- May 13, 2020
- Annemarie Aguanno
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Guidance on 163(j) Elections for Legislation, Farming, Real Property
The IRS has released guidance on making the following elections for the business interest deduction limitation:
- the election out of the 50 percent adjusted taxable income (ATI) limitation for tax years beginning in 2019 and 2020 under the Coronavirus Aid, Relief, and Economic Security (CARES) Act ( P.L. 116-136);
- the election to use the taxpayer’s ATI for the last tax year
beginning in 2019 to calculate the Code Sec. 163(j) limit for the 2020
tax year under the CARES Act; and
the election out of deducting 50 percent of excess business interest expense (EBIE) for the 2020 tax year without limitation under the CARES Act.
The guidance also provides transition relief to taxpayers making or revoking the election to be an electing real property trade or business or an electing farming trade or business under Code Sec. 163(j)(7).
Business Interest Limit
A taxpayer’s deduction of
business interest expenses paid or incurred for any tax year is
generally limited to the sum of business interest income, floor plan
financing interest, and 30 percent of ATI. The Code Sec.
163(j) limitation is generally increased from 30 percent to 50 percent
of a taxpayer’s ATI for any tax year beginning in 2019 and 2020 under
the CARES Act.
A taxpayer may elect not to have the increased limitation apply in 2019 or 2020. In addition, a taxpayer may elect for any tax year beginning in 2020 to use its ATI from the 2019 tax year to calculate its Code Sec. 163(j) limitation. The 50 percent ATI limitation does not apply to partnerships for the 2019 tax year. Instead, a partner treats 50 percent of its allocable share of a partnership’s EBIE for 2019 as an interest deduction in the partner’s 2020 tax year without limitation. The remaining 50 percent of such EBIE remains subject to the Code Sec. 163(j) limit applicable to EBIE carried forward at the partner level. A partner may elect out of the 50 percent EBIE rule.
Election Out of 50 Percent ATI
There is no formal
election or statement required to the make the election not to apply
the 50 percent ATI limit for the 2019 or 2020 tax year. The election is
made simply filing a federal income tax return (or Form 1065 in the case
of a partnership for 2020) by the due date for the return, including
extensions, using the 30 percent ATI limitation. The election may also
be made on an amended return or administrative adjustment request (AAR).
The election must be made for each tax year. For a partnership, the election is made by the partnership and not the partners. It is also made by the agent for a consolidated group and for an applicable controlled foreign corporation (CFC) by each controlling domestic shareholder. The taxpayer is granted consent from the IRS to revoke the election by merely filing an amended return and using the 50 percent limit.
Election to Use 2019 ATI in 2020
There is also no
formal election or statement required to the make the election to use
2019 ATI to use in the 2020 tax year. The election is made simply filing
a federal income tax return (or Form 1065) by the due date for the
return for the 2020 tax year, including extensions, using the taxpayer’s
2019 ATI. The 2019 ATI used for the calculation is pro rated if the
taxpayer’s 2020 tax year is a short tax year. The election may also be
made on an amended return or AAR.
For partnership, the election is made by the partnership and not the partners. It is also made by the agent for a consolidated group and for an applicable CFC by each controlling domestic shareholder. For a CFC group, the election is not effective for any group member unless made for every tax year of a CFC group member for which the election is available.
Election Out of 50 Percent EBIE Rule
There is
also no formal election or statement required by a partner in a
partnership to make the election out of the 50 percent EBIE rule. A
partner makes the election by filing its federal income tax return (or
Form 1065) by the due date for the return for the 2020 tax year,
including extensions, by not applying the 50 percent EBIE rule in
determining the Code Sec. 163(j) limitation. The election may also be
made on an amended return or AAR. The partner is granted consent from
the IRS to revoke the election by merely filing an amended return, Form
1065, or AAR applying the 50 percent EBIE rule.
Real Property and Farming
The Code Sec.
163(j) limit applies to all taxpayers with business interest except
small businesses with meet an average annual gross receipts test. It
also does not apply to certain excepted businesses including an electing
real property business and an electing farming business.
Under proposed regulations, a taxpayer must make an election for a real property trade or business, or farming business, with respect to each eligible trade business. The election is made by attaching a statement to the taxpayer’s timely filed original tax return (including extensions). A real property trade or business or farming business that elects out of the business interest deduction limit must depreciate certain property using alternative depreciation system (ADS).
In light of the legislative changes, a taxpayer may make the election
or revoke an election to be an electing real property trade or business
or an electing farming trade or business for the 2018, 2019, or 2020
tax year by filing an amended federal income tax return, amended Form
1065, or amended AAR. The return must include an election statement or
withdrawal statement, and any collateral adjustments to taxable income.
This include its depreciation of property affected by making a late
election or withdrawing the election. The amended federal income tax
return, Form 1065, or AAR generally must be filed by October 15, 2021.