(a) In general. If in any taxable year beginning before January 1, 1976, a taxpayer has deductions in excess of gross income and all or a part of any item of tax preference described in Sec. 1.57-1 results in no tax benefit due to modifications required under section 172(c) or section 172(b)(2) in computing the amount of the net operating loss or the net operating loss to be carried to a succeeding taxable year, then, for purposes of section 56(a)(1), the sum of the items of tax preference determined under section 57(a) (and Sec. 1.57-1) is to be limited as provided in paragraph (b) of this section.
(b) Limitation. The sum of the items of tax preference, for purposes of section 56(a)(1) and Sec. 1.56A-1(a), is limited to an amount determined under subparagraphs (1) and (2) of this paragraph.
(1) Loss year. If the taxpayer has no taxable income for the taxable year without regard to the net operating loss deduction, the amount of the limitation is equal to--
(i) In cases where the taxpayer does not have a net operating loss for the taxable year, the amount of the recomputed income (as defined in paragraph (c) of this section) or
(ii) In cases where the taxpayer has a net operating loss for the taxable year, the amount of the net operating loss (expressed as a positive amount) increased by the recomputed income or decreased by the recomputed loss for the taxable year (as defined in paragraph (c) of this section, plus the amount of the taxpayer's stock option item of tax preference (as described in Sec. 1.57-1(f)).
(2) Loss carryover and carryback years. Except in cases to which subparagraph (1)(ii) of this paragraph applies, if, in any taxable year to which a net operating loss is carried, a capital gains deduction is disallowed under section 172(b)(2) in computing the amount of such net operating loss which may be carried to succeeding taxable years, the amount of the limitation is equal to the amount, if any, by which the sum of the items of tax preference (computed with regard to subparagraph (1)(i) of this paragraph) exceeds the lesser of--
(i) The amount by which such loss is reduced because of a disallowance of the capital gains deduction in such taxable year, or
(ii) The capital gains deduction. The amount determined pursuant to the preceding sentence shall be increased by the amount, if any, that such reduction is attributable to that portion of such a net operating loss described in section 56(b)(1)(B) and Sec. 1.56A-2(a)(2) (relating to excess tax preferences).
(c) Recomputed income or loss. For purposes of this section, the phrase ``recomputed income or loss'' means the taxable income or net operating loss for the taxable year computed without regard to the amounts described in Sec. 1.57-1 except paragraph (i)(2) of that section (relating to corporate capital gains) and without regard to the net operating loss deduction. For this purpose, the reference to the amounts described in Sec. 1.57-1 is a reference to that portion of the deduction allowable in computing taxable income under the appropriate section equal to the amount which is determined in each paragraph of Sec. 1.57-1. For example, the amount described in Sec. 1.57-1(h) (relating to excess of percentage depletion over basis) is that portion of the deduction allowable for depletion under section 611 which is equal to the amount determined under Sec. 1.57-1(h). For purposes of this paragraph, the amount described in Sec. 1.57-1(i)(1) (relating to capital gains) is to be considered as the amount of the deduction allowable for the taxable year under section 1202.
(d) Determination of preferences reduced. When, pursuant to paragraph (b)(1) of this section, the sum of the items of tax preference (determined without regard to this section) are reduced, such reduction is first considered to be from the capital gains item of tax preference (described in Sec. 1.57-1(i)(1)) and each item of tax preference relating to a deduction disallowed in computing the net operating loss pursuant to section 172(d), pro rata. The balance of the reduction, if any, is considered to be from the remaining items of tax preference, pro rata. For purposes of this subparagraph, deductions not attributable to the taxpayer's trade or business which do not relate to items of tax preference are considered as being applied in reducing gross income not derived from such trade or business before such deductions which do relate to items of tax preferences.
(e) Examples. The principles of this section may be illustrated by the following examples in each of which the deduction for the personal exemption is disregarded and the taxpayer is an individual who is a calendar year taxpayer.
Example 1. The taxpayer has the following items of income and deduction for 1970: Gross income (all business income).......................... $120,000Deductions:
Nonbusiness deductions.................................... 30,000
Items of tax preference (excess accelerated depreciation 80,000
on real property held in taxpayer's business)............
