RE: Comments to Proposed Regulations Concerning the Deduction for Qualified Business Income Under 199A of the Code (REG ).

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1 October 1, 2018 The Honorable David J. Kautter Assistant Secretary (Tax Policy) Department of the Treasury 1500 Pennsylvania Avenue, N.W. Washington, D.C The Honorable William M. Paul Chief Counsel (Acting) Internal Revenue Service 1111 Constitution Avenue, NW Washington, DC RE: Comments to Proposed Regulations Concerning the Deduction for Qualified Business Income Under 199A of the Code (REG ). Dear Assistant Secretary Kautter and Chief Counsel Paul: The International Council of Shopping Centers ( ICSC ) appreciates the opportunity to provide comments on the proposed regulations titled Qualified Business Income Deduction under Section 199A of the Internal Revenue Code (hereinafter the Proposed Regulations ). Founded in 1957, ICSC is the global trade association of the shopping center industry. Our 70,000+ members in over 100 countries include shopping center owners, developers, managers, investors, retailers, brokers, academics, and public officials. The shopping center industry is essential to economic development and opportunity. It is a significant job creator, driver of GDP, and critical revenue source for the communities it serves through the generation of sales taxes and the payment of property taxes. These taxes fund important municipal services like firefighters, police officers, school services, and infrastructure such as roadways and parks. Shopping centers aren t only fiscal engines they are integral to the social fabric of our communities by providing a central place to congregate with friends and family, discuss community matters, and participate in and encourage philanthropic endeavors. ICSC commends the Treasury and the IRS for the overall helpful and practical clarifications provided in the Proposed Regulations, including clarifications that (i) self-constructed property or property improvements are taken into account on their placed-in-service date for purposes of measuring unadjusted basis immediately after acquisition ( UBIA ); (ii) the exclusion of brokerage services as a specified service trade or business ( SSTB ) does not include real estate agents and real estate brokers; and (iii) the exclusion of investing and investment management as an SSTB does not include directly managing real property. As the Treasury and IRS finalize the proposed regulations we would request that you reconsider or clarify additional points, many of which were noted in our original comment letter dated April 9, Specifically, ICSC requests the following modifications to be included in the final regulations as discussed in more detail below:

2 I. Rental real estate as a trade or business. Provide practical safe harbors and examples to make it clear that typical commercial real estate investments such as shopping centers satisfy the Section 199A trade or business requirement; II. III. IV. Using original unadjusted basis after tax-deferred exchanges. Align the regulations with the statutory requirement to use unadjusted basis for UBIA and not lower UBIA to adjusted basis in tax-deferred transactions such as under Sections 351, 351, and 1031; Practical aggregation rules. Broaden the aggregation rules to more practically apply to typical commonly controlled real estate arrangements; Directly managing real property includes management through agents. Clarify that the Proposed Regulations exception to investing and investment management for directly managing real property includes direct property management services that are performed through agents, including affiliates acting as an agent for the property manager; V. Partnership basis adjustments. Do not elevate form over substance and allow Section 734(b) and 743(b) adjustments to provide UBIA if a taxpayer calculates the adjustment after subtraction of any potential double counting with existing UBIA credit; VI. VII. RIC dividends attributable to REITs. Provide guidance to prevent the unintended loss of Section 199A deductions for real estate investment trust ( REIT ) dividends for the large percentage of REITs that are owned by registered investment companies ( RICs ); and QBI-SSTB proration. Clarify that proration concepts apply when the SSTB de minimis rules are otherwise exceeded so that a small amount of SSTB gross receipts does not completely deny qualified business income ( QBI ) treatment to a business that has the overwhelming majority of its income as QBI. I. Rental Real Estate as a Trade or Business. Section 199A applies to a qualified trade or business, but the statute does not provide guidance on how to determine what constitutes such a trade or business. The Proposed Regulations chose to adopt the Section 162(a) s definition of trade and business. However, 162(a) s concept of trade and business is far from defined, is unsettled in the courts after decades of litigation, and results in treating similarly situated taxpayers differently depending on what circuit they live in. Because Section 62(a)(4) allows all rental expenses to be deductible regardless of whether the business is a Section 162 trade or business or a Section 212 investment, the vagaries of Section 162 have been less relevant to the rental real estate industry. However, by adopting the Section 162 standard, the Proposed Regulations create material and unnecessary uncertainty, complexity, and administrative costs for rental real estate when the clear statutory intent of including QBIA concepts into Section 199A and allowing automatic qualification for REIT dividends was to recognize the rental real estate industry as generally eligible for Section 199A. Uncertainty is particularly present in the common business-driven net leases referred to as triple net leases, that allow the tenant more control of, and more responsibility for, their rental space. Given the broad scope of Section 199A, we recognize the general appeal of using a well-known standard such as Section 162, however, as it applies to real estate, the Section 162 standard simply needs modification to effectively carry out Congressional intent of Section 199A. 2

