Business Interest Deduction Limit for Construction Companies: How Section 163(j) Works?
Under IRS guidance, the business interest deduction limit in Section 163(j) caps deductible business interest expense at the sum of business interest income, 30 percent of adjusted taxable income, and floor plan financing interest expense. A small business that is not a tax shelter and meets the gross receipts test is not subject to the limit, and the IRS lists the threshold as $31 million for 2025 and $32 million for 2026.
Tax Wealth Consultant (TWC) prepared this article for construction company owners in Irvine and Orange County who borrow to buy equipment or finance projects. It covers federal rules only, and it does not address California interest deduction rules.
What the Business Interest Deduction Limit Is?
The business interest deduction limit is found in Section 163(j) of the Internal Revenue Code. According to the IRS, the amount of deductible business interest expense in a taxable year cannot exceed the sum of three amounts: business interest income, 30 percent of the taxpayer's adjusted taxable income, and floor plan financing interest expense.
For a construction company that borrows to buy equipment, finance projects, or manage cash flow, Section 163(j) is the rule that can limit how much of that interest is deductible in a given year. The IRS addresses it in its Questions and Answers on the limitation (FS-2026-14) and in the Instructions for Form 8990. The 163(j) limitation for contractors is therefore a cash-flow and tax-planning topic, not only a tax-return topic.
How the 30 Percent Limit Is Calculated?
The IRS describes adjusted taxable income as taxable income computed as if Section 163(j) did not limit interest, then adjusted by certain additions and subtractions. The business interest expense limitation applies the 30 percent figure to that adjusted taxable income and then adds business interest income and floor plan financing interest expense.
Because adjusted taxable income starts from the business's own taxable income, the limit can differ from year to year for a construction company. Accurate profit and loss records are the starting point for working out where a company stands under Section 163(j). A construction company interest deduction in any year therefore depends on that year's results.
Small Business Exemption: The Gross Receipts Test
Many smaller contractors may not be subject to the limit. According to the IRS, a small business that is not a tax shelter and meets the gross receipts test is not subject to Section 163(j) and generally does not file Form 8990. The small business exemption 163(j) test is met when average annual gross receipts for the three prior tax years do not exceed the threshold.
The IRS Questions and Answers (FS-2026-14) list the threshold as $31 million for 2025 and $32 million for 2026. The Instructions for Form 8990 state $31 million or less for tax years beginning in 2025, and note that the amount may be adjusted for inflation. The IRS excludes tax shelters from the exemption.
Whether a particular company meets the small business exemption 163(j) test depends on its own gross receipts and its structure, so a contractor should confirm the numbers with its tax professional before deciding that the limit does not apply. The 163(j) limitation for contractors does not apply to a business that meets the test and is not a tax shelter.
Adjusted Taxable Income After the 2025 Law
The IRS states that Public Law 119-21, the One Big Beautiful Bill Act, restored the add-back of depreciation, amortization, and depletion in computing adjusted taxable income for tax years beginning after December 31, 2024. Line 11 of Form 8990 was revised to reflect this change, according to the Form 8990 instructions.
For a construction company with significant equipment depreciation, this change affects how adjusted taxable income is figured and therefore how much interest the limit allows. The business interest expense limitation is sensitive to how depreciation is treated in the calculation. The IRS also states that the law clarified how Section 163(j) applies to interest that is capitalized, except for interest capitalized under Sections 263(g) or 263A(f).
Interest on Equipment Loans and Lines of Credit
Contractors often finance trucks, machinery, and tools with loans, and use lines of credit to cover project costs. Deducting interest on equipment loans is part of what Section 163(j) can limit when the interest is business interest expense. The IRS describes the limit as applying to business interest expense; whether a particular loan or line of credit produces business interest expense depends on how the borrowed money is used. A construction company interest deduction for financed equipment is subject to the same rule.
Because deducting interest on equipment loans depends on how each loan is used, loan statements should be recorded by loan, with the interest shown separately from principal. The IRS also describes floor plan financing interest expense as an additional amount in the formula, and states that the 2025 law expanded the floor plan motor vehicle definition to include certain towable trailers and campers.
