Page 75 - Small Business Taxes

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The type and rule above prints on all proofs including departmental reproduction proofs. MUST be removed before printing.
basis over the term of the loan. Beginning in tests. For exceptions to the general rule, see If the funds are for inventory or certain prop-
2022, you can deduct $150 each year for 10 Pub. 936. erty used in your business, the fees are indirect
years. The points reduce the issue price of the loan costs and you must generally capitalize them
Constant-yield method. If the OID is not and result in OID, deductible as explained in the under the uniform capitalization rules. See Cap-
italization of Interest, later.
de minimis, you must use the constant-yield preceding discussion.
method to figure how much you can deduct Interest on income tax. Interest charged on
each year. You figure your deduction for the first Partial payments on a nontax debt. If you income tax assessed on your individual income
year using the following steps. make partial payments on a debt (other than a tax return is not a business deduction even
debt owed to the IRS), the payments are ap-
1. Determine the issue price of the loan. plied, in general, first to interest and any re- though the tax due is related to income from
Generally, this equals the proceeds of the mainder to principal. You can deduct only the your trade or business. Treat this interest as a
loan. If you paid points on the loan (as dis- interest. This rule does not apply when it can be business deduction only in figuring a net operat-
cussed later), the issue price is generally inferred that the borrower and lender under- ing loss deduction.
the difference between the proceeds and stood that a different allocation of the payments Penalties. Penalties on underpaid deficien-
the points. would be made. cies and underpaid estimated tax are not inter-
2. Multiply the result in (1) by the yield to ma- est. You cannot deduct them. Generally, you
turity. Installment purchase. If you make an install- cannot deduct any fines or penalties.
ment purchase of business property, the con-
3. Subtract any qualified stated interest pay- tract between you and the seller generally pro- Interest on loans with respect to life insur-
ments from the result in (2). This is the vides for the payment of interest. If no interest ance policies. You generally cannot deduct
OID you can deduct in the first year. or a low rate of interest is charged under the interest on a debt incurred with respect to any
To figure your deduction in any subsequent contract, a portion of the stated principal life insurance, annuity, or endowment contract
amount payable under the contract may be re-
year, follow the steps above, except determine characterized as interest (unstated interest). that covers any individual unless that individual
the adjusted issue price in step 1. To get the The amount recharacterized as interest reduces is a key person.
adjusted issue price, add to the issue price any your basis in the property and increases your If the policy or contract covers a key person,
OID previously deducted. Then follow steps 2 interest expense. For more information on in- you can deduct the interest on up to $50,000 of
and 3 above. stallment sales and unstated interest, see Pub. debt for that person. However, the deduction for
The yield to maturity is generally shown in 537. any month cannot be more than the interest fig-
the literature you receive from your lender. If ured using Moody's Composite Yield on Seas-
you do not have this information, consult your oned Corporate Bonds (formerly known as
lender or tax advisor. In general, the yield to Interest You Cannot Moody's Corporate Bond Yield Aver-
maturity is the discount rate that, when used in age—Monthly Average Corporates) (Moody's
figuring the present value of all principal and in- Deduct rate) for that month.
terest payments, produces an amount equal to Who is a key person? A “key person” is
the principal amount of the loan. Certain interest payments cannot be deducted. an officer or 20% owner. However, the number
Example. The facts are the same as in the In addition, certain other expenses that may of individuals you can treat as key persons is
seem to be interest, but are not, cannot be de-
previous example, except that you deduct the ducted as interest. limited to the greater of the following.
OID on a constant-yield basis over the term of • Five individuals.
the loan. The yield to maturity on your loan is You cannot currently deduct interest that • The lesser of 5% of the total officers and
employees of the company or 20 individu-
10.2467%, compounded annually. For 2022, must be capitalized, and you generally cannot
you can deduct $93 [($98,500 × 0.102467) − deduct personal interest. als.
$10,000]. For 2023, you can deduct $103 Exceptions for pre-June 1997 contracts.
[($98,593 × 0.102467) − $10,000]. Interest paid with funds borrowed from You can generally deduct the interest if the con-
original lender. If you use the cash method of
Loan or mortgage ends. If your loan or accounting, you cannot deduct interest you pay tract was issued before June 9, 1997, and the
mortgage ends, you may be able to deduct any with funds borrowed from the original lender covered individual is someone other than an
employee, officer, or someone financially inter-
remaining OID in the tax year in which the loan through a second loan, an advance, or any
or mortgage ends. A loan or mortgage may end other arrangement similar to a loan. You can ested in your business. If the contract was pur-
chased before June 21, 1986, you can gener-
due to a refinancing, prepayment, foreclosure, deduct the interest expense once you start
or similar event. making payments on the new loan. ally deduct the interest no matter who is
covered by the contract.
If you refinance with the original lender, When you make a payment on the new loan,
Interest allocated to unborrowed policy
! you generally cannot deduct the re- you first apply the payment to interest and then cash value. Corporations and partnerships
to the principal. All amounts you apply to the in-
CAUTION maining OID in the year in which the re-
financing occurs, but you may be able to deduct terest on the first loan are deductible, along with generally cannot deduct any interest expense
it over the term of the new mortgage or loan. any interest you pay on the second loan, sub- allocable to unborrowed cash values of life in-
See Interest paid with funds borrowed from ject to any limits that apply. surance, annuity, or endowment contracts. This
original lender under Interest You Cannot De- rule applies to contracts issued after June 8,
duct, later. Capitalized interest. You cannot currently de- 1997, that cover someone other than an officer,
duct interest you are required to capitalize un- director, employee, or 20% owner. For more in-
der the uniform capitalization rules. See Capi- formation, see section 264(f).
Points. The term “points” is used to describe talization of Interest, later. In addition, if you buy
certain charges paid, or treated as paid, by a property and pay interest owed by the seller (for
borrower to obtain a loan or a mortgage. These example, by assuming the debt and any interest Capitalization of Interest
charges are also called loan origination fees, accrued on the property), you cannot deduct
maximum loan charges, discount points, or pre- the interest. Add this interest to the basis of the
mium charges. If any of these charges (points) property. Under the uniform capitalization rules, you must
generally capitalize interest on debt equal to
are solely for the use of money, they are inter-
est. Commitment fees or standby charges. Fees your expenditures to produce real property or
certain tangible personal property. The property
Because points are prepaid interest, you you incur to have business funds available on a must be produced by you for use in your trade
generally cannot deduct the full amount in the standby basis, but not for the actual use of the or business or for sale to customers. You can-
year paid. However, you can choose to fully de- funds, are not deductible as interest payments. not capitalize interest related to property that
duct points in the year paid if you meet certain You may be able to deduct them as business you acquire in any other manner.
expenses.
Page 16 Chapter 4 Interest