IRS Releases New Proposed Regulations: Not Your Father’s Section 163(j)
In November 2018, the Treasury and IRS released proposed regulations under IRC Section 163(j), a section that limits a taxpayer’s ability to deduct business interest expense.
The Tax Cuts and Jobs Act (TCJA) effectively:
In practice, a taxpayer may deduct business interest expense up to the sum of its business interest income, plus 30% of its adjustable income and its floor plan financing interest (i.e., financing used to acquire motor vehicles held for sale or lease so along as the financing is secured by the inventory acquired). Excess business interest expense may be carried forward. Excepted trades or business may elect out.
The following are key findings to note from the complex, 439-page package of proposed regulations:
Old Section 163(j) Carryforwards:
Interest expense excluded under the old section 163(j) is a business carryforward if it was not used before the first taxable year subject to the new section and it satisfies the new section and regulations.
Adjusted Taxable Income is computed as if all business interest expense were deductible, followed by certain additions and subtractions.
The definition has expanded to include income and deductions from certain items that have time-value components, such as swaps, not previously treated as interest for domestic taxpayers under “Old 163(j).”
Excepted Trades or Businesses:
Eligible entities may elect excepted business status. Such election is irrevocable.
You will be affected if you are a/an:
Under the new 163(j), any borrowings of a U.S. Corporation may be subject to the interest deduction limitation. This includes both related party and unrelated party borrowings.
U.S. Corporate Shareholder of CFCs (USSH):
In determining ATI, a USSH of a CFC must generally subtract out its Subpart F, GILTI, and section 78 gross-up amounts. However, when a CFC group election has been made and the Specified Top Tier CFC has excess taxable income (ETI),, the USSH may increase its ATI by its portion of “eligible” ETI, up to the USSH’s Subpart F and GILTI inclusions (but never its section 78 gross-up). CFCs are subject to the limitation under the general rules, as if they were domestic corporations. To avoid unfavorable outcomes due to related party lending, eligible CFCs may make a “CFC Group Election.”
ATI is determined at the partnership level. If the partnership has ETI, the ETI is allocated to the partners and used in gauging each partner’s ATI. If partnership business interest expense is more than the partnership’s interest limitation, the excess business interest expense is allocated to the partners. Special recharacterization rules apply when a partner is allocated ETI or excess business interest expense.
Corporate Partner in a Partnership:
In regards to C corporations, all interest expense and interest income is per se business interest expesnse and business income. This rule does not apply when the C Corporation is allocated Subpart F income or GILTI as investment income from a partnership. Note that business interest expense or income from excepted trades or businesses are not subject to the 163(j) limitation rules.
The proposed regulations for Section 163(j) address many challenges. Due to its volume and complexity, Alvarez & Marsal Taxand’s range of integrated tax expertise – including compliance, planning & consulting, accounting & financial reporting, and department operations & performance improvement – makes us equipped to continuously monitor & analyze the significant features of these regulations and how it will impact your business in detail.
To learn more about our team, visit: https://www.alvarezandmarsal.com/expertise/tax