Imagine you acquire a struggling software company that has racked up $40 million in net operating losses over five years of burning cash to grow. On paper, those losses look like a gift: $40 million you can use to shelter your own profitable income from tax, potentially worth $8.4 million in federal tax savings at the 21% corporate rate. You factor that tax shield into the purchase price.
Then your tax advisor delivers the bad news. Because of a single provision in the tax code, you may only be able to use a few hundred thousand dollars of those losses per year — and it could take decades to absorb them all, if you ever do. The $8.4 million you thought you were buying just shrank to a fraction of its size.
That provision is Section 382 of the Internal Revenue Code, and it is one of the most misunderstood — and most expensive — surprises in corporate dealmaking. Here is how it works, what triggers it, and the legitimate planning moves that can soften the blow.
Why Section 382 Exists
Net operating losses (NOLs) are valuable assets. When a corporation spends more than it earns, the loss carries forward to offset future taxable income. A company sitting on a big NOL carryforward has, in effect, a stockpile of future tax deductions.
Before 1986, this created an obvious temptation. A profitable company could simply buy a defunct, loss-ridden shell corporation, merge its profits into it, and wipe out its tax bill using losses it never actually incurred. The losing business was irrelevant — the buyer wanted the tax attributes, not the company.
Congress shut this down with the Tax Reform Act of 1986, which rewrote Section 382 into the comprehensive regime we have today. The core idea: when a loss corporation changes hands, the new owners should not be able to use the old losses any faster than the previous owners realistically could have. The rule does not eliminate the NOLs — it rations them.
What Triggers Section 382: The Ownership Change
Section 382 does not apply to every stock sale. It is triggered only by an ownership change, a term with a precise and somewhat counterintuitive definition.
An ownership change occurs when the percentage of stock owned by one or more 5-percent shareholders increases by more than 50 percentage points over the lowest percentage those shareholders owned at any point during the testing period — generally the rolling three-year window ending on the date being tested.
Three pieces of that definition deserve unpacking:
5-percent shareholders. Section 382 only tracks shareholders who own 5% or more of the corporation's stock at some point during the testing period. To keep the math manageable, all the smaller shareholders are grouped together and treated as a single "public group" that itself counts as one 5-percent shareholder. The rules look through entities and apply attribution principles, so family members and related parties can be aggregated.
More than 50 percentage points. This is a cumulative measure, not a single-transaction test. A buyer who acquires 30% of a loss corporation in year one and another 25% in year three has crossed the 50-point line — even though no single purchase did. Section 382 stitches together every owner shift over the three-year window.
It is about percentage points, not percentages. A jump from 10% ownership to 60% is a 50-point increase. A jump from 40% to 90% is also 50 points. The test measures the increase in ownership concentration, comparing each 5-percent shareholder's current stake against their lowest stake during the testing period.
Critically, an ownership change can happen without anyone intending an acquisition. Multiple venture financing rounds, a secondary sale by early investors, a public offering, or a SPAC merger can each shift ownership. Stack enough of them inside a three-year window and a loss corporation can trip Section 382 without a traditional "deal" ever taking place. Startups that raise several priced rounds are especially exposed.
The Section 382 Limitation: Doing the Math
Once an ownership change occurs, the loss corporation's pre-change NOLs become subject to an annual cap — the Section 382 limitation.
The formula is straightforward:
Annual limitation = Value of the loss corporation's equity immediately before the ownership change × the long-term tax-exempt rate
The "value" is generally the fair market value of all the loss corporation's stock right before the change. The long-term tax-exempt rate is published monthly by the IRS; for ownership changes in early 2026 it has hovered around 3.5% to 3.6%.
Here is the earlier example with real numbers. Suppose the loss corporation is worth $20 million in equity at the moment of the ownership change, and the applicable long-term tax-exempt rate is 3.58%:
$20,000,000 × 3.58% = $716,000 per year
That $716,000 is the maximum amount of pre-change NOL the company can use to offset taxable income each year going forward. With a $40 million NOL stockpile, it would take roughly 56 years to absorb the full amount — far longer than the 20-year carryforward window that applied to older NOLs, and a slow grind even against the indefinite carryforward allowed for newer losses. In practice, a large chunk of those losses may simply expire unused or never get absorbed.
A few important mechanics:
- Unused limitation carries forward. If the company generates only $300,000 of taxable income in a year, it uses $300,000 of NOL and the remaining $416,000 of limitation rolls into the next year's cap.
- A short tax year is prorated. If the ownership change happens mid-year, the limitation for that stub period is reduced proportionally.
- The value can be adjusted. Capital contributions made shortly before the change to artificially inflate value are disregarded, and certain redemptions reduce the value used in the formula.
The Continuity-of-Business Trap
There is a way to make the Section 382 limitation even worse: let it drop to zero.
Section 382 requires the loss corporation to continue its historic business, or use a significant portion of its historic assets in a business, for the two years following the ownership change. This is the continuity-of-business-enterprise (COBE) requirement.
