Comment from Anonymous

Notice 2026 23: 2026–2027 Priority Guidance Plan Comment Submission Regarding IRC §1231 and REIT Capital Gain Dividends This comment respectfully requests that the Treasury Department and the Internal Revenue Service include guidance in the 2026–2027 Priority Guidance Plan addressing the application of IRC §1231(c) to real estate investment trusts (“REITs”). Clarifying guidance is warranted because the interaction of §1231(c) with the REIT distribution and dividend designation regime produces results that are inconsistent with the policy objectives of §1231 and that adversely affect a broad class of taxpayers—namely, investors in REITs. I. Background on IRC §1231 IRC §1231 establishes a hybrid framework for gains and losses arising from the disposition of property used in a trade or business. When gains exceed losses, net §1231 gain is accorded long term capital gain treatment; when losses exceed gains, net §1231 loss is treated as an ordinary loss. This regime reflects a deliberate policy choice to avoid penalizing taxpayers for economic losses on long term business assets, while preventing selective timing of transactions to achieve character arbitrage. Section 1231(c) furthers this policy by recapturing prior net §1231 losses as ordinary income when a taxpayer later realizes net §1231 gains. The provision is designed as an anti-abuse rule to prevent taxpayers from permanently converting ordinary losses into preferentially taxed capital gains through timing strategies. II. Background on REIT Taxation REITs are subject to a distinct statutory regime. In lieu of entity level taxation, REITs are required to distribute income to shareholders and are permitted a dividends paid deduction that is applied prior to the utilization of net operating losses (“NOLs”). As a result, losses realized at the REIT level generally do not flow through to shareholders and may be effectively trapped at the entity level. Importantly, REITs are expressly permitted to designate all or a portion of distributions as capital gain dividends. Such dividends retain long term capital gain character in the hands of shareholders and are taxed at preferential rates (generally 20% for individuals versus the highest marginal rate of 39.6%), reflecting Congress’s intent that REIT investors be taxed in a manner analogous to direct investment in underlying real estate assets. III. Problematic Interaction Between §1231(c) and the REIT Regime Consider a publicly traded REIT held primarily by U.S. individual investors. In Year 1, the REIT disposes of business property at a net §1231 loss. In Year 2, the REIT disposes of other business property at a net §1231 gain and distributes the proceeds to shareholders. Absent the prior year loss, the Year 2 gain could be fully designated as a capital gain dividend, consistent with the REIT regime and taxed at preferential rates to shareholders. However, due to §1231(c), a portion of the Year 2 gain is recharacterized as ordinary income. Because the REIT must distribute income before utilizing NOLs, the prior year loss cannot offset the current year distribution. Moreover, shareholders cannot access the REIT’s §1231 losses, as those losses remain entity level attributes. The result is that shareholders are taxed at ordinary income rates on a portion of the distribution solely because the REIT incurred an economic loss in a prior year. This outcome effectively penalizes investors for long term business losses—precisely the result §1231 was intended to avoid—and does so in a manner unique to REITs, where losses are structurally prevented from offsetting shareholder level income. IV. Recommendation Treasury and the Service should issue regulatory guidance clarifying that IRC §1231(c) does not limit a REIT’s ability to designate capital gain dividends to the extent such losses have not otherwise been utilized by the REIT and remain NOL carryovers. Such guidance would preserve the anti-abuse purpose of §1231(c) for operating taxpayers while preventing an unintended and inequitable result for REIT investors. Addressing this issue would advance the objectives of Notice 2026 23 by resolving an issue affecting a large and well-defined taxpayer population. Thank you for your consideration.