[Code of Federal Regulations]
[Title 26, Volume 9]
[Revised as of April 1, 2004]
From the U.S. Government Printing Office via GPO Access
[CITE: 26CFR1.857-5]

[Page 79-80]
 
                       TITLE 26--INTERNAL REVENUE
 
    CHAPTER I--INTERNAL REVENUE SERVICE, DEPARTMENT OF THE TREASURY 
                               (CONTINUED)
 
PART 1_INCOME TAXES--Table of Contents
 
Sec. 1.857-5  Net income and loss from prohibited transactions.

    (a) In general. Section 857(b)(6) imposes, for each taxable year, a 
tax equal to 100 percent of the net income derived from prohibited 
transactions. A prohibited transaction is a sale or other disposition of 
property described in section 1221(1) that is not foreclosure property. 
The 100-percent tax is imposed to preclude a real estate investment 
trust from retaining any profit from ordinary retailing activities such 
as sales to customers of condominium units or subdivided lots in a 
development tract. In order to prevent a trust from receiving any tax 
benefit from such activities, a net loss from prohibited transactions 
effectively is disallowed in compting real estate investment trust 
taxable income. See Sec. 1.857-2(a)(8). Such loss, however, does reduce 
the amount which a trust is required to distribute as dividends. For 
purposes of applying the provisions of the Code, other than those 
provisions of part II of subchapter M which relate to prohibited 
transactions, no inference is to be drawn from the fact that a type of 
transaction does not constitute a prohibited transaction.
    (b) Special rules. In determining whether a particular transaction 
constitutes a prohibited transaction, the activities of a real estate 
investment trust with respect to foreclosure property and its sales of 
such property are disregarded. Also, if a real estate investment trust 
enters into a purchase and leaseback of real property with an option in 
the seller-lessee to repurchase the property at the end of the lease 
period, and the seller exercises the option pursuant to its terms, 
income from the sale generally will not be considered to be income from 
a prohibited transaction solely because the purchase and leaseback was 
entered into with an option in the seller to repurchase and because the 
option was exercised pursuant to its terms. Other facts and 
circumstances, however, may require a conclusion that the property is 
held primarily for sale to customers in the ordinary course of a trade 
or business. Gain from the sale or other disposition of property 
described in section 1221(1) (other than foreclosure property) that is 
included in gross income for a taxable year of a qualified real estate 
investment trust constitutes income from a prohibited transaction, even 
though the sale or other disposition from which the gain is derived 
occurred in a prior taxable year. For example, if a corporation that is 
a qualified real estate investment trust for the current taxable year 
elected to report the income from the sale of an item of section 1221(1) 
property (other than foreclosure property) on the installment method of 
reporting income, the gain from the sale that is taken into income by 
the real estate investment trust for the current taxable year is income 
from a prohibited transaction. This result follows even though the sale 
occurred in a prior taxable year for which the corporation did not 
qualify as a real estate investment trust. On the other hand, if the 
gain is taken into income in a taxable year for which the taxpayer is 
not a qualifed real estate investment trust, the 100-percent tax does 
not apply.
    (c) Net income or loss from prohibited transactions. Net income or 
net loss from prohibited transactions is determined by aggregating all 
gains from the sale or other disposition of property (other than 
foreclosure property) described in section 1221(1) with all losses from 
the sale or other disposition of such property. Thus, for example, if a 
real estate investment trust sells two items of property described in 
section 1221(1) (other than foreclosure property) and recognizes a gain 
of $100 on the sale of one item and a loss of $40 on the sale of the 
second item, the net

[[Page 80]]

income from prohibited transactions will be $60.

(Sec. 856(d)(4) (90 Stat. 1750; 26 U.S.C. 856(d)(4)); sec. 856(e)(5) (88 
Stat. 2113; 26 U.S.C. 856(e)(5)); sec. 856(f)(2) (90 Stat. 1751; 26 
U.S.C. (856(f)(2)); sec. 856(g)(2) (90 Stat. 1753; 26 U.S.C. 856(g)(2)); 
sec. 858(a) (74 Stat. 1008; 26 U.S.C. 858(a)); sec. 859(c) (90 Stat. 
1743; 26 U.S.C. 859(c)); sec. 859(e) (90 Stat. 1744; 26 U.S.C. 859(e)); 
sec. 6001 (68A Stat. 731; 26 U.S.C. 6001); sec. 6011 (68A Stat. 732; 26 
U.S.C. 6011); sec. 6071 (68A Stat. 749, 26 U.S.C. 6071); sec. 6091 (68A 
Stat. 752; 26 U.S.C. 6091); sec. 7805 (68A Stat. 917; 26 U.S.C. 7805), 
Internal Revenue Code of 1954))

[T.D. 7767, 46 FR 11278, Feb. 6, 1981]