Iowa Administrative Code › Agency 701 - Revenue Department › Title IV - Individual Income Tax › Chapter 302 - Determination of Net Income › Rule 701-302.85 - Interest Expense Deduction Adjustments

Current through Register Vol. 47, No. 3, July 24, 2024
For tax years beginning on or after January 1, 2020, the
				  limit on the amount of business interest expense that a taxpayer may deduct in
				  a taxable year under Internal Revenue Code (IRC) Section 163(j) does not apply
				  for Iowa purposes. This rule provides information on how taxpayers must
				  calculate and report their business interest expense deduction for Iowa
				  purposes for tax year 2018 (subrule 40.85(2)), when Iowa did not conform to the
				  limitation; tax year 2019 (subrule 40.85(3)), when Iowa did conform to the
				  limitation; and tax years 2020 and later (subrule 40.85(4) et seq.), when Iowa
				  again does not conform to this limitation. All references to the Code of
				  Federal Regulations (Treas. Reg.) and certain other information in this rule
				  are based on final Internal Revenue Service (IRS) regulations and guidance in
				  effect on January 13, 2021.
(1)
Definitions.
The following terms apply to the interpretation
				and application of this rule.
"Current-year business interest expense"
means the same as defined in Treas. Reg. Section
				  1.163(j)
				  -1(b)(9).
"Excess business interest expense"
means the
				  same as defined in Treas. Reg. Section
				  1.163(j)
				  -1(b)(16).
"Iowa partnership"
means any partnership
				  required to file an Iowa return (IA 1065) for the relevant tax year.
"Iowa S corporation"
means any S corporation
				  required to file an Iowa return (IA 1120S) for the relevant tax year.
"Non-Iowa partnership"
means any partnership
				  that is not required to file an Iowa return (IA 1065) for the relevant tax
				  year.
"Non-Iowa S corporation"
means any S
				  corporation that is not required to file an Iowa return (IA 1120S) for the
				  relevant tax year.
(2)
Tax year 2018.
For tax years beginning on or after January 1,
				2018, but before January 1, 2019 (tax year 2018), Iowa conforms with the IRC in
				effect on January 1, 2015, meaning the 30 percent limitation on the business
				interest expense deduction first imposed by IRC Section 163(j) under
				Public Law
				115-97 (TCJA) does not apply for Iowa purposes.
a.
In general.
For tax year
				2018, Iowa taxpayers are permitted to deduct current-year business interest
				expense without regard to the limitations imposed by IRC Section 163(j) under
				the TCJA. The taxpayer's additional deduction is computed on the 2018
				Nonconformity Adjustments Worksheet. Taxpayers who qualify for these higher
				Iowa deductions in 2018 may need to make further adjustments in 2019 for
				amounts deducted under this subrule for Iowa purposes but disallowed and
				carried forward for federal purposes. See subrule 40.85(3) for more information
				about these 2019 adjustments.
b.
Special rules for partnerships and S corporations.
(1) Iowa partnerships and S corporations.
				Partnerships and S corporations required to file Iowa returns in tax year 2018
				are required to make adjustments for Iowa's nonconformity with IRC Section
				163(j) at the entity level, meaning they can deduct the full interest expense
				on the entity's own Iowa return and the reduction to the partner's or
				shareholder's share of the entity's income will be included in the all source
				modifications line of the partners' or shareholders' Iowa Schedules K-1.
EXAMPLE 1: P, a partnership doing business in Iowa, has
				  $100,000 in current-year business interest expense in 2018. For federal
				  purposes, $20,000 of that amount is disallowed under IRC Section 163(j). The
				  partnership deducts $80,000 at the entity level in 2018, and the remaining
				  disallowed $20,000 is allocated to the partners to be deducted in future years.
				  For Iowa purposes, the $80,000 of business interest expense allowed for federal
				  purposes is included in the partnership's non-separately stated ordinary
				  business income (loss), and the partnership will make an adjustment on the
				  entity's IA 1065 to deduct the $20,000 of current-year business interest
				  expense that was disallowed for federal purposes. The $20,000 additional Iowa
				  deduction will be reported to the partners as an all source modification on the
				  partners' IA 1065 Schedules K-1, and partners will receive the benefit of this
				  all source modification item when the partners report their Iowa partnership
				  income on their own Iowa tax return for the year. The partners will not be
				  permitted to make further Iowa adjustments on their own Iowa tax return for the
				  excess business interest expense amounts passed through to them from the
				  partnership for federal purposes.
(2) Owners of partnerships and S corporations
				with no entity-level 2018 Iowa filing requirement.
1. Non-Iowa partnerships. Iowa partners who
				received interest expense deductions from partnerships that were not required
				to file 2018 Iowa returns may claim the larger Iowa deduction for business
				interest expenses passed through from the partnership on the partner's own 2018
				Iowa return by including in the partner's Iowa deduction the amount of
				disallowed business interest expense deduction shown on the 2018 federal
				Schedule K-1 (Form 1065), line 13, code K, received from the non-Iowa
				partnership.
EXAMPLE 2: X is an Iowa resident and a partner in P2, an
				  out-of-state partnership with no business in Iowa and no Iowa filing
				  obligation. In 2018, P2 has $100,000 in current-year business interest expense
				  and is subject to the IRC Section 163(j) limitation for federal purposes. At
				  the entity level, P2 is permitted to deduct $80,000 on its 2018 federal
				  partnership return. The $20,000 in excess business interest expense is then
				  allocated to P2's partners. X is allocated $5,000 in excess business interest
				  expense from P2. Because P2 is not required to file an Iowa return, and
				  therefore X did not receive a 2018 IA 1065 Schedule K-1 from P2, X is permitted
				  to deduct the $5,000 allocated from P2 as current-year business interest
				  expense on X's 2018 Iowa income tax return.
2. Non-Iowa S corporations. Iowa shareholders
				of S corporations that have no Iowa filing requirement are limited to the
				deduction actually passed through to them on the federal Schedule K-1 received
				from the S corporation for Iowa purposes in tax year 2018. These shareholders
				are not permitted to make adjustments for interest expense disallowed at the
				entity level for the non-Iowa S corporation.
EXAMPLE 3: R is an Iowa resident and a shareholder in X, an
				  out-of-state S corporation with no business in Iowa and no Iowa filing
				  obligation. In 2018, X has $100,000 in current-year business interest expense
				  and is subject to the IRC Section 163(j) limitation for federal purposes. At
				  the entity level, X is permitted to deduct $80,000 on its 2018 federal income
				  tax return. The $20,000 in excess business interest expense is then carried
				  forward to be deducted by X in future tax years. Because X is not required to
				  file an Iowa return, and excess business interest expense amounts are carried
				  forward at the entity level for S corporations rather than being allocated to
				  shareholders, R is not eligible to make an adjustment for X's disallowed
				  business interest expense amounts on R's 2018 Iowa income tax return. R will
				  only be able to benefit from the deductions for these disallowed amounts for
				  Iowa purposes in the same years that X actually deducts the carried-forward
				  amounts for federal purposes.