The Section 163(j) Business Interest Expense Limitation: Who It Affects and How to Plan Around It

If your business carries debt—whether a line of credit, equipment loans, commercial real estate financing, or acquisition debt—you may be affected by the Section 163(j) limitation on the business interest expense deduction. Before 2018, interest on legitimate business debt was generally fully deductible. The Tax Cuts and Jobs Act capped that deduction for larger businesses and introduced a formula that limits deductible interest based on a percentage of a metric called Adjusted Taxable Income. Understanding this limitation matters for any business making borrowing decisions or modeling its actual after-tax cost of debt.

What Section 163(j) Does

Under IRC §163(j), the amount of business interest expense that a taxpayer can deduct in any given year is limited to the sum of: business interest income for the year, 30% of Adjusted Taxable Income (ATI) for the year, and floor plan financing interest (relevant mainly for auto dealers and similar businesses). Business interest expense in excess of that limit is not permanently lost—it's carried forward indefinitely to future years as an excess business interest expense (EBIE). But it's not available in the year it was paid, which creates real cash-flow and planning implications.

What Is Adjusted Taxable Income?

Adjusted Taxable Income, or ATI, is not the same thing as regular taxable income. ATI starts with taxable income and then makes specific adjustments required under §163(j). Common additions include business interest expense, net operating loss deductions, the qualified business income deduction, and certain other items.

The treatment of depreciation, amortization, and depletion has changed over time. For tax years beginning before 2022, those deductions were generally added back, making ATI more like EBITDA. For tax years beginning after 2021 and before 2025, those deductions were generally not added back, making ATI more like EBIT.

OBBBA changed the calculation again. For tax years beginning after December 31, 2024, depreciation, amortization, and depletion are once again added back when calculating ATI. For many capital-intensive businesses, this can increase ATI and allow a larger business interest expense deduction than would have been allowed under the 2022–2024 calculation.

The Small Business Exemption

The good news for many small businesses is that §163(j) does not apply if the business qualifies for the small business exemption. In general, a business qualifies if it is not a tax shelter and meets the §448(c) gross receipts test.

For 2026, that threshold is $32 million, measured by average annual gross receipts for the three prior tax years. For 2025, the threshold was $31 million. The amount is adjusted annually for inflation.

If your business clearly falls below the threshold and no special rule applies, your business interest expense is generally not limited by §163(j). That is why this rule is usually more relevant for larger small businesses, businesses with significant debt, businesses approaching the gross receipts threshold, or businesses connected to other commonly controlled entities.

Aggregation Rules

Businesses under common control or commonly owned must aggregate gross receipts for purposes of the small business exemption. If you own multiple entities, the combined gross receipts determine whether the exemption applies—not each entity's individual receipts. A business owner with two separate S-Corps, each with $20 million in gross receipts, may be over the threshold when aggregated even though each entity individually qualifies.

The Real Estate Election

Real property businesses—rental real estate operations, real estate development, construction—have an irrevocable election to opt out of §163(j). If you make the election, all of your business interest expense is deductible without limitation. The trade-off: electing real property businesses must use the Alternative Depreciation System (ADS) for their qualifying real property, which has longer depreciation periods and is not eligible for bonus depreciation. For highly leveraged real estate businesses where the interest expense would be limited under 163(j), this trade-off often favors the election—but the depreciation impact needs to be modeled carefully.

Carryforward of Disallowed Interest

If §163(j) applies and limits your current-year business interest deduction, the disallowed amount is generally carried forward to a future year. It may become deductible later if the business has enough limitation capacity in a future year.

The tracking rules are more complicated for pass-through entities. For partnerships, disallowed business interest expense is generally allocated to partners as Excess Business Interest Expense, or EBIE, and tracked at the partner level. For S corporations, the limitation applies at the S corporation level, and disallowed business interest expense is generally carried forward by the S corporation.

This is one reason §163(j) should not be treated as a simple bookkeeping adjustment. It affects entity returns, owner reporting, K-1 disclosures, and future-year tax planning.

For most small businesses below the gross receipts threshold, §163(j) will not limit the interest deduction. But for businesses with higher revenue, significant debt, related entities, or real estate holdings, the limitation can change the real after-tax cost of borrowing. Before taking on major debt, refinancing, acquiring property, or making a real property trade or business election, the interest limitation should be modeled—not guessed.

This article is general federal tax education and not individualized tax advice. Section 163(j) is highly fact-specific, especially for pass-through entities, real estate businesses, related entities, and taxpayers with prior-year disallowed interest carryforwards.