Federal Register / Vol. 85, No. 232 / Wednesday, December 2, 2020 / Rules and Regulations 77365 

Dated: October 21, 2020. 

Dale Aultman, 

Secretary, Farm Credit Administration Board. 

[FR Doc. 2020–23688 Filed 12–1–20; 8:45 am] 

BILLING CODE 6705–01–P 

DEPARTMENT OF THE TREASURY 

Internal Revenue Service 

26 CFR Part 1 

[TD 9935] 

RIN 1545–BP02 

Statutory Limitations on Like-Kind 

Exchanges 

AGENCY: Internal Revenue Service (IRS), 

Treasury. 

ACTION: Final regulations. 

SUMMARY: This document contains final 

regulations providing guidance under 

section 1031 of the Internal Revenue 

Code (Code) to implement recent 

statutory changes to that section. More 

specifically, the final regulations amend 

the current like-kind exchange 

regulations to add a definition of real 

property to implement statutory changes 

limiting section 1031 treatment to likekind exchanges of real property. The 

final regulations also provide a rule 

addressing a taxpayer’s receipt of 

personal property that is incidental to 

real property the taxpayer receives in an 

otherwise qualifying like-kind exchange 

of real property. The final regulations 

affect taxpayers that exchange business 

or investment property for other 

business or investment property, and 

that must determine whether the 

exchanged properties are real property 

under section 1031. 

DATES: 

Effective date: These final regulations 

are effective on December 2, 2020. 

Applicability dates: These regulations 

generally apply to exchanges beginning 

after December 2, 2020. See 

§§ 1.1031(a)–1(e)(2), 1.1031(a)–3(c), and 

1.1031(k)–1(g)(9). However, the 

regulations in §§ 1.168(i)–1(e)(2)(viii)(A) 

and 1.168(i)–8(c)(4)(i) apply to taxable 

years beginning after December 2, 2020. 

See §§ 1.168(i)–1(m)(5) and 1.168(i)– 

8(j)(5). 

FOR FURTHER INFORMATION CONTACT: 

Edward C. Schwartz at (202) 317–4740, 

or Suzanne R. Sinno at (202) 317–4718 

(not toll-free numbers). 

SUPPLEMENTARY INFORMATION: 

Background 

I. Overview 

This document amends the Income 

Tax Regulations (26 CFR part 1, as 

revised April 1, 2020) under section 

1031 (current regulations). The 

amendments to the current regulations 

(final regulations) implement statutory 

amendments to section 1031 made by 

section 13303 of Public Law 115–97, 

131 Stat. 2054 (2017), commonly 

referred to as the Tax Cuts and Jobs Act 

(TCJA). Section 13303(c) of the TCJA 

amended section 1031 to limit its 

application to exchanges of real 

property for exchanges completed after 

December 31, 2017, subject to a 

transition rule for certain exchanges in 

which property had been transferred 

before January 1, 2018. To implement 

these statutory changes, the final 

regulations limit the application of the 

like-kind exchange rules under section 

1031 to exchanges of real property, add 

a definition of real property, and adapt 

an existing incidental property 

exception to apply to a taxpayer’s 

receipt of personal property that is 

incidental to real property the taxpayer 

receives in the exchange. 

II. Section 1031 After the TCJA 

As amended by the TCJA, section 

1031(a) provides that no gain or loss is 

recognized on the exchange of real 

property held for productive use in a 

trade or business or for investment 

(relinquished real property) if the 

relinquished real property is exchanged 

solely for real property of a like kind 

that is to be held either for productive 

use in a trade or business or for 

investment (replacement real property). 

The legislative history to the TCJA 

amendments to section 1031 provides 

that Congress ‘‘intended that real 

property eligible for like-kind exchange 

treatment under present law will 

continue to be eligible for like-kind 

exchange treatment under the 

[amended] provision.’’ H.R. Conf. Rept. 

115–466, at 396, fn. 726 (2017) 

(Conference Report). However, left 

unchanged by the TCJA, section 1031(b) 

provides that a taxpayer must recognize 

gain to the extent of money and nonlike-kind property the taxpayer receives 

in an exchange. 

III. Current Regulations Regarding 

‘‘Like Kind’’ 

The need to determine whether the 

relinquished real property and the 

replacement real property are of a like 

kind continues to exist after the changes 

to section 1031 made by the TCJA. 

Current § 1.1031(a)–1(b) provides that 

‘‘like kind’’ refers to the nature or 

character of the real property and not to 

its grade or quality. The fact that any 

real property involved is improved or 

unimproved is not material in 

determining whether real property is of 

like kind. Under current § 1.1031(a)– 

1(c), examples of exchanges of real 

property of a like kind include an 

exchange of a leasehold interest in a fee 

with 30 years or more to run for real 

estate. 

IV. Identification of Exchanged 

Properties 

Under section 1031(a)(3), unchanged 

by the TCJA, real property a taxpayer 

receives in an exchange is not of likekind to the relinquished property 

unless, within 45 days after the 

taxpayer’s transfer of the relinquished 

real property, the real property is 

identified as replacement real property 

to be received in the exchange. Current 

§ 1.1031(k)–1(c)(4) provides a limit on 

the number of properties, or the fair 

market value of the properties, a 

taxpayer may identify to meet the 

requirements of section 1031(a)(3). 

However, under current § 1.1031(k)– 

1(c)(5), property is disregarded in 

evaluating the identification rules if it is 

incidental to a larger item of property 

and therefore, is not treated as property 

separate from the larger item. Property 

is incidental to a larger property if, in 

standard commercial transactions, the 

property is typically transferred with 

the larger item of property, and the 

aggregate fair market value of all of the 

incidental property does not exceed 15 

percent of the aggregate fair market 

value of the larger item of property. 

V. Recognition of Gain or Loss on 

Actual or Constructive Receipt of NonLike-Kind Property 

Under current § 1.1031(k)–1(f)(1) and 

(2), if a taxpayer actually or 

constructively receives money or nonlike-kind property for the relinquished 

property before the taxpayer receives 

like-kind replacement real property, the 

transaction is a sale or taxable exchange 

and not a like-kind exchange, even 

though the taxpayer may ultimately 

receive like-kind replacement real 

property. Current § 1.1031(k)–1(g)(2) 

through (5) provides safe harbors, the 

use of which results in a taxpayer not 

being considered in actual or 

constructive receipt of the consideration 

for the relinquished property. 

Under current § 1.1031(k)–1(g)(4)(i), 

in the case of a taxpayer’s transfer of 

relinquished property involving a 

qualified intermediary, the 

determination of whether the taxpayer 

is in actual or constructive receipt of 

money or non-like-kind property is 

made as if the qualified intermediary is 

not the agent of the taxpayer. However, 

current § 1.1031(k)–1(g)(4)(i) applies 

only if the agreement between the 

taxpayer and the qualified intermediary 

77366 Federal Register / Vol. 85, No. 232 / Wednesday, December 2, 2020 / Rules and Regulations 

expressly limits the taxpayer’s rights to 

receive, pledge, borrow, or otherwise 

obtain the benefits of money or nonlike-kind property held by the qualified 

intermediary. Current § 1.1031(k)– 

1(g)(7) lists items received in an 

exchange that are disregarded in 

determining whether a taxpayer’s rights 

to receive, pledge, borrow, or otherwise 

obtain the benefits of money or nonlike-kind property are expressly limited. 

VI. Proposed Regulations 

On June 12, 2020, the Department of 

the Treasury (Treasury Department) and 

the IRS published a notice of proposed 

rulemaking (REG–117589–18) in the 

Federal Register (85 FR 35835) 

containing proposed regulations under 

section 1031 (proposed regulations). 

The Treasury Department and the IRS 

received 21 written comments in 

response to the notice of proposed 

rulemaking. All comments were 

considered and are available at http://

www.regulations.gov or upon request. A 

public hearing on the proposed 

regulations was neither requested nor 

held. After full consideration of the 

comments received, this Treasury 

decision adopts the proposed 

regulations with modifications in 

response to such comments, as 

described in the Summary of Comments 

and Explanation of Revisions following 

this Background. 

Summary of Comments and 

Explanation of Revisions 

I. Overview 

The final regulations retain the basic 

approach and structure of the proposed 

regulations, with certain revisions. In 

particular, the final regulations revise 

the definition of ‘‘real property’’ in the 

proposed regulations to provide that 

property is classified as real property for 

section 1031 purposes if, on the date it 

is transferred in an exchange, the 

property is real property under the law 

of the State or local jurisdiction in 

which that property is located. The final 

regulations also revise the proposed 

definition of real property to eliminate, 

with regard to both tangible and 

intangible properties, any consideration 

of whether the particular property 

contributes to the production of income 

unrelated to the use or occupancy of 

space (referred to as the ‘‘purpose or use 

test,’’ as defined in part II.B.1 of this 

Summary of Comments and Explanation 

of Revisions). Finally, in § 1.1031(a)– 

3(a)(7), the final regulations retain the 

language of the proposed regulations 

clarifying that the rules of these final 

regulations apply only for purposes of 

section 1031, and that no inference is 

intended with respect to the 

classification or characterization of 

property for other purposes of the Code. 

II. Definition of Real Property 

A. State or Local Law Definitions of Real 

Property 

1. Approach of the Proposed 

Regulations 

Section 1031 does not provide a 

definition for the term ‘‘real property.’’ 

As noted in part II of the Background 

section, the Conference Report provides 

that Congress intended real property 

that was eligible for like-kind exchange 

treatment prior to the enactment of the 

TCJA to continue to be eligible for likekind exchange treatment after its 

enactment. See Conference Report, at 

396, fn. 726. Specifically, with regard to 

the applicability of State law for real 

property determinations, the Conference 

Report sets forth the following example: 

‘‘a like-kind exchange of real property 

includes an exchange of shares in a 

mutual ditch, reservoir, or irrigation 

company described in section 

501(c)(12)(A) [of the Code] if at the time 

of the exchange such shares have been 

recognized by the highest court or 

statute of the State in which the 

company is organized as constituting or 

representing real property or an interest 

in real property’’ (Conference Report 

Example). Id. Accordingly, due to the 

absence of a statutory definition for the 

term ‘‘real property’’ in section 1031, 

the Treasury Department and the IRS 

based the proposed definition of real 

property upon the Conference Report 

Example. 

Under proposed § 1.1031(a)–3(a)(1), 

State law controls whether shares in a 

mutual ditch, reservoir, or irrigation 

company are real property for purposes 

of section 1031. Aside from those 

enumerated asset types, the proposed 

regulations provide that State or local 

law definitions were not controlling for 

purposes of determining whether 

property is real property for section 

1031 purposes. See proposed 

§ 1.1031(a)–3(a)(1). The intent of the 

Treasury Department and the IRS in 

proposing a rule that expressly applied 

State or local law in this manner was to 

provide a definition of real property for 

purposes of section 1031 ‘‘in a manner 

consistent with the scope described by 

Congress in the Conference Report.’’ See 

the preamble to the proposed 

regulations at 85 FR 35836. 

2. Consideration of Comments and 

Revision of ‘‘Real Property’’ Definition 

Commenters generally critiqued the 

apparent scope of the application of 

State and local law in the proposed 

regulations for purposes of defining real 

property. These commenters contended 

that, prior to enactment of the TCJA, 

State and local law classification of a 

property often was the determining 

factor in characterizing property as real 

or personal under section 1031. With 

regard to the Conference Report 

Example, the commenters asserted that 

the reference to ‘‘shares in a mutual 

ditch, reservoir, or irrigation company’’ 

merely constituted a set of examples 

that Congress provided to broadly 

indicate that real property eligible for 

like-kind treatment under law prior to 

enactment of the TCJA will continue to 

be eligible following the TCJA’s 

amendment to section 1031. 

Consequently, the commenters 

recommended that the final regulations 

conform to that intent by expanding the 

rules to rely significantly, or wholly, on 

State-law classifications for all assets, 

rather than limiting such reliance to 

shares in a mutual ditch, reservoir, or 

irrigation company. Additionally, 

commenters suggested that the final 

regulations should include multiple 

examples of instances in which 

taxpayers may rely on State or local law 

for purposes of classifying property as 

real or personal. 

In light of these comments, the 

Treasury Department and the IRS have 

reconsidered the degree to which State 

or local law determinations of real 

property should be controlling for 

defining real property for section 1031 

purposes. As a result of that 

reconsideration, the final regulations 

provide generally that property is real 

property for purposes of section 1031 if, 

on the date it is transferred in an 

exchange, that property is classified as 

real property under the law of the State 

or local jurisdiction in which that 

property is located (State and local law 

test). The State and local law test 

applies to both tangible and intangible 

property classifications. 

However, consistent with 

Congressional intent that ‘‘real property 

eligible for like-kind exchange 

treatment’’ under the law in effect prior 

to enactment of the TCJA will continue 

to be eligible for like-kind exchange 

treatment after enactment of the TCJA, 

property ineligible for like-kind 

exchange treatment prior to enactment 

of the TCJA remains ineligible, 

including real property that was 

excluded from the application of section 

1031. See Conference Report at 396, fn. 

726. Prior to amendment by the TCJA, 

former section 1031(a)(2) explicitly 

excluded certain assets from the 

application of section 1031. 

Accordingly, the final regulations 

exclude from the definition of real 

Federal Register / Vol. 85, No. 232 / Wednesday, December 2, 2020 / Rules and Regulations 77367 

property the intangible assets listed in 

section 1031(a)(2) prior to its 

amendment by the TCJA, regardless of 

the classification of the property under 

State or local law, because such 

property never was ‘‘real property 

eligible for like-kind exchange 

treatment’’ prior to enactment of the 

TCJA. Conference Report at 396, fn. 726 

(emphasis added). 

In summary, under the final 

regulations, property is classified as real 

property for purposes of section 1031 if 

the property is (i) so classified under the 

State and local law test, subject to 

certain exceptions, (ii) specifically listed 

as real property in the final regulations, 

or (iii) considered real property based 

on all the facts and circumstances under 

the various factors provided in the final 

regulations. A determination that 

property is personal property under 

State or local law does not preclude the 

conclusion that property is real property 

as specifically listed in § 1.1031(a)– 

3(a)(2)(ii) or (a)(2)(iii)(B) or under the 

factors listed in § 1.1031(a)–3(a)(2)(ii)(C) 

or (a)(2)(iii)(B). 

3. Chief Counsel Advice (CCA) 

201238027 

Multiple commenters who objected to 

the scope of State and local law 

determinations under the proposed 

regulations also asserted that the 

approach in the proposed regulations 

replicated the analysis in CCA 

201238027 (April 17, 2012), particularly 

with regard to one of the fact patterns 

addressed therein regarding a steam 

turbine (Case 3). In Case 3, the Chief 

Counsel Advice disregarded State law 

that characterized the steam turbine as 

real property and held that the steam 

turbine was not of like kind to land 

because it did not have the same nature 

or character as land. Commenters 

objected to this conclusion, contending 

that the State law classification of the 

steam turbine as real property should be 

respected and, based on that 

classification, the steam turbine and the 

undeveloped land should be considered 

like-kind property. 

These final regulations do not address 

whether exchanged properties are of 

like kind to one another. As a 

consequence of expressly including the 

State and local law test in the final 

regulations, the final regulations do not 

adopt the reasoning of CCA 201238027 

to the extent it suggests that State or 

local law is disregarded in determining 

whether property is real property under 

section 1031. 

