If your clients elected out of the business interest limitation under IRC §163(j), that election may be costing them money. Fortunately, there’s a narrow window to undo it.
Recent tax law changes eliminated the interest-deduction advantage that once justified these elections, but affected businesses were stuck with slower depreciation under the alternative depreciation system (ADS). The IRS has provided guidance for clients seeking relief from these elections, but only if they act before October 15, 2026.
The business interest deduction limitation exempts certain businesses from the limitation, either automatically or by election. Some businesses are specifically exempt, such as small businesses with average gross receipts for the past three years of not exceeding $32 million. Real property trades or businesses and farm businesses may elect to be excluded. Regulated utility trades or businesses described in IRC §163(j)(7)(A)(iv) are automatically excluded from the regulation. Still, certain other utilities may elect to be excepted from the business interest limitation.
Due to the exemptions, most small businesses are not subject to the limitation and may deduct all business interest expense. If they qualify, they do not need to make an election, and they are not subject to ADS.
The One Big Beautiful Bill Act (OBBBA) modifies the computation of adjusted taxable income (ATI) by restoring the add-back for depreciation, amortization, and depletion for tax years beginning after December 31, 2024. For tax years beginning after December 31, 2024, all businesses compute ATI using the restored add-back for depreciation, amortization, and depletion, regardless of whether they made an election. This change eliminates the advantage of electing out of IRC §163(j)(7) to increase ATI. Furthermore, this change applies regardless of whether the taxpayer uses ADS. As a result, the prior advantage of electing out of §163(j)(7) to increase adjusted taxable income no longer exists for those years.
However, OBBBA and Rev. Proc. 2026-17 did not release businesses that had previously elected out of §163(j)(7) or utilities that were excepted from the limitation from their obligation to use ADS. These taxpayers remained subject to longer recovery periods and remained ineligible for additional first-year depreciation. The persisting requirement slowed the recovery of capital investment costs for these businesses, even though the interest-deduction benefit that previously justified the election was available to all taxpayers without the ADS burden.
Consequently, real property businesses and farm businesses that had made the §163(j)(7) election lost any differential advantage associated with ADS adoption. While they continued to bear the disadvantage of slower depreciation, the advantage for which they bargained was now universally available.
IRS News Release IR-2025-126 introduced an updated set of FAQs addressing the OBBBA changes. These FAQs address changes to the §163(j) limitation under the OBBBA and provide general guidance on the application of the rules. They note that the election is generally irrevocable, while alluding to unrelated regulations under which the election may terminate.
Notably, the FAQs omitted any discussion of how taxpayers who made the election in good faith may revoke it. As a result, these taxpayers remain bound by depreciation rules that no longer convey a meaningful interest-deduction benefit.
Rev. Proc 2026-17 addresses this by providing the affected businesses with a way to undo the election by filing an amended return. Effective March 18, 2026, businesses can withdraw their prior elections effective for For these years, the taxpayer must file an amended return clearly stating “Revenue Procedure 2026-17 Section 163(j)(7) Election Withdrawal” with their name, address, taxpayer identification number, and a statement that they are withdrawing the election. Generally, the deadline for filing an amended return is the earlier of the following.
Furthermore, the affected businesses can make a late election under IRC §168(k)(7) to exclude a specific modified accelerated cost recovery system (MACRS) or ADS class of property from the additional depreciation provisions.
Businesses that are not exempt from the limitation must calculate their limitation. For taxable years beginning after December 31, 2017, the Tax Cuts and Jobs Act (TCJA) introduced a limitation on the business interest deduction, limited to the sum of the following.
Any business interest that was not deducted could be carried forward indefinitely. Under the TCJA version of §163(j), for tax years beginning in 2022 through 2024, ATI is computed without adding back depreciation, amortization, and depletion. For capital-intensive businesses that rely heavily on debt financing to acquire depreciable property, this definition of ATI significantly increased the likelihood that business interest expense would be disallowed.
The opportunity to opt out of an election under §163(j)(7) allowed certain businesses to avoid the interest limitation. However, they could only do this by accepting a different adverse tax consequence: they must use ADS. Not only does ADS provide slower depreciation schedules than MACRS in some cases, but it also disqualifies these businesses from additional first-year depreciation. Consequently, they were forced to choose between two unfavorable outcomes: remaining subject to §163(j) or missing additional first-year depreciation.
By John W. Richmann, EA, MBA
Tax Materials Specialist, U of I Tax School
Sources
Disclaimer: The information referenced in Tax School’s blog is accurate at the date of publication. You may contact taxschool@illinois.edu if you have more up-to-date, supported information and we will create an addendum.
University of Illinois Tax School is not responsible for any errors or omissions, or for the results obtained from the use of this information. All information in this site is provided “as is”, with no guarantee of completeness, accuracy, timeliness or of the results obtained from the use of this information. This blog and the information contained herein does not constitute tax client advice.
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