Lost money? Score a whopping tax refund

NEW YORK (CNNMoney.com) -- Sick of sending big checks to the IRS? For some business owners, this tax season will bring a rare reversal: A stimulus-fueled tax change is putting cash back into the pockets of qualifying entrepreneurs.

Bill Hewitt, who owns several real estate ventures in Denver, recently collected a $150,000 refund check from the IRS thanks to the new tax rules. "Without that money, I probably would have gone under," he says. "When you can't get any loans from anybody, it kept me alive."

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Bill Hewitt, who owns several real estate businesses in Denver, got a $150,000 IRS refund thanks to new tax rules for business losses.

Hewitt took advantage of a tax maneuver called "loss carryback." When a business books a profit, it pays income tax on its earnings. But if the business then turns a loss in later years, tax rules allow the business to "carry back" its loss and deduct the money from earlier profits. By filing an amended tax return for the earlier, profitable year, the business can claim an immediate refund on the taxes it paid.

IRS rules usually let companies carry back a loss into the prior two years. That means a business with a loss in 2009 could go back and amend its 2007 taxes, but any profits from 2006 or 2005 would be untouchable.

But last year's Recovery Act extended the window for small companies, allowing businesses with average annual sales of $15 million or less -- like Hewitt's -- to carry their 2008 losses back five years. In November, Congress expanded the tax break even further, allowing businesses of all sizes to carry their 2008 and 2009 losses back for five years.

How it works: Loss carryback rules bring the biggest benefit to companies that were once profitable but suffered a sudden revenue plunge. That's because businesses can only get back money they've already paid to the government in taxes. If you never had any taxed profits, there's nothing to reclaim.

But for companies suddenly whacked by the recession, the tax break can be a lifesaver.

"The only company that could benefit from this is one that has been profitable and is currently having difficulty -- and that is the kind of company that you want to help," says said Tom Ochsenschlager, vice president of taxation at the American Institute of Certified Public Accountants. "The government is paying cash. You will get a check from the government. That is going to help a lot in these tough times."

Businesses also have the option of carrying losses forward for up to 20 years, to offset future profits when their sales pick up. But for companies that need cash right now, that's cold comfort.

"Some of these businesses wouldn't be around 20 years from now to take advantage of the carry forward," Ochsenschlager says. "Whether they survive or not might depend on whether they get the refund back."

Bill Hewitt's accountant, Scott O'Sullivan of Margolin, Winer & Evens, says the new carryback rules were critical to getting his client an immediate cash infusion.

"He had to pay taxes more than two years ago, so we were able to take advantage of this law change to free up taxes paid in the past," O'Sullivan says.

Hewitt, whose staff of 50 has shrunk to 30 as the recession ravaged the real-estate market, used the cash to pay bills and salaries. Like many business owners right now, he can't find financing for his struggling company: "Banks will ask you to fill out papers and run you around, but they are not lending," he says. "All the lines of credit have dried up."

Without the IRS refund, Hewitt's firm would have been forced to unload assets -- commercial and residential buildings, in his case -- at fire-sale prices to free up cash. The refund gives him enough of a cushion to wait the market out a bit longer.

It's been a life preserver for many businesses. "My general impression, talking to practitioners at tax conferences, is that this is a very popular provision and has been widely used," says Mark Luscombe, principal analyst for tax services firm CCH.

The carryback provision is available to both corporations and "pass-through" businesses, which are companies organized as a partnership, sole proprietorship or S corporation. Those entities don't file corporate taxes. Instead, the business' profits and losses are distributed directly to the owners, who then pay taxes on it as personal income.

C corporations -- those that pay corporate income taxes -- will benefit the most, says Eric Toder, a fellow at the Urban Institute and Urban-Brookings Tax Policy Center.

"A flow-through business does not pay any tax; it allocates its profits or losses to its owners," Toder says. "Only if their loss from the business exceeds all their other income would they have to make use of the carryback."

What it costs: When Congress was drafting last year's Recovery Act, it considered making all businesses eligible for the extended loss carryback rules. But legislators balked at the price tag, and the final version of the stimulus bill only made the provision available to small companies, which cut its estimated cost down to $947 million.

In November, though, Congress reversed its stand and extended the break to all companies with 2008 or 2009 losses.

That's lead to some giant refunds for big businesses -- troubled homebuilder Lennar recently booked a $353 million tax gain from the provision -- and a much bigger hit to the nation's coffers. The Joint Committee on Taxation estimates the carryback change will cost the government $33.2 billion this year, though the 10-year cost of the break is smaller, because companies won't be carrying 2009 losses forward to reduce their future tax bills. The committee's estimate of the 10-year cost is $10.4 billion.

Whatever its price tag, accountants say the change is stopgap, not a solution, for struggling small businesses.

"It is not a bad thing, I just don't think it goes to a big enough part of the population, because you have to be in a position where you were earning substantial amounts and paying substantial amounts of taxes and then having an exceptionally bad year where you lost a lot of money," says Robert Moses, a retired CPA who continues working with small companies as SCORE volunteer.

"It is a nice thing, but it only goes so far," agrees O'Sullivan, Bill Hewitt's accountant. "Eventually that source of cash will dry up and you will have to start generating your own revenue."