With its outdated net operating loss (NOL) limitation provisions, Pennsylvania has lagged behind the rest of the country for far too long in terms of providing its businesses a fair tax environment. On July 11, 2024, Pennsylvania narrowed that gap as Governor Josh Shapiro signed into law the budget for fiscal year 2024-2025. The budget-related tax legislation (Senate Bill 654) increases Pennsylvania’s NOL deduction limitation to fall more in line with the Federal tax provision.
When a company’s allowable deductions exceed its taxable income for a given period, an NOL carryforward is typically generated. The NOL can later benefit a company by reducing taxable income in future periods. The intention behind this tax provision is to allow for some form of relief when a company loses money in a certain tax period, and the NOL carryforward sets out to do just that by providing the company with a benefit of future tax liability savings.
Historical Guidance
Over the years, Pennsylvania has faced many crucial judicial decisions regarding the NOL carryforward. (see related posts below) Historically, the State had allowed taxpayers to carry forward any unused net operating losses to future years. In the 1990s, this option was suspended due to an economic recession and was eventually transformed into a rule that allowed taxpayers to choose the greater of the following: defined fixed-dollar amount or percentage of taxable income. In 2017, Pennsylvania steered away from the fixed-dollar amount method and focused more on finding an acceptable percentage application to a business’ taxable income. In 2018, the NOL deduction was changed by (1) removing the $5 million hard cap on NOLs, and (2) increasing the limitation percentage to 35% of taxable income.
The State further increased the cap on the carryforward deduction to 40% of taxable income, which is where the law currently stands for tax periods ending on December 31, 2024. In fact, Pennsylvania is one of only two states that currently caps the NOL carryforward deduction below that of the Federal limit, which is at 80% of taxable income. With such a restrictive cap on the deductibility of NOL carryforwards, Pennsylvania businesses are placed at a significant disadvantage when compared to the other state jurisdictions.
New Guidance
The 2024-2025 Pennsylvania budget has introduced a tax provision that would loosen the restrictive NOL carryforward deduction for Pennsylvania businesses. Under the recently signed legislation, Pennsylvania will increase the current (40%) percentage limitation by 10% each year (starting in tax year 2026) until the NOL limitation reaches the federal limit of 80% (effective for tax years beginning after December 31, 2028). While Pennsylvania businesses should be delighted to receive this news, with the State’s phased-in approach, it will take some time to realize the full benefit. Therefore, true relief will not be seen until the state reaches the parallel cap to the federal government of 80% starting in tax years ending after December 31, 2028.
To account for NOL carryforwards from previous limitation years, the new legislation provides guidance by computing the allowable NOL carryforward deduction in each year as follows:
- For an NOL incurred in a taxable year beginning prior to January 1, 2025, deduct 40% of taxable income; and
- For an NOL incurred in a taxable year beginning on or after January 1, 2025, deduct
- The applicable percentage for the tax year specified, minus the actual percentage of the taxable income deducted under (1) above, multiplied by
- The taxable income for the tax year
Final Thoughts
Business owners should already be paying close attention to and ensuring the proper tracking of their respective business losses. This diligence and record keeping is even more important with the benefit this newly enacted legislation will carry for their corporations. With the passage of this bill, Pennsylvania is expected to be a more attractive destination for new and growing businesses. For assistance with understanding the impacts of this recent budget decision or any other corporate tax needs, please reach out to your GYF Executive at 412-338-9300.
Related Posts
Pennsylvania Net Loss Carryover Deduction Found Unconstitutional
Pennsylvania NOL Deduction Cap Increased, Other Changes Enacted
PA Clarifies Guidance on Corporate Income Tax NOL Deductions
Lauren Dugan provided research and writing assistance for this post. She is a student at Robert Morris University, and will graduate with her BSBA and MBA degrees in 2025. Lauren is currently working as a summer intern with GYF’s Tax Services Group, helping to prepare individual and business tax returns.