4. Additional Comments Regarding the 

Application of State and Local Law 

In connection with the State and local 

law test under the final regulations, the 

Treasury Department and the IRS have 

considered numerous additional 

comments. For instance, one commenter 

recommended that any asset determined 

to be essentially the same as an asset 

classified as a real property for purposes 

of section 1031 also should 

automatically be treated as real property 

for purposes of section 1031. For 

example, if one asset (Property A) is 

classified as real property under the 

State or local law of State X, an asset 

located in a different jurisdiction 

(Property B) that is essentially the same 

as Property A also should be classified 

as real property for section 1031 

purposes, irrespective of whether 

Property B is classified as real property 

under (i) the law of the State or local 

jurisdiction in which Property B is 

located or (ii) the real property 

definition and factors under the 

proposed regulations. 

The final regulations do not adopt this 

suggestion. First, the Treasury 

Department and the IRS have 

determined that the ‘‘essentially the 

same’’ standard recommended by the 

commenter would be difficult for 

taxpayers to apply and the IRS to 

administer with certainty. In addition, 

the analysis advocated by the 

commenter is conceptually similar to 

the analysis applied by CCA 201238027, 

which, based on several other 

comments, the Treasury Department 

and the IRS have determined to be 

inconsistent with the State and local 

law test provided in the final 

regulations. 

A commenter also requested that the 

final regulations classify as real property 

all property that was treated as real 

property for section 1031 purposes at 

any time between May 22, 2008, and the 

effective date of the TCJA. May 22, 

2008, is the effective date of former 

section 1031(i), which treats shares in 

certain mutual ditch companies as real 

property for section 1031 purposes. The 

commenter reasoned that, because the 

treatment of mutual ditch company 

shares has been preserved by the 

proposed regulations following the 

enactment of the TCJA, all property 

classified as real property as of May 22, 

2008, also should be classified as real 

property under the final regulations. 

The final regulations do not adopt the 

commenter’s suggestion. The Treasury 

Department and the IRS have 

determined that a rule that fixes 

property classifications under State or 

local laws as of a date certain would add 

complexity as the post-enactment 

period of the TCJA continues to 

lengthen. Given that the final 

regulations have broadened the 

applicability of State and local real 

property classification for purposes of 

section 1031 qualification, the Treasury 

Department and the IRS have 

determined that the perpetually 

increasing complexity of such a rule 

would significantly outweigh any 

potential benefits of the commenter’s 

suggestion. 

B. Purpose or Use Test 

1. Approach of the Proposed 

Regulations 

Under proposed § 1.1031(a)–3(a)(1), 

real property includes land and 

improvements to land, and 

improvements to land include both 

inherently permanent structures and the 

structural components of inherently 

permanent structures. Inherently 

permanent structures are buildings or 

other structures that are permanently 

affixed to real property and that will 

ordinarily remain affixed for an 

indefinite period of time. See proposed 

§ 1.1031(a)–3(a)(2)(ii)(A). A list of 

structures that qualify as buildings or as 

other inherently permanent structures is 

provided in proposed § 1.1031(a)– 

3(a)(2)(ii)(B) and (C). A structural 

component is any distinct asset, as 

defined in the proposed regulations, 

that is a constituent part of, and 

integrated into, an inherently permanent 

structure. See proposed § 1.1031(a)– 

3(a)(2)(iii)(A). Proposed § 1.1031(a)– 

3(a)(2)(iii)(B) provides examples of 

items that are structural components 

under section 1031. 

The proposed regulations also 

consider the function of property in 

determining whether the property is real 

property for section 1031 purposes 

(purpose or use test). In particular, 

neither tangible property, such as 

machinery or equipment, nor intangible 

property, such as licenses or permits, is 

classified as real property under the 

proposed regulations if the property 

contributes to the production of income 

unrelated to the use or occupancy of 

space, irrespective of any other factor 

under the proposed regulations. See 

proposed §§ 1.1031(a)–3(a)(2)(ii)(D) 

(regarding machinery and equipment) 

and 1.1031(a)–3(a)(5) (regarding 

intangible property). For example, a gas 

line installed for the sole purpose of 

providing fuel to fryers and ovens in a 

restaurant is not a constituent part of an 

inherently permanent structure and 

therefore not real property under the 

proposed regulations. See also proposed 

§ 1.1031(a)–3(b)(12) (providing a similar 

77368 Federal Register / Vol. 85, No. 232 / Wednesday, December 2, 2020 / Rules and Regulations 

example with regard to a license to 

operate a casino business, which is an 

intangible property). The proposed 

regulations requested comments on 

whether the purpose or use test is 

appropriate to use as the basis for 

determining whether property qualifies 

as real property for section 1031 

purposes. 

2. Summary of Comments Received 

Commenters uniformly disagreed 

with the purpose or use test and 

advocated that it be omitted from the 

final regulations. According to these 

commenters, the purpose or use test 

improperly narrows the scope of the 

definition of real property for section 

1031 purposes and, if adopted in the 

final regulations, would treat certain 

types of property that have historically 

been treated as real property for section 

1031 purposes as personal property 

contrary to the directive of Congress in 

the Conference Report. See Conference 

Report, at 396, fn. 726. 

In addition, commenters contend that 

machinery and equipment should not be 

disqualified as an inherently permanent 

structure, and thus as real property, 

merely because the machinery or 

equipment is used in the production of 

income unrelated to use or occupancy of 

space. Instead, the commenters asserted 

that if such property is inherently 

permanent, the property should be 

treated as real property for purposes of 

section 1031, regardless of its purpose 

or use or the type of income it generates. 

Therefore, according to the commenters, 

permanently affixed items such as gas 

lines, cooling units, and piping should 

be treated as real property without 

regard to whether those items comprise 

part of an income-generating structure. 

The commenters also recommended that 

the final regulations provide revised 

examples to reflect the position that the 

real property characterization of a 

particular asset is based on the degree 

to which the item is permanently 

affixed and not on its purpose and use. 

One commenter also emphasized that 

the purpose or use test would prove 

burdensome for small businesses and 

individual taxpayers because that test 

would require them to expend resources 

on cost segregation studies to determine 

which items of machinery and 

equipment are personal and which are 

real property. According to the 

commenter, such expenses would be 

eliminated if real property 

determinations are based on permanent 

affixation and not purpose or use. 

Finally, the commenter noted that 

inclusion of the purpose or use test in 

the final regulations would be 

problematic because neither section 

1031 nor the regulations under section 

1031 provide a definition of machinery. 

However, the term ‘‘machinery’’ is not 

necessary if, as this commenter 

recommended, real property 

determinations for an asset are based on 

the degree to which the asset is 

permanently affixed and not its purpose 

or use. 

3. Elimination of Proposed Purpose or 

Use Test 

The Treasury Department and the IRS 

agree with the commenters and have 

revised the final regulations to eliminate 

a purpose or use test for tangible 

property. Consequently, with regard to 

tangible property, if such property is 

permanently affixed to real property and 

will ordinarily remain affixed for an 

indefinite period of time, the property is 

generally an inherently permanent 

structure and thus real property for 

section 1031 purposes, irrespective of 

the purpose or use of the property or 

whether it contributes to the production 

of income. A structural component 

likewise is characterized as real 

property under the final regulations if it 

is integrated into an inherently 

permanent structure, regardless of 

whether the structural component 

contributes to the production of income. 

Accordingly, under the final 

regulations, items of machinery and 

equipment are characterized as real 

property if they comprise an inherently 

permanent structure, a structural 

component, or are real property under 

the State or local law test. 

The Treasury Department and the IRS 

received no comments regarding the 

application of the proposed purpose or 

use test to real property classifications 

of intangible property. However, the 

Treasury Department and the IRS have 

determined that many of the comments 

pertaining to the purpose or use test 

with regard to tangible property equally 

apply to classifications of intangible 

property. As a result, under the final 

regulations, whether intangible property 

produces or contributes to the 

production of income other than 

consideration for the use or occupancy 

of space is not considered in 

determining whether intangible 

property is real property for section 

1031 purposes. However, the purpose of 

the intangible property remains relevant 

to the real property determination. 

C. Revisions to the Definition of 

Inherently Permanent Structure 

Proposed § 1.1031(a)–3(a)(2)(ii)(A) 

defines the term ‘‘inherently permanent 

structures’’ to mean ‘‘any building or 

other structure that is a distinct asset 

(within the meaning of [proposed 

§ 1.1031(a)–3(a)(4)]) and is permanently 

affixed to real property and that will 

ordinarily remain affixed for an 

indefinite period of time.’’ One 

commenter highlighted that the 

proposed regulations do not define the 

phrases ‘‘permanently affixed’’ or 

‘‘indefinite period of time’’ for purposes 

of defining ‘‘inherently permanent 

structure,’’ other than providing that 

affixation to real property may be 

accomplished by weight alone. See 

proposed § 1.1031(a)–3(a)(2)(ii)(C). The 

commenter noted that § 1.856– 

10(d)(2)(i) provides that, ‘‘[i]f the 

affixation is reasonably expected to last 

indefinitely based on all the facts and 

circumstances, the affixation is 

considered permanent.’’ As a result, the 

commenter recommended that the final 

regulations clarify the meaning of these 

terms, including by adding the abovequoted language in § 1.856–10 to 

explain the phrase ‘‘permanently 

affixed.’’ 

The Treasury Department and the IRS 

agree with the commenter’s suggestion 

to incorporate the language provided in 

§ 1.856–10(d)(2)(i) to provide additional 

clarity regarding the meaning of 

‘‘permanently affixed’’ and have revised 

the final regulations accordingly. 

D. Comments Regarding Offshore 

Platforms and Pipelines, and Related 

Example 

Proposed § 1.1031(a)–3(a)(2)(ii)(C) 

specifically lists offshore drilling 

platforms and oil and gas pipelines as 

inherently permanent structures, and 

therefore such property is defined as 

real property. The proposed regulations 

also provide an example addressing a 

pipeline transmission system comprised 

of underground pipelines, isolation 

valves and vents, pressure control and 

relief valves, meters, and compressors. 

See proposed § 1.1031(a)–3(b)(10) 

(Example 10). Example 10 concludes 

that the meters and compressors are not 

real property because (i) they are not 

time consuming and expensive to install 

and remove from the pipelines, (ii) they 

are not designed specifically for the 

particular pipelines for which they are 

a part, and (iii) their removal does not 

cause damage to the asset or the 

pipelines if removed. Based on the same 

analysis, Example 10 concludes that 

isolation valves and vents, and pressure 

control and relief valves are real 

property for section 1031 purposes. 

One commenter suggested that the 

final regulations should remove the 

adjective ‘‘drilling’’ from ‘‘offshore 

drilling platform’’ as listed as an 

inherently permanent structure in 

proposed § 1.1031(a)–3(a)(2)(ii)(C). For 

support, the commenter stated that an 

Federal Register / Vol. 85, No. 232 / Wednesday, December 2, 2020 / Rules and Regulations 77369 

offshore platform used for production is 

structurally similar to an offshore 

platform used for drilling, and therefore 

the term should be appropriately 

broadened. As so modified, the term 

‘‘offshore platform’’ would cover both 

offshore drilling platforms and offshore 

production platforms. 

The commenter also provided 

additional recommendations regarding 

assets used in an oil and gas business. 

For example, the commenter suggested 

that the final regulations should 

explicitly provide that underground and 

above-ground pipelines are real 

property for section 1031 purposes. The 

commenter recommended that the final 

regulations characterize meters and 

compressors as real property. In 

contending that Example 10 provided 

an incorrect conclusion, the commenter 

explained that meters and compressors 

generally require substantial amounts of 

time and money to prepare, construct, 

and place in service due to unique 

circumstances affecting individual 

pipelines. 

The Treasury Department and the IRS 

have clarified the final regulations based 

on the commenter’s recommendations. 

As an initial matter, the final regulations 

delete ‘‘drilling’’ from the term 

‘‘offshore drilling platform,’’ as listed in 

proposed § 1.1031(a)–3(a)(2)(ii)(C). The 

Treasury Department and the IRS agree 

that an offshore platform used for 

production likewise should be 

characterized as an inherently 

permanent structure because such 

property is structurally similar to an 

offshore platform used for drilling. 

In addition, the final regulations 

contain a revised version of Example 10, 

renumbered as Example 9, to clarify the 

analysis and conclusions in the 

proposed example. With regard to an 

above-ground pipeline, an oil and gas 

pipeline is listed property in proposed 

§ 1.1031(a)–3(a)(2)(ii)(C) and is therefore 

real property, regardless of whether 

above or below ground. Whether 

particular meters or compressors are 

real property must be determined by 

their unique facts and circumstances. If 

under different circumstances the 

meters or compressors described in 

proposed Example 10, now Example 9, 

required substantial amounts of time 

and money to prepare, construct, and 

place in service due to unique 

circumstances affecting individual 

pipelines, the components would be 

real property for section 1031 purposes. 

Example 9 in the final regulations 

illustrates these rules. 

E. Requests To List Additional Tangible 

Assets as Real Property 

1. Installed Appliances 

One commenter requested that the 

final regulations expressly list as real 

property installed appliances (also 

referred to as ‘‘appliances in place’’), 

including refrigerators, stoves, 

dishwashers, and microwave ovens. The 

commenter explained that, in certain 

regions of the United States, residential 

real property generally is sold with the 

appliances in place as part of the sale. 

The commenter further stated that, in 

many like-kind exchanges of one-family 

rental properties, sellers (i) consider the 

appliances, furniture, and electrical 

fixtures remaining in the property to be 

part of the real property transaction, and 

(ii) count such items of property 

towards the amount of replacement 

property that must be acquired to avoid 

gain recognition under section 1031. 

2. Sheds and Carports 

One commenter recommended adding 

sheds and carports to the list of assets 

that are expressly included as buildings 

in proposed § 1.1031(a)–3(a)(2)(ii)(B). 

The commenter contended that such 

structures generally take the form of 

buildings and, therefore, a specific 

listing as a building under the final 

regulations would increase certainty 

regarding exchanges involving such 

assets. 

3. Wi-Fi Systems 

Another commenter suggested that 

proposed § 1.1031(a)–3(a)(2)(iii)(A) be 

revised to specifically list as structural 

components Wi-Fi systems, distributed 

antenna systems, and other integrated 

systems that may be installed in 

buildings to transmit and receive 

wireless signals and cellular service. 

The commenter asserted that such 

integrated systems are installed in 

buildings and inherently permanent 

structures, and often are as essential to 

the use of buildings as heating and 

electricity. Additionally, the commenter 

emphasized that such integrated 

systems generally require that the 

taxpayer hold a real property interest in 

conjunction with its installation of the 

system, and therefore should satisfy the 

definition of a structural component 

under the proposed regulations. 

4. Trade Fixtures 

One commenter recommended that 

‘‘trade fixtures’’ be expressly listed as 

real property under the final 

regulations. The commenter noted that 

such items are semi-permanently affixed 

to real property and perform or support 

the performance of functions (including 

manufacturing, cooking, and decorative 

lighting) unrelated to basic building 

functions. Additionally, the commenter 

asserted that trade fixtures have 

historically been treated as real property 

for State law purposes, except in 

instances in which there is a plan to 

remove or relocate them to a different 

property. 

5. Final Regulations Do Not Specifically 

List the Requested Items as Real 

Property 

After consideration of the 

commenters’ recommendations, the 

Treasury Department and the IRS have 

determined that the final regulations 

should not specifically list any of these 

suggested assets as real property for 

purposes of section 1031. The final 

regulations are intended to provide tests 

under which taxpayers can evaluate the 

particular facts and circumstances of the 

property in question to determine with 

certainty whether particular property is 

characterized as real or personal 

property. To limit complexity of the 

final regulations, the characterization of 

the above-listed items in this part II.E is 

most appropriately determined based on 

the application of the State and local 

law test or the various factors in the 

final regulations. 

