Tax Director
The Tax Cuts and Jobs Act of 2017 (TCJA) introduced a provision that directly impacted businesses’ ability to deduct interest expenses from their taxable income under Section 163(j) of the Internal Revenue Code. This provision applies to all types of taxpayers, including corporations, partnerships, and individuals, with exceptions. Some of the key provisions of Section 163(j) are as follows:
Interest Deductibility Limitation
The deduction for business interest expense is generally limited to the sum of 30% of adjusted taxable income (ATI), business interest income, and floor plan financing interest expense.
Carryforward of Disallowed Interest
Any business interest expense that exceeds the allowable deduction threshold can be carried forward indefinitely until there is excess taxable income. Special rules apply if the taxpayer is no longer subject to Section 163(j) due to the small-business exemption or the real property trade or business election.
Exemptions for Certain Businesses
Certain types of businesses are exempt from the interest deduction limitation, including small businesses with average annual gross receipts over the prior three tax years not exceeding $27MM (adjusted for inflation), as well as certain real estate and farming businesses.
Special Rules for Certain Real Property Trades or Businesses
Section 163(j) does not apply to any “electing real property trade or business” (RPTB), which includes businesses described in IRC Section 469(c)(7)(C), such as real property development, redevelopment, construction, reconstruction, acquisition, conversion, rental, operation, management, leasing, or brokerage trade or business. An electing RPTB must depreciate its nonresidential real property, residential real property and qualified improvement property using the alternative depreciation system.
There is currently a proposed change via H.R. 7024 seeking to add Depreciation and Amortization back to the adjusted taxable income calculation, which will increase the allowable interest deduction amount.
In summary, to navigate Section 163(j) rules, it is important for businesses to stay informed about future developments, work with tax professionals, and adjust financial strategies accordingly.
If you have any further questions about Section 163(j), please contact your WFY advisor or contact us here. You can also sign-up for our newsletter here to receive more updates.
Wright Ford Young & Co. is headquartered in Irvine, CA and is the largest single office CPA firm in Orange County. WFY is a full service corporate accounting firm offering audit, tax, estate and trust, and business consulting services to closely held company and family business owners. More information about our Firm can be found at www.cpa-wfy.com.