How The ‘One Big Beautiful Act’ Changes The Business Interest Expense Limitation
The business interest expense limitation under Section 163(j)—originally introduced by the Tax Cuts and Jobs Act (TCJA) of 2017—has undergone major revisions under the newly enacted One Big Beautiful Bill Act (OBBBA).
Given the significant role of debt financing in real estate ventures, understanding and planning around these updates is essential to maximize tax efficiency. Below is an overview of how the OBBBA modifies Section 163(j), its implications for the real estate sector, and key planning opportunities.
Changes To The Business Interest Limitation Calculation
When first enacted, the TCJA capped deductible business interest expense at 30% of adjusted taxable income (ATI) plus business interest income. Under the original rules, ATI included an add-back for depreciation and amortization, closely mirroring EBITDA. However, beginning after December 31, 2021, depreciation and amortization were no longer added back—reducing the allowable deduction.
Depreciation and Amortization Add-Backs
The OBBBA reinstates and permanently allows the add-back of depreciation and amortization when computing ATI for tax years beginning after December 31, 2024. This favorable change will generally increase deductible interest for real estate businesses, where depreciation tends to be substantial. In today’s high interest rate environment, this provision provides meaningful relief.
Planning insight: Paired with the OBBBA’s permanent 100% bonus depreciation, the reinstated add-back allows businesses to benefit from accelerated depreciation deductions without sacrificing interest deductibility.
Elective Capitalization Adjustments
Starting in tax years after December 31, 2025, Section 163(j) must be applied before any elective capitalization (e.g., under Section 263A for self-constructed property). This change eliminates strategies that recharacterize or capitalize interest to avoid the limitation.
Planning insight: With the add-back of depreciation effective in 2025 but capitalization restrictions kicking in the following year, taxpayers may wish to maximize 2025 ATI through elective capitalization planning before this option is removed.
ATI Exclusions for Foreign-Related Income
Beginning in 2026, the OBBBA modifies the ATI definition to exclude certain foreign-related inclusions and gross-up amounts. This impacts businesses with controlled foreign corporations (CFCs) that incur interest expenses subject to Section 163(j).
Planning insight: Taxpayers with international structures should carefully evaluate these rules, as they could reduce the net benefit of the depreciation and amortization add-back.
Small Business Exception
Section 163(j) exempts small businesses from the limitation if their average annual gross receipts for the prior three years are below a specified threshold. The OBBBA raises this threshold from $30 million to $31 million for 2025, continuing inflation adjustments.
Planning insight: Determining eligibility for this exception can be complex due to aggregation rules under Section 448(c)(2) and restrictions for tax shelters under Section 448(a)(3). Businesses near the threshold should review annually and consult a tax advisor to ensure compliance.
Real Property Trade or Business (RPTB) Election
Qualified real estate businesses may elect out of Section 163(j) through a one-time, irrevocable RPTB election. This exempts them from the interest limitation but requires use of the alternative depreciation system (ADS), which disallows bonus depreciation on certain property. Given the OBBBA’s favorable ATI changes and the permanent 100% bonus depreciation, the benefits of making (or maintaining) an RPTB election may be diminished.
Planning insight: Existing RPTB elections remain irrevocable under the OBBBA. However, given prior IRS relief allowing revocations (e.g., under Rev. Proc. 2020-22 following the CARES Act), taxpayers should monitor for possible Treasury guidance that may reopen the election window.
Key Takeaway
The OBBBA introduces both favorable and restrictive changes to the business interest expense limitation. Real estate and capital-intensive businesses should reevaluate:
- Current and projected interest expense limitations,
- Timing of capital expenditures, and
- Whether maintaining or electing RPTB status remains advantageous.
Careful modeling and proactive planning can ensure these new rules are leveraged effectively to minimize tax exposure and optimize cash flow.
Source: Commercial Property Executive