Specifically, with regard to installed 

appliances, whether a seller considers 

an item transferred with real property to 

be part of the real property transaction 

is not a relevant factor in determining 

whether the item is real property for 

section 1031 purposes. Movable items, 

such as furniture, are personal property 

irrespective of the terms of the sales 

contract for the real property that is the 

subject of the sale. Those items, 

however, may be incidental personal 

property that, under the final 

regulations, is disregarded in 

determining whether a taxpayer’s rights 

to receive, pledge, borrow, or otherwise 

obtain the benefits of money or nonlike-kind property held by a qualified 

intermediary are expressly limited as 

provided in § 1.1031(k)–1(g)(6). 

F. Requested Clarifications Regarding 

Carpeting and Wiring 

One commenter requested 

clarification regarding whether 

carpeting in an office building, or other 

real property held for productive use in 

a trade or business or for investment, is 

considered real property or personal 

property under the final regulations. 

Another commenter inquired whether 

wires installed within the walls of an 

office building are real property for 

section 1031 purposes if the wires were 

installed specifically for computer 

workstations that produce income for 

77370 Federal Register / Vol. 85, No. 232 / Wednesday, December 2, 2020 / Rules and Regulations 

the business. The commenter 

acknowledged that the proposed 

regulations provide that wiring is a 

structural component, and therefore real 

property for purposes of section 1031, 

provided the wiring is a constituent part 

of, and integrated into, an inherently 

permanent structure. 

The Treasury Department and the IRS 

appreciate the commenters’ requests for 

clarification regarding the qualification 

of carpeting and wiring as inherently 

permanent structures or structural 

components. However, such 

qualification would be dependent upon 

a facts-and-circumstances analysis 

unique to the specific carpeting or 

wiring, as well as the classification of 

such items under applicable State or 

local law. As a result, the final 

regulations do not adopt the 

commenters’ suggestions, but instruct 

taxpayers to apply the State and local 

law test or the various factors in the 

final regulations. 

G. Requests To List Additional 

Intangible Assets as Real Property 

1. Stock in a Cooperative Housing 

Corporation 

The proposed regulations provide that 

an interest in real property, including 

fee ownership, co-ownership, a 

leasehold, an option to acquire real 

property, an easement, or a similar 

interest, is real property for purposes of 

section 1031. See proposed § 1.1031(a)– 

3(a)(1). One commenter suggested that 

this list of items be revised to include 

stock held by a person as a tenantstockholder in a cooperative housing 

corporation. The commenter noted that 

the term ‘‘interests in real property’’ for 

purposes of regulations regarding real 

estate investment trusts (REITs) 

includes stock held by a person as a 

tenant-stockholder in a cooperative 

housing corporation. See § 1.856–3(c). 

2. Development Rights 

One commenter requested that rights 

to develop land be expressly listed as 

real property in final § 1.1031(a)–3(a)(1). 

For support, the commenter emphasized 

that the IRS has published a private 

letter ruling that an exchange of a fee 

interest in real estate for development 

rights in real estate qualified as a likekind exchange under section 1031. 

Accordingly, the commenter concluded 

that development rights should be 

specifically listed as real property in the 

final regulations. 

3. Final Regulations Expressly List the 

Requested Items as Real Property 

The Treasury Department and the IRS 

agree with the commenters’ 

recommendations regarding stock in a 

cooperative housing corporation and 

land development rights. The intangible 

assets described in this part II.G have 

historically been characterized as real 

property. Accordingly, the final 

regulations have been revised to 

expressly list those intangible assets. 

4. Licenses and Permits 

Under the proposed regulations, a 

license, permit, or other similar right 

that is solely for the use, enjoyment, or 

occupation of land or an inherently 

permanent structure, and that is in the 

nature of a leasehold or easement, 

generally is an interest in real property 

under section 1031. See proposed 

§ 1.1031(a)–3(a)(5)(ii). One commenter 

contended that this language is too 

restrictive because it addresses only 

leaseholds and easements. 

In response to this comment, the final 

regulations provide that a license, 

permit, or other similar right that is 

solely for the use, enjoyment, or 

occupation of land or an inherently 

permanent structure and that is in the 

nature of a leasehold, an easement, or a 

similar right generally is an interest in 

real property and thus is real property 

under section 1031. 

H. Requested Clarifications Regarding 

Easements and Leaseholds 

Proposed § 1.1031(a)–3(a)(5)(ii) 

provides that a ‘‘license, permit, or other 

similar right that is solely for the use, 

enjoyment, or occupation of land or an 

inherently permanent structure and that 

is in the nature of a leasehold or 

easement generally is an interest in real 

property.’’ One commenter requested 

that final § 1.1031(a)–3(a)(5)(ii) add the 

word ‘‘perpetual’’ or ‘‘permanent’’ 

before ‘‘easement’’ to communicate that 

an easement must have a term 

exceeding 30 years as of the date of the 

exchange to be consistent with 

§ 1.1031(a)–1(c). Under that regulation, 

examples of exchanges of real property 

of a like kind include an exchange of a 

leasehold interest in a fee with a term 

of 30 years or more to run for real estate. 

On this aspect of easements and 

leaseholds, however, the comments 

received were not uniform. For 

example, another commenter requested 

that final § 1.1031(a)–3(a)(5)(ii) specify 

that leaseholds or easements of any 

duration are an interest in real property 

under section 1031. As a conforming 

revision, the commenter also 

recommended that the final regulations 

remove the reference in § 1.1031(a)–1(c) 

to leaseholds with 30 years or more to 

run to provide parity among all interests 

in real property eligible for like-kind 

exchanges under section 1031. In 

addition, a separate commenter 

recommended that the final regulations 

clarify whether a leasehold interest in 

real property must have, as of the date 

of the exchange, a remaining term of at 

least 30 years or more in order to qualify 

as an interest in real property. 

The Treasury Department and the IRS 

note, as an initial matter, that the 

proposed and final regulations address 

solely the qualification of an asset as 

real property for section 1031 purposes, 

and do not specifically address whether 

an exchange is like kind. Duration of an 

easement or a leasehold is not relevant 

in determining whether the easement or 

leasehold is real property under 

§ 1.1031(a)–3(a)(5), and therefore, 

proposed § 1.1031(a)–3(a)(5)(ii) did not 

include a reference to duration. The 

commenters, however, correctly note 

that duration may be relevant under 

§ 1.1031(a)–1(c) for purposes of 

determining whether an exchange of an 

easement or leasehold for real property 

would qualify as like kind. Because likekind determinations exceed the scope of 

the final regulations, the commenters’ 

suggestions and requests for 

clarification regarding like-kind 

determinations are not incorporated into 

these final regulations. 

I. Applicability of Distinct Asset Test to 

Three-Property Rule in § 1.1031(k)– 

1(c)(4)(i)(A) 

The proposed regulations provide 

that, in general, each distinct asset is 

analyzed separately from each other 

distinct asset in determining whether a 

distinct asset is real property for section 

1031 purposes. One commenter 

requested that the final regulations 

clarify that this distinct asset rule does 

not apply for purposes of § 1.1031(k)– 

1(c)(4)(i)(A), which generally limits a 

taxpayer to the identification of three 

replacement properties (three-property 

rule). In response to the comment, the 

Treasury Department and the IRS have 

added language to the definition of 

distinct asset in § 1.1031(a)–3(a)(4) to 

clarify that the distinct asset rule 

applies only for purposes of 

determining whether property is real 

property for section 1031 purposes and 

does not affect the application of the 

three-property rule. 

III. Incidental Property Rule 

A. Approach of the Proposed 

Regulations 

Section 1.1031(k)–1(g)(7)(iii) of the 

proposed regulations addresses the 

receipt of personal property that is 

incidental to the taxpayer’s replacement 

real property in an exchange (incidental 

property rule). The incidental property 

Federal Register / Vol. 85, No. 232 / Wednesday, December 2, 2020 / Rules and Regulations 77371 

rule provides that, for exchanges 

involving a qualified intermediary, 

personal property that is incidental to 

replacement real property (incidental 

personal property) is disregarded in 

determining whether a taxpayer’s rights 

to receive, pledge, borrow, or otherwise 

obtain the benefits of money or nonlike-kind property held by the qualified 

intermediary are expressly limited as 

provided in § 1.1031(k)–1(g)(6). 

However, as personal property, 

incidental personal property is non-likekind property that generally results in 

gain recognition under section 1031(b) 

on the exchange. 

Personal property is incidental to real 

property acquired in an exchange if (i) 

in standard commercial transactions, 

the personal property is typically 

transferred together with the real 

property, and (ii) the aggregate fair 

market value of the incidental personal 

property transferred with the real 

property does not exceed 15 percent of 

the aggregate fair market value of the 

replacement real property (15-percent 

limitation). 

B. Calculation of 15-Percent Limitation 

The Treasury Department and the IRS 

received several comments 

recommending a change to the 

calculation of the amount of incidental 

property that a taxpayer may acquire 

and still meet the requirements of the 

incidental property rule. For example, 

commenters recommended that the 

value of incidental property under the 

final regulations be permitted to equal 

up to 15 percent of the total fair market 

value of the replacement real property, 

as well as the incidental property. For 

support, these commenters highlighted 

that their suggested 15-percent 

calculation is consistent with sections 

856(d)(1)(C) and 856(c)(9)(A)(ii) of the 

Code pertaining to REITs. In addition, a 

commenter suggested that final 

§ 1.1031(k)–1(g)(7)(iii) should permit the 

aggregate fair market value of the 

incidental personal property to equal up 

to 20 percent of the aggregate fair market 

value of the replacement real property. 

The final regulations do not adopt 

these comments. As explained in part II 

of the Explanation of Provisions section 

of the preamble to the proposed 

regulations, the proposed incidental 

property rule is ‘‘based on the existing 

rule in § 1.1031(k)–1(c)(5), which 

provides that certain incidental property 

is ignored in determining whether a 

taxpayer has properly identified 

replacement property under section 

1031(a)(3)(A) and § 1.1031(k)–1(c).’’ 85 

FR 35839. In addition, the Treasury 

Department has determined that a 

limitation in excess of 15 percent 

‘‘might induce taxpayers to bundle more 

personal property with their exchanged 

property,’’ which ‘‘would lead to 

increased amounts of personal property 

exchanged with real property under 

section 1031 and effectively unlock a 

class of personal property that would no 

longer be ‘incidental’ to the real 

property.’’ 85 FR 35840. Consequently, 

the Treasury Department and the IRS 

continue to believe that the proposed 

15-percent limitation, and its 

calculation, are ‘‘responsive to ordinarycourse exchanges that often commingle 

personal property and real property as 

part of the aggregate exchanged 

property.’’ Id. 

C. Requests To Identify Incidental 

Property Rule as a Safe Harbor 

Commenters requested that the 

incidental property rule be specifically 

identified in the final regulations as a 

safe harbor. One commenter expressed 

concern that, unless identified as a safe 

harbor, the incidental property rule may 

be interpreted as a bright-line rule under 

which acquisitions of personal property 

valued in excess of 15 percent of the 

real property will cause the exchange to 

fail, and the transfer of relinquished 

property to be fully taxable. 

Additionally, a separate commenter 

requested that the final regulations 

clarify that incidental property may 

include intangible property such as 

goodwill. 

The final regulations do not adopt the 

request that the incidental property rule 

be identified as a safe harbor. The items 

in current § 1.1031(k)–1(g)(1) through 

(5) consist of safe harbors that help 

taxpayers comply with other rules in 

§ 1.1031(k)–1, and § 1.1031(k)–1(g)(7)(i) 

and (ii) are items that are disregarded in 

determining whether one of the existing 

safe harbors ceases to apply. The 

incidental property rule adds an 

additional item to § 1.1031(k)–1(g)(7) 

that is disregarded in determining 

whether one of the existing safe harbors 

ceases to apply. Identifying the 

incidental property rule as a safe harbor 

would thus be confusing because it is an 

item that is disregarded in determining 

if an existing safe harbor applies. 

Therefore, the incidental property rule 

operates as part of an existing safe 

harbor. Consequently, acquisitions of 

personal property valued in excess of 15 

percent of the replacement real property 

are not disregarded in determining if 

one of the safe harbors in § 1.1031(k)– 

1(g)(3) through (5) ceases to apply and 

whether the taxpayer’s rights to receive, 

pledge, borrow, or otherwise obtain the 

benefits of money or non-like-kind 

property are expressly limited as 

provided in § 1.1031(k)–1(g)(6), but will 

not automatically cause the exchange to 

fail section 1031 and the transfer of 

relinquished property to be treated as a 

sale or taxable exchange. 

Further, the incidental property rule 

applies to non-real property, regardless 

of whether tangible or intangible. No 

change to the regulations is required to 

accommodate this suggestion. 

D. Application of Section 1031(b) to 

Receipt of Incidental Personal Property 

Several commenters recommended 

that the final incidental property rule 

provide that a taxpayer’s receipt of 

personal property incidental to the real 

property received in a like-kind 

exchange be treated as the receipt of real 

property, and thus not give rise to 

recognized gain under section 1031(b). 

Under section 1031(b), a taxpayer must 

recognize gain on a section 1031 

exchange to the extent of money or nonlike-kind property the taxpayer receives 

in the exchange. Similarly, one 

commenter suggested that, if the final 

regulations require recognition of gain 

on the receipt of incidental personal 

property, the final regulations should 

not include the incidental property rule. 

That commenter contended that 

inclusion of the incidental property rule 

in the final regulations will result in 

some taxpayers misinterpreting the rule 

by treating incidental personal property 

in the same manner as real property for 

purposes of the nonrecognition of gain 

or loss under section 1031. 

The final regulations do not adopt the 

commenters’ recommendations. As 

amended by the TCJA, section 1031(a) is 

limited to exchanges of real property. 

However, the TCJA did not amend 

section 1031(b), which provides that a 

taxpayer must recognize gain on an 

exchange to the extent of money and 

non-like-kind property received in the 

exchange. Personal property received in 

a like-kind exchange of real property is 

non-like-kind property received in the 

exchange. Consequently, under section 

1031(b), gain generally must be 

recognized to the extent of the personal 

property received in the exchange. 

The final regulations revise proposed 

§ 1.1031(k)–1(g)(7)(iii)(B) slightly to 

improve readability; the revision does 

not change the meaning of proposed 

§ 1.1031(k)–1(g)(7)(iii)(B). 

The final regulations include the 

incidental property rule to provide 

assurance to taxpayers that a qualified 

intermediary’s use of exchange proceeds 

to acquire incidental personal property 

will not cause the taxpayer to fail to 

meet the requirements of § 1.1031(k)– 

1(g)(6)(i), and thus the requirements of 

section 1031. As explained in the 

preamble to the proposed regulations, 

77372 Federal Register / Vol. 85, No. 232 / Wednesday, December 2, 2020 / Rules and Regulations 

the incidental property rule was 

proposed to respond to concerns that a 

taxpayer would be considered to be in 

constructive receipt of all of the 

exchange funds held by the qualified 

intermediary if the taxpayer is able to 

direct the qualified intermediary to use 

those funds to acquire property that is 

not of a like kind to the taxpayer’s 

relinquished property. See generally 

part II of the Explanation of Provisions 

section in the preamble to the proposed 

regulations. The incidental property 

rule is intended to help taxpayers 

comply with the requirements of section 

1031, particularly the prohibition on a 

taxpayer’s ability to actually or 

constructively receive the proceeds from 

the transfer of relinquished property 

before receiving like-kind replacement 

property. 

One commenter recommended that 

the final regulations include language 

specifically providing that the receipt of 

incidental personal property in a section 

1031 exchange results in taxable gain to 

the taxpayer. The final regulations adopt 

this recommendation and add language 

in § 1.1031(k)–1(g)(7)(iii) to clarify this 

point. 

