Trumping Taxes
Post date: Oct 4, 2016 11:40:48 PM
When modeling a new business it is critical to include "Carry Over Net Operating Losses" (CONOL).
US taxes are imposed on profits, not losses. CONOL is the practice of offsetting profits with losses incurred in other years for the purpose of reducing taxes. It is the subject of controversy in the current US presidential elections because on the surface it sounds illegal. It is not. It helps the many new business that operate at a loss their first few years or business that suffer through bad years.
Below is IRS’s example #1 (See Applicable Regulation) expressed as an XL table illustrating how a business can use CONOL to eliminate taxes for up to 20 years. In the model we enter the year in which the Net Operating Loss was incurred, the number of years to carryback the loss (based on IRS regulations) and the earnings before taxes for each year (EBIT). In the example, our business incurred a $42,000 loss in 2015. We carried it back two years to get a refund of taxes paid and improve our cash situation. The remaining pro forma years are for illustration purposes only.
Below the example are the Structured Reference formulas used to calculate CONOL.
Example:
Formulas:
Names:
Names are good. They make formulas more transparent and easier to maintain. This model uses the following names:
_Prior is a standard BXL named formula. It points to the row above the current cell. The intersection of a column with _Prior is that column's prior value; thus, _Prior [Unused Loss] is the prior year's unused loss value. Fetching prior values is a very common practice in business modeling and so BXL uses this standard to simplify formulas both in terms of functionality and understandability. To create _Prior:
Select a cell A2
Use menu option FORMULAS > Name Manager > New
In the Name: box enter _Prior
in Refers to: box enter =1:1
The other two names, NOL_Year (year in which Net Operating Loss occurred) and Carryback (years to carryback loss) are created by:
Select corresponding labels and values
Use menu option FORMULAS > Create From Selection
Check Left Column and click OK
References:
Applicable Regulation: https://www.irs.gov/publications/p536/ar02.html
Structured References: https://support.office.com/en-us/article/Use-structured-references-in-Excel-table-formulas-75fb07d3-826a-449c-b76f-363057e3d16f
* This post's title is a play on words and not an endorsement of either candidate.