CARES Act NOL Carryback Rules for Tax-Exempt Organizations with UBTI

By Soheila Shahidi

The Internal Revenue Service ("IRS") has issued FAQs clarifying the net operating loss (“NOL”) carryback rules under the Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”) as they apply to tax-exempt organizations. 

I. Background

Prior to the Tax Cuts and Jobs Act of 2017 (“TCJA”)

In general, a tax-exempt organization can engage in one or more unrelated trades or businesses and can recognize a limited amount of unrelated business taxable income (“UBTI”).  Prior to the TCJA, tax-exempt organizations could calculate their UBTI as the excess of (i) such organization’s aggregate gross income from all unrelated trades or businesses, over (ii) such organization’s aggregate deductions allowed which were directly related with carrying on of such unrelated trades or businesses.  And, until the TCJA, for these purposes, a tax-exempt organization’s deductions included NOLs otherwise allowed from such unrelated trades or businesses, including NOL carryforwards from prior years, and NOL carrybacks from subsequent years.

Changes by the TCJA 

The TCJA made two significant changes to the manner in which tax-exempt organizations would calculate their UBTI.

First, except in limited circumstances, the TCJA stopped the ability of taxpayers, including tax-exempt organizations, from carrying back their NOLs.  As a result, NOLs generated after December 31, 2017 could no longer be carried back to offset a tax-exempt organization’s UBTI.

Second, the TCJA required tax-exempt organizations to calculate each unrelated trade or business’ gross income and deductions separately – commonly referred to as “siloing” or the “silo rule”.  As a result, for tax periods commencing after December 31, 2017, a tax-exempt organization would not be able to offset gross income from one unrelated trade or business by the deductions (including current year NOLs) allowed for another unrelated trade or business.  Under the silo rule, NOL carryforwards were bifurcated into two categories depending on when they arose: (i) if the NOL was generated before January 1, 2018, then it could be carried forward without being subject to the silo rule, but (ii) if the NOL was generated after December 31, 2017, then it could be carried forward subject to the silo rule. 

The Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”)

The CARES Act provides a five-year carryback of NOLs that arise in any tax year beginning in 2018 and before 2021 (“CARES Act NOLs”).  Because CARES Act NOLs could be carried back to years which are not subject to the silo rule, the IRS provided necessary guidance for tax-exempt organizations for determining how to calculate UBTI for any year impacted by the carryback.

II. Guidance Relating to the Carrying Back of CARES Act NOLs and the Silo Rule

Taxable Years Beginning Before January 1, 2018

The silo rule does not apply for tax years beginning before 2018, and that is true even for CARES Act NOLs that are carried back to such prior years. Therefore, if a tax-exempt organization has more than one unrelated trade or business, and carries back CARES Act NOLs from one unrelated trade or business to a taxable year beginning prior to January 1, 2018, then those CARES Act NOLs can be used as deductions so as to reduce the tax-exempt organization’s gross income from all unrelated trades or businesses.

Taxable Years Beginning After December 31, 2017

• CARES Act NOLs Carried Back to 2018 or Later

The silo rule applies for all tax years beginning after December 31, 2017.  Therefore, when determining a tax-exempt organization’s UBTI for taxable years after December 31, 2017, any CARES Act NOLs must be siloed, meaning that the tax-exempt organization needs to calculate its UBTI for each unrelated trade or business separately.  For example, CARES Act NOLs from one unrelated trade or business that are carried back to 2018 (or later) can only be used to offset gross income from that same unrelated trade or business. 

• Unused Carryback Subsequently Carried Forward to a Tax Year After December 31, 2017

Again, the silo rule applies for all tax years beginning after December 31, 2017.  As explained above, if a CARES Act NOL for one trade or business is carried back to a year prior to January 1, 2018, then for all years prior to January 1, 2018 such NOL carryback is not subject to the silo rule.  However, if the CARES Act NOL carryback is not fully utilized, and is subsequently carried forward to a tax year beginning after December 31, 2017, then, for all years beginning after December 31, 2017, use of such CARES Act NOL carried forward is subject to the silo rule. 

III. Conclusion

In light of the guidance above, the focus appears to be on when the NOL is being utilized, as opposed to when it was generated. Tax-exempt organizations with UBTI should be mindful of the rules under both the TCJA and the CARES Act to help ensure they properly compute their UBTI for any given year.