Business Interest Expense Deduction Limit for 2026: $32M

By Adham Abadier, CPA — Licensed in California, License #158599 | Updated September 2026

At Catalyst CPA Corporation, business interest expense deduction limit analysis under section 163(j) is built into year-round tax planning services in Moreno Valley and across the Inland Empire, because interest deductibility interacts with depreciation elections, entity structure, and gross-receipts timing — decisions that are difficult to unwind after year-end.

The business interest expense deduction is generally limited to the sum of your business interest income, 30% of adjusted taxable income, and floor plan financing interest. Businesses averaging $32 million or less in gross receipts over the prior three years are exempt for 2026. Updated IRS FAQs and Revenue Procedure 2026-17 now address when real property and farming elections can be withdrawn.

⚠️ Oct. 15 extended-filing deadline — date reminder

Calendar-year Form 1040 individual returns, C-corporation Form 1120 returns, and FBAR filings on extension are due Oct. 15, 2026. Late individual filings generally carry penalties of 5% per month, up to 25%, under IRC §6651(a)(1) (IRS).

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Key Takeaways

• The limit has three parts. Deductible business interest cannot exceed the sum of business interest income, 30% of adjusted taxable income (ATI), and floor plan financing interest expense.
• The 2026 exemption threshold is $32 million. Businesses that are not tax shelters and average $32 million or less in annual gross receipts over the prior three years are exempt for 2026 — up from $31 million (2025) and $30 million (2024).
• Fresh guidance is out. IRS Fact Sheet FS-2026-14 (Aug. 19, 2026, announced in IR-2026-94) supersedes FS-2025-09 and addresses the One, Big, Beautiful Bill Act (P.L. 119-21) changes and clarifications to section 163(j).
• Elections carry a depreciation cost. Electing real property and farming businesses must use the alternative depreciation system (ADS) for listed assets and lose section 168(k) bonus depreciation — but FS-2026-14 points to Revenue Procedure 2026-17 for circumstances where an election may be withdrawn.
• Form 8990 does the math. Interest expense is first categorized under Temp. Reg. §1.163-8T; Form 8990 then computes the deductible amount and the carryforward.
• Reliance protection applies. Taxpayers who reasonably and in good faith rely on the FAQs avoid penalties that provide a reasonable-cause standard (including negligence and accuracy-related penalties) to the extent reliance causes an underpayment.

Business Interest Expense Deduction: How the Three-Part Limit Works

The Business Interest Expense Deduction Formula

If the section 163(j) limitation applies, the deduction allowed for the year cannot exceed the sum of: (1) the taxpayer’s business interest income, (2) 30% of adjusted taxable income, and (3) floor plan financing interest expense — interest on debt used to finance certain motor vehicles held for sale or lease, a component most relevant to vehicle dealers (IRS FS-2026-14; Morgan Lewis). Disallowed amounts are not lost: Form 8990 is used to figure both the deductible amount and the amount carried forward to the next year (Form 8990 instructions).

Only “business interest” is subject to the limit

Before the limitation is computed, current-year interest expense must be categorized under Temporary Regulations section 1.163-8T — for example, as investment interest, personal interest, or business interest. Only business interest expense is subject to section 163(j). For pass-through entities, proposed regulations under section 1.163-14 address allocating interest associated with debt proceeds, and the regulatory framework runs through Regulations sections 1.163(j)-1 through 1.163(j)-11 (Form 8990 instructions; REG-107911-18).

A Simplified Business Interest Expense Deduction Example

Assume a calendar-year S corporation has adjusted taxable income of $2,000,000, no business interest income, and no floor plan debt. Its ceiling is 30% × $2,000,000 = $600,000. If the company accrues $750,000 of business interest expense, $150,000 is disallowed for the year and carries forward, deductible in a later year subject to that year’s limit. This example is illustrative — the authoritative computation mechanics are in the Form 8990 instructions (Rev. December 2025).

