Hearing on Proposed Regulations for Limitation on Deduction for Business Interest Expense – Treasury and IRS Hear Targeted, Industry-Specific Requests

On February 27, 2019, the Department of the Treasury (Treasury) and the Internal Revenue Service (IRS) held a hearing on the proposed regulations for the section 163(j) limitation on deduction for business interest expense (the Proposed Regulations), which were released on November 28, 2018. Nine witnesses, including Eversheds Sutherland Partner Wes Sheumaker, provided a variety of comments and recommendations on the Proposed Regulations, including the following:

• The final regulations should give effect to the legislative history of the TCJA by clarifying that the electing real property trade or business (RPTB) exception is available to residential facilities for seniors.

• The RPTB anti-abuse rule of Prop. Treas. Reg. § 1.163(j)-9(h) should be omitted from the final regulations, given the separate, general anti-abuse rule in Prop. Reg. §1.163(j)-2(h). Alternatively, the RPTB anti-abuse rule should be modified to include a principal purpose of tax avoidance requirement and an exception for leases between two entities each of which is a RPTB and/or an aggregation rule that treats the lessor and lessee as a single aggregated entity.

• The definition of interest is too broad under the Proposed Regulations and should be restricted to what is generally treated as interest elsewhere in the Internal Revenue Code.

• Depreciation, amortization, or depletion capitalized into inventory under section 263A should be added back in a taxpayer’s calculation of adjusted taxable income (“ATI”), at least to the extent such amounts are recovered in the current year through cost of goods sold.

• Clarification should be provided as to whether certain rates charged by companies under the jurisdiction of FERC or other regulatory bodies qualify as a cost of service/rate of return basis to qualify a business as an excepted utility trade or business.

• Speakers noted that the use of asset basis to determine the extent to which a trade or business is an excepted trade or business for purposes of section 163(j) is a reasonable method, and that the limited use of a tracing of debt approach provided in the Proposed Regulations should not be expanded.

• Simplification of the average asset basis determination was urged, especially for trades or businesses with relatively stable asset bases.

• Excess business interest in a tiered partnership structure should be allocated to upper-tier partnerships rather than passed through.

• Clarification should be provided regarding the exception for floor plan financing, including (1) clarification of the interplay with the bonus depreciation rules of section 168(k) — specifically, it was requested that bonus depreciation should be disallowed only for taxpayers that actually deduct business interest expense, including floor plan financing interest, in an amount greater than 30% of their ATI, and (2) clarification of the treatment of trailers.

• Re-examination of whether tax shelters (as defined in section 448(a)(3)) should be ineligible for the small business exemption.

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