if the taxpayer is electing to apply the special carryback to a fiscal year loss beginning in 2008 rather than ending in 2008, the election must be made by the extended due date. However, the IRS has issued a Revenue Procedure, indicating that a taxpayer can make the ESB carryback election either in the return for the year of the loss, or on the appropriate carryback form, such as Form 1045 or Form 1040X for individuals, or Form 1139 or Form 1120X for corporations (Rev. Proc. 2009-26).

Using the Special ESB Loss Carryback for a Farm Loss

As we analyze these various loss carryback provisions within IRC Sec. 172, the order seems clear:
  1. A 2008 farm loss is subject to the five-year carryback provision of IRC Sec. 172(b)(1)(G).
  2. If the taxpayer elects out of the five-year farm loss carryback, the 2008 NOL would become subject to the general two-year loss carryback.
  3. A loss subject to the general two-year carryback, if incurred by an ESB, qualifies for the special 2008 election to claim a three, four or five-year NOL carryback under IRC Sec. 172(b)(1)(H).
In summary, a 2008 farm loss can be applied to any tax year either 5, 4, 3 or 2 years earlier if the proper elections are made.

Planning Opportunities

Fiscal year entities. For calendar year entities, this legislation, enacted in February 2009, occurred too late to allow the creation of a 2008 NOL to take advantage of this carryback flexibility. However, a fiscal year entity, using farm cash method rules, could create an NOL for its year beginning in 2008 and ending in 2009 that would have this flexible elective carryback opportunity. For example, a June 30, 2009 fiscal year-end C corporation could intentionally create a loss, and carryback that loss to its fiscal year end June 30, 2005 or June 30, 2006 tax year, if that tax year contained unusually high taxable income. If you recall any C corporation client that perhaps three, four or five years ago stumbled in its tax planning and recognized very high bracket income, this new flexibility presents an opportunity.

Calendar year entities. Most calendar year 2008 farm returns have been filed, although a few may still be under extension. For those that have already been filed and reported a 2008 NOL, the first action is to check whether an election was made within the 2008 loss year return to decline the five-year carryback. If no election was made, the loss is presently set for the full farm five-year carryback. But if the third or fourth prior year tax year has higher marginal rate taxable income, it may be prudent to submit an amended 2008 return to electively decline the five-year carryback. The subsequent carryback claim, such as via a Form 1045 or 1139, would then elect the special ESB three or four year carryback and apply that loss to the selected year.

Elections, Elections, Elections...

It takes at least two elections to claim the flexible three or four-year carryback for a farm loss. Initially, the taxpayer must decline the automatic five-year farm NOL carryback. That makes the taxpayer subject to the general two-year carryback. If the three or four-year carryback is preferable to the two-year carryback, the taxpayer then would elect to use the new ESB flexible loss carryback and specify to which year the loss will be carried.

Below is a sample election to decline the general five-year loss carryback. If the 2008 loss year return has not yet been filed, this election is simply included within that return. However, if the 2008 loss year return has already been filed without this election, an amended 2008 return would need to be filed to submit this election. Any amended return should be filed under Reg. 1.301.9100-2, which generally allows a six-month extension on elective provisions.

Here’s a sample election to relinquish the five-year carryback for a farm loss:

Election to Decline Five-Year Farm Loss Carryback 
The taxpayer incurred a net operating loss from farming operations in the amount of $_________ for the current taxable year, and is entitled to a five-year carryback of this loss under the provisions of IRC Sec. 172(b)(1)(G). However, under IRC Sec. 172(i)(3), the taxpayer hereby elects to relinquish the five-year carryback with respect to this net operating loss attributable to farming operations. The taxpayer understands that this election, once made, is irrevocable.

After electing out of the general five-year loss carryback, the taxpayer is then able to adopt the new Eligible Small Business flexible three or four-year loss carryback for 2008, assuming that the taxpayer does not want to use the general two-year loss carryback rule. Here is a sample election to use the flexible ESB loss carryback for a 2008 tax loss:

Election to Use Eligible Small Business Net Operating Loss Carryback for Tax Year Ending in 2008
The taxpayer is an Eligible Small Business as defined in IRC Sec. 172(b)(1)(H)(iv) with average annual gross receipts of $15 million or less.

The taxpayer hereby elects under IRC Sec. 172(b)(1)(H)(i) to apply the increased carryback provision provided by the American Recovery and Reinvestment Act of 2009 with respect to its net operating loss for its tax year ending in 2008, and

The taxpayer elects under IRC Sec. 172(b)(1)(H)(i)(I) to increase the carryback period to ______ years (insert either three or four).

If the loss year return has not been filed, this election to use the ESB three or four-year carryback can be made within the 2008 loss year return. However, if that return has already been filed, see IRS Rev. Proc. 2009-26, which allows this election to be included within the Form 1045, Form 1040X, Form 1139 or Form 1120X, as the case may be, for the actual carryback of the 2008 loss.

The last election is for those with fiscal year entities that want to apply the ESB 2008 loss rule to the tax year beginning in 2008 (rather than the default rule of the year ending in 2008). Here’s a sample of that election:

Election to Use Eligible Small Business Net Operating Loss Carryback for Tax Year Beginning in 2008
The taxpayer is an Eligible Small Business as defined in IRC Sec. 172(b)(1)(H)(iv) with average annual gross receipts of $15 million or less.

The taxpayer hereby elects under IRC Sec. 172(b)(1)(H)(i) to apply the increased carryback provision provided by the American Recovery and Reinvestment Act of 2009 with respect to its net operating loss for its tax year beginning in 2008, and

The taxpayer elects under IRC Sec. 172(b)(1)(H)(i)(I) to increase the carryback period to ______ years (insert either three or four).

The taxpayer also elects under IRC Sec. 172(b)(1)(h)(ii)(II) to have the increased carryback period apply to its tax year beginning in 2008 rather than the tax year ending in 2008.

Watch the Deadline

Normally, a Form 1045 individual carryback claim or Form 1139 corporate carryback claim may be filed anytime within the year following the loss. However, if the taxpayer is making the election to decline the 5-year farm loss carryback and the election to use the flexible ESB loss carryback, there is an earlier deadline. Those elections must be filed within 6 months of the original due date of the return for the year of the loss. And once made, these elections are irrevocable.

Rick Christiansen and Andy Biebl 

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