LIMITATION ON DEDUCTION FOR CERTAIN INTEREST PAID TO RELATED PERSON.

SEC. 7210. LIMITATION ON DEDUCTION FOR CERTAIN INTEREST PAID TO RELATED PERSON. (a) General Rule.—Section 163 (as amended by section 7202) is amended by redesignating subsection (j) as subsection (k) and by inserting after subsection (i) the following new subsection: “(j) Limitation on Deduction for Certain Interest Paid by Corporation to Related Person.— “(1) Limitation.— “(A) In general.—If this subsection applies to any corporation for any taxable year, no deduction shall be allowed under this chapter for disqualified interest paid or accrued by such corporation during such taxable year. The amount disallowed under the preceding sentence shall not exceed the corporation’s excess interest expense for the taxable year. “(B) Disallowed amount carried to succeeding taxable year.—Any amount disallowed under subparagraph (A) for any taxable year shall be treated as disqualified interest paid or accrued in the succeeding taxable year. “(2) Corporations to which subsection applies.— “(A) In general.—This subsection shall apply to any corporation for any taxable year if— “(i) such corporation has excess interest expense for such taxable year, and “(ii) the ratio of debt to equity of such corporation as of the close of such taxable year (and on such other days during the taxable year as the Secretary may by regulations prescribe) exceeds 1.5 to 1. “(B) Excess interest expense.— “(i) In general.—For purposes of this subsection, the term ‘excess interest expense’ means the excess (if any) of— “(I) the corporation’s net interest expense, over 103 STAT. 2340 “(II) the sum of 50 percent of the adjusted taxable income of the corporation plus any excess limitation carryforward under clause (ii). “(ii) Excess limitation carryforward.—If a corporation has an excess limitation for any taxable year, the amount of such excess limitation shall be an excess limitation carryforward to the 1st succeeding taxable year and to the 2nd and 3rd succeeding taxable years to the extent not previously taken into account under this clause. The amount of such a carryforward taken into account for any such succeeding taxable year shall not exceed the excess interest expense for such succeeding taxable year (determined without regard to the carryforward from the taxable year of such excess limitation). “(iii) Excess limitation.—For purposes of clause (i), the term ‘excess limitation’ means the excess (if any) of— “(I) 50 percent of the adjusted taxable income of the corporation, over “(II) the corporation’s net interest expense. “(C) Ratio of debt to equity.—For purposes of this paragraph, the term ‘ratio of debt to equity’ means the ratio which the total indebtedness of the corporation bears to the sum of its money and all other assets less such total indebtedness. For purposes of the preceding sentence— “(i) the amount taken into account with respect to any asset shall be the adjusted basis thereof for purposes of determining gain, “(ii) the amount taken into account with respect to any indebtedness with original issue discount shall be its issue price plus the portion of the original issue discount previously accrued as determined under the rules of section 1272 (determined without regard to subsection (a)(7) or (b)(4) thereof), and “(iii) there shall be such other adjustments as the Secretary may by regulations prescribe. “(3) Disqualified interest.—For purposes of this subsection— “(A) In general.—Except as provided in subparagraph (B), the term ‘disqualified interest’ means any interest paid or accrued by the taxpayer (directly or indirectly) to a related person if no tax is imposed by this subtitle with respect to such interest. “(B) Exception for certain existing indebtedness.—The term ‘disqualified interest’ does not include any interest paid or accrued under indebtedness with a fixed term— “(i) which was issued on or before July 10, 1989, or “(ii) which was issued after such date pursuant to a written binding contract in effect on such date and all times thereafter before such indebtedness was issued. “(4) Related person.—For purposes of this subsection— “(A) In general.—Except as provided in subparagraph (B), the term ‘related person’ means any person who is related (within the meaning of section 267(b) or 707(b)(D) to the taxpayer. 103 STAT. 2341 “(B) Special rule for certain partnerships.— “(i) In general.—Any interest paid or accrued to a partnership which (without regard to this subparagraph) is a related person shall not be treated as paid or accrued to a related person if less than 10 percent of the profits and capital interests in such partnership are held by persons with respect to whom no tax is imposed by this subtitle on such interest. The preceding sentence shall not apply to any interest allocable to any partner in such partnership who is a related person to the taxpayer. “(ii) Special rule where treaty reduction.—If any treaty between the United States and any foreign country reduces the rate of tax imposed by this subtitle on a partner’s share of any interest paid or accrued to a partnership, such partner’s interests in such partnership shall, for purposes of clause (i), be treated as held in part by a tax-exempt person and in part by a taxable person under rules similar to the rules of paragraph (5)(B). “(5) Special rules for determining whether interest is subject to tax.— “(A) Treatment of pass-thru entities.—In the case of any interest paid or accrued to a partnership, the determination of whether any tax is imposed by this subtitle on such interest shall be made at the partner level. Rules similar to the rules of the preceding sentence shall apply in the case of any pass-thru entity other than a partnership and in the case of tiered partnerships and other entities. “(B) Interest treated as tax-exempt to extent of treaty reduction.—If any treaty between the United States and any foreign country reduces the rate of tax imposed by this subtitle on any interest paid or accrued by the taxpayer to a related person, such interest shall be treated as interest on which no tax is imposed by this subtitle to the extent of the same proportion of such interest as— “(i) the rate of tax imposed without regard to such treaty, reduced by the rate of tax imposed under the treaty, bears to “(ii) the rate of tax imposed without regard to the treaty. “(6) Other definitions and special rules.—For purposes of this subsection— “(A) Adjusted taxable income.—The term ‘adjusted taxable income’ means the taxable income of the taxpayer— “(i) computed without regard to— “(I) any deduction allowable under this chapter for the net interest expense, “(II) the amount of any net operating loss deduction under section 172, and “(III) any deduction allowable for depreciation, amortization, or depletion, and “(ii) computed with such other adjustments as the Secretary may by regulations prescribe. “(B) Net interest expense.—The term ‘net interest expense’ means the excess (if any) of— 103 STAT. 2342 “(i) the interest paid or accrued by the taxpayer during the taxable year, over “(ii) the amount of interest includible in the gross income of such taxpayer for such taxable year. The Secretary may by regulations provide for adjustments in determining the amount of net interest expense. “(C) Treatment of affiliated group.—All members of the same affiliated group (within the meaning of section 1504(a)) shall be treated as 1 taxpayer. “(7) Regulations.—The Secretary shall prescribe such regulations as may be appropriate to carry out the purposes of this subsection, including— “(A) such regulations as may be appropriate to prevent the avoidance of the purposes of this subsection, “(B) regulations providing such adjustments in the case of corporations which are members of an affiliated group as may be appropriate to carry out the purposes of this subsection, and “(C) regulations for the coordination of this subsection with section 884.” (b) Effective Date.— (1) In general.—The amendment made by this section shall apply to interest paid or accrued in taxable years beginning after July 10, 1989. (2) Special rule for demand loans, etc.—In the case of any demand loan (or other loan without a fixed term) which was outstanding on July 10, 1989, interest on such loan to the extent attributable to periods before September 1, 1989, shall not be treated as disqualified interest for purposes of section 163(j) of the Internal Revenue Code of 1986 (as added by subsection (a)).