LB&I practice unit: Interest expense limitation, section 163(j)

LB&I practice unit: Interest expense limitation

The IRS today posted a new “practice unit” concerning the process for computing the limitation and deferral of deductible corporate interest expense under section 163(j). This practice unit is the next item in a series of IRS examiner “job aides” and training materials intended to describe for IRS agents leading practices for specific international and transfer pricing issues and transactions. The topic of today’s LB&I practice unit is:

Related content

  • Interest expense limitation computation under section 163(j)

The new practice unit has a release date of March 14, 2016. Text of the practice unit is available on the IRS practice unit webpage.

As the introduction to the practice unit explains, interest expense attributable to bona fide debt between a U.S. taxpayer (borrower) and its foreign parent/affiliate (lender) is limited to interest considered paid under the cash method of accounting regardless of the taxpayer’s overall method of accounting related to original issue discount (OID) instruments. The purpose of section 163(j) is to limit the deductibility of interest by a thinly capitalized corporation when the interest is paid to a related payee that is totally or partially exempt from U.S. tax on the distribution. Also, the provisions of section 163(j) apply to interest that is paid or accrued to an unrelated person if there is a disqualified guarantee on the debt, and no gross basis tax is imposed on this interest. 

KPMG observation

The IRS practice units identify areas of strategic importance to the IRS, provide insight as to how IRS examiners will approach various transactions, and generally provide an understanding of the context in which an IRS examiner will approach a particular issue or transaction. Thus, taxpayers (and their tax advisers) facing an IRS examination or concerned with issue(s) presented by the LB&I practice units will want to review the relevant practice units, so as to have a better understanding of the issues that may arise either prior to or during an examination. For instance, the IRS practice units typically provide information that can help taxpayers:

  • Plan for appropriate documentation during return preparation
  • Effectively approach certain elections or certain transactions
  • Respond appropriately to IRS correspondenceFor taxpayers selected for a pending IRS examination, the practice units can provide information that may assist with preparation for the examination.

For taxpayers actually under examination, the practice units may provide information that can assist taxpayers respond to IRS requests. 

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