Other business deductions................................. 50,000
Based on the above figures, the taxpayer has a net operating loss of $10,000 (business deductions of $130,000 less business income of $120,000, the nonbusiness deductions having been disallowed by reason of section 172(d)(4)). The limitation on the amount treated as items of tax preference is computed as follows: Tax preferences.............................................. $80,000
============Net operating loss................................ $10,000Recomputed income or loss:
Gross income......................... $120,000
Deductions other than tax preference 80,000
items...............................
------------Recomputed income................................. 40,000
------------Sum of net operating loss and recomputed income... 50,000Stock options preference.......................... 0
------------Limitation........................................ 50,000
Thus, the minimum tax computed under section 56(a) would be 10 percent of $20,000 (items of tax preference of $50,000 less the minimum tax exemption of $30,000), $1,000 of which would be deferred tax liability pursuant to section 56(b).
Example 2. Assume the same facts as in example 1 except that the other business deductions are $130,000, resulting in a net operating loss of $90,000. The limitation on the amount treated as items of tax preference is computed as follows: Tax preferences.............................................. $80,000
============Net operating loss................................ $90,000Recomputed income or loss:
Gross income......................... $120,000
Deductions other than tax preference 160,000
items...............................
------------
(40,000)Disallowance of nonbusiness deductions 30,000
under sec. 172(d).....................
-----------Recomputed loss................................... 10,000
-----------Net operating loss less recomputed loss........... 80,000Stock options preference.......................... 0
-----------Limitation................................................... 80,000
Thus, the minimum tax computed under section 56(a) would be 10 percent of $50,000 (items of tax preference of $80,000 less the minimum tax exemption of $30,000), all of which will be deferred tax liability pursuant to section 56(b).
Example 3. The taxpayer has the following items of income and deduction for 1970: Gross income (all from business):Ordinary..................................................... $50,000
Net section 1201 gains..................................... 120,000Deductions:
Items of tax preference:
Excess amortization of certified pollution $45,000
control facilities...........................
Capital gains deduction....................... 60,000 105,000
-----------
Other business deductions............ ......... ......... 75,000
In addition, the taxpayer has a $55,000 item of tax preference resulting from qualified stock options. Based on the above figures, the taxpayer has no taxable income and no net operating loss as the capital gains deduction is disallowed in determining the net operating loss pursuant to section 172(d). The limitation on the amount treated as items of tax preference is computed as follows: Tax preferences.............................................. $160,000
============Net operating loss................................ 0Recomputed income or loss:
Gross income......................... $170,000
Deductions other than tax preference 75,000
items...............................
------------Recomputed income................................. $95,000
Plus: Stock options preference.................. 55,000
-----------Limitation................................................... 150,000
Thus, the minimum tax computed under section 56 would be 10 percent of $120,000 (items of tax preference of $150,000 less the minimum tax exemption of $30,000).
Example 4. Assume the same facts as in example (3) except that the taxpayer has a net operating loss carryover from 1969 of $80,000. The taxpayer has $160,000 of tax preferences which are limited to $150,000 pursuant to Sec. 1.57-4(b)(1). In order to determine the amount of the 1969 net operating loss which remains as a carryover to 1971, the 1970 taxable income is redetermined in accordance with section 172(b)(2) and the regulations thereunder, as follows: Gross income--1970.............................. $170,000Deductions:
Capital gains deduction disallowed business $120,000 120,000
deductions...................................
-----------------------
Taxable income for section 172(b)(2).................... 50,000
Thus, the 1969 net operating loss which remains as a carryover to 1971 is $30,000. Pursuant to paragraph (b)(2) of this section, the limitation on the amount treated as items of tax preference is computed as follows: Items of tax preference computed with regard to Sec. 1.57- $150,000
4(b)(1) (per example (3))..................................Less: Lesser of capital gains deduction ($60,000) or amount 50,000
of reduction in carryover due to its disallowance ($50,000)
-------------
Limitation.............................................. 100,000
Thus, the minimum tax computed under section 56 would be 10 percent of $70,000 (items of tax preference of $100,000 less the minimum tax exemption of $30,000).
Example 5. The taxpayer has the following items of income and deduction for the taxable year 1970 without regard to any net operating loss deduction: Gross income (all from business):
Ordinary........................................ $50,000
Net section 1201 gain........................... 40,000
------------
......... $90,000Deductions:
Capital gains deduction......................... 20,000
Medical expenses ($4,100 actually paid but 2,000
allowable only to the extent in excess of 3
percent of adjusted gross income of $70,000)...