E. Request That 15-Percent Limitation 

Not Be Applied on a Property-byProperty Basis 

One commenter recommended that 

the final regulations clarify that the 15- 

percent limitation for the incidental 

property rule is not applied on a 

property-by-property basis. For 

example, assume a taxpayer acquires an 

office building (Building 1) with office 

furniture, and a second office building 

(Building 2) with no personal property. 

The commenter requested that the final 

regulations confirm that the taxpayer 

does not exceed the 15-percent 

limitation if the value of the furniture is 

15 percent or less of the total value of 

Building 1 and Building 2, even if the 

value of the furniture exceeds 15 

percent of the value of just Building 1. 

The Treasury Department and the IRS 

agree with the commenter’s 

recommendation. Accordingly, the final 

regulations include language to clarify 

that the 15-percent limitation is 

calculated by comparing the value of all 

of the incidental properties to the value 

of all of the replacement real properties 

acquired in the same exchange. 

F. Suggested Language Changes to 

Incidental Property Rule 

One commenter recommended a 

series of language modifications to the 

incidental property rule in the proposed 

§ 1.1031(k)–1(g)(7)(iii). For example, the 

commenter recommended that the rule 

for determining whether personal 

property is incidental to real property 

acquired in an exchange not reference 

the term ‘‘commercial transaction.’’ For 

support, the commenter asserted that 

the term might be interpreted to include 

only contracts involving transfers of 

non-residential property such as 

commercial real estate and not 

residential rental property. In addition, 

the commenter suggested that, in the 

final regulations, the language ‘‘the 

personal property is typically 

transferred together with the real 

property’’ be replaced with ‘‘the 

personal property is typically listed in 

the contract and transferred with the 

real property.’’ 

The final regulations do not adopt 

these suggested modifications because 

the Treasury Department and the IRS 

have determined that proposed 

§ 1.1031(k)–1(g)(7)(iii) provides clear 

guidance for determining whether 

personal property is incidental to real 

property acquired in an exchange. In 

particular, the term ‘‘commercial 

transactions’’ refers to transactions 

involving business or investment 

property rather than personal-use 

property. Accordingly, the term 

‘‘commercial’’ describes the type of 

transaction, not the type of property. 

Therefore, a commercial transaction 

may involve either residential or nonresidential property. 

The final regulations also do not 

adopt the commenter’s recommendation 

that the language ‘‘the personal property 

is typically transferred together with the 

real property’’ be replaced with ‘‘the 

personal property is typically listed in 

the contract and transferred with the 

real property.’’ Generally, if personal 

property is transferred as part of a 

transfer of real property, the personal 

property would be listed in the contract 

relating to the transfer. However, if a 

taxpayer lists the personal property in a 

contract separate from the contract 

addressing the transfer of real property, 

listing the personal property in a 

separate contract generally will not 

prevent the taxpayer from using the 

incidental property rule. 

G. Request To Apply Incidental Property 

Rule Retroactively 

A commenter also requested that, 

under the final regulations, the 

incidental property rule apply 

retroactively to exchanges after either (i) 

the 1984 enactment of the deferred 

exchange rules in section 1031(a)(3) or 

(ii) the 1991 effective date of the 

§ 1.1031(k)–1 deferred exchange final 

regulations. The commenter observed 

that the concerns that led to the 

inclusion of the incidental property rule 

in the proposed regulations, which 

include directing a qualified 

intermediary to use exchange proceeds 

to acquire non-like-kind property, also 

existed for pre-TCJA exchanges under 

section 1031. Thus, the commenter 

suggested that the incidental property 

rule apply to pre-TCJA exchanges. 

Prior to enactment of the TCJA, 

personal property was eligible for likekind exchange treatment. Therefore, a 

rule disregarding the receipt of 

incidental personal property in 

determining whether a taxpayer was in 

constructive receipt of non-like-kind 

property prior to enactment of the TCJA 

would function in a very different way 

than it does post-TCJA. Accordingly, 

these final regulations do not adopt this 

suggestion. 

H. Requested Clarifications Regarding 

Receipt of Personal Property or Escrow 

Funds 

Commenters requested clarification 

regarding the application of the 

incidental property rule to cash placed 

in escrow to pay transactional and other 

items in a real estate transfer. The 

Treasury Department and the IRS note 

that a taxpayer’s receipt of escrowed 

funds that the taxpayer placed in escrow 

for transactional-type items is not a 

receipt of incidental personal property. 

Therefore, the final regulations do not 

revise the incidental property rule in 

response to the commenters’ request. A 

commenter also requested guidance 

regarding situations in which an 

exchanging taxpayer acquires a 

substantial amount of personal property 

due to unforeseen circumstances. The 

final regulations do not address this 

specific situation. The 15-percent 

limitation is not a bright-line test for 

determining whether a transaction fails 

to meet the requirements of an exchange 

under section 1031. All of the facts and 

circumstances of the taxpayer’s 

situation are considered in determining 

if the exchange meets the requirements 

of section 1031. 

IV. Comments That Exceed the Scope of 

the Final Regulations 

A. Application of Section 453 of the 

Code To Gain on a Transfer of Personal 

Property 

A commenter recommended that the 

final regulations provide clarification 

regarding the application of section 453 

to certain like-kind exchanges. 

Specifically, the commenter requested 

guidance about the timing of gain 

recognition when (i) real property is 

exchanged for both like-kind real 

property and non-like-kind personal 

property incidental to the real property, 

and (ii) the exchange is not completed 

Federal Register / Vol. 85, No. 232 / Wednesday, December 2, 2020 / Rules and Regulations 77373 

until the taxable year succeeding the 

taxable year of the transfer of the 

relinquished property. The commenter 

requested that the final regulations 

address whether the gain on the receipt 

of the personal property is recognized in 

the first or the second taxable year (Tax 

Year 1 and Tax Year 2, respectively) if 

the like-kind exchange straddles two 

taxable years. 

The commenter also requested 

guidance regarding a situation involving 

a taxpayer who (i) has a bona fide intent 

to execute a section 1031 exchange, (ii) 

transfers relinquished real property and 

incidental personal property in Tax 

Year 1, and (iii) fails to acquire 

replacement property by the 180th day 

after the transfer of the relinquished 

property, which is in Tax Year 2. 

Specifically, the commenter 

recommends that the final regulations 

address whether the gain on the transfer 

of the personal property is recognized in 

Tax Year 1 or Tax Year 2. 

The Treasury Department and the IRS 

appreciate the commenter’s questions 

but have determined the commenter’s 

requested guidance exceeds the scope of 

the final regulations. The issues raised 

by the commenter relate to the 

application of current § 1.1031(k)– 

1(j)(2), which addresses the application 

of the installment method of accounting 

in section 453 to like-kind exchanges 

involving the receipt of non-like-kind 

property that straddles two taxable 

years, or that would have straddled two 

taxable years if successfully completed. 

The scope of the final regulations is 

limited to the definition of real property 

under section 1031 and to incidental 

property received in a section 1031 

exchange. Accordingly, the final 

regulations do not address the issues 

relating to the timing of gain recognition 

raised by the commenter. 

B. Application of Current § 1.1031(j)–1 

to Post-TCJA Exchanges 

Several commenters inquired about 

the application of current § 1.1031(j)–1 

to exchanges of multiple properties 

following the enactment of the TCJA. 

Section 1.1031(j)–1 provides an 

exception to the general rule that 

section 1031 requires a property-byproperty comparison for computing the 

gain recognized and basis of property 

received in a like-kind exchange. 

Section 1.1031(j)–1 applies when there 

is more than one exchange group 

created, as described in § 1.1031(j)– 

1(b)(2)(i), or, if there is only one 

exchange group, there is more than one 

property transferred or received within 

the exchange group. Under § 1.1031(j)– 

1, the amount of gain recognized and 

the basis of the properties received by 

a taxpayer are computed after separating 

the properties transferred and received 

by the taxpayer in the exchange into 

exchange groups, in accordance with 

the rules in § 1.1031(j)–1(b)(3) and (c), 

respectively. In addition, under 

§ 1.1031(j)–1(b)(2)(ii), all liabilities 

assumed by a taxpayer as part of an 

exchange to which § 1.1031(j)–1 applies 

are offset against all liabilities of which 

the taxpayer is relieved as part of the 

exchange. 

One commenter asked whether 

§ 1.1031(j)–1 applies to a post-TCJA 

exchange of real property and personal 

property for other real property and 

personal property. Under section 1031 

as in effect before the TCJA 

amendments, § 1.1031(j)–1 would have 

applied to this exchange if the 

relinquished real property was of a like 

kind to the replacement real property, 

and the relinquished personal property 

was of a like kind to the replacement 

personal property. Other commenters 

requested the Treasury Department and 

the IRS to conclude that § 1.1031(j)–1 

will continue to apply in this situation 

so that taxpayers will not have to carry 

out a property-by-property comparison 

for computing gain on the exchange. 

Another commenter inquired about 

the application of § 1.1031(j)–1 to 

exchanges of both qualifying real 

property and non-qualifying property 

that involve indebtedness encumbering 

both types of properties. Specifically, 

the commenter asked whether the full 

amount of the indebtedness assumed by 

the taxpayer would offset the full 

amount of the indebtedness liabilities of 

which the taxpayer is relieved as part of 

the exchange, even if a portion of that 

indebtedness relates to the personal 

property in the exchange. 

The Treasury Department and the IRS 

appreciate the issues raised by these 

commenters but note that the 

application of § 1.1031(j)–1 to 

transactions to which the TCJA applies 

exceeds the scope of the final 

regulations. Therefore, the final 

regulations do not address these 

comments. The Treasury Department 

and the IRS, however, continue to 

consider potential future guidance on 

issues relating to § 1.1031(j)–1. 

C. Application of Revenue Rulings 

2003–56 and 2004–86 

One commenter suggested that Rev. 

Rul. 2003–56, 2003–23 I.R.B. 985, likely 

needs to be modified to address postTCJA exchanges involving both real and 

personal property. The commenter also 

questioned whether Rev. Rul. 2004–86, 

2004–33 I.R.B. 191, needs to be updated 

to address the TCJA changes to section 

1031. 

Rev. Rul. 2003–56 addresses the 

consequences under section 752 of the 

Code and § 1.704–2(d) of a section 1031 

like-kind exchange that straddles two 

taxable years and involves relinquished 

and replacement property subject to a 

liability. The revenue ruling addresses 

whether the liabilities are netted and 

which taxable year the net change in a 

partner’s share of partnership liability is 

taken into account. 

Rev. Rul. 2004–86 addresses whether 

an interest in a Delaware statutory trust 

(DST) is treated as an interest in the real 

property owned by the DST, and 

whether a taxpayer may exchange real 

property for an interest in a DST in a 

transaction that qualifies for 

nonrecognition of gain under section 

1031. The revenue ruling examines the 

grantor trust rules of sections 671 and 

677 of the Code and the entityclassification rules in section 7701 of 

the Code and the section 7701 

regulations. Rev. Rul. 2004–86 

concludes that, under the facts of the 

ruling, including the DST agreement, 

the exchange qualifies for 

nonrecognition under section 1031. 

The Treasury Department and the IRS 

appreciate these helpful comments but 

have determined that they exceed the 

scope of the final regulations. That 

scope is limited to the definition of real 

property under section 1031 and to 

incidental property received in a section 

1031 exchange. Both Rev. Rul. 2003–56 

and Rev. Rul. 2004–86 address other 

issues related to the application of 

section 1031. 

With regard to Rev. Rul. 2004–86, 

nothing in the proposed regulations or 

the TCJA is contrary to the view that a 

transfer of an interest in a DST, if a 

grantor trust, is treated as the transfer of 

the underlying property held by the 

DST. The Treasury Department and the 

IRS, however, will continue to review 

existing guidance concerning section 

1031 like-kind exchanges to determine 

the effect of the TCJA on that guidance. 

D. Computation Error in Examples 

Contained in § 1.1031(k)–1(d)(2) 

A commenter highlighted that 

examples in § 1.1031(k)–1(d)(2) include 

a computation error. For example, the 

sum of $187,500 and $87,500 is 

incorrectly provided as $250,000. 

Although, the proposed regulations do 

not address the rules in § 1.1031(k)– 

1(d)(2), this Treasury decision corrects 

the scrivener’s error identified by the 

commenter by replacing ‘‘$87,500’’ with 

‘‘$62,500’’ each place it appears therein. 

77374 Federal Register / Vol. 85, No. 232 / Wednesday, December 2, 2020 / Rules and Regulations 

E. Interaction of Bonus Depreciation 

Rules With Section 1031 

One commenter discussed the 

interaction between the additional first 

year depreciation deduction rules in 

section 168 of the Code, commonly 

referred to as bonus depreciation, and 

the like-kind exchange rules in section 

1031, as amended by the TCJA. The 

commenter pointed out that there may 

be an adverse timing difference between 

(i) when gain is recognized on the 

transfer of real property that includes 

the transfer of personal property, and 

(ii) when a taxpayer is allowed a bonus 

depreciation deduction for the 

acquisition of replacement real property 

and personal property subject to bonus 

depreciation. The commenter also 

asserted that when the 100-percent 

bonus depreciation rules expire after 

2022, the gain associated with a section 

1031 exchange involving real estate 

including personal property will be 

larger than the gain intended by 

Congress. 

These comments, while helpful, 

exceed the scope of the final 

regulations. Accordingly, the final 

regulations do not include the guidance 

requested by the commenter. However, 

the Treasury Department and the IRS 

will consider the interaction between 

the bonus depreciation rules under 

section 168 and the like-kind exchange 

rules under section 1031. 

V. Correction to Preamble of Proposed 

Regulations Regarding Kind or Class of 

Property 

One commenter noted that the 

background section of the preamble to 

the proposed regulations provides the 

following: ‘‘Real property of one kind or 

class may not, under section 1031, be 

exchanged for real property of a 

different kind or class.’’ Proposed 

regulations, Background, part III. The 

commenter correctly pointed out that 

this sentence is inaccurate because 

distinguishing between properties of a 

different class is relevant to personal 

property and whether, under section 

1031 prior to enactment of the TCJA, 

personal properties were of like kind, 

not whether the properties were real 

property. Consequently, this sentence is 

deleted from part III of the Background 

of the preamble to the final regulations. 

Statement of Availability of IRS 

Documents 

The IRS guidance cited in this 

preamble is published in the Internal 

Revenue Bulletin (or Cumulative 

Bulletin) and is available from the 

Superintendent of Documents, U.S. 

Government Publishing Office, 

Washington, DC 20402, or by visiting 

the IRS website at http://www.irs.gov. 

Effective/Applicability Date 

These final regulations apply to 

exchanges beginning after December 2, 

2020. A taxpayer may rely on the 

proposed regulations (REG–117589–18) 

published in the Federal Register on 

June 12, 2020 (85 FR 35835), if followed 

consistently and in their entirety, for 

exchanges of real property beginning 

after December 31, 2017, and before 

December 2, 2020. 

Special Analyses 

I. Regulatory Planning and Review— 

Economic Analysis 

Executive Orders 12866, 13563, and 

13771 direct agencies to assess costs and 

benefits of available regulatory 

alternatives and, if regulation is 

necessary, to select regulatory 

approaches that maximize net benefits 

(including (i) potential economic, 

environmental, and public health and 

safety effects, (ii) potential distributive 

impacts, and (iii) equity). Executive 

Order 13563 emphasizes the importance 

of quantifying both costs and benefits, 

reducing costs, harmonizing rules, and 

promoting flexibility. 

