What Is Business Interest Expense? Section 163(j) Limits and Form 8990

Business interest expense is the interest a company pays on money it borrows for its trade or business: loan interest, line-of-credit charges, business credit card interest, and similar financing costs. Federal tax law generally lets you deduct all of it, but a provision known as Section 163(j) caps the annual deduction for larger companies using a formula tied to income. For the 2026 tax year, if your average annual gross receipts over the prior three years are $32 million or less, you are exempt from the cap and can deduct the full amount.¹ Above that threshold, part of your interest deduction may be pushed into future years.

What Counts as Business Interest

Business interest is what you pay a lender for the use of borrowed money, when the borrowing is tied to a business purpose: operations, equipment, real estate, inventory, or another revenue-generating activity. The Internal Revenue Code allows a deduction for all interest paid or accrued during the tax year on qualifying business debt.² The IRS reads “interest” broadly, covering any amount paid as compensation for the use of money under an arrangement treated as a debt instrument.³

Timing depends on your accounting method. Accrual-basis taxpayers recognize the expense in the period it accrues, even if the check hasn’t gone out. Cash-basis taxpayers recognize it when they actually pay.

A personal loan that happens to pass through a business account does not qualify. The debt itself has to serve the business.

Common Sources of Deductible Business Interest

Several kinds of financing produce interest a business can normally deduct:

Commercial mortgages on offices, warehouses, retail space, and other business real estate.
Term loans used to buy equipment, machinery, vehicles, or technology.
Revolving lines of credit drawn on for inventory or short-term cash needs.
Business credit cards used exclusively for business purchases.
Floor plan financing — loans dealers take out to hold motor vehicles, trailers, or campers as inventory, secured by that inventory.³

Floor plan financing sits in its own category under the deduction rules below. It is fully deductible and is not subject to the income-based cap that applies to other business interest.

The Section 163(j) Deduction Cap

Section 163(j) limits how much business interest a larger company can deduct in a single tax year. The deductible amount cannot exceed the sum of three items: your business interest income, plus 30 percent of your adjusted taxable income (ATI), plus any floor plan financing interest.³ Anything over that ceiling isn’t gone; it carries forward indefinitely and can be deducted in a later year when the business has enough income headroom to absorb it.

The Small Business Exemption

Most small companies don’t have to run this calculation. If your business is not a tax shelter and your average annual gross receipts over the prior three tax years are at or below the inflation-adjusted threshold tied to Section 448(c), you are exempt from the Section 163(j) limitation.⁴ For the 2026 tax year, that threshold is $32 million.¹ Fall under it, and you deduct all of your business interest.

If you operate through several related entities, you have to aggregate their gross receipts when applying this test. Splitting operations across multiple entities to stay beneath the threshold doesn’t work.

How Adjusted Taxable Income Changed for 2026

ATI starts with taxable income and then requires adjustments: adding back items like business interest expense, net operating losses, and the Section 199A qualified business income deduction, then subtracting business interest income and floor plan financing interest.

One change matters for capital-intensive companies. For tax years beginning after December 31, 2024, depreciation, amortization, and depletion are again added back when computing ATI.³ From 2022 through 2024 those deductions were not added back, which shrank ATI and tightened many companies’ interest deduction. With the add-back restored for 2025 and 2026, ATI, and the resulting interest cap, will run higher for businesses with significant depreciation.

The Indefinite Carryforward

Business interest that exceeds the annual cap carries forward to future years with no expiration. You use it in a later year when income rises, debt falls, or both. There is no carryback option. Track the balance year to year, because unused amounts keep accumulating until you have enough capacity to absorb them.

Businesses Exempt From the Cap

Certain trades or businesses fall outside Section 163(j) entirely and can deduct all of their business interest regardless of income:

Services performed as an employee.
Electing real property trades or businesses — development, construction, rental, management, leasing, and brokerage operations that file an election.
Electing farming businesses.
Certain regulated utilities whose rates are set by a public utility commission.³

The Depreciation Trade-Off

Real estate and farming operations don’t get the exemption automatically. They have to elect it by attaching a statement to a timely filed federal return, extensions included. Once made, the election is irrevocable and applies to all later years.⁵

The cost of electing out is slower depreciation. Electing businesses must use the longer alternative depreciation system (ADS) recovery periods for certain property and cannot claim bonus depreciation on it. For a real property trade or business, the affected property is nonresidential real property, residential rental property, and qualified improvement property. For farming businesses, it’s any property with a recovery period of 10 years or more.³ Before locking in the election, model both scenarios: limited interest now versus slower cost recovery on capital assets for the life of the business.

