Using Net Operating Loss (NOL) as a Tax Strategy for Roth Conversions

NOL calculations are complicated so this illustration is only intended to give you a general idea of how it may operate as a Roth conversion tax strategy for a business owner. You should always consult with your personal tax professional regarding your situation.

Assume a sole proprietor has $150,000 in net business losses and $80,000 in net operating losses for the year. Assume the business owner also has a SEP IRA with over $150,000. He then converts $80,000 of his SEP IRA to a Roth. Because the Roth conversion is taxed as ordinary income, he uses that Roth “income” to offset the net operating business loss:

In this example, the owner may be able to convert $80,000 of his SEP IRA without creating taxable income. If a company has a net operating loss, it may apply this tax relief in one of two ways:

1) It can apply the net operating loss to its past tax payments and receive a tax credit; or

2) It could apply the net operating loss to future income tax payments, reducing the need to make payments in future periods. The terms of the tax relief and how it can be applied varies by jurisdiction but usually the NOL can be applied to the past 2 or 3 years or to future years (carry forward).