Pennsylvania tax legislation changes include increased NOL deduction limitation

Background

Governor Josh Shapiro signed S.B. 654 (the Legislation) on July 11, 2024, which doubles the net operating loss (NOL) deduction limit and includes additional tax changes for Pennsylvania taxpayers.

NOL deduction increase

The Legislation gradually increases the NOL deduction limitation from 40% of taxable income to 80% for NOLs incurred in a taxable year beginning after Dec. 31, 2024. However, the Legislation still imposes the 40% NOL limitation on NOLs generated prior to Jan. 1, 2025.

Per the Legislation, the NOL percentage limitation is adjusted as follows:

For tax years beginning in 2025:

• The NOL deduction is limited to 40% of taxable income for a net loss incurred in a taxable year beginning prior to Jan. 1, 2025.

For tax years beginning in 2026, the NOL deduction is limited as follows:

• Deduct 40% of taxable income for a net loss incurred in a taxable year beginning prior to Jan. 1, 2025 (pre-2025 losses).
• For a net loss incurred in a taxable year beginning after Dec. 31, 2024, deduct 50% minus the actual percentage of taxable income deducted for pre-2025 losses multiplied by taxable income.

For tax years beginning in 2027, the NOL deduction is limited as follows:

• Deduct 40% of taxable income for pre-2025 losses.
• For a net loss incurred in a taxable year beginning after Dec. 31, 2024, deduct 60% minus the actual percentage of taxable income deducted for pre-2025 losses multiplied by taxable income.

For tax years beginning in 2028, the NOL deduction is limited as follows:

• Deduct 40% of taxable income for pre-2025 losses.
• For a net loss incurred in a taxable year beginning after Dec. 31, 2024, deduct 70% minus the actual percentage of taxable income deducted for pre-2025 losses multiplied by taxable income.

For tax years beginning in 2029 and thereafter, the NOL deduction is limited as follows:

• Deduct 40% of taxable income for pre-2025 losses.
• For a net loss incurred in a taxable year beginning after Dec. 31, 2024, deduct 80% minus the actual percentage of taxable income deducted for pre-2025 losses multiplied by taxable income.

Additional tax changes

The Legislation also includes additional changes including, but not limited to:

Employer childcare contribution tax credit

For taxable years beginning after Dec. 31, 2024, a qualified taxpayer may claim the employer childcare contribution tax credit for a contribution made during the taxable year toward an employee’s eligible child-care costs and may apply the tax credit against its qualified tax liability.

Medical cannabis business expenses

The Legislation allows medical cannabis businesses to deduct ordinary and necessary expenses paid or incurred during the taxable year that are ordinarily deducted for federal income tax purposes for taxable years beginning after Dec. 31, 2023.

Related party addback election

Effective for taxable years beginning after Dec. 31, 2022, the Legislation allows for an annual election to exclude intangible expenses or costs, or interest expense or costs paid, accrued or incurred by a taxpayer to an affiliate when determining the affiliated entity’s taxable income for Pennsylvania purposes. If the election is made, the taxpayer that made the election shall not be entitled to receive any credit against tax due. Further, per the Legislation, the election must be made by the affiliated entity on its original return and the affiliated entity must identify the name and federal Employer Identification Number of the taxpayer to which the election applies. The Legislation specifically notes that the election does not impact nexus or apportionment of the taxpayer or the affiliated entity.

What’s next?

Please reach out to your Baker Tilly state tax advisor to discuss the Legislation and the impact, if any, on your Pennsylvania filings. Further, taxpayers that have historically generated NOLs or anticipate incurring NOLs in the future should discuss the best approach for tracking their NOLs based on the limitations discussed above.

The information provided here is of a general nature and is not intended to address the specific circumstances of any individual or entity. In specific circumstances, the services of a professional should be sought. Tax information, if any, contained in this communication was not intended or written to be used by any person for the purpose of avoiding penalties, nor should such information be construed as an opinion upon which any person may rely. The intended recipients of this communication and any attachments are not subject to any limitation on the disclosure of the tax treatment or tax structure of any transaction or matter that is the subject of this communication and any attachments.