A practical guide to the business interest expense limitation

The IRS business interest expense limitation remains one of the most complex and impactful rules affecting business taxpayers. IRS Fact Sheet FS-2025-09, Questions and answers about the limitation on the deduction for business interest expense, explains how §163(j) limits the deduction for business interest and outlines who must comply, which businesses are exempt and how recent law changes affect calculations. For tax professionals advising clients with debt financing or capital-intensive operations, understanding these rules is essential to accurate compliance and smart tax planning.

What is the §163(j) business interest expense limitation?

Section 163(j) limits the amount of business interest expense a taxpayer may deduct in a tax year. In general, the deductible amount is capped by the sum of business interest income, 30% of adjusted taxable income and floor plan financing interest expense. Any interest expense exceeding this limit is not lost. Instead, it is disallowed for the current year and carried forward to future years, where it may become deductible. This limitation applies to tax years beginning after Dec. 31, 2017, with significant updates enacted through later legislation.

Which businesses are subject to §163(j)?

Most businesses with interest expense fall under §163(j), but the IRS outlines several important exceptions that tax professionals should evaluate each year.

Small business exception

Businesses that meet the gross receipts test under §448(c) are exempt from the limitation. For 2025, this generally applies to taxpayers with average annual gross receipts of approximately $31 million or less.

Example:

A partnership with $22 million in average gross receipts over the prior three years incurs $150,000 of business interest expense. Because it qualifies as a small business, the interest expense may be fully deductible.

Excluded trades or businesses

Certain trades or businesses are excluded from §163(j), including electing real property trades or businesses, electing farming businesses and certain regulated utilities. These elections are permanent and may require the use of alternative depreciation methods, making careful planning critical.

Why adjusted taxable income matters

Adjusted taxable income (ATI) is the cornerstone of the §163(j) calculation. ATI begins with taxable income calculated without the interest limitation and is adjusted for specific items such as business interest expense and net operating losses. Don’t forget to adjust for depreciation also. Recent changes under the One Big Beautiful Bill Act (OBBBA) make ATI more favorable for many taxpayers.

Post-2024 ATI addback rules

For tax years beginning after Dec. 31, 2024, depreciation, amortization and depletion are added back when calculating ATI. This increases ATI and often allows businesses to deduct more interest expense.

What happens to disallowed interest expense?

When business interest expense exceeds the §163(j) limitation, the excess is carried forward indefinitely. Form 8990, Limitation on Business Interest Expense Under Section 163(j), is used to calculate the amount that can be deduced and what can be carried forward.

Example:

A taxpayer deducted $25,000 of disallowed interest expense in 2025. In 2026, a higher adjusted taxable income allows an additional $40,000 of interest to be deducted. The taxpayer may deduct the full $25,000 carryforward, assuming no other limitations apply. Tracking these carryforwards accurately is critical for both compliance and long-term tax planning.

Special rules for partnerships and S corporations

Section 163(j) applies differently depending on entity type, which is especially important for pass-through businesses.

Partnerships

The limitation is applied at the partnership level. Disallowed interest becomes excess business interest expense and is allocated to partners. Partners may deduct this amount only when the partnership generates excess taxable income or excess business interest income in a future year.

Example:

A partner receives an allocation of $10,000 in excess business interest expense. The partner cannot deduct it until the partnership produces sufficient excess income.

S corporations

For S corporations, the limitation is applied at the corporate level. Disallowed interest expense is carried forward by the corporation and does not pass through to shareholders.

Temporary relief and legislative updates

The IRS fact sheet also highlights temporary relief measures that continue to affect certain taxpayers.

CARES Act provisions

For tax years beginning in 2019 and 2020, taxpayers could apply a 50% adjusted taxable income limitation or elect to use 2019 ATI to calculate the 2020 limitation. These provisions offered critical relief for businesses affected by economic disruptions.

Key compliance and planning tips

To effectively manage §163(j), tax professionals should review gross receipts annually to confirm exemption eligibility, evaluate the long-term impact of elections for excepted trades or businesses, track interest expense carryforwards carefully and complete Form 8990 accurately. Because the business interest expense limitation directly affects cash flow and financing decisions, proactive planning can create meaningful tax savings.

Final thoughts

IRS Fact Sheet FS-2025-09 offers clear guidance on one of the most significant limitations affecting business deductions today. Understanding how §163(j) works and how recent law changes affect adjusted taxable income allows tax professionals to avoid costly errors. For businesses with debt financing or growth strategies that rely on borrowing, mastering the business interest expense limitation is no longer optional. It is a critical part of modern tax compliance and planning.