KPMG report - Classification of solar energy property as “real property” for REITs under proposed regulations 

May 16:  The Treasury Department and IRS on May 9, 2014, issued proposed regulations (REG 150760-13) that would clarify the circumstances under which solar energy property can be classified as real property for purposes of the real estate investment trust (REITs) rules.

For more information about these proposed regulations [PDF 250 KB], read TaxNewsFlash-United States: Proposed regulations - Definitions of “real property” for REITs


Included in the proposed regulations are:


  • Rules and definitions establishing how to evaluate different types of assets and a series of examples demonstrating the application of the rules
  • Two examples relevant to the classification of solar energy property as real property for REIT purposes (one example focuses on a utility scale solar project, while the other example focuses on a commercial building rooftop system as well as a ground-mounted system adjacent to the commercial building)

Defining “real property” and “distinct asset”

The proposed regulations, consistent with section 856 and the existing regulations and guidance, define real property as including land and improvements to land. For this purpose, improvements to land include inherently permanent structures, and structural components thereof.


In determining whether an item is land, an inherently permanent structure, or a structural component, the proposed regulations first test whether the item is a “distinct asset.” A distinct asset is the unit of property to which the definitions apply. A distinct asset is not considered real property unless it serves a passive function. If the distinct asset has an active function, it is generally not real property, unless it is a structural component serving a utility-like function, such as systems that provide electricity, heat, or water, to an inherently permanent structure.


In addition, an entire system of interconnected assets is analyzed as a distinct asset and, therefore, as a single structural component, if the components of the system work together to serve a utility like function. Under the proposed regulations, a distinct asset is real property if it is listed in the proposed regulation as real property under a safe harbor list of assets or if it is classified as real property after a facts and circumstances analysis is applied.

Solar assets

The proposed regulations do not include solar assets in the list of safe harbor real property assets. The proposed regulations do, however, include two examples, Example #8 and Example #9, which describe two solar fact patterns.


In Example #8, a REIT owns a ground mounted solar project. The project consists of land, photovoltaic (PV) modules, mounts (foundations and racks), and an exit wire. Example #8 evaluates each component separately and concludes that the mounts, exit wire and land are real property, but the PV modules are not real property.


In Example #9, a REIT owns a ground mounted solar project that is installed adjacent to a commercial building. In this example, the REIT owns the building. The project assets are designed specifically for the building and the electricity from the solar project is used by the building. Only a small amount of the electricity is sold to a utility. Example #9 concludes that the entire solar project is real property because the solar project overall is determined to be a “distinct asset,” and it is determined that the distinct asset serves a “utility-like” function. Example #9 also states that if the solar project is installed on the rooftop as “shingles used as the roof,” of the commercial building, the entire solar project is real property.


The regulations are proposed to be effective for the calendar quarters beginning after they are published as final in the Federal Register. The Treasury Department and the IRS request comments on the regulations and a public hearing has been scheduled for September 18, 2014.

KPMG observation

Very generally, the proposed regulations seem to conclude that a utility scale solar project is not real property for purposes of the REIT rules, while a commercial building rooftop system or a ground mounted systems adjacent to a building can be real property for purposes of the rules, as long as the REIT owns both the building and the solar system, and most of the electricity output of the solar system is used by the building.


Example #8 concludes that some of the utility scale solar project components are real property. However, the majority of the cost of a solar project comes from the PV modules and the example concludes that PV modules are not real property.


Example #9 suggests that commercial building rooftop or adjacent ground mounted systems can be classified as real property for purposes of the REIT rules. However, it is not clear how helpful the example may be given that solar energy property is not typically owned by the adjacent building owner.


The preamble states that the proposed regulations define real property only for purposes of section 856 through 859; however, the preamble goes on to acknowledge that the classification of an asset as real property for one purpose of the Code could have implications for other Code sections. Comments are requested on the extent to which the various definitions of real property in the Code need to be reconciled, whether through modifications of the proposed regulations or through modifications to the regulations under other Code provisions. The classification of some solar assets as real property for REIT purposes may have implications for whether those same assets are eligible for the investment tax credit (ITC) and for MACRS depreciation.


Finally, a REIT must meet the requirement that at least 75% of the REIT’s gross income (with certain exclusions) for the tax year is derived from rents from real property, mortgage interest, and other specific real estate source income. The proposed regulations do not discuss whether income from a solar energy project will be eligible REIT income. However, the preamble includes a footnote stating that the IRS and Treasury Department are considering guidance to address the treatment of any income earned when an otherwise REIT-eligible solar system transfers energy to a utility company.



For more information, contact a tax professional with KPMG’s Washington National Tax practice:


Rich Blumenreich

+1 202 533 3032


Katherine Breaks

+1 202 533 4578


Hannah Hawkins

+1 202 533 4225




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