Section 163(j) caps the business interest deduction at the sum of business interest income, 30 percent of adjusted taxable income and floor plan financing interest. Disallowed interest carries forward. For tax years beginning after 2021 and before 2025, adjusted taxable income was computed without adding back depreciation, amortization and depletion, which tightened the cap for asset-heavy businesses. Public Law 119-21 restored the add-back for tax years beginning after 2024. This article covers the change, who is exempt and the work on Form 8990.
What changed
The Instructions for Form 8990 (December 2025) state that the legislation amended section 163(j) to allow an add-back to taxable income for any deduction allowable for depreciation, amortization or depletion when determining adjusted taxable income for tax years beginning after 2024. The IRS question and answer document FS-2026-14 confirms the earlier rule: for tax years beginning after December 31, 2021 and before January 1, 2025, those deductions were not added back. The adjusted taxable income base therefore moved from an EBIT-style measure to an EBITDA-style measure. FS-2026-14 lists two other statutory changes. For tax years beginning after 2024, the definition of floor plan financing interest includes a trailer or camper designed to provide temporary living quarters and to be towed by or affixed to a motor vehicle. For tax years beginning after 2025, a U.S. shareholder's controlled foreign corporation income inclusions under sections 951(a), 951A(a) and 78 are excluded from the computation of adjusted taxable income.
For a capital-intensive client, the add-back can raise the limit materially. For a client with little depreciation, there may be no difference. The change interacts with accelerated depreciation. Under the EBIT-style base, a large bonus deduction reduced adjusted taxable income and could trigger a disallowance. Under the restored base, depreciation is added back, so the timing of depreciation does not reduce the cap in the same way for tax years beginning after 2024. See section 179 and bonus depreciation.
The small business exemption
A taxpayer whose average annual gross receipts for the three prior tax years fall at or below the inflation-adjusted threshold under section 448(c) is exempt from the limitation, as long as it is not a tax shelter. The IRS gives the inflation-adjusted limit as $31 million for 2025 and $32 million for 2026 (FS-2026-14, Revenue Procedure 2024-40). An IRS question and answer document addresses a taxpayer whose average annual gross receipts for 2022 through 2024 were below $31 million and states that the taxpayer does not need to compute the limitation for the 2025 tax year, and that disallowed amounts carried forward from 2024 and its 2025 business interest will not be subject to the limitation in 2025.
Gross receipts aggregation rules can combine related entities, so the test has to be run for the group. A client near the limit should track the three-year average each year. See the glossary entry on section 163(j) interest limitation.
Capitalized interest
The IRS question and answer document states that, other than interest capitalized under sections 263(g) or 263A(f), section 163(j) applies to all business interest expense. Only interest capitalized under those two provisions is outside the limitation computation. The same document states that section 163(j) applies to all other business interest expense even if part of it would otherwise be capitalized, for example under the uniform capitalization rules for production. For clients with inventory or long-term production, identify which capitalization provision applies before deciding what enters the computation.
Form 8990 workflow
- Test the exemption. Compute the three-year average gross receipts, aggregating related entities, and confirm the entity is not a tax shelter. Record the result.
- Compute business interest expense. Include interest on debt, certain fees and financing costs, excluding capitalized interest as noted above.
- Compute adjusted taxable income. Start from taxable income, remove items outside the trade or business and add back the amounts the statute and the instructions specify, including, for tax years beginning after 2024, depreciation, amortization and depletion.
- Apply the 30 percent limit. Add business interest income and any floor plan financing interest.
- Carry forward. Track disallowed interest by year. For partnerships, track the excess business interest at the partner level.
- Prepare the schedules. The Form 8990 instructions explain the schedules for pass-through entities and partners.
Pass-through entities
Partnerships and S corporations apply the limitation at the entity level. The partnership does not keep the disallowed amount. The Form 8990 instructions state that the disallowed business interest expense, the excess business interest expense, is not carried over by the partnership, and each partner reports its share on Schedule A. The firm needs partner-level tracking for any partnership client with significant debt. For S corporations, the instructions state that disallowed business interest expense is carried over by the S corporation, and shareholders use Schedule B for excess taxable income and excess business interest income.
Financial statement angle
The tax disallowance creates a deferred tax asset for the carryforward, subject to the valuation allowance assessment. See ASC 740 and the glossary entry on valuation allowance. The loan covenants that rely on EBITDA are separate from the tax calculation and are covered in bank covenants and compliance certificates.
Common errors
- Skipping the exemption test and filing Form 8990 when the client is exempt, or the reverse.
- Applying the pre-2025 base to a 2025 year.
- Including interest capitalized under section 263(g) or 263A(f) in business interest expense, or wrongly excluding interest capitalized under other provisions.
- Failing to track partner-level carryforwards.
FAQ
Does the add-back apply to 2024 tax years?
No. The IRS states that depreciation, amortization and depletion were not added back for years beginning after December 31, 2021 and before January 1, 2025.
Who is exempt?
Taxpayers that meet the gross receipts test of section 448(c) and are not tax shelters.
Does capitalized interest count?
Interest capitalized under sections 263(g) or 263A(f) is excluded.
CORAA prepares ready-to-review audit files for US CPA firms; see /us.
Sources
- IRS, Instructions for Form 8990 (12/2025): https://www.irs.gov/instructions/i8990
- IRS, Questions and answers about the limitation on the deduction for business interest expense, FS-2026-14: https://www.irs.gov/pub/irs-drop/fs-2026-14.pdf
- Public Law 119-21, section 70303 (statute text, GovInfo): https://www.govinfo.gov/content/pkg/PLAW-119publ21/html/PLAW-119publ21.htm
- IRS, Revenue Procedure 2024-40: https://www.irs.gov/pub/irs-drop/rp-24-40.pdf
Part of CORAA University · Tax and compliance for CPA firms: related guides, calculators and templates.
AU-C references are to AICPA Professional Standards, paraphrased here; read the standard itself before relying on a requirement. This page is guidance, not professional advice. Report an error