United States

Final REIT regulations clarify the definition of “real property”

Provide tax clarity for REITs’ investment decision-making


Real Estate Investment Trusts (REITs) invest in real property or real property mortgages.  These investments must qualify as real property under section 856 of the Tax Code for the REIT to maintain its tax-advantaged REIT treatment. Since the tax ramifications of failing to meet the REIT tests are highly undesirable, many REITs sought private letter ruling guidance from the IRS on the treatment of their investments as real property assets. In response to the high number of ruling requests received, Treasury and the IRS released proposed regulations in 2014.  Now that Treasury and the IRS have released new final regulations (T.D. 9784, 81 Fed. Reg. 59,849 (Aug. 31, 2016)) clarifying the definition of “real property” for purposes of the REIT rules, REITs generally can comply with the real property investment requirement with more certainty.

These final regulations include the same framework as the 2014 proposed regulations on this topic, which we discussed in a prior tax alert, IRS issues proposed REIT regulations further defining real property. The final regulations also include additional revisions designed to improve clarity.  The regulations’ definition of real property applies only to the REIT rules, and does not apply for other tax purposes. 


The regulations set out a number of categories of property, and define property that fits in these categories as real property. The regulations list specific types of property that fall into these real property categories. Property that is not specifically listed, however, may also qualify as real property based on the regulations’ criteria.  

Certain intangible assets also meet the regulations’ definition of real property. The following table depicts the categories of real property in the regulations’ framework.


Real property definition framework under section 1.856-10

(1) Land

Land, water and air space that are superjacent to land, natural products such as crops, water, ores, and minerals that have not been severed, extracted or removed from the land.

(2) Improvements to land

(a) Buildings

(b) Other permanent structures

(c) Structural components of (a) or (b)

Such as: houses, apartments, hotels, motels, enclosed stadiums and arenas, enclosed shopping malls, factory and office buildings, warehouses, barns, enclosed garages, enclosed transportation stations and terminals, stores.

Such as: microwave, cell, broadcast and electrical transmission towers, telephone poles, parking facilities, bridges, tunnels, roadbeds, railroad tracks, transmission lines, pipelines, fences, in-ground swimming pools, offshore drilling platforms, silos, oil and gas storage tanks, stationary wharves and docks.

Such as: wiring, plumbing systems, central heating and air-conditioning systems, elevators, escalators, walls, floors, ceilings, permanent coverings of walls, floors and ceilings, windows, doors, insulation, chimneys, fire suppression systems, fire escapes, central refrigeration systems, security systems, and humidity control systems.

(3) Intangible assets

Certain intangible assets (including those established under GAAP) that derive their value from real property and are inseparable from that real property, but not certain licenses or permits.

Distinct assets

Each “distinct asset” is tested to determine whether it meets the real property definition.  Whether an item of property is a “distinct asset” under these regulations is governed by a facts-and-circumstances based test. 

Assets performing active functions

Assets that perform active functions, such as machinery or equipment, are not considered real property under these regulations. Similarly, structural components are not real property if they serve an active function. They qualify as real property only if they serve the relevant building or structure in its passive function, and do not produce income other than consideration for the use or occupancy of space.

The regulations provide a number of examples that illustrated application of their principles.   One example discusses a natural gas pipeline system. The example concludes that the system’s pipelines, isolation valves and vents qualify as real property, while the meters and compressors do not. Another example contrasts the conventional partitions, which are integrated with a building’s structure and qualify as real property, and modular partitions, which may be removed and re-used without damage to them or the building and do not qualify. 

Another example illustrates an intangible asset may be an interest in real property in part, and a non-real property asset in part. The example addresses an in-place above-market lease that produces both income that qualifies as rents from real property and other income that does not qualify. It concludes that the portion of the above-market lease asset value attributable to income from the long-term lease that does not qualify as rents from real property does not derive its value from real property and, therefore, is not a real estate asset.

Effective Date

The final regulations apply for taxable years that begin after Aug. 31, 2016. Taxpayers may rely on this section for periods that end before Aug. 31, 2016.


The final regulations provide further clarity and remove some of the uncertainty from the REIT real property definition. With these regulations in place, many REITs can determine whether they meet the quarterly “75 percent asset test” of Tax Code section 856(c)(4) with greater certainty (i.e., whether 75 percent of their asset value is comprised of real estate assets, cash, certain cash equivalents, and government securities), as these regulations provide better support than reliance on interpretations of how private letter rulings apply the REITs facts and circumstances. The regulation also prospectively revokes private letter rulings to the extent (if any) that they are inconsistent with the regulations. REITs that have previously relied on private letter rulings should check for any such inconsistencies. 

To make sure they maintain their REIT status, all REITs should continue to rigorously apply the 75 percent asset test, as well as the two annual income tests of sections 856(b)(2) and (b)(3).  


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