IRSOn Friday, June 12, 2020, the IRS issued a new proposed regulation (NPRM REG-117589-18) intent on clarifying the TCJA’s 1031 rules regarding how to deal with personal property (section 1245) that is inherently part of every real property transaction for tax purposes.

The IRS has recently been collecting public feedback on this issue, and the initial results are found in these proposed set of rules. Capstan has been fielding many questions regarding the relationship of a cost segregation study being combined with a 1031 acquisition with the result of a gain being realized. With this proposed regulation, the IRS is attempting to clarify that incidental personal property received in a typical commercial transaction can be considered “real property” for purposes of the deferral but personal property for purpose of IRC Sec.168.

This is exhibited in the proposed regulation’s incidental property rule:

Personal property is incidental to real property acquired in an exchange if:

  • (1) in standard commercial transactions, the personal property is typically transferred together with the real property; and
  • (2) its aggregate fair market value does not exceed 15 percent of the aggregate fair market value of the replacement real property.

This concludes that even if it is determined to be real property for 1031 purposes, and eligible for tax deferral, the item could still be personal property under IRC Sec. 168 for depreciation purposes.

Also included is identifying that local law definitions are not controlling. This has been another point of confusion regarding which definitions should be used federal versus local.

So, we now see a clearer path to determining how to treat acquired assets that are part of a 1031. The IRS has requested comments on this regulation by August 11, 2020. In the meantime, please exercise caution in using these rules as they may be subject to change.

We will continue to monitor further developments on this and will share any news we hear.

Thanks, and have a great week.
Your friends at Capstan