The Tax Cuts and Jobs Act (TCJA) placed limits on the deductibility of business interest under Section 163(j) of the Internal Revenue Code. In general, and with a number of exceptions, the TCJA limited business interest to 30% of adjusted taxable income (ATI). The Act amends the TCJA provisions in a couple of respects.
First, the Act generally increases the adjusted taxable income limitation from 30% to 50% for taxable years beginning in 2019 and 2020 (but see special rules below for partnerships).
Second, in the case of tax years beginning in 2020, the Act provides that taxpayers may elect to substitute 2019 ATI in place of the ATI calculated for in 2020 only. This election is made by the partnership (and not the partners). Since this provision is elective, it should help taxpayers who had a successful year in 2019, but their business and taxable income has declined in 2020 because of the economic challenges wrought by COVID-19; and, taxpayers whose 2020 ATI is higher than it was in 2019, can continue to use the ATI calculated for 2020.
Unfortunately, there is a complicated exception applying to partnerships. First, the 50% ATI limitation does not apply to partnerships for 2019 only; rather, the 30% ATI limit is still applicable for 2019. Second, and unless a partner decides not to have the rules apply, 50% of the excess business interest disallowed at the partnership level for 2019 shall be treated as business interest paid or accrued by the partner in the partner’s first taxable year beginning in 2020 that is not subject to business interest limitations. The remaining 50% of excess business interest continues to be deductible under the existing rules of the TCJA.
Special rules are applicable in the instance of short taxable years.
The above rules are effective for taxable years beginning after December 31, 2018.
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Material discussed is meant for informational purposes only, and it is not to be construed as investment, tax, or legal advice. Please note that individual situations can vary. Therefore, this information should be relied upon when coordinated with individual professional advice.