Other itemized deductions....................... 40,000
------------
......... 62,000
----------
Taxable income (before net operating loss deduction)..... 28,000
In addition, the taxpayer has an item of tax preference of $35,000 resulting from qualified stock options. In 1973, the taxpayer has a net operating loss of $60,000 (no portion of which is attributable to excess tax preferences pursuant to Sec. 1.56A-2) which is carried back to 1970 resulting in no taxable income in 1970. In order to determine the amount of the 1973 net operating loss which remains as a carryover to 1971, the 1970 taxable income is redetermined, in accordance with section 172(b)(2) and the regulations thereunder, as follows: Gross income................................................. $90,000Deductions:
Capital gains deduction disallowed..............
Medical expenses ($4,100 actually paid but $1,400
allowable only to the extent in excess of 3
percent of adjusted gross income of $90,000)...
Other itemized deductions....................... 40,000
------------
......... $41,400
Taxable income for section 172(b)(2).......... ......... 48,600
The limitation on the amount treated as items of tax preference is computed as follows: Items of tax preference:
Capital gains................................. .......... $20,000
Stock options................................. .......... 35,000
-----------
.......... 55,000Less:
Lesser of capital gains deduction ($20,000) or amount of (20,000)
reduction in carryover due to its disallowance ($20,600).
-------------
Limitation.............................................. 35,000
Thus, the minimum tax for 1970 under section 56 would be 10 percent of $5,000 (items of tax preference of $35,000 less the minimum tax exemption of $30,000).
Example 6. Assume the same facts as in example (5) except that the 1973 net operating loss was $45,000. In this case, the $20,600 increase in the 1970 taxable income as redetermined, results in a decrease of $17,000 (i.e., the remaining 1973 net operating loss after an initial decrease of $28,000 resulting from the 1970 taxable income before redetermination). The limitation on the amount treated as items of tax preference is computed as follows: Items of tax preference computed without regard to this $55,000
section....................................................Less: Lesser of capital gains deduction ($20,000) or amount (17,000)
of reduction in carryover due to its disallowance ($17,000)
-------------
Limitation.............................................. 38,000
Thus, the minimum tax for 1970 under section 56 would be 10 percent of $8,000 (items of tax preference of $38,000 less the minimum tax exemption of $30,000).
Example 7. The taxpayer has the following items of income and deduction for 1973 without regard to any net operating loss deduction: Gross income (all from business):
Ordinary.................................... $100,000
Net section 1201 gains...................... 120,000
--------------
........... $220,000Deductions:Items of tax preference:
Excess amortization of certified pollution 45,000
control facilities.........................
Capital gains deduction..................... 60,000
-------------
105,000
Other business deductions................... 75,000
--------------
........... $180,000
Taxable income (before net operating loss deduction)... 40,000
In 1972, the taxpayer had a net operating loss of $70,000 which is carried forward to 1973; $20,000 of this net operating loss is attributable to excess tax preferences. In order to determine the amount of the 1972 net operating loss which remains as a carryover to 1974, the 1973 taxable income is redetermined, in accordance with section 172(b)(2) and the regulations thereunder, as follows: Gross income................................................ $220,000Deductions:
Capital gains deduction................................... Disallowed
Business deductions....................................... 120,000
-------------
Taxable income per section 172(b)(2).................... 100,000
In this case, the $60,000 increase in the 1972 taxable income as redetermined and the $30,000 decrease in the amount of the 1973 net operating loss remaining as a carryover to 1974 (i.e., the remaining 1972 net operating loss after an initial decrease of $40,000 resulting from the 1973 taxable income before redetermination) is entirely attributable to the disallowance of the capital gains deduction. The limitation on the amount treated as items of tax preference is computed as follows: Items of tax preference computed without regard to this
section:
Capital gains............................................. $60,000
Excess amortization of certified pollution control 45,000
facilities...............................................
-------------
105,000Less: Lesser of capital gains deduction (60,000) or amount (30,000)
of reduction in carryover due to its disallowance ($30,000)
-------------
75,000Plus: Amount of reduction of carryover (due to disallowance 20,000
of capital gains deduction) attributable to excess tax
preferences................................................
-------------
Limitation.............................................. 95,000
[T.D. 7564, 43 FR 40476, Sept. 12, 1978, as amended by T.D. 8138, 52 FR 15309, Apr. 28, 1987]