Final 199A Regulations

As part of implementing tax reform, Congress gives Treasury the job to provide regulations interpreting the new law. A new component of the tax law, 199A, provides pass-through businesses the ability to deduct 20% of their qualified business income if they meet specific parameters. Depending on an income threshold, rental real estate owners will use a formula that involves the unadjusted basis immediately after acquisition (UBIA) of qualifying property to determine if they get the deduction. In August 2018 Treasury issued a proposed regulation that did not help real estate owners who do 1031 exchanges. The Federation of Exchange Accommodators (FEA – we are on the board) and other real estate industry groups aggressively weighed into Treasury to provide an alternative “step in the shoes” treatment for real estate owners who do 1031 exchanges.

The final Treasury regulations adopt the suggested “step in the shoes” treatment. The “step in the shoes” treatment takes the basis of the relinquished property at the time it was originally acquired. Additional investment in the replacement property at the time of the exchange increases the original relinquished property UBIA. The examples in the final regulation are clear and cover transactions where the price of the relinquished property and acquired property vary, and there is cash out and boot. The “step in the shoes” approach is workable and indeed a significant improvement over the proposed regulation.