These regulations have been 

designated as subject to review under 

Executive Order 12866 pursuant to the 

Memorandum of Agreement (April 11, 

2018) (MOA) between the Treasury 

Department and the Office of 

Management and Budget (OMB) 

regarding review of tax regulations. The 

Office of Information and Regulatory 

Affairs (OIRA) has designated these 

final regulations as economically 

significant under section 1(c) of the 

MOA. Accordingly, the OMB has 

reviewed these final regulations. 

A. Background 

1. Like-Kind Exchange 

Prior to the amendment of section 

1031 by the TCJA, certain exchanges of 

personal, intangible, or real property 

held for use in a trade or business or for 

investment qualified for nonrecognition 

under section 1031. Section 13303 of 

the TCJA generally limits the 

application of like-kind exchange 

treatment to exchanges of real property 

after December 31, 2017, subject to a 

transition rule applicable to exchanges 

not completed by January 1, 2018. 

Specifically, section 1031 provides that 

no gain or loss is recognized on the 

exchange of real property held for 

productive use in a trade or business or 

for investment if the real property is 

exchanged solely for real property of a 

like kind that is to be held either for 

productive use in a trade or business or 

for investment. 

2. Final Regulations 

The final rules provide a definition of 

real property to distinguish it from 

personal property, as the TCJA limited 

the nonrecognition of gain or loss in the 

case of like-kind exchange to exchanges 

of real property. The legislative history 

to the TCJA provides that real property 

eligible for like-kind exchange treatment 

prior to the TCJA should continue to be 

eligible for like-kind exchange 

treatment. Conference Report, at 396, fn. 

726. On June 12, 2020, the Treasury 

Department and the IRS published a 

notice of proposed rulemaking (REG– 

117589–18) in the Federal Register (85 

FR 35835) containing proposed 

regulations under section 1031 

(proposed regulations). The final 

regulations retain the basic approach 

and structure of the proposed 

regulations, with certain revisions. In 

particular, the final regulations revise 

the definition of ‘‘real property’’ in the 

proposed regulations to provide that 

property is classified as real property for 

section 1031 purposes if, on the date it 

is transferred in an exchange, the 

property is real property under the law 

of the State or local jurisdiction in 

which that property is located. 

However, property ineligible for likekind exchange treatment after 

enactment of the TCJA remains 

ineligible for like-kind exchange 

treatment after the enactment of the 

TCJA regardless of its classification 

under the laws of the State or local 

jurisdiction. The final regulations also 

revise the proposed definition of real 

property to eliminate, with regard to 

both tangible and intangible properties, 

any consideration of whether the 

particular property contributes to the 

production of income unrelated to the 

use or occupancy of space (referred to 

as the ‘‘purpose or use test,’’ as defined 

in part II.B.1 of this Summary of 

Comments and Explanation of 

Revisions). 

The final regulations retain the rule 

relating to personal property in an 

exchange that is incidental to the real 

property exchange. Under this rule 

personal property is incidental to real 

property acquired in an exchange if, in 

standard commercial transactions, the 

personal property is typically 

transferred together with the real 

property, and the aggregate fair market 

value of the incidental personal 

property transferred with the real 

property does not exceed 15 percent of 

the aggregate fair market value of the 

replacement real property. This 

incidental property rule in the proposed 

Federal Register / Vol. 85, No. 232 / Wednesday, December 2, 2020 / Rules and Regulations 77375 

regulations is based on an existing rule 

in the regulations under section 1031, 

which provides that certain incidental 

property is ignored in determining 

whether a taxpayer has properly 

identified replacement property. 

3. No-Action Baseline 

In this analysis, the Treasury 

Department and the IRS assess the 

benefits and costs of these final 

regulations relative to a no-action 

baseline reflecting anticipated Federal 

income tax-related behavior in the 

absence of these final regulations. 

4. Economic Analysis of Final 

Regulations 

The statutory changes made by the 

TCJA to section 1031 limit like-kind 

exchanges to real property. The final 

regulations provide that property is real 

property for purposes of section 1031 if, 

on the date it is transferred in an 

exchange, that property is classified as 

real property under the law of the State 

or local jurisdiction in which that 

property is located (local law test). 

Consequently, under the final 

regulations, property is classified as real 

property for purposes of section 1031 if 

the property is (i) so classified under the 

State and local law test, (ii) specifically 

listed as real property in the final 

regulations, or (iii) considered real 

property based on all the facts and 

circumstances under the various factors 

provided in the final regulations. The 

proposed regulations had extracted 

certain portions of the definition of real 

property from various existing 

regulations with the intention that they 

are consistent with the legislative 

history underlying the TCJA 

amendment to section 1031. See, for 

example, §§ 1.263(a)–3(b)(3) and 1.856– 

10 (defining the term ‘‘real property’’ to 

mean land and improvements to land 

such as buildings and other inherently 

permanent structures, and their 

structural components); § 1.263A–8(c) 

(providing that real property includes 

unsevered natural products of land such 

as growing crops and plants, mines 

wells and other natural deposits); and 

§ 1.856–10(c) (providing, in relevant 

part, that the term ‘‘land’’ includes 

‘‘water and air space superjacent to 

land’’). 

The final regulations also eliminate 

the purpose or use test for tangible 

property to qualify as real property that 

was included in the proposed 

regulations. If tangible property is 

permanently affixed to real property and 

will ordinarily remain affixed for an 

indefinite period of time, the property is 

an inherently permanent structure and 

thus real property for section 1031 

purposes, irrespective of the purpose or 

use of the property or whether it 

contributes to the production of income. 

As emphasized in comments received 

by the Treasury Department and the 

IRS, the proposed regulations may have 

caused certain real property that 

qualified for like-kind exchange 

treatment prior to the enactment of the 

TCJA to no longer qualify. The final 

regulations more closely follow the 

legislative history to the TCJA 

amendments to section 1031. See 

Conference Report, at 396, fn. 726 

(providing that Congress ‘‘intended that 

real property eligible for like-kind 

exchange treatment under present law 

will continue to be eligible for like-kind 

exchange treatment under the 

[amended] provision’’). The Treasury 

Department and the IRS have 

determined that using the local law test 

and eliminating the purpose or use test 

will reduce compliance costs relative to 

the proposed rules. As a result, 

taxpayers may rely on existing State and 

local law definitions of real property or 

may look to the specifically listed 

property or the various factors provided 

in the final regulations. 

The Treasury Department and the IRS 

have determined that there is not likely 

to be a material difference in the 

quantity of tangible property that 

qualifies as real property eligible for 

like-kind exchanges under the two 

standards. In making this determination, 

the Treasury Department and the IRS 

observed that, for an exchange to qualify 

for gain-deferral treatment under section 

1031, the subject property (that is, the 

relinquished property) not only must 

constitute ‘‘real property,’’ but also must 

be ‘‘like kind’’ with regard to the 

property exchanged therefore (that is, 

the replacement property). Like-kind 

determinations are made pursuant to 

Federal, rather than State or local, tax 

law. See generally § 1.1031(a)–1(b) 

through (d). Consequently, State and 

local law definitions of real property, on 

their own, affect only one prong of the 

section 1031 qualification for exchanges 

of property as a result of these final 

regulations. In the future, State and 

local governments could modify their 

tax laws to include additional assets 

within the definition of real property. 

However, the Treasury Department and 

the IRS cannot determine the extent to 

which State and local governments may 

take such actions. The Treasury 

Department and the IRS note that such 

actions likely would affect the tax 

revenue of those jurisdictions. 

Moreover, the final regulations 

provide that property ineligible for likekind exchange treatment prior to 

enactment of the TCJA remains 

ineligible, including real property that 

was excluded from the application of 

section 1031. This approach is 

consistent with Congressional intent 

that ‘‘real property eligible for like-kind 

exchange treatment’’ under the law in 

effect prior to enactment of the TCJA 

will continue to be eligible for like-kind 

exchange treatment after enactment of 

the TCJA. See Conference Report at 396, 

fn. 726. Prior to amendment by the 

TCJA, former section 1031(a)(2) 

explicitly excluded certain assets from 

the application of section 1031. 

Accordingly, the final regulations 

exclude from the definition of real 

property the intangible assets listed in 

section 1031(a)(2) prior to its 

amendment by the TCJA, regardless of 

the classification of the property under 

State or local law, because such 

property never was ‘‘real property 

eligible for like-kind exchange 

treatment’’ prior to enactment of the 

TCJA. Conference Report at 396, fn. 726. 

The final regulations may influence 

which intangible assets qualify as real 

property for like-kind exchanges relative 

the definition in the proposed 

regulations. To the extent an intangible 

asset derives its value from real property 

or an interest in real property, it is 

inseparable from that real property or 

interest in real property. Accordingly, 

the intangible asset does not produce or 

contribute to the production of income 

other than consideration for the use or 

occupancy of space, and therefore may 

be real property or an interest in real 

property under State or local law. Under 

the proposed regulations, the intangible 

asset, such as mineral extraction rights 

or timber cutting rights, that produces 

income other than for the use or 

occupancy of space and would not be 

considered real property. Under the 

final regulations, the mineral rights and 

timber cutting rights are real property if 

they are considered real property under 

State or local law. 

The modification of the definition of 

real property in the final regulations 

aligns the proposed definition to more 

closely track the intent of Congress as 

described in the Conference Report. The 

proposed rules could have had a 

significant impact on the amount of 

intangible property that previously 

qualified for like-kind exchanges. For 

example, oil and gas firms accounted for 

approximately $4 billion in deferred 

gains in 2012. This figure can be viewed 

as an upper limit on the size of the 

taxable income that the proposed rule 

could have excluded from qualifying for 

like-kind exchanges as it includes both 

developed fields that would have 

qualified under the proposed rule and 

77376 Federal Register / Vol. 85, No. 232 / Wednesday, December 2, 2020 / Rules and Regulations 

mineral rights that may have been 

excluded. The proposed rule may have 

also affected other intangible real 

property such as mineral rights not 

associated with oil and gas properties or 

timber cutting rights, but these are likely 

small when compared to the deferred 

gains in the oil and gas industry. 

Consistent with longstanding 

regulations under section 1031, in 

determining whether a taxpayer has 

actual or constructive receipt of money 

or other property held by a qualified 

intermediary, the final regulations 

disregard certain incidental personal 

property. Specifically, the final 

regulations disregard incidental 

personal property that (1) in standard 

commercial transactions is typically 

transferred together with the real 

property, and (2) does not exceed 15 

percent of the aggregate fair market 

value of the replacement real property. 

Nonetheless, under section 1031(b), a 

taxpayer must recognize gain on the 

receipt of the incidental personal 

property, which is not like-kind to real 

property. The 15-percent limitation is 

responsive to ordinary-course exchanges 

that often commingle personal property 

and real property as part of the aggregate 

exchanged property. 

With regard to a limitation on the 

value of incidental personal property in 

excess of 15 percent, the Treasury 

Department and the IRS have 

determined that a higher limit might 

induce taxpayers to bundle more 

personal property with their exchanged 

property. Such a result would lead to 

increased amounts of personal property 

exchanged with real property under 

section 1031 and effectively unlock a 

class of personal property that would no 

longer be ‘‘incidental’’ to the real 

property. With regard to a lower limit, 

the Treasury Department and the IRS 

have determined that the burden of 

accurately measuring the separate costs 

of comingled personal and real property 

would increase. 

In addition, the final 15 percent 

incidental personal property limitation 

would reduce the cost of investing in 

real property, when compared to no 

exchanges for incidental personal 

property. Raising this limit, however, 

would further increase the tax 

incentives for investing in such 

property, although most taxpayers will 

be indifferent when exchanging 

incidental property, plants, and 

equipment with a depreciable life of 20 

years or less that is eligible for 100 

percent additional first year 

depreciation, commonly referred to as 

‘‘bonus depreciation.’’ Under 100 

percent bonus depreciation, gains from 

the sale of property can be offset by 

deductions for investment in other 

qualifying property. Qualifying property 

placed in service after September 27, 

2017, and before January 1, 2023, 

qualifies for full bonus depreciation. 

The bonus depreciation rate is phased 

down 20 percent a year for property 

placed in service after this date. In the 

absence of 100 percent bonus 

depreciation, expanding incentives for 

like-kind exchange through a higher 

incidental personal property limitation 

could also distort investment decisions 

within and across industries leading to 

over-investment in like-kind properties 

relative to consistent treatment across 

properties. 

As part of the economic analysis of 

the proposed regulations, the Treasury 

Department and the IRS requested 

comments and information that would 

help further inform the analysis 

underlying the proposed 15-percent 

limitation for incidental personal 

property. See part I.A.4 of the Special 

Analyses of the proposed regulations 

(85 FR 35840). No comments were 

received by the Treasury Department or 

the IRS. 

The Treasury Department and the IRS 

have determined that these final 

regulations will not have meaningful 

effects regarding the section 1031 

qualification of real property exchanges. 

Finally, these final regulations do not 

significantly affect compliance burdens 

as the regulations are substantially 

similar to existing regulations affecting 

like-kind exchanges for real property. 

II. Paperwork Reduction Act 

The collection of information in these 

final regulations is reflected in the 

collection of information for Form 8824, 

Like-Kind Exchanges, which has been 

reviewed and approved by the Office of 

Management and Budget in accordance 

with the Paperwork Reduction Act (44 

U.S.C. 3507(c)) under control numbers 

1545–0074. The number of respondents 

to Form 8824 for tax year 2018 is 

estimated at 125,000–220,000. The 

estimated burden for individual 

taxpayers filing this form is approved 

under OMB control number 1545–0074 

and is included in the estimates shown 

in the instructions for their individual 

income tax return. The estimated 

burden for taxpayers who file Form 

8824, which has not changed as a result 

of these final regulations, is shown 

below. 

Recordkeeping .................. 10 hr., 16 min. 

Learning about the law or 

the form.

1 hr., 59 min. 

Preparing the form ............ 2 hr., 14 min. 

Form 8824 is used by taxpayers 

engaging in section 1031 like-kind 

exchanges. Beginning after December 

31, 2017, section 1031 like-kind 

exchange treatment applies only to 

exchanges of real property held for use 

in a trade or business or for investment, 

other than real property held primarily 

for sale. Before the law change, section 

1031 also applied to certain exchanges 

of personal or intangible property. 

These final regulations provide a 

definition of real property for purposes 

of section 1031 and a rule for the receipt 

of personal property that is incidental to 

real property received in an exchange 

and makes conforming changes to the 

regulations. The law change reflected in 

the final regulations will result in fewer 

taxpayers engaging in section 1031 likekind exchanges. This decrease in 

burden will be reflected in the updated 

burden estimates for the Form 8824. The 

requirement to maintain records to 

substantiate information on the Form 

8824 is already contained in the burden 

associated with the control numbers for 

those forms and remains unchanged. 

For purposes of the Paperwork 

Reduction Act, no burden estimates 

specific to the final regulations are 

currently available. The Treasury 

Department has not estimated the 

burden, including that of any new 

information collections, related to the 

requirements under the final 

regulations. Those estimates would 

capture both changes made by the TCJA 

and those that arise out of discretionary 

authority exercised in the final 

regulations. 

The current status of the Paperwork 

Reduction Act submissions related to 

section 1031 is provided in the 

following table. The section 1031 

provisions are included in aggregated 

burden estimates for OMB control 

number 1545–0074, which represents a 

total estimated burden time, including 

all related forms and schedules, of 1.784 

billion hours and total estimated 

monetized costs of $31.764 billion 

($2017). The burden estimates provided 

in the OMB control numbers below are 

aggregate amounts that relate to the 

entire package of forms associated with 

the OMB control number and will in the 

future include but not isolate the 

estimated burden of only the section 

1031 requirements. These numbers are 

therefore unrelated to the future 

calculations needed to assess the burden 

imposed by the final regulations. The 

Treasury Department and IRS urge 

readers to recognize that these numbers 

are duplicates and to guard against overcounting the burden that tax provisions 

imposed prior to the TCJA. The 

Treasury Department and the IRS 

request comments on all aspects of 

Federal Register / Vol. 85, No. 232 / Wednesday, December 2, 2020 / Rules and Regulations 77377 

information collection burdens related 

to the final regulations. In addition, 

when available, drafts of IRS forms are 

posted for comment at www.irs.gov/ 

draftforms. 