If the buyer shuts down the acquired company's operations within that two-year window — liquidating it, repurposing it as a shell, or pivoting entirely away from what it did — the Section 382 limitation collapses to zero. Every pre-change NOL becomes permanently unusable.
For acquirers who buy a company partly for its losses and partly to wind it down, this is a brutal outcome. The losses you paid for evaporate entirely if you do not keep the historic business running.
Built-In Gains and Losses: The Five-Year Adjustment
The base limitation is only the starting point. Section 382 also looks at whether the loss corporation's assets were worth more or less than their tax basis on the change date. This is where the planning opportunities — and additional pitfalls — live.
NUBIG and NUBIL. Compare the fair market value of the company's assets to their aggregate tax basis:
- If FMV exceeds basis, the company has a net unrealized built-in gain (NUBIG).
- If basis exceeds FMV, it has a net unrealized built-in loss (NUBIL).
There is a threshold. The company is treated as having neither a NUBIG nor a NUBIL unless the difference exceeds the lesser of $10 million or 15% of the FMV of its assets before the change. Below that threshold, the built-in rules simply do not apply.
Recognized built-in gains (RBIG) — the good news. If the company is in a NUBIG position, gains it recognizes during the five years after the ownership change — by selling appreciated assets, collecting on appreciated receivables, or claiming depreciation it was previously denied — can increase the annual Section 382 limitation. In effect, cashing in built-in appreciation lets the company free up more of its trapped NOLs. This is the heart of the "built-in gain workaround."
Recognized built-in losses (RBIL) — the bad news. If the company is in a NUBIL position, losses it recognizes during the same five-year window are treated as if they were pre-change NOLs — meaning they get swept under the same annual limitation. A buyer cannot escape Section 382 by waiting to sell depreciated assets; those losses are caught too.
Legitimate Workarounds and Planning Moves
Section 382 is a hard limit, but it is not airtight. Experienced tax planners use several strategies to preserve more of a target's NOLs.
Harvest built-in gains in a NUBIG company. If the target holds appreciated assets, deliberately recognizing those gains within the five-year window converts the limitation from a thin trickle into a much wider channel. Selling appreciated real estate or intellectual property, or even electing certain accounting changes, can generate RBIG that lifts the cap.
Maximize the equity value before the change. Because the limitation is value times rate, a higher pre-change value means a higher cap. Legitimately increasing the company's value — without the artificial, disregarded contributions Section 382 polices — directly raises the annual limitation.
Time the deal to a favorable rate. The long-term tax-exempt rate moves monthly. When rates are higher, the limitation is higher. Closing an ownership change in a higher-rate month, when feasible, produces a permanently larger annual cap.
Consider a Section 338 election. When a stock purchase is treated as an asset purchase under Section 338, the transaction can trigger gain that uses up NOLs before the Section 382 limitation clamps down — sometimes letting the seller's losses offset the deemed sale gain. Whether this helps depends heavily on the facts.
Mind Section 384. A companion provision, Section 384, separately restricts using one corporation's pre-acquisition NOLs against another corporation's built-in gains after certain acquisitions. Section 382 and Section 384 must be analyzed together — clearing one does not clear the other.
Monitor the cap table before you ever do a deal. The smartest move happens long before an acquisition. A loss corporation that tracks its 5-percent shareholders and cumulative owner shifts can structure financing rounds and secondary sales to avoid an inadvertent ownership change — preserving the NOLs at full value until a real transaction makes the limitation worthwhile.
Common Mistakes That Cost Real Money
- Assuming NOLs transfer dollar-for-dollar. Buyers routinely overvalue a target's losses in the purchase price, then discover Section 382 has shredded them. Model the limitation before you sign.
- Ignoring inadvertent ownership changes. A startup that raises four rounds in three years can trigger Section 382 with no acquisition at all. Many founders never realize their NOLs have already been capped.
- Forgetting the two-year continuity rule. Shutting down the historic business after closing zeroes out every pre-change NOL.
- Overlooking built-in gains. A company sitting on appreciated assets has a real, usable workaround — but only if someone identifies the NUBIG and acts within the five-year window.
- Failing to keep documentation. The IRS can examine an ownership-change analysis years later. Contemporaneous records of stock ownership, valuations, and the NUBIG/NUBIL calculation are essential.
Keep Your Tax Attributes Organized From Day One
Whether you are running a loss-making startup or planning an acquisition, the value locked inside your net operating losses depends on details most accounting systems never surface: who owns what percentage, how ownership has shifted over a rolling three-year window, and what your assets are worth relative to their tax basis. Those numbers decide whether a $40 million NOL is worth $8 million or a rounding error.
Beancount.io provides plain-text accounting that gives you complete transparency and an auditable history of your financial data — no black boxes, no vendor lock-in — so the records behind a Section 382 analysis are always at your fingertips. Get started for free and see why developers and finance professionals are switching to plain-text accounting. For technical setup, explore the documentation, and for clear financial reporting, take a look at the Fava dashboard.
Section 382 is unforgiving, but it is also predictable. The corporations that come out ahead are the ones that ran the numbers early, kept clean records, and treated their net operating losses as the valuable — and fragile — assets they truly are.