How is a tax loss carryforward (NOL) accounted for?
A net operating loss (NOL) — a tax loss carryforward — arises when a company reports a tax loss that can be offset against future taxable income. This gives rise to a potential DTA of NOL × tax rate.
Recognition test (IAS 12 / ASC 740; local GAAP has an equivalent): the DTA is recognized only when it is 'probable' that sufficient future taxable profits will be available to use it. Recoverability is assessed from the management forecast (3–5 years), the industry outlook, and historical profitability. Where there is doubt, a valuation allowance is booked, reducing the DTA carrying amount.
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Inputs:
- Current-year tax loss: −$50m
- Tax rate: 30%
- Potential DTA: $50 × 30% = $15m
- Annual loss-utilization cap (a minimum-taxation rule in some jurisdictions): only a portion of income above a threshold can be offset with carryforwards (e.g. the US caps NOL usage at 80% of taxable income per year), which stretches out the use of the NOL over time.
- Change-of-ownership rules: a substantial change in ownership can forfeit loss carryforwards in whole or in part (e.g. US §382 limits NOL use after a >50% ownership change), and some regimes let part of the NOL be preserved under continuity provisions.
'The target has an NOL of $80m (DTA value $24m), but a change-of-ownership forfeiture triggers at closing — only a portion is preservable (built-in-gains exception); valuation adjustment −$15m'.