3 ICSC recommends that the final regulations provide practical safe harbors and examples to make it clear that typical commercial real estate investments such as shopping centers satisfy the Section 199A trade or business requirement. We recognize that, like Section 62(a)(4), such clarification can have limited scope to avoid unintended consequences elsewhere in the Code. However, at a minimum we recommend clarification that the following common real estate leasing arrangements constitute a trade or business for purposes of Section 199A without regard to type of tenant lease: (i) (ii) (iii) A small strip shopping center with multiple tenants. A single-tenant detached retail store. The retail floor of an office building with one or more tenants. II. Using Original Unadjusted Basis After Tax-Deferred Exchanges. Section 199A does not provide specific rules for determining UBIA in the case of a like-kind exchange or other nonrecognition transactions such as a Section 351 contribution to a corporation or a Section 721 contribution to a partnership. However, there is no indication in the statutory text or legislative history of an intention to put taxpayers in a material detriment under Section 199A when conducting such transactions, rather, the Code encourages these transactions through tax-free treatment by allowing unimpeded use of capital in transactions where a taxpayer has not cashed out. Moreover, the term UBIA necessarily has two components: it is the unadjusted basis of a property immediately after acquisition. We recognize and agree with the Proposed Regulations that a tax-deferred exchange is a new acquisition, therefore, UBIA computations should take into account factors on the acquisition, such as when a Section 1031 is combined with additional cash to purchase a more expensive property. However, we believe that the Proposed Regulations do not follow the statutory mandate to look to unadjusted basis and simply used adjusted basis instead to determine UBIA after a tax-deferred exchange. This conclusion is inconsistent with the statute and the Proposed Regulations conclusion that the original remaining amortization period does carry over from the original property. This reduction from unadjusted basis to adjusted basis was truly an unforeseen and surprising approach taken in the Proposed Regulations. ICSC strongly recommends that the Proposed Regulations be modified to define UBIA after a tax-free exchange as the UBIA of the transferor as adjusted for changes as a result of the transfer, exactly as the Proposed Regulations have done for measuring the remaining amortization period in such transfer. For example, for simplicity, assume Taxpayer X originally purchased depreciable Property A for $200 with a 20-year life and at the end of year 5 Taxpayer exchanges Property A plus $100 for Property B in a tax-deferred Section 1031 exchange. Also assume Taxpayer does not elect a new tax depreciation life but chooses to amortize the remaining $150 of adjusted basis of Property A over the remaining 15 years and amortizes the new $100 investment over a new 20-year tax life. In this case, Taxpayer should succeed to the original $200 of unadjusted basis that Taxpayer had in Property A over the remaining 15 years and should have a new $100 of unadjusted basis over a new 20-year life for the additional $100 investment. This result is no different than had Taxpayer simply kept Property A and made a $100 improvement to it. Further, a similar result should occur if Taxpayer contributed Property A to a partnership and the partnership made an additional $100 improvement. There is simply no statutory or policy reason to put Taxpayer in a worse position with a tax-deferred exchange or contribution to a partnership or a corporation. Further, a similar tracking of unadjusted basis occurs for Section 1245 and 1250 recapture purposes in these types of transactions (albeit using the term recomputed 3

