New Interest Deduction Limitations

Recently, rules changed regarding interest deductions for taxpayers. Since new regulations are coming into play under the Tax Cuts and Jobs Act, you may find yourself thinking twice about whether a business loan is the best option. When you pay on a business credit line, mortgage on your business property, or business credit cards, you are going to pay interest. In the past, any interest you paid was completely deductible except for the limits set for corporations that had a high debt-to-equity ratio.

The Tax Cuts and Jobs Act did make some favorable changes for businesses, but there are some restrictions and new limits in place. One of those changes involves the allowable deduction for business interest with no regard to the debt-to-equity ratio. Now there is something called the “30 percent limit” that has gone into effect. As of December 31, 2017, the 30 percent limit applies to business interest expenses, regardless of whether it is a pass-through entity or a C corporation.

The IRS says all interest gets treated as business interest for C corporations, but that rule doesn’t apply to other entities. The business interest expense deduction gets figured on Form 8990. The new limit caps at the total of business interest income, 30 percent of adjustable taxable income for the year, and floor plan financing totals.

The adjusted taxable income is a taxpayer’s taxable income that is figured without any consideration given to the qualified business income deduction, any net operating loss, the income, gain, deduction, or loss not properly allocable to a trade or business or depreciation, amortization, or depletion in tax years before January 1, 2022.

The Breakdown of the Regulations

The 30 percent rule impacts businesses differently. Here is a breakdown of how it is handled. The treatment of disallowed interest is interest that cannot be deducted since the 30 percent limit is carried forward. There isn’t a limit on the amount that can be carried forward and is treated as interest would be in prior years until you use the total up.

The entity-level is where the 30 percent limit is figured. Part II of the Form 8990 is used to calculate a partnership’s excess taxable income. A partner’s share of the income of interest is limited to that partner’s share of the business interest income exceeding the business interest expense. Partnerships allocated any interest that exceeds the limits over at the partner level, and it is then used to the extent of and when the excess table income transferred to the partner. The partner will reduce their partnership basis when the interest incurs, even when it can’t be deducted right now.

Some Businesses Exempt From The Cap

Some businesses can still deduct all their interest. For example, there is a small business exemption. Companies that meet a $25 million gross receipts test are automatically exempt from the 30 percent limit rule and can still deduct all interest. There is an exception for farming and real estate businesses that don’t meet the small business exception. They can still deduct all their interest if they want, but once they elect to do so, it isn’t revocable. Utility companies, like small businesses are also exempt from the 30 percent rule.

To learn more about the new interest deduction limitations, contact the experienced team of business experts at MKS&H. A team member would be happy to meet with you at your convenience to discuss how your business can maximize deductions.