How we got here

Before the 2017 Tax Cuts and Jobs Act, section 163(j) applied only to certain interest paid or accrued by corporations. The TCJA significantly changed it, the CARES Act amended it on March 27, 2020, and Treasury issued final regulations in September 2020 and January 2021 (Treasury Decisions 9905 and 9943). Most recently, the One, Big, Beautiful Bill (P.L. 119-21) made changes and clarifications to section 163(j) — the focus of the new Topic D in FS-2026-14, which distinguishes substantive changes in law from clarifications of existing law (IRS FS-2026-14).

Stuck between an old real-property election and today’s bonus depreciation rules? The ADS and no-bonus consequences of a section 163(j) election are normally permanent — unless a withdrawal path applies, and the math flips business by business. Have Adham Abadier, CPA review your election history, gross receipts test, and carryforward schedule before your next filing.
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The 2026 Business Interest Expense Deduction Exemption: The $32 Million Gross Receipts Test

As of September 2026, the operative IRS guidance is Fact Sheet FS-2026-14, current as of Aug. 19, 2026. A business generally qualifies as an “exempt small business” when it is not a tax shelter (as defined in section 448(d)(3)) and has average annual gross receipts at or below the inflation-adjusted threshold over the previous three tax years (irs.gov):

Tax year	Inflation-adjusted gross receipts threshold (prior 3-year average)
2024	$30 million
2025	$31 million
2026	$32 million

Thresholds per IRS FS-2026-14, Topic A, Q3 (irs.gov).

Crossing the threshold works both ways

Consider a Riverside County distributor whose 2022–2024 average annual gross receipts exceeded $31 million, subjecting it to the limitation for 2025 and forcing part of its interest to carry forward. If its 2023–2025 average comes in below the $32 million threshold, the limitation does not apply to 2026 at all — and under the mechanics described in FS-2026-14, both the carried-forward interest and the current-year interest escape the limitation that year, so no section 163(j) computation is required.

Borderline? Protective elections exist

An exempt small business is permitted to elect out as an excepted trade or business even though it is not otherwise subject to the limitation. Per FS-2026-14, this protective election is designed for taxpayers unsure whether they qualify for the gross receipts test, sparing them from applying the three-year test for the prior taxable years (irs.gov).

Electing Out: Real Property, Farming, and Utility Businesses

Who is excepted from the limitation

Four categories fall outside the limitation: the trade or business of providing services as an employee; certain real property trades or businesses that elect out; certain farming businesses that elect out; and certain regulated utility trades or businesses (IRS FS-2026-14).

How the Section 163(j) election is made

Under Treas. Reg. §1.163(j)-9, the election is made by attaching a statement to a timely filed federal income tax return — including extensions — for the election year. See Revenue Procedures 2018-59, 2021-09, and 2026-17 for real property trades or businesses, and Revenue Procedures 2019-08, 2021-09, and 2026-17 for farming businesses. The statement must include:

1. The taxpayer’s name, address, and Social Security number or employer identification number;
2. A description of the electing trade or business, including the principal business activity code; and
3. A statement that the taxpayer is electing as a real property trade or business (section 163(j)(7)(B)) or as a farming business (section 163(j)(7)(C)), as applicable.

The ADS trade-off

Electing out has a real cost. An electing real property trade or business must depreciate its nonresidential real property, residential rental property, and qualified improvement property under the alternative depreciation system (ADS), and those assets are ineligible for section 168(k) bonus depreciation. An electing farming business must use ADS for any property with a recovery period of 10 years or more, with the same bonus depreciation ineligibility (IRS FS-2026-14).

Can an election be undone?

Once made, an election is generally irrevocable and binding on the trade or business for all succeeding years, though Treas. Reg. §1.163(j)-9 describes certain circumstances where an election terminates. FS-2026-14, updated Aug. 19, 2026, also refers taxpayers to Revenue Procedure 2026-17 for certain circumstances where an election may be withdrawn (irs.gov). If your entity elected out in an earlier year and the ADS consequences now outweigh the interest benefit, that revenue procedure is the first place your CPA should look.

