The Business Interest Deduction Just Got More Generous

This is a technical change that produces a very practical result: if your business carries debt and owns equipment, you can probably deduct more interest than you could last year.

The background

Section 163(j) limits how much business interest expense a company can deduct in a year. The cap is generally 30% of adjusted taxable income, plus business interest income, plus floor plan financing interest for certain vehicle dealers.

The question that determines everything is how you calculate adjusted taxable income.

From 2018 through 2021, ATI was computed on something close to an EBITDA basis — earnings before interest, taxes, depreciation, and amortization. Depreciation and amortization were added back, which produced a larger ATI and therefore a larger interest deduction.

Starting in 2022, that changed to an EBIT basis. Depreciation and amortization were no longer added back. For businesses with significant depreciable assets, ATI dropped sharply, and so did the amount of interest they could deduct. A manufacturer or trucking company with heavy equipment could find a meaningful portion of its interest expense disallowed.

The One Big Beautiful Bill Act restored the EBITDA calculation. Depreciation, amortization, and depletion are added back again when computing ATI.

Why the effect is larger than it sounds

Consider a business with $1.2 million of operating income before interest and $700,000 of depreciation.

Under the EBIT method, ATI is $1.2 million and the interest cap is 30% of that, or $360,000. Under the EBITDA method, the $700,000 of depreciation is added back. ATI becomes $1.9 million and the cap becomes $570,000.

That's $210,000 of additional deductible interest from a calculation change alone, with no change to the underlying business.

There's a compounding effect worth noting. Because 100% bonus depreciation is now permanent, businesses are taking much larger depreciation deductions than they were a few years ago. Under the EBIT rules, aggressive depreciation actively shrank the interest deduction — the two provisions worked against each other. Under the restored EBITDA rules, they no longer conflict.

Who is exempt entirely

Many small businesses never hit this limitation at all. There's a small business exemption based on average annual gross receipts over the prior three years, indexed for inflation. Businesses under that threshold are not subject to Section 163(j) and can deduct business interest without this limit.

Certain real property trades or businesses and farming businesses can also elect out of the limitation, though the election comes with a cost: electing businesses must use slower depreciation methods on certain property and give up bonus depreciation on those assets. That trade was often worth it under the EBIT rules. Now that the EBITDA calculation is back, some businesses that elected out should revisit whether the election still makes sense. The election is generally irrevocable, so this is a decision to think through carefully rather than reverse casually.

Disallowed interest doesn't vanish

Interest disallowed under Section 163(j) carries forward indefinitely and can be deducted in a future year when there's capacity. If your business has carryforwards from the EBIT years, the restored EBITDA calculation may create room to use them. That's worth checking — carryforwards sitting on a schedule that nobody has revisited are easy to overlook.

For partnerships and S corporations, the limitation applies at the entity level and excess amounts pass through to owners under specific rules. The mechanics differ between the two entity types in ways that matter.

What to look at

The IRS has continued to update its guidance on this provision, most recently refreshing its frequently asked questions in August 2026, so the interpretive details are still moving.

Practical questions worth raising:

Did your business have disallowed interest in 2022 through 2025? If so, there may be carryforwards available now.

If you elected out of Section 163(j) as a real property or farming business, does that election still produce the better result under the restored calculation?

If you're evaluating debt-financed equipment purchases, the interest deduction math has improved and may change what the financing actually costs after tax.

This article is general information, not tax advice for your specific situation. Tax rules change and apply differently depending on facts we may not know about your business. Please talk with us before acting on anything here.