Pass-Through Entities

Partnerships and S corporations apply the Section 163(j) limitation at the entity level, using their own income figures.³ Interest the entity can’t deduct is allocated out to the partners or shareholders as excess business interest expense, which they carry forward personally and can use in later years only when the same entity allocates them enough excess taxable income or excess business interest income to absorb it.

Interest That Isn’t Deductible as Business Interest

Several kinds of interest are off-limits, even when paid from a business account.

Personal Interest

The tax code denies a deduction for personal interest. If a business owner runs personal mortgage interest, personal credit card interest, or a personal car loan through the company, none of it is deductible as a business expense.² Clean separation of accounts is the easiest defense.

Interest on Debt Used to Earn Tax-Exempt Income

Interest on money you borrowed to buy tax-exempt securities such as municipal bonds is not deductible.² You don’t get to write off the cost of producing income the tax code has already excused from tax.

Investment Interest

Interest on borrowing used to buy portfolio assets — stocks, bonds, and similar investment holdings — is investment interest rather than business interest. It’s deductible only up to net investment income for the year, and individuals report it on Form 4952 instead of as a business expense.⁶ Businesses that hold both operating assets and investment portfolios need to allocate loan proceeds carefully to avoid reclassification.

Interest Owed to a Related Party

When an accrual-basis business owes interest to a related cash-basis party — for example, a majority shareholder who lent the company money — the deduction is delayed until the year the interest is actually paid and the related party reports it as income.⁷ “Related” includes anyone owning more than 50 percent of the company’s stock, with ownership attributed through family and other entities.

When Interest Must Be Capitalized Instead

Some business interest is not deducted currently at all. Under Section 263A, the uniform capitalization (UNICAP) rules, interest tied to producing certain long-lived assets has to be added to the asset’s cost basis and recovered through depreciation over its useful life.

Capitalization applies to what the IRS calls “designated property”:

All real property you produce, including buildings, improvements, and infrastructure.
Tangible personal property with a depreciable class life of 20 years or more.
Property with an estimated production period longer than two years.
Property with a production period longer than one year and estimated production costs above $1 million.⁸

A de minimis exception excludes property with a production period of 90 days or fewer that stays below a daily cost threshold. Capitalization begins when physical production starts (for real property) or when accumulated costs reach 5 percent of estimated total production costs (for personal property), and continues until the asset is placed in service or ready for sale.⁹ If you construct your own buildings, manufacture large equipment, or age products like wine or whiskey, expect the interest deduction on that project to be spread over years rather than taken up front.

Filing Form 8990

If Section 163(j) applies to you, file Form 8990 with your federal return to show the calculation. Pass-through entities that allocate excess taxable income or excess business interest income to their owners have to file the form too, even when the entity has no interest expense of its own.¹⁰ Small business taxpayers who meet the gross receipts exemption and have no excess business interest expense flowing through from a partnership don’t need to file. Businesses operating solely in an excepted trade or business, such as an electing real estate company or a regulated utility, are also excused.

1
IRS.gov. Rev. Proc. 2025-32
2
Office of the Law Revision Counsel. 26 USC 163 – Interest
3
Internal Revenue Service. Questions and Answers About the Limitation on the Deduction for Business Interest Expense
4
Internal Revenue Service. FAQs Regarding the Aggregation Rules Under Section 448(c)(2) That Apply to the Section 163(j) Small Business Exemption
5
eCFR. 26 CFR 1.163(j)-9 – Elections for Excepted Trades or Businesses; Safe Harbor for Certain REITs
6
Internal Revenue Service. Form 4952 – Investment Interest Expense Deduction
7
Office of the Law Revision Counsel. 26 U.S. Code 267 – Losses, Expenses, and Interest With Respect to Transactions Between Related Taxpayers
8
Internal Revenue Service. Interest Capitalization for Self-Constructed Assets
9
eCFR. 26 CFR 1.263A-12 – Production Period
10
Internal Revenue Service. Instructions for Form 8990