Form 8824 ...... Individual (NEW Model) 

1545–0074.

Sixty-day notice published in the Federal Register on 10/30/20 (85 FR 68956). Public Comment 

period closes on 12/29/20. 

Link: https://www.federalregister.gov/documents/2020/10/30/2020-24139/proposed-extension-of-information-collection-request-submitted-for-public-comment-comment-request. 

Form 8824 is also used by members 

of the executive branch of the Federal 

Government and judicial officers of the 

Federal Government to elect to defer 

gain under section 1043 on certain sales 

of property due to potential conflicts of 

interest arising from their status as 

government officials. These final 

regulations do not address or affect the 

deferral of gain on sales under section 

1043. 

An agency may not conduct or 

sponsor, and a person is not required to 

respond to, a collection of information 

unless the collection of information 

displays a valid OMB control number. 

Books or records relating to a 

collection of information must be 

retained as long as their contents may 

become material in the administration 

of any internal revenue law. Generally, 

tax returns and return information are 

confidential, as required by 26 U.S.C. 

6103. 

III. Regulatory Flexibility Act 

It is hereby certified that these final 

regulations will not have a significant 

economic impact on a substantial 

number of small entities within the 

meaning of section 601(6) of the 

Regulatory Flexibility Act (5 U.S.C. 

chapter 6). 

These final regulations update 

existing regulations under section 1031 

to reflect statutory changes made to 

section 1031 by the TCJA. Section 1031 

provides that a taxpayer exchanging 

investment property or property held for 

productive use in a trade or business for 

other investment or trade or business 

property recognizes gain only to the 

extent of money or non-like-kind 

property received in the exchange, and 

recognizes no loss on the exchange. 

Under the TCJA amendments to section 

1031, for years after 2017, section 1031 

applies only to exchanges of real 

property and no longer applies to 

exchanges of personal property and 

certain intangible property. The final 

regulations provide a definition of real 

property to be used in determining 

whether a taxpayer has met the 

requirements of section 1031. In so 

doing, the final regulations follow the 

legislative history underlying the TCJA 

amendment to section 1031 providing 

that real property eligible for like-kind 

exchange treatment under pre-TCJA law 

continues to be eligible for like-kind 

exchange treatment in years beginning 

after 2017. 

Consequently, the final regulations 

use a State or local law test and certain 

aspects from existing regulatory 

definitions of real property in a manner 

consistent with the legislative history 

underlying the TCJA amendment to 

section 1031 requiring that the 

definition of real property remain the 

same both before and after enactment of 

the TCJA. Taxpayers already are familiar 

with these rules, which provide that real 

property includes land, improvements 

to land, unsevered natural products of 

land, and water and air space 

superjacent to land. In addition, the 

final regulations provide a rule 

addressing a taxpayer’s receipt of 

personal property that is incidental to 

the real property the taxpayer receives 

in the exchange that is based on an 

existing rule in § 1.1031(k)–1. 

Individuals and business entities that 

own investment real property or real 

property held for productive use in a 

trade or business may engage in a 

section 1031 exchange. The provisions 

of section 1031 apply in the same 

manner to all taxpayers, so the effect of 

the final regulations is the same for 

taxpayers that are small entities and 

taxpayers that are not small entities. The 

small entities potentially impacted by 

these regulations are businesses 

organized as corporations (including S 

corporations), partnerships, and 

individuals that file a Form 1040 

Schedule C for their respective trades or 

businesses or Form 1040 Schedule E for 

their rental real estate. 

The number of small entities 

potentially affected by these final 

regulations is unknown but likely 

substantial because like-kind exchanges 

are entered into by entities of all sizes. 

Although a substantial number of small 

entities is potentially affected by these 

final regulations, the Treasury 

Department and the IRS have concluded 

that the final regulations will not have 

a significant economic impact on a 

substantial number of small entities 

because the costs to comply with these 

final regulations are not significant. This 

is because for taxpayers still able to 

engage in section 1031 exchanges, there 

are no additional forms they are 

required to file, and there is no new 

recordkeeping required, to comply with 

section 1031 as amended by the TCJA 

and these final regulations other than 

the time to read and understand these 

regulations. Thus, taxpayers that engage 

in like-kind exchanges of real property 

in 2018 and later years will not have 

any additional burden as compared to 

taxpayers engaging in like-kind 

exchanges in years before 2018. 

Accordingly, the Secretary certifies that 

these final regulations will not have a 

significant economic impact on a 

substantial number of small entities. 

Pursuant to section 7805(f), the notice 

of proposed rulemaking preceding this 

final regulation was submitted to the 

Chief Counsel for the Office of 

Advocacy of the Small Business 

Administration for comment on its 

impact on small business (85 FR 35835). 

No comments on the notice were 

received from the Chief Counsel for the 

Office of Advocacy of the Small 

Business Administration. 

IV. Unfunded Mandates Reform Act 

Section 202 of the Unfunded 

Mandates Reform Act of 1995 requires 

that agencies assess anticipated costs 

and benefits and take certain other 

actions before issuing a final rule that 

includes any Federal mandate that may 

result in expenditures in any one year 

by a State, local, or tribal government, 

in the aggregate, or by the private sector, 

of $100 million in 1995 dollars, updated 

annually for inflation. In 2020, that 

threshold is approximately $156 

million. This rule does not include any 

mandate that may result in expenditures 

by State, local, or tribal governments, or 

by the private sector in excess of that 

threshold. 

V. Executive Order 13132: Federalism 

Executive Order 13132 (entitled 

‘‘Federalism’’) prohibits an agency from 

publishing any rule that has federalism 

implications if the rule either imposes 

substantial, direct compliance costs on 

State and local governments, and is not 

required by statute, or preempts State 

law, unless the agency meets the 

77378 Federal Register / Vol. 85, No. 232 / Wednesday, December 2, 2020 / Rules and Regulations 

consultation and funding requirements 

of section 6 of the Executive Order. This 

rule does not have federalism 

implications and does not impose 

substantial, direct compliance costs on 

State and local governments or preempt 

State law within the meaning of the 

Executive Order. 

VI. Congressional Review Act 

The Administrator of OIRA has 

determined that this Treasury decision 

is a major rule for purposes of the 

Congressional Review Act (5 U.S.C. 801 

et seq.) (CRA). Under section 801(3) of 

the CRA, a major rule takes effect 60 

days after the rule is published in the 

Federal Register. 

Notwithstanding this requirement, 

section 808(2) of the CRA allows 

agencies to dispense with the 

requirements of section 801 when the 

agency for good cause finds that such 

procedure would be impracticable, 

unnecessary, or contrary to the public 

interest and the rule shall take effect at 

such time as the agency promulgating 

the rule determines. Pursuant to section 

808(2) of the CRA, the Treasury 

Department and the IRS find, for good 

cause, that a 60-day delay in the 

effective date is unnecessary and 

contrary to the public interest. 

Following the amendments to section 

1031 by the TCJA, the Treasury 

Department and the IRS published the 

proposed regulations to provide 

certainty to taxpayers. In particular, and 

as emphasized by the wide variety of 

public comments received in response 

to the proposed regulations, taxpayers 

lacked certainty regarding the 

longstanding role of State and local law 

in real property determinations for 

purposes of qualification under section 

1031. Consistent with Executive Order 

13924 (May 19, 2020), the Treasury 

Department and the IRS have 

determined that an expedited effective 

date of the final regulations would ‘‘give 

businesses, especially small businesses, 

the confidence they need to re-open by 

providing guidance on what the law 

requires.’’ 85 FR 31353–4. Accordingly, 

the Treasury Department and the IRS 

have determined that the rules in this 

Treasury decision shall take effect on 

the date of publication in the Federal 

Register. 

Drafting Information 

The principal authors of these 

regulations are Edward C. Schwartz and 

Suzanne R. Sinno of the Office of 

Associate Chief Counsel (Income Tax 

and Accounting). However, other 

personnel from the Treasury 

Department and the IRS participated in 

their development. 

List of Subjects in 26 CFR Part 1 

Income taxes, Reporting and 

recordkeeping requirements. 

Amendments to the Regulations 

Accordingly, 26 CFR part 1 is 

amended as follows: 

PART 1—INCOME TAXES 

■ Paragraph 1. The authority citation 

for part 1 continues to read in part as 

follows: 

Authority: 26 U.S.C. 7805 * * * 

* * * * * 

■ Par. 2. Section 1.168(i)–1 is amended 

by: 

■ 1. In the last sentence in paragraph 

(e)(2)(viii)(A), removing ‘‘does not 

apply.’’ at the end of the sentence and 

adding ‘‘and the distinct asset 

determination under § 1.1031(a)–3(a)(4) 

do not apply.’’ in its place; 

■ 2. In the first sentence in paragraph 

(m)(1), removing the word ‘‘This’’ at the 

beginning of the sentence and adding 

‘‘Except as provided in paragraph (m)(5) 

of this section, this’’ in its place; and 

■ 3. Redesignating paragraph (m)(5) as 

paragraph (m)(6) and adding new 

paragraph (m)(5). 

The addition reads as follows: 

§ 1.168(i)–1 General asset accounts. 

* * * * * 

(m) * * * 

(5) Application of paragraph 

(e)(2)(viii)(A). The language ‘‘and the 

distinct asset determination under 

§ 1.1031(a)–3(a)(4) do not apply.’’ in the 

last sentence of paragraph (e)(2)(viii)(A) 

of this section applies on or after 

December 2, 2020. Paragraph 

(e)(2)(viii)(A) of this section as 

contained in 26 CFR part 1 edition 

revised as of April 1, 2020, applies 

before December 2, 2020. 

■ Par. 3. Section 1.168(i)–8 is amended 

by: 

■ 1. In the last sentence in paragraph 

(c)(4)(i), removing ‘‘does not apply’’ at 

the end of the sentence and adding ‘‘and 

the distinct asset determination under 

§ 1.1031(a)–3(a)(4) do not apply’’ in its 

place; 

■ 2. At the beginning of paragraph (j)(1), 

removing the word ‘‘This’’ and adding 

‘‘Except as provided in paragraph (j)(5) 

of this section, this’’ in its place; 

■ 3. Redesignating paragraph (j)(5) as 

paragraph (j)(6) and adding new 

paragraph (j)(5). 

The addition reads as follows: 

§ 1.168(i)–8 Dispositions of MACRS 

property. 

* * * * * 

(j) * * * 

(5) Application of paragraph (c)(4)(i). 

The language ‘‘and the distinct asset 

determination under § 1.1031(a)–3(a)(4) 

do not apply.’’ in the last sentence of 

paragraph (c)(4)(i) of this section applies 

on or after December 2, 2020. Paragraph 

(c)(4)(i) of this section as contained in 

26 CFR part 1 edition revised as of April 

1, 2020, applies before December 2, 

2020. 

■ Par. 4. Section 1.1031–0 is amended 

by revising the entry for § 1.1031(a)–1(e) 

and adding entries for § 1.1031(a)–3 to 

read as follows: 

§ 1.1031–0 Table of contents. 

* * * * * 

§ 1.1031(a)–1 Property held for productive 

use in a trade or business or for 

investment. 

* * * * * 

(e) Applicability dates. 

* * * * * 

§ 1.1031(a)–3 Definition of real property. 

(a) Real property. 

(b) Examples. 

(c) Applicability date. 

* * * * * 

■ Par. 5. Section 1.1031(a)–1 is 

amended by adding paragraph (a)(3) and 

revising paragraph (e) to read as follows: 

§ 1.1031(a)–1 Property held for productive 

use in trade or business or for investment. 

(a) * * * 

(3) Exchanges after 2017. Pursuant to 

section 13303 of Public Law 115–97 

(131 Stat. 2054), for exchanges 

beginning after December 31, 2017, 

section 1031 and §§ 1.1031(a)–1, 

1.1031(b)–2, 1.1031(d)–1T, 1.1031(d)–2, 

1.1031(j)–1, 1.1031(k)–1, and references 

to section 1031 in §§ 1.1031(b)–1, 

1.1031(c)–1, and 1.1031(d)–1, apply 

only to qualifying exchanges of real 

property (within the meaning of 

§ 1.1031(a)–3) that is held for productive 

use in a trade or business, or for 

investment, and that is not held 

primarily for sale. 

* * * * * 

(e) Applicability dates—(1) Exchanges 

of partnership interests. The provisions 

of paragraph (a)(1) of this section 

relating to exchanges of partnership 

interests apply to transfers of property 

made by taxpayers on or after April 25, 

1991. 

(2) Exchanges after 2017. The 

provisions of paragraph (a)(3) of this 

section apply to exchanges beginning 

after December 2, 2020. 

■ Par. 6. Section 1.1031(a)–3 is added to 

read as follows: 

§ 1.1031(a)–3 Definition of real property. 

(a) Real property—(1) In general. The 

term real property under section 1031 

and §§ 1.1031(a)–1 through 1.1031(k)–1 

Federal Register / Vol. 85, No. 232 / Wednesday, December 2, 2020 / Rules and Regulations 77379 

means land and improvements to land, 

unsevered natural products of land, and 

water and air space superjacent to land. 

Under paragraph (a)(5) of this section, 

an intangible interest in real property of 

a type described in this paragraph (a)(1) 

is real property for purposes of section 

1031 and this section. Property that is 

real property under State or local law as 

provided in paragraph (a)(6) of this 

section is real property for purposes of 

section 1031 and this section. 

(2) Improvements to land—(i) In 

general. The term improvements to land 

means inherently permanent structures 

and the structural components of 

inherently permanent structures. 

(ii) Inherently permanent structures— 

(A) In general. The term inherently 

permanent structure means any 

building or other structure that is a 

distinct asset within the meaning of 

paragraph (a)(4) of this section and is 

permanently affixed to real property and 

that will ordinarily remain affixed for an 

indefinite period of time. Affixation is 

considered permanent if it is reasonably 

expected to last indefinitely based on all 

the facts and circumstances. 

(B) Building. A building is any 

structure or edifice enclosing a space 

within its walls, and covered by a roof, 

the purpose of which is, for example, to 

provide shelter or housing, or to provide 

working, office, parking, display, or 

sales space. Buildings include the 

following distinct assets if permanently 

affixed: Houses, apartments, hotels, 

motels, enclosed stadiums and arenas, 

enclosed shopping malls, factories and 

office buildings, warehouses, barns, 

enclosed garages, enclosed 

transportation stations and terminals, 

and stores. 

