Legal Definitions - carryover

Carryover, in a legal and accounting context, refers to the practice of applying certain unused tax benefits, such as deductions or credits, from one tax year to reduce the tax liability in a future tax year. This mechanism allows taxpayers to fully utilize benefits that they could not completely use in the year they originated, preventing their loss and providing financial relief in subsequent periods.

• Example 1: Business Operating Losses

  A newly established software company, "InnovateTech," spends heavily on research and development, employee salaries, and marketing during its first year of operation. As a result, the company incurs a significant net operating loss, meaning its expenses far exceeded its revenue. Since InnovateTech had no profit in its first year, it cannot fully utilize this loss to reduce its tax burden. Tax laws often permit the company to carry over this loss to future years. If InnovateTech becomes profitable in its third year, it can use the carried-over loss from its first year to reduce its taxable income in that profitable year, thereby lowering its tax bill.

• Example 2: Foreign Tax Credits

  Dr. Anya Sharma, a U.S. citizen, works for a medical aid organization in a foreign country for several years. During her time abroad, she pays income taxes to the foreign government. When she files her U.S. tax return, she can claim a foreign tax credit to avoid being taxed twice on the same income. In one particular year, the amount of foreign tax she paid exceeds her U.S. tax liability attributable to that foreign income. Instead of losing the excess credit, Dr. Sharma is allowed to carry over the unused portion of her foreign tax credit to future tax years. This means she can apply that unused credit to reduce her U.S. tax liability on foreign income in subsequent years when she might have a higher U.S. tax obligation.