The Tax Cuts and Jobs Act (TCJA) included new limitations on business interest deductions. Effective for tax years beginning after December 31, 2017, businesses are generally subject to a limitation on the amount of interest expense they may deduct on their federal income tax returns. Below are some criteria that may give your dealership a break from this new limitation.
Interest Limitation Under the TCJA: Businesses are allowed to deduct interest expense up to the sum of (A) business interest income, (B) 30% of adjusted taxable income, which is a formula that resembles EBITDA, and (C) floor plan financing interest expense.
Small Dealerships Are Exempt From the Limitation
If the average gross receipts of a dealership, including any aggregated businesses, is under $25 million, the limitation does not apply.
Impact of the New Limitations
For those dealerships who are subject to the limitation, let’s look at the impact.
Floor Plan Interest
The TCJA allows dealers to deduct their floor plan interest in full, without being subject to the limitation. However, this is where the compromise and the controversy come into play.
Compromise: Dealers who deduct their floor plan interest in full by separately stating interest in the limitation computation are not allowed to take bonus depreciation on newly acquired assets.
Bonus Depreciation Under the TCJA: The ability to deduct 100% of the cost of qualifying property in the year the property is placed in service. Qualifying property generally means certain assets with a class life of 15 years or less.
Controversy: With the tax legislation encompassing so many changes and provisions, there is bound to be some uncertainty on interpretation of the law as written. One uncertainty facing dealers regarding the interest limitation is whether a dealership that has any floor plan interest is precluded from using bonus depreciation — period — or whether a dealership can utilize bonus depreciation if it subjects its floor plan interest to the limitation that applies to other business interest expense.
Consider this scenario: A profitable dealership may have enough income to subject all its interest to the new limitation without excluding floor plan interest and mathematically be able to get a full deduction for all of its interest. In this case, is the dealership still prohibited from taking bonus depreciation on assets acquired? Or is the dealership permitted to take bonus depreciation on assets acquired if it subjects its floor plan interest to the 30% limitation?
Furthermore, the disallowance of bonus depreciation appears to be for the first year in which the floor plan interest exclusion was taken into account and all subsequent years, regardless of whether a dealership subjects its floorplan interest to the limitation in any subsequent years.
What We Know to Date
The only guidance on interpretation released so far is the Joint Committee on Taxation’s explanation of the TCJA, commonly called the Blue Book. It supports the interpretation that dealers who choose to subject their floor plan interest to the limitations that apply to other business interest, are permitted to take bonus depreciation. The Blue Book also supports the interpretation that when a dealership excludes floor plan interest from the 30% limitation, bonus depreciation is disallowed for the current year and all subsequent years.
What We Can Hope For
The IRS issued proposed regulations on this interest limitation. However, they have not yet issued final regulations. Ideally the IRS would consider commentary on this subject and address this uncertain interpretation, as well as others, in final regulations.
What to Do Now
Absent final regulations, further clarity from the IRS or tax court cases on the issue, taxpayers will have to take a position as to how they interpret the new legislation. The Blue Book interpretation is a reasonable basis to rely upon. However, the IRS could disagree with that interpretation upon audit. Eventually there will be guidance or precedence on the issue. Until then, proceed with caution.
We are continuously monitoring changes and will keep you informed of new developments that may impact your dealership. If you have any questions about this, or other tax matters, please contact me at email@example.com or 920.662.2860, or contact another member of the Wipfli dealership team.