Review Your Loan and Interest Records
Tax Wealth Consultant (TWC) provides bookkeeping and tax-planning services for construction businesses in Irvine and Orange County. Schedule a consultation to review how your loan, interest, and project records are organized.
taxwealthconsultant.com | (949) 409-8335
Disallowed Interest Carryforward
The IRS states that business interest expense that is not allowed in the current year is carried forward to the following year as a disallowed business interest expense carryforward. The Questions and Answers add that the carryforward may be limited in later years if the limitation still applies, and that partnerships and S corporations have special rules.
A company that carries interest forward needs records that show how much interest was disallowed and in which year. For construction companies that have lumpy years, a business interest expense limitation in one year can affect the next, so the carryforward amount should be tracked as part of year-end work.
Partnerships, S Corporations, and Special Rules
According to the Instructions for Form 8990, a partnership's disallowed amount is not carried forward at the entity level. Instead, it is allocated to the partners as excess business interest expense. A pass-through entity that allocates excess taxable income or excess business interest income to its owners must file Form 8990 even if it has no interest expense.
Many construction companies operate as partnerships or S corporations, so the owner-level effect of the business interest deduction limit should be reviewed with the company's tax professional, since the 163(j) limitation for contractors that operate through partnerships is allocated to the owners. The IRS pages reviewed here describe special rules for partnerships and S corporations without detailing every owner-level result.
Elections for Real Property and Farming Businesses
The Instructions for Form 8990 state that a real property trade or business described in Section 469(c)(7) may elect not to be subject to the limit, and that farming businesses and certain agricultural cooperatives may make a similar election. The IRS states that the election is irrevocable and that an electing business must generally use the alternative depreciation system for certain property.
Whether a contractor's activity is a real property trade or business described in Section 469(c)(7) is a question to review with a tax professional. Because the election affects depreciation, a company should consider its equipment and property records before electing under Section 163(j).
Form 8990: Who Must File?
The Instructions for Form 8990 (revised 12/2025) state that a taxpayer with business interest expense, a disallowed business interest expense carryforward, or current or prior year excess business interest expense must generally file Form 8990, unless an exclusion from filing applies. A small business taxpayer that meets the gross receipts test generally does not file Form 8990.
Form 8990 is where the limit is computed. A company that is not sure whether it must file should review the instructions and its own numbers, including adjusted taxable income, interest expense, and any carryforward, with a tax professional.
Records Contractors Should Keep for Interest Deductions
The inputs to Section 163(j) come from the books: gross receipts, taxable income, depreciation, and interest expense by loan. A contractor that keeps loan statements, interest schedules, depreciation records, and annual gross receipts together is better prepared to answer whether the business interest deduction limit applies.
For construction companies, a clean year-end file for each loan and each piece of financed equipment can show what was borrowed, what was paid, and how much was interest, which keeps each construction company interest deduction supported. These records also support the equipment and depreciation questions that sit alongside the interest limit.
Why Construction Bookkeeping Supports Interest Tracking?
Accurate bookkeeping makes it possible to separate interest from principal, tie each loan to the equipment or project it financed, and show annual gross receipts. Construction tax planning is more effective when those records are current throughout the year rather than rebuilt at filing time.
Construction tax planning can also include reviewing whether the small business exemption 163(j) applies before year-end, how financed equipment will affect adjusted taxable income, and what a carryforward would mean for later years. Whether the limit affects a specific company depends on its facts, and business interest expense limitation questions are easier to answer with current records.
Tax Wealth Consultant (TWC) offers construction bookkeeping services. For related equipment topics, see the TWC article on construction equipment depreciation, bonus depreciation, and Section 179. More articles are available at Tax Wealth Consultations.
Next Steps for Contractors in Irvine and Orange County
Construction companies in Irvine and Orange County that finance equipment or carry large balances should confirm each year whether they meet the gross receipts test and how their interest expense is recorded. A tax advisor can help evaluate how Section 163(j) applies to specific facts, and TWC can review how a company's books show its loans, interest, and equipment. Construction tax planning should include this review before year-end.
Talk With Tax Wealth Consultant
Tax Wealth Consultant (TWC) provides bookkeeping and tax-planning services for construction businesses in Irvine and Orange County. Schedule a consultation to review how your loan, interest, and project records are organized.
taxwealthconsultant.com | (949) 409-8335
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