Question

What are the possible treatments for tax purposes of a net operating loss? What are the circumstances that determine the option to be applied? What is the proper treatment of a net operating loss for financial reporting purposes?

Short answer

Net operating loss is the type of loss an organization suffers from its daily business activities. It depicts that the firm is not earning profits and finds difficulty rendering their expenditures.

Step-by-step solution

The possible treatment for tax purposes of a net operating loss

All of the organizations can adjust or reconcile their net operating loss in two provisions, i.e.,

(1) Loss carryback

(2) Loss carryforward

Loss carryback is often regarded as the most beneficial way to balance the amount of current net operating loss. The organization can divide the loss up to two previous years, and the amount of income tax expense paid will be refunded. Since no one knows how much tax rate will be implemented in the future, firms prefer to treat their operating loss as per the loss carryback provision to get money funds.

Treatment

As per the Financial Reporting purposes, firms using loss carryback can recognize their amount of operating loss in the year of loss. The loss arising from carryforward will be reported under the deferred tax asset. It means that the income tax authority will more likely not recognize the loss against the asset and be credited to the income tax expense section under the company's income statement.