Business Interest Expense Carryforwards: Partnerships and S Corporations

The limitation reaches corporate and noncorporate taxpayers alike, so pass-through entities and their owners both live with it. At the partner level, Treas. Reg. §1.163(j)-6(h) creates a separate section 704(d) loss class for business interest expense, composed of deductible business interest, business interest expense of an exempt entity, current-year excess business interest expense (EBIE), and prior-year EBIE suspended under section 704(d). Layered on top of partner basis rules, this makes partner-level tracking its own exercise (IRS FAQs; Form 8990 instructions).

Frequently Asked Questions

What is the business interest expense deduction limit for 2026?

For taxpayers subject to section 163(j), the deduction is capped at the sum of business interest income, 30% of adjusted taxable income, and floor plan financing interest expense (IRS FS-2026-14). Businesses that are not tax shelters and average $32 million or less in gross receipts over the prior three years are exempt for 2026. Disallowed interest carries forward via Form 8990.

Who qualifies as an exempt small business under the section 163(j) rules?

A business generally qualifies when it is not a tax shelter under section 448(d)(3) and has average annual gross receipts of $32 million or less for 2026, measured over the previous three tax years. The threshold is adjusted annually for inflation. Certain electing and excepted trades or businesses are also outside the limitation.

What changed in the IRS’s August 2026 business interest FAQs?

FS-2026-14 (Aug. 19, 2026, announced in IR-2026-94) supersedes FS-2025-09 from Dec. 23, 2025. It incorporates the TCJA and One, Big, Beautiful Bill Act amendments, deletes CARES Act questions that no longer apply, and adds a topic distinguishing OBBBA’s substantive changes from clarifications of existing law.

What are the consequences of electing out as a real property trade or business?

Nonresidential real property, residential rental property, and qualified improvement property must be depreciated under ADS and become ineligible for section 168(k) bonus depreciation. The election is made on a statement attached to a timely filed return, including extensions, and is generally irrevocable.

Can I withdraw an earlier section 163(j) election?

Generally no — elections are irrevocable and binding for succeeding years under Treas. Reg. §1.163(j)-9. However, FS-2026-14 points to Revenue Procedure 2026-17 for certain circumstances where an election may be withdrawn. Confirm eligibility with your CPA before assuming relief applies.

Can I rely on the IRS FAQs if my return is examined?

The FAQs are not published in the Internal Revenue Bulletin, and the IRS will not rely on them to resolve a case. But a taxpayer who reasonably and in good faith relies on them is not subject to penalties that provide a reasonable-cause standard — including negligence or accuracy-related penalties — to the extent reliance results in an underpayment. FS-2026-14 is current as of Aug. 19, 2026.

How does the limitation affect partners in a partnership?

Partners track business interest in a separate section 704(d) loss class that includes current-year and prior-year excess business interest expense. Because suspension depends on partner-level basis, the tracking occurs at the partner level — see the section 163(j) FAQs and the Form 8990 instructions.

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Free Tax Optimization Audit

In a 30-minute call, Adham Abadier, CPA reviews your section 163(j) posture: whether the gross receipts exemption covers you, what any real property or farming election is costing in ADS depreciation, where your Form 8990 carryforwards stand, and which 2026 moves make sense before your next filing.

Book Your Free Diagnostic →

Interest deductibility, depreciation elections, and the gross receipts test interact in ways that reward early planning — and punish after-the-fact fixes. Catalyst CPA Corporation provides proactive tax planning for Inland Empire businesses from our Moreno Valley office, serving Riverside, Corona, Eastvale, Murrieta, Temecula, Ontario, San Bernardino, Fontana, and Orange County, with remote service nationwide.

Call (951) 223-1826 or email adham@catalyst-cpa.com. Adham Abadier, CPA (California License #158599; QuickBooks Gold ProAdvisor; AICPA and CalCPA member) will review your numbers with you — before the deadline decides for you.