4 basis but achieving a similar result of looking to original cost basis by adding back depreciation deductions taken before the tax-free exchange). Like-kind exchanges and contributions to partnerships and corporations allow real estate investors to properly allocate capital within their investment portfolio and, thus, facilitate real estate transactions. The proposed UBIA rules will discourage like-kind exchanges and, as a consequence, real estate investment activity as a whole, completely in contravention of the intent of Section 199A. III. Practical Aggregation Rules. The Proposed Regulations allow taxpayers to elect to aggregate qualifying business activities for purposes of the IRC Section 199A deduction if certain conditions are satisfied, such as, (1) each of the aggregated businesses must independently qualify (i.e., each a 162 business), (2) the same person, or group of persons, must directly or indirectly, own a majority interest in each of the businesses for the majority of the tax year, (3) none of the aggregated trades or businesses can be an SSTB, and (4) each of the businesses must be part of a larger, integrated trade or business by having at least two of the following: (A) same products or services, (B) share facilities or centralized business elements, or (C) the businesses are operated in coordination with, or reliance on, other businesses in the aggregated group (for example, supply chain interdependencies). For members of the real estate industry, the proposed narrow aggregation rules are both impractical and essentially deny the practical benefits of aggregation for most real estate investments. The rules were clearly written with non-real estate corporate conglomerates in mind and are a substantial deviation from the historical and practical Section 469(c)(7) aggregation approach that is both familiar and has worked well for the real estate industry. Instead, the Proposed Regulations introduce an impractical and administratively complex aggregation concept that would effectively force the real estate industry to perform separate Section 199A calculations for each property partnership, even though Section 199A is an individual owner applied deduction. In practical terms, ICSC recommends that the aggregation rules be written in a manner that allows real estate professionals who elect to aggregate under Section 469(c)(7) to also aggregate for Section 199A purposes. ICSC further recommends that (i) the second common control prong of the aggregation test be expanded to allow aggregation for less than 50% common owned entities if the general partner or managing member is the same, (ii) the fourth integrated business requirement in the aggregation rule includes a safe harbor for aggregation of all real estate that is like-kind under Section 1031; and (iii) aggregation be allowed not just at the individual taxpayer level but also at the level of intervening entities, such as at the holding partnership level. IV. Direct Real Property Management Includes Management Through Agents. The Proposed Regulations clarified that the SSTB category of investing and investment management does not include directly managing real property. Because a direct property manager can often use agents, including certain affiliates for certain property management duties, we request that the Proposed Regulations be clarified to make clear that direct property management includes using agents, including affiliates acting as an agent for the property manager. V. Partnership Basis Adjustments. The Proposed Regulations summarily dismissed adjustments to UBIA for common partnership basis adjustments under Sections 734(b) and 743(b) adjustments and, in doing so, elevated form over substance in determining whether similar transactions should be entitled to increases to UBIA. For example, if property is held by A and B in the AB partnership, new investors C and D would receive a new cost basis UBIA if they pre-formed the CD partnership and acquired 100% of the property from the AB partnership, but if instead C and D simply acquired 100% of the partnership interest from A and B such that the original AB partnership 4

5 continued, C and D would be denied the same UBIA increase because their basis step up would be calculated under Section 743(b), which was categorically denied in the Proposed Regulations because of the potential for double counting. While ICSC recognized the potential for some double counting, this can easily be remedied by requiring that, to the extent that there is any temporary overlap in UBIA, that there be a UBIA subtraction for this overlap. For instance, in the example above, to the extent that the Section 743(b) adjustment was stepping up the basis to the original partnership unadjusted basis, that overlap would be subtracted out in the total UBIA calculations during the period of the overlap (recognizing that the Section 743(b) adjustment will continue for a longer amortization period than the original unadjusted basis, so the overlap will be temporary). VI. RIC Dividends Attributable to REITs. Section 199A recognizes that REIT dividends are per-se eligible for the Section 199A deduction but says nothing about indirect REIT dividends earned through RICs. It is very common for a RIC mutual fund investment to include investments in REITs and the Proposed Regulations do not address the question of whether RICs can attribute a portion of their dividends that otherwise do not qualify for Section 199A to dividends they receive from underlying REIT investments. ICSC requests that the final regulations clarify that the millions of shareholders who invest in a REIT indirectly through RICs are also eligible for the deduction. If this deduction does not apply to RIC, there is an asymmetrical treatment for taxpayers that own REIT stock directly versus indirectly through a RIC. We request that Treasury exercise its regulatory authority under Section 199A to remedy this issue and agree with the positions advanced by Nareit and the Investment Company Institute for ensuring all REIT investors are treated similarly. VII. QBI-SSTB Proration. Proposed 1.199A-5(c)(1) provides a de minimis rule such that a trade or business is not an SSTB if less than 5% (or 10% for business with gross receipts of $25 million or less) of the gross receipts of the trade or business are attributable to the performance of services in an SSTB. We respectively request that the regulation be clarified such that pro ration concepts apply so that the de minimis rule does not serve as a cliff such that exceeding the de minimis threshold by $1 would not otherwise completely deny non-sstb QBI treatment to a business that has the overwhelming majority of its income as non-sstb QBI. ICSC thanks you for considering the above comments. We welcome the opportunity to discuss these in more detail. For further questions, please contact Phillips Hinch, Vice President of Tax Policy, at phinch@icsc.org or (202) Sincerely, Tom McGee President & CEO 5