(C) Other inherently permanent 

structures. Inherently permanent 

structures under paragraph (a)(2)(ii) of 

this section include the following 

distinct assets, if permanently affixed: 

In-ground swimming pools; roads; 

bridges; tunnels; paved parking areas, 

parking facilities, and other pavements; 

special foundations; stationary wharves 

and docks; fences; inherently permanent 

advertising displays for which an 

election under section 1033(g)(3) is in 

effect; inherently permanent outdoor 

lighting facilities; railroad tracks and 

signals; telephone poles; power 

generation and transmission facilities; 

permanently installed 

telecommunications cables; microwave 

transmission, cell, broadcasting, and 

electric transmission towers; oil and gas 

pipelines; offshore platforms, derricks, 

oil and gas storage tanks; and grain 

storage bins and silos. Affixation to real 

property may be accomplished by 

weight alone. If property is not listed as 

an inherently permanent structure in 

paragraph (a)(2)(ii)(B) or (C) of this 

section, the determination of whether 

the property is an inherently permanent 

structure under paragraph (a)(2)(ii) of 

this section is based on the following 

factors— 

(1) The manner in which the distinct 

asset is affixed to real property; 

(2) Whether the distinct asset is 

designed to be removed or to remain in 

place; 

(3) The damage that removal of the 

distinct asset would cause to the item 

itself or to the real property to which it 

is affixed; 

(4) Any circumstances that suggest the 

expected period of affixation is not 

indefinite; and 

(5) The time and expense required to 

move the distinct asset. 

(iii) Structural components—(A) In 

general. The term structural component 

means any distinct asset, within the 

meaning of paragraph (a)(4) of this 

section, that is a constituent part of, and 

integrated into, an inherently permanent 

structure. If interconnected assets work 

together to serve an inherently 

permanent structure (for example, 

systems that provide a building with 

electricity, heat, or water), the assets are 

analyzed together as one distinct asset 

that may be a structural component. A 

structural component may qualify as 

real property only if the taxpayer holds 

its interest in the structural component 

together with a real property interest in 

the space in the inherently permanent 

structure served by the structural 

component. If a distinct asset is 

customized, the customization does not 

affect whether the distinct asset is a 

structural component. Tenant 

improvements to a building that are 

inherently permanent or otherwise 

classified as real property within the 

meaning of this paragraph (a)(2)(iii) are 

real property under this section. 

However, property produced for sale, 

such as bricks, nails, paint, and 

windowpanes, that is not real property 

in the hands of the producing taxpayer 

or a related person, as defined in section 

1031(f)(3), but that may be incorporated 

into real property by an unrelated buyer, 

is not treated as real property by the 

producing taxpayer. 

(B) Examples of structural 

components. Structural components 

include the following items, provided 

the item is a constituent part of, and 

integrated into, an inherently permanent 

structure: Walls; partitions; doors; 

wiring; plumbing systems; central air 

conditioning and heating systems; pipes 

and ducts; elevators and escalators; 

floors; ceilings; permanent coverings of 

walls, floors, and ceilings; insulation; 

chimneys; fire suppression systems, 

including sprinkler systems and fire 

alarms; fire escapes; security systems; 

humidity control systems; and other 

similar property. If a component of a 

building or inherently permanent 

structure is a distinct asset and is not 

listed as a structural component in this 

paragraph (a)(2)(iii)(B), the 

determination of whether the 

component is a structural component 

under this paragraph (a)(2)(iii) is based 

on the following factors— 

(1) The manner, time, and expense of 

installing and removing the component; 

(2) Whether the component is 

designed to be moved; 

(3) The damage that removal of the 

component would cause to the item 

itself or to the inherently permanent 

structure to which it is affixed; and 

(4) Whether the component is 

installed during construction of the 

inherently permanent structure. 

(3) Unsevered natural products of 

land. Unsevered natural products of 

land, including growing crops, plants, 

and timber; mines; wells; and other 

natural deposits, generally are treated as 

real property for purposes of this 

section. Natural products and deposits, 

such as crops, timber, water, ores, and 

minerals, cease to be real property when 

they are severed, extracted, or removed 

from the land. 

(4) Distinct asset—(i) In general. For 

this section, a distinct asset is analyzed 

separately from any other assets to 

which the asset relates to determine if 

the asset is real property, whether as 

land, an inherently permanent structure, 

or a structural component of an 

inherently permanent structure. 

Buildings and other inherently 

permanent structures are distinct assets. 

Assets and systems listed as a structural 

component in paragraph (a)(2)(iii)(B) of 

this section are treated as distinct assets. 

(ii) Facts and circumstances. The 

determination of whether a particular 

separately identifiable item of property 

is a distinct asset is based on all the 

facts and circumstances. In particular, 

the following factors must be taken into 

account— 

(A) Whether the item is customarily 

sold or acquired as a single unit rather 

than as a component part of a larger 

asset; 

(B) Whether the item can be separated 

from a larger asset, and if so, the cost of 

separating the item from the larger asset; 

(C) Whether the item is commonly 

viewed as serving a useful function 

independent of a larger asset of which 

it is a part; and 

(D) Whether separating the item from 

a larger asset of which it is a part 

77380 Federal Register / Vol. 85, No. 232 / Wednesday, December 2, 2020 / Rules and Regulations 

impairs the functionality of the larger 

asset. 

(5) Intangible assets—(i) In general. 

Intangible assets that are real property 

for purposes of section 1031 and this 

section include the following items: Fee 

ownership; co-ownership; a leasehold; 

an option to acquire real property; an 

easement; stock in a cooperative 

housing corporation; shares in a mutual 

ditch, reservoir, or irrigation company 

described in section 501(c)(12)(A) of the 

Code if, at the time of the exchange, 

such shares have been recognized by the 

highest court of the State in which the 

company was organized, or by a State 

statute, as constituting or representing 

real property or an interest in real 

property; and land development rights. 

Similar interests are real property for 

purposes of section 1031 and this 

section if the intangible asset derives its 

value from real property or an interest 

in real property and is inseparable from 

that real property or interest in real 

property. The following intangible 

assets are not real property for purposes 

of section 1031 and this section, 

regardless of the classification of such 

property under State or local law— 

(A) Stock not described in paragraph 

(a)(5)(i) of this section, bonds, or notes; 

(B) Other securities or evidences of 

indebtedness or interest; 

(C) Interests in a partnership (other 

than an interest in a partnership that has 

in effect a valid election under section 

761(a) to be excluded from the 

application of all of subchapter K); 

(D) Certificates of trust or beneficial 

interests; and 

(E) Choses in action. 

(ii) Licenses and permits. A license, 

permit, or other similar right that is 

solely for the use, enjoyment, or 

occupation of land or an inherently 

permanent structure and that is in the 

nature of a leasehold, easement, or other 

similar right, generally is an interest in 

real property under this section. 

However, a license or permit to engage 

in or operate a business on real property 

is not real property or an interest in real 

property, regardless of its classification 

under State or local law. 

(6) State or local law. Except as 

otherwise provided in paragraph (a)(5) 

of this section, property is real property 

within the meaning of paragraph (a)(1) 

of this section under State or local law 

if, on the date it is transferred in an 

exchange, the property is real property 

under the law of the State or local 

jurisdiction in which that property is 

located. 

(7) No inference outside of section 

1031. The rules provided in this section 

concerning the definition of real 

property apply only for purposes of 

section 1031. No inference is intended 

with respect to the classification or 

characterization of property for other 

purposes of the Code, such as 

depreciation and sections 1245 and 

1250. For example, a structure or a 

portion of a structure may be section 

1245 property for depreciation purposes 

and for determining gain under section 

1245, notwithstanding that the structure 

or the portion of the structure is real 

property under this section. Also, a 

taxpayer transferring relinquished 

property that is section 1245 property in 

a section 1031 exchange is subject to the 

gain recognition rules under section 

1245 and the regulations under section 

1245, notwithstanding that the 

relinquished property or replacement 

property is real property under this 

section. In addition, the taxpayer must 

follow the rules of section 1245 and the 

regulations under section 1245, and 

section 1250 and the regulations under 

section 1250, based on the 

determination of the relinquished 

property and replacement property 

being, in whole or in part, section 1245 

property or section 1250 property under 

those Code sections and not under this 

section. 

(b) Examples. The following examples 

illustrate the provisions of this section. 

In each example, unless otherwise 

provided, the State or local law of the 

applicable jurisdiction in which the 

property at issue is located does not 

address whether the property is real 

property. 

(1) Example 1: Natural products of 

land. A owns land with perennial fruitbearing plants that A harvests annually. 

The unsevered plants are natural 

products of the land within the meaning 

of paragraph (a)(3) of this section and 

thus are real property for purposes of 

section 1031. A annually harvests fruit 

from the plants. Upon severance from 

the land, the harvested fruit ceases to be 

part of the land and therefore is not real 

property. Storage of the harvested fruit 

upon or within real property does not 

cause the harvested fruit to be real 

property. 

(2) Example 2: Water space 

superjacent to land. B owns a marina 

comprised of U-shaped boat slips and 

end ties. The U-shaped boat slips are 

spaces on the water that are surrounded 

by a dock on three sides. The end ties 

are spaces on the water at the end of a 

slip or on a long, straight dock. B rents 

the boat slips and end ties to boat 

owners. The boat slips and end ties are 

water space superjacent to land and 

thus are real property within the 

meaning of paragraph (a)(1) of this 

section. 

(3) Example 3: Indoor sculpture. (i) C 

owns an office building and a large 

sculpture in the atrium of the building. 

The sculpture measures 30 feet tall by 

18 feet wide and weighs five tons. The 

building was specifically designed to 

support the sculpture, which is 

permanently affixed to the building by 

supports embedded in the building’s 

foundation. The sculpture was 

constructed within the building. 

Removal would be costly and time 

consuming and would destroy the 

sculpture. The sculpture is reasonably 

expected to remain in the building 

indefinitely. 

(ii) The sculpture is not an inherently 

permanent structure listed in paragraph 

(a)(2)(ii)(C) of this section, and, 

therefore, C must use the factors 

provided in paragraphs (a)(2)(ii)(C)(1) 

through (5) of this section to determine 

whether the sculpture is an inherently 

permanent structure. The sculpture— 

(A) Is permanently affixed to the 

building by supports embedded in the 

building’s foundation; 

(B) Is not designed to be removed and 

is designed to remain in place 

indefinitely; 

(C) Would be damaged if removed and 

would damage the building to which it 

is affixed; 

(D) Is expected to remain in the 

building indefinitely; and 

(E) Would require significant time and 

expense to move. 

(iii) The factors described in 

paragraphs (a)(2)(ii)(C)(1) through (5) of 

this section all support the conclusion 

that the sculpture is an inherently 

permanent structure within the meaning 

of paragraph (a)(2)(ii)(A) of this section. 

Therefore, the sculpture is real property. 

(4) Example 4: Bus shelters. (i) D 

owns 400 bus shelters, each of which 

consists of four posts, a roof, and panels 

enclosing two or three sides. D enters 

into a long-term lease with a local 

transit authority for use of the bus 

shelters. Each bus shelter is 

prefabricated from steel and is bolted to 

the sidewalk. Bus shelters are 

disassembled and moved when bus 

routes change. Moving a bus shelter 

takes less than a day and does not 

significantly damage either the bus 

shelter or the real property to which it 

was affixed. 

(ii) The bus shelters are not 

permanently affixed enclosed 

transportation stations or terminals, are 

not buildings under paragraph 

(a)(2)(ii)(B) of this section, nor are they 

listed as types of other inherently 

permanent structures in paragraph 

(a)(2)(ii)(C) of this section. Therefore, 

the bus shelters must be analyzed to 

determine whether they are inherently 

Federal Register / Vol. 85, No. 232 / Wednesday, December 2, 2020 / Rules and Regulations 77381 

permanent structures using the factors 

provided in paragraphs (a)(2)(ii)(C)(1) 

through (5) of this section. The bus 

shelters— 

(A) Are not permanently affixed to the 

land or an inherently permanent 

structure; 

(B) Are designed to be removed and 

not remain in place indefinitely; 

(C) Would not be damaged if removed 

and would not damage the sidewalks to 

which they are affixed; 

(D) Will not remain affixed 

indefinitely; and 

(E) Would not require significant time 

and expense to move. 

(iii) The factors described in 

paragraphs (a)(2)(ii)(C)(1) through (5) of 

this section all support the conclusion 

that the bus shelters are not inherently 

permanent structures within the 

meaning of paragraph (a)(2)(ii) of this 

section. Thus, the bus shelters are not 

inherently permanent structures within 

the meaning of paragraph (a)(2)(ii) of 

this section and, therefore, are not real 

property. 

(5) Example 5: Industrial 3D printer 

and generator. (i) E owns a building that 

it uses in its trade or business of 

manufacturing airplane parts. The 

building includes an industrial 3D 

printer that can print airplane wings 

and an electrical generator that serves 

the building and the 3D printer in a 

backup capacity. The 3D printer weighs 

12 tons, is designed to remain in place 

indefinitely once installed in the 

building, and its removal would be 

time-consuming and very costly, and 

would cause significant damage to the 

building. The 3D printer was installed 

during the building’s construction. The 

generator also was installed during 

construction and is designed to remain 

in place indefinitely once installed. 

Although costly and time-consuming to 

remove, removal of the generator will 

not result in substantial damage to the 

generator or the building. 

(ii) The 3D printer is not listed as an 

example of a structural component 

under paragraph (a)(2)(iii)(B) of this 

section. Therefore, the 3D printer must 

be analyzed to determine whether it is 

a structural component using the factors 

provided in paragraphs (a)(2)(iii)(B)(1) 

through (4) of this section. The 3D 

printer— 

(A) Is time-consuming and costly to 

move; 

(B) Is not designed to be moved; 

(C) If removed, would cause 

significant damage to the building in 

which it is located; and 

(D) Was installed during construction 

of the building. 

(iii) The factors described in 

paragraphs (a)(2)(iii)(B)(1) through (4) of 

this section support the conclusion that 

the 3D printer is a structural component 

of E’s building and real property under 

this section. Thus, the 3D printer is real 

property. 

(iv) The electrical generator also is not 

listed as an example of a structural 

component under paragraph 

(a)(2)(iii)(B) of this section and must be 

analyzed to determine whether it is a 

structural component using the factors 

provided in paragraphs (a)(2)(iii)(B)(1) 

through (4) of this section. The 

generator— 

(A) Is time-consuming and costly to 

move; 

(B) Is not designed to be moved; 

(C) If removed, would not result in 

significant damage to the generator or 

the building in which it is located; and 

(D) Was installed during construction 

of the building. 

(v) The factors described in 

paragraphs (a)(2)(iii)(B)(1) through (4) of 

this section, considered in the aggregate, 

support the conclusion that the 

generator is a structural component of 

E’s building. Although the generator’s 

removal would not result in significant 

damage to the generator or to E’s 

building, that factor does not outweigh 

the factors supporting the conclusion 

that it is a structural component. 

Consequently, the generator is a 

structural component of E’s building 

and real property under this section. 

(6) Example 6: Raised flooring for 

industrial 3D printer. (i) The facts are 

the same as in paragraph (b)(5), Example 

5, except that E, when installing its 3D 

printer, also installed a raised flooring 

system for the purpose of facilitating the 

operation of the 3D printer. The raised 

flooring system is not designed or 

constructed to remain permanently in 

place. Rather, the raised flooring system 

can be removed, without any substantial 

damage to the system itself or to the 

building, and then reused. The raised 

flooring was installed during the 

building’s construction. 

(ii) Although floors are listed as an 

example of a structural component 

under paragraph (a)(2)(iii)(B) of this 

section, the raised flooring system 

installed to facilitate the operation of E’s 

3D printer is not a constituent part of, 

and integrated into, an inherently 

permanent structure as required by 

paragraph (a)(2)(iii)(A) of this section 

and, therefore, is not flooring as listed 

in paragraph (a)(2)(iii)(B) of this section. 

Thus, the raised flooring must be 

analyzed to determine whether it is a 

structural component of E’s building 

(within the meaning of paragraph 

(a)(2)(iii) of this section) using the 

factors provided in paragraphs 

(a)(2)(iii)(B)(1) through (4) of this 

section. The raised flooring— 

(A) Is installed and removed quickly 

and with little expense; 

(B) Is designed to be moved and is not 

designed specifically for the particular 

building of which it is a part; 

(C) Is not damaged, and the building 

is not damaged, upon its removal; and 

(D) Was installed during construction 

of the building. 

