This blog post continues to discuss updated proposed regulations under section 168(k) and addresses their effect on dealerships with floor plan financing.

Taxpayers with floor plan financing

Similar to public utilities (as discussed in Part I of the series), car and other dealerships lobbied in 2017 to be excluded from the interest deduction limitation codified in section 163(j). The lobbying was successful and resulted in the "floor plan financing" exception to section 163(j) that was codified in the Tax Cuts and Jobs Act ("TCJA").^[1]

Under section 163(j),  tax payer's business interest expense deduction for any taxable year is limited to the sum of (a) business interest income; (b) 30% of the adjusted taxable income; and (c) the floor plan financing interest.^[2] Any unused deduction is carried over to the succeeding taxable year.^[3]

The quid pro quo for that exclusion was the taxpayers with floor plan financing are not eligible to claim bonus depreciation. In practice, trading bonus depreciation eligibility for the exception to section 163(j) was a bit like the sleeves off the dealerships' vest. The primary tangible asset of dealerships is their inventory. Inventory is not depreciable as it has not been placed in service.^[4] Accordingly, foregoing bonus depreciation generally does not have significant effect on dealerships' tax liability. In contrast, dealerships typically finance their inventory with relatively high levels of debt, so a limitation on interest deductibility could have been costly.

Enactment of the TCJA led to the question of what happens if (i) a taxpayer has floor plan financing but, without using the floor plan financing exception, does not pay enough interest to trigger the limit in section 163(j) or (ii) the amount of the taxpayer's interest expense, without the floor plan financing exception, triggers the section 163(j) limit in some years but not others. The proposed regulations explain a year-by-year test is applied.^[5] For instance, if in 2019 a taxpayer with floor plan financing would not have been able to deduct all of its interest but for the floor plan financing exception under section 163(j), then the taxpayer cannot claim bonus depreciation on eligible equipment purchased in 2019. If in 2020 the taxpayer would have been able to deduct all of its interest without using the floor plan financing exception to section 163(j), then the taxpayer can claim bonus deprecation on eligible equipment purchased in 2020.

Note that neither the TCJA nor the proposed regulations grant taxpayers a right to elect which tax deduction to take—the bonus depreciation deduction or the interest deduction. The proposed regulations simply explain how a taxpayer may qualify for one deduction or another.^[6] Accordingly, dealerships with floor plan financing that seek to claim bonus depreciation must limit their borrowing so as to not trigger section 163(j)'s limitation.

Special thanks to law clerk Natalia Muzlayev, who works under the supervision of David Burton, for her assistance in the preparation of this content.