IRS revokes REIT private letter ruling

IRS signals tightened view on types of adjustments to rental formulas that are consistent with rent constituting qualifying income

IRS PLR concerning whether rents would be excluded from “rents from real property”

The IRS today publicly released a private letter ruling* in which the IRS revoked partially one of the rulings in PLR 201337007 (September 28, 2012) concerning whether rents as determined under the described master lease would be excluded from “rents from real property” for purposes of section 856(c)(2) and (c)(3).

As described in the letter ruling released today (PLR 202205001), the annual increase in the base rent under the lease (that is the subject of PLR 201337007) is limited to the lesser of:

a)      A fixed percentage (such as CPI) of prior year’s base rent, or

b)      An amount (but not less than zero) that, when added to prior year’s base rent, would result in a specified ratio of “Adjusted Revenue” to the total rent payable for such prior year.

Read PLR 202205001 [PDF 88 KB] (released February 4, 2022, and dated November 4, 2021)

* Private letter rulings are taxpayer-specific rulings furnished by the IRS Office of Chief Counsel in response to requests made by taxpayers and can only be relied upon by the taxpayer to whom issued. Pursuant to section 6110(k)(3), written determinations such as private letter rulings are not intended to be relied upon by third parties and may not be cited as precedent. These written determinations may, however, offer an indication of the IRS’s position on the issues addressed.

PLR 202205001

According to PLR 202205001, the term “Adjusted Revenue” is similar to earnings before interest, taxes, depreciation, amortization, and rent (EBITDAR). Thus, the EBITDAR-to-rent cap under (b) above appears to limit the annual increase based on tenant’s prior-year operation results and likely is intended to reduce the risk of a lease default. However, section 856(d)(2)(A) specifically treats as nonqualifying income:

…any amount received or accrued … with respect to any real or personal property, if the determination of such amount depends in whole or in part on the income or profits derived by any person from such property. [Emphasis added]

The IRS reasoned in PLR 202205001:

The amounts determined under the Escalation Provisions and the Other Adjustments Provisions in the Subject Leases depend in part on the lessee’s Adjusted Revenue. Adjusted Revenue is not equivalent to receipts or sales and is instead a measure of the income or profits derived by the lessee from the operation of the property. 

KPMG observation

Today’s release of the ruling provides three important reminders.  First, it is an unhappy reminder of the IRS’s ability to revoke its rulings.  Second, it necessarily signals a tightening of the IRS’s views as the types of adjustments to rental formulas that are consistent with the rent constituting qualifying income.  Third, as a result, it serves to emphasize the importance of careful review of not only “percentage rent” provisions, but also the formulae and definitions driving annual adjustments to base rent.

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

Stephen Giordano | +1 (202) 533-3535 |

David W. Lee | +1 (202) 533-4071 |


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