(iii) The factors described in 

paragraphs (a)(2)(iii)(B)(1) through (4) of 

this section, considered in the aggregate, 

support the conclusion that the raised 

flooring is not a structural component of 

E’s building within the meaning of 

paragraph (a)(2)(iii) of this section. 

Although the raised flooring was 

installed during construction of the 

building, that factor does not outweigh 

the factors supporting the conclusion 

that the flooring is not a structural 

component. Therefore, the raised 

flooring is not real property. 

(7) Example 7: Steam turbine. (i) F 

owns a building with a large steam 

turbine attached as a fixture to the 

building. The steam turbine is a 

component of a system used for the 

commercial production of electricity for 

sale to customers in the ordinary course 

of F’s business as an electric utility. The 

steam turbine also generates electricity 

for F’s building. The steam turbine takes 

up a substantial portion of the building 

and is designed to remain in place 

indefinitely once installed in F’s 

building. The steam turbine was 

installed during the construction of the 

building and its removal would be 

costly and cause damage to the building. 

(ii) The steam turbine is not listed as 

an example of a structural component 

under paragraph (a)(2)(iii)(B) of this 

section and must be analyzed to 

determine whether it is a structural 

component using the factors provided in 

paragraphs (a)(2)(iii)(B)(1) through (4) of 

this section. The steam turbine— 

(A) Is costly to remove from the 

building in which it is located; 

(B) Is not designed to be moved; 

(C) If removed, would cause damage 

to the building; and 

(D) Was installed during construction 

of the building. 

(iii) The factors described in 

paragraphs (a)(2)(iii)(B)(1) through (4) of 

this section support the conclusion that 

the steam turbine is a structural 

component of F’s building and real 

property under this section. Thus, the 

steam turbine is real property. 

(8) Example 8: Partitions. (i) G owns 

an office building that it leases to 

tenants. The building includes 

partitions owned by G that are used to 

delineate space within the building. The 

77382 Federal Register / Vol. 85, No. 232 / Wednesday, December 2, 2020 / Rules and Regulations 

office building has two types of interior, 

non-load-bearing drywall partition 

systems: A conventional drywall 

partition system (Conventional Partition 

System) and a modular drywall 

partition system (Modular Partition 

System). Neither the Conventional 

Partition System nor the Modular 

Partition System was installed during 

construction of the office building. 

Conventional Partition Systems are 

comprised of fully integrated gypsum 

board partitions, studs, joint tape, and 

covering joint compound. Modular 

Partition Systems are comprised of 

assembled panels, studs, tracks, and 

exposed joints. Both the Conventional 

Partition System and the Modular 

Partition System reach from the floor to 

the ceiling. In addition, both are distinct 

assets as described in paragraph (a)(4) of 

this section. 

(ii) Depending on the needs of a new 

tenant, the Conventional Partition 

System may remain in place when a 

tenant vacates the premises. The 

Conventional Partition System is 

integrated into the office building and is 

designed and constructed to remain in 

areas not subject to reconfiguration or 

expansion. The Conventional Partition 

System can be removed only by 

demolition, and, once removed, neither 

the Conventional Partition System nor 

its components can be reused. Removal 

of the Conventional Partition System 

causes substantial damage to the 

Conventional Partition System itself, but 

does not cause substantial damage to the 

building. 

(iii) Modular Partition Systems are 

typically removed when a tenant 

vacates the premises. Modular Partition 

Systems are not designed or constructed 

to remain permanently in place. 

Modular Partition Systems are designed 

and constructed to be movable. Each 

Modular Partition System can be readily 

removed, remains in substantially the 

same condition as before, and can be 

reused. Removal of a Modular Partition 

System does not cause any substantial 

damage to the Modular Partition System 

itself or to the building. The Modular 

Partition System may be moved to 

accommodate the reconfigurations of 

the interior space within the office 

building for various tenants that occupy 

the building. 

(iv) The Conventional Partition 

System is comprised of walls that are 

integrated into an inherently permanent 

structure and are listed as structural 

components in paragraph (a)(2)(iii)(B) of 

this section. Thus, the Conventional 

Partition System is real property. 

(v) The Modular Partition System is 

not integrated into the building as 

required by paragraph (a)(2)(iii)(A) of 

this section and, therefore, is not listed 

in paragraph (a)(2)(iii)(B) of this section. 

Thus, the Modular Partition System 

must be analyzed to determine whether 

it is a structural component using the 

factors provided in paragraphs 

(a)(2)(iii)(B)(1) through (4) of this 

section. The Modular Partition 

System— 

(A) Is installed and removed quickly 

and with little expense; 

(B) Is designed to be moved and is not 

designed specifically for the particular 

building of which it is a part; 

(C) Is not damaged, and the building 

is not damaged, upon its removal; and 

(D) Was not installed during 

construction of the building. 

(vi) The factors described in 

paragraphs (a)(2)(iii)(B)(1) through (4) of 

this section support the conclusion that 

the Modular Partition System is not a 

structural component of G’s office 

building within the meaning of 

paragraph (a)(2)(iii) of this section. 

Therefore, the Modular Partition System 

is not real property. 

(9) Example 9: Pipeline transmission 

system. (i) H owns a natural gas pipeline 

transmission system that provides a 

conduit to transport natural gas from 

unrelated third-party producers and 

gathering facilities to unrelated thirdparty distributors and end users. The 

pipeline transmission system is 

comprised of underground pipelines, 

isolation valves and vents, pressure 

control and relief valves, meters, and 

compressors. Each of these distinct 

assets was installed during construction 

of the pipeline transmission system and 

each was designed to remain 

permanently in place. 

(ii) The pipelines are permanently 

affixed and are listed as other inherently 

permanent structures in paragraph 

(a)(2)(ii)(C) of this section. Thus, the 

pipelines are real property. 

(iii) Isolation valves and vents are 

placed at regular intervals along the 

pipelines to isolate and evacuate 

sections of the pipelines in case there is 

need for a shut-down or maintenance of 

the pipelines. Pressure control and relief 

valves are installed at regular intervals 

along the pipelines to provide 

overpressure protection. The isolation 

valves and vents and pressure control 

and relief valves are not listed in 

paragraph (a)(2)(iii)(B) of this section 

and, therefore, must be analyzed to 

determine whether they are structural 

components using the factors provided 

in paragraphs (a)(2)(iii)(B)(1) through (4) 

of this section. The isolation valves and 

vents and pressure control and relief 

valves— 

(A) Are time consuming and 

expensive to install and remove from 

the pipelines; 

(B) Are designed specifically for the 

particular pipelines for which they are 

a part; 

(C) Will sustain damage and will 

damage the pipelines if removed; and 

(D) Were installed during 

construction of the pipelines. 

(iv) The factors in paragraphs 

(a)(2)(iii)(B)(1) through (4) of this 

section support the conclusion that the 

isolation valves and vents and pressure 

control and relief valves are structural 

components of H’s pipelines within the 

meaning of paragraph (a)(2)(iii) of this 

section. Therefore, the isolation valves 

and vents and pressure control and 

relief valves are real property. 

(v) Meters are used to measure the 

natural gas passing into or out of the 

pipeline transmission system for 

purposes of determining the end users’ 

consumption. Over long distances, 

pressure is lost due to friction in the 

pipeline transmission system. 

Compressors are required to add 

pressure to transport natural gas through 

the entirety of the pipeline transmission 

system. H installed meters and 

compressors during the construction of 

the pipelines. However, unlike other 

types of such meters and compressors, 

these particular meters and compressors 

are not time consuming and expensive 

to install and remove from the 

pipelines; are not designed specifically 

for the particular pipelines for which 

they are a part; and their removal does 

not cause damage to the asset or the 

pipelines if removed. Therefore, the 

meters and compressors installed by H 

are not structural components within 

the meaning of paragraph (a)(2)(iii) of 

this section and, therefore, are not real 

property. 

(10) Example 10: State or local law 

determination of property. (i) J owns 

water pipeline in State X that it wants 

to exchange for cell phone towers 

located in State Y. On the date that J 

transfers the water pipeline in an 

exchange for the cell phone towers, the 

water pipeline is classified as real 

property under the law of State X, the 

jurisdiction in which the water pipeline 

is located. 

(ii) The water pipeline is real property 

under paragraphs (a)(1) and (a)(6) of this 

section, regardless of whether the water 

pipeline is listed as an inherently 

permanent structure or a structural 

component of an inherently permanent 

structure, or is real property under the 

factors listed in paragraph (a)(2)(ii)(C) or 

(a)(2)(iii)(B) of this section. 

(iii) Cell phone towers are listed as an 

inherently permanent structure under 

Federal Register / Vol. 85, No. 232 / Wednesday, December 2, 2020 / Rules and Regulations 77383 

paragraph (a)(2)(ii)(C) of this section. 

Thus, the cell phone towers that J 

acquires in the exchange for the water 

pipeline are real property under this 

section, regardless of the State or local 

characterization of the cell phone 

towers or whether the cell phone towers 

are real property under the factors in 

paragraph (a)(2)(ii)(C) or (a)(2)(iii)(B) of 

this section. 

(11) Example 11: Land use permit. K 

receives a special use permit from the 

government to place a cell tower on 

Federal Government land that abuts a 

Federal highway. Government 

regulations provide that the permit is 

not a lease of the land, but is a permit 

to use the land for a cell tower. Under 

the permit, the government reserves the 

right to cancel the permit and 

compensate K if the site is needed for 

a higher public purpose. The permit is 

in the nature of a leasehold that allows 

K to place a cell tower in a specific 

location on government land. Therefore, 

the permit is an interest in real property 

under paragraph (a)(5) of this section. 

(12) Example 12: License to operate a 

business. L owns a building and 

receives a license from State A to 

operate a casino in the building. The 

license applies only to K’s building and 

cannot be transferred to another 

location. L’s building is an inherently 

permanent structure under paragraph 

(a)(2)(ii)(A) of this section and, 

therefore, is real property. However, L’s 

license to operate a casino is not a right 

for the use, enjoyment, or occupation of 

L’s building, but is rather a license to 

engage in or operate the casino business 

in the building. Therefore, the casino 

license is not real property or an interest 

in real property under paragraph 

(a)(5)(ii) of this section. 

(c) Applicability date. This section 

applies to exchanges beginning after 

December 2, 2020. 

■ Par. 7. Section 1.1031(k)–1 is 

amended by: 

■ 1. In paragraph (d)(2), removing 

‘‘$87,500’’ and adding in its place 

‘‘$62,500’’ each place it appears; 

■ 2. Removing ‘‘, and’’ at the end of 

paragraph (g)(7)(i) and adding a 

semicolon in its place; 

■ 3. Removing the period at the end of 

paragraph (g)(7)(ii) and adding ‘‘; and’’ 

in its place; 

■ 4. Adding paragraph (g)(7)(iii); 

■ 5. In paragraph (g)(8), designating 

Examples 1 through 5 as paragraphs 

(g)(8)(i) through (v), respectively; 

■ 6. In newly designated paragraph 

(g)(8)(i): 

■ a. Redesignating paragraph (g)(8)(i)(i) 

as paragraph (g)(8)(i)(A); 

■ b. In newly designated paragraph 

(g)(8)(i)(A), redesignating paragraphs 

(g)(8)(i)(A)(A) and (B) as paragraphs 

(g)(8)(i)(A)(1) and (2), respectively; 

■ c. Designating the undesignated 

paragraph immediately following newly 

redesignated paragraph (g)(8)(i)(A)(2) as 

paragraph (g)(8)(i)(A)(3); and 

■ d. In newly designated paragraph 

(g)(8)(i) redesignating paragraph 

(g)(8)(i)(ii) as paragraph (g)(8)(i)(B); 

■ 7. In newly designated paragraph 

(g)(8)(ii): 

■ a. Redesignate old paragraph (i) as 

paragraph (A); 

■ b. Redesignate old paragraph (A) as 

paragraph (1); 

■ c. Redesignate old paragraphs (1) and 

(2) as paragraphs (i) and (ii), 

respectively; 

■ d. Redesignate old paragraphs (B) and 

(C) as paragraphs (2) and (3), 

respectively; 

■ e. Designating the undesignated 

paragraph immediately following newly 

redesignated paragraph (g)(8)(ii)(A)(3) as 

paragraph (g)(8)(ii)(A)(4); and 

■ f. Redesignate old paragraphs (ii) and 

(iii) as paragraphs (B) and (C), 

respectively; 

■ 8. In newly designated paragraph 

(g)(8)(iii), redesignating old paragraphs 

(i) through (v) as paragraphs (A) through 

(E), respectively; 

■ 9. In newly designated paragraph 

(g)(8)(iv), redesignating old paragraphs 

(i) through (iii) as paragraphs (A) 

through (C), respectively; 

■ 10. In newly designated paragraph 

(g)(8)(v), redesignating old paragraphs 

(i) through (iii) as paragraphs (A) 

through (C), respectively; 

■ 11. Adding paragraph (g)(8)(vi); and 

■ 12. Adding paragraph (g)(9). 

The additions read as follows: 

§ 1.1031(k)–1 Treatment of deferred 

exchanges. 

* * * * * 

(g) * * * 

(7) * * * 

(iii) Personal property generally 

resulting in gain recognition under 

section 1031(b) that is incidental to real 

property acquired in an exchange. For 

purposes of this paragraph (g)(7), 

personal property is incidental to real 

property acquired in an exchange if— 

(A) In standard commercial 

transactions, the personal property is 

typically transferred together with the 

real property; and 

(B) The aggregate fair market value of 

the property described in paragraph 

(g)(7)(iii)(A) of this section transferred 

with the real property does not exceed 

15 percent of the aggregate fair market 

value of the replacement real property 

or properties received in the exchange. 

* * * * * 

(8) * * * 

(vi) Example 6. (A) In 2020, B 

transfers to C real property with a fair 

market value of $1,100,000 and an 

adjusted basis of $400,000. B’s 

replacement property is an office 

building and, as a part of the exchange, 

B also will acquire certain office 

furniture in the building that is not real 

property, which is industry practice in 

a transaction of this type. The fair 

market value of the real property B will 

acquire is $1,000,000 and the fair 

market value of the personal property is 

$100,000. 

(B) In a standard commercial 

transaction, the buyer of an office 

building typically also acquires some or 

all of the office furniture in the building. 

The fair market value of the personal 

property B will acquire does not exceed 

15 percent of the fair market value of the 

office building B will acquire. 

Accordingly, under paragraph (g)(7)(iii) 

of this section, the personal property is 

incidental to the real property in the 

exchange and is disregarded in 

determining whether the taxpayer’s 

rights to receive, pledge, borrow or 

otherwise obtain the benefits of money 

or non-like-kind property are expressly 

limited as provided in paragraph (g)(6) 

of this section. Upon the receipt of the 

personal property, B recognizes gain of 

$100,000 under section 1031(b), the 

lesser of the realized gain on the 

disposition of the relinquished property, 

$700,000, and the fair market value of 

the non-like-kind property B acquired in 

the exchange, $100,000. 

(9) Applicability date. Paragraphs 

(g)(7)(iii) and (g)(8)(vi) of this section 

apply to exchanges beginning after 

December 2, 2020. 

* * * * * 

Sunita Lough, 

Deputy Commissioner for Services and 

Enforcement. 

Approved: November 18, 2020. 

David J. Kautter, 

Assistant Secretary of the Treasury (Tax 

Policy). 

[FR Doc. 2020–26313 Filed 11–30–20; 4:15 pm] 

BILLING CODE 4830–01–P