One often overlooked benefit to electing S corporation status is the termination of the "20% TEFRA" disallowance of interest expense based on tax-exempt income. The 20% TEFRA disallowance terminates after a financial institution has been an S corporation for three years. Table 4 found at the back of this booklet shows tax equivalent yields that apply after the 20% TEFRA disallowance ends. These yields can be compared to those in Table 3, which is used when the 20% interest disallowance applies.
The "100% TEFRA" disallowance on "non bank-qualified" municipal interest is not affected by an S corporation election. Loans under the "Young Farmer" program are the most common source of 100% TEFRA disallowance for Iowa banks.