Industrial structures qualify as real property for production deduction

Plain-English summary

A national construction contractor substantially renovated or erected several types of large industrial units and asked whether receipts from those projects qualified as domestic production gross receipts. The units were extremely large and heavy, attached to concrete foundations and support structures, and ordinarily remained in place throughout useful lives lasting decades. The IRS concluded that the units were inherently permanent structures under Treas. Reg. § 1.263A-8(c)(3), not machinery excluded from real-property treatment. The contractor's qualifying U.S. projects therefore constituted construction of real property, and their receipts qualified as DPGR under § 1.199-3(m), assuming the other IRC § 199 requirements were met.

Ruling snapshot

• Question: Did substantial renovation, construction, or erection of the industrial units constitute construction of real property for the domestic production deduction?
• Outcome: Advice given, the qualifying projects were real-property construction and their receipts were DPGR.
• Key authorities: IRC § 199(c)(4)(A)(ii); Treas. Reg. §§ 1.199-3(m), 1.263A-8(c)(3), 1.263A-8(c)(4).

Full text (IRS public release)

                            INTERNAL REVENUE SERVICE
                  NATIONAL OFFICE TECHNICAL ADVICE MEMORANDUM

                                                 June 09, 2016
Number:     201638022
Release Date:    9/16/2016
                                                      Third Party Communication: None
                                                      Date of Communication: Not Applicable

Index (UIL) No.:           199.00-00, 199.03-11, 263A.08-00
CASE-MIS No.:              TAM-134796-15

----------------------------------------------------------------
----------------

         Taxpayer's Name:                             -------------------------------------------
         Taxpayer's Address:                          -------------------------------------------------
                                                      ---------------------------------
         Taxpayer's Identification No                 ----------------
         Year(s) Involved:                            ---------------------------------------------------
         Date of Conference:                          ---------------------


LEGEND:

Taxpayer          =        -------------------------------------------


ISSUE:

Whether substantial renovation, construction, or erection of -------------------------------------
------------, ----------------------------------, and -------------------------------------------------------------
--------------------------------------------------------------------------------------------------------------
qualify as construction of real property so that gross receipts from such projects qualify
as domestic production gross receipts (DPGR) under § 1.199-3(m) of the Income Tax
Regulations?

CONCLUSION:

Yes. Projects where the Taxpayer’s activities qualify as substantial renovation,
construction, or erection of ----------, ---------------, and ---------- constitute construction of
real property, and gross receipts from such projects qualify as DPGR under § 1.199-
3(m).
TAM-134796-15                                            2

FACTS:

    A. Overview

Taxpayer engages in a trade or business that is considered construction for purposes of
the North American Industry Classification System (NAICS) on a regular and ongoing
basis. Taxpayer is a U.S. national construction contractor primarily serving the -----------
---------------------------------------------------------------- and related industries. Generally,
Taxpayer engages in all phases of field construction including direct hire of most labor
crafts, construction engineering, welding, rigging engineering, estimating, subcontractor
management, field procurement, planning and scheduling, project controls, quality and
safety, crane work, foundational work, ground preparation work, water systems, and/or
other construction. Specific activities performed for each job vary from project to
project.

Taxpayer utilizes traditional construction and craft labor resources. Taxpayer uses
cranes, trucks, bulldozers, backhoes, temporary power generation and lighting arrays,
scaffolding, weld equipment, field tools, safety equipment and construction tackle in its
activities.

LB&I and Taxpayer requested Technical Advice on the qualification (for § 199
purposes) of gross receipts that Taxpayer derived from projects related to the
substantial renovation, construction, or erection of ----------, ---------------, and ---------- in
the United States.

Taxpayer does not receive any income or gross receipts from the actual sale of these
units. Taxpayer’s gross receipts are derived from various projects that involve installing
or replacing components of --------------- and ---------- and erecting ---------- at the sites.

    B. ----------

For -------- projects, Taxpayer does not erect new ----------. Instead, Taxpayer renovates
major components and substantial structural parts of the ----------. The renovations
either materially increase the value of the ----------, substantially prolong the useful life of
the ----------, or both.

An -------- is commonly used by -------------------------- to --------------------------------------------
---------------------------------------------------------------------------------------------------------------------
---------------------------------------------------------------------------------------------------------------------
---------------------------------------------------------------------------------------------------------------------
---------------------------------------------------------------------------------------------------------------------
---------------------------.
TAM-134796-15                                            3

The -------- consists of a series of large piping; ancillary equipment, including pumps,
motors, heaters, heat exchangers, separators, and reboilers; and ------- main vessels: ---
----------------------------------------------------------------. --------------------------------------------------
---------------------------------------------------------------------------------------------------------------------
---------------------------------------------------------------------------------------------------------------------
----------------------. ---------- operate continuously --- hours a day for approximately -- to --
years between scheduled shutdowns for routine maintenance.

Generally, -------- structures are ----- feet tall by ----- feet wide by ----- feet long. An
entire -------- unit can weigh as much as ------- tons, with components ranging in weight
from -- tons to ------- tons. -------- vessels range in size from --- to --- feet in diameter.

-------- components are attached to support columns, and are installed above ground for
environmental and maintenance reasons. The support columns are much heavier than
the frame of a building. The main supports weigh ----- pounds per foot. ----------
generally rest on concrete foundations. The components of ---------- have different
spread footings, and therefore each component has a different foundation. The support
columns rest on top of these foundations and are secured by anchor bolts imbedded in
the concrete. Each foundation is designed to support over ----- tons and multiple
foundations of this size are necessary to accommodate the entire --------. The -------- is
designed to withstand harsh weather.

Preparation for foundation and ground work may take as long as four to twelve months.
During this period, new -------- components are constructed, which generally require a
crew of ----- employees working ---- to ------ weeks to complete. The components are
assembled on-site with the use of heavy construction equipment and large capacity
cranes. -------- components are welded, bolted, or otherwise permanently affixed to the
support columns and foundations.

Generally, ---------- have a useful life of ----- to ----- years without significant
maintenance. The ---------- vessels have access openings and stairs inside to allow
maintenance people to visually inspect the interior of the vessels. Large cranes are
necessary to access the upper sections of the -------- for maintenance. The vessels
generally are repaired, but rarely replaced. Ancillary equipment, however, can be
separately disassembled, replaced, and repaired as it wears out. When components of
---------- are retired from service, Taxpayer dismantles the -------- components, picks
them up with a crane, and takes them off-site for demolition. However, demolition of an
entire -------- is rare. Some of the first ---------- built (circa --------) currently operate
today. If a ---------- ceases operations, it requires a great amount of work to remove the
insulation and to clean the steel before disposing of the --------. To Taxpayer’s
knowledge, ---------- are not moved to a different site for reuse.
TAM-134796-15                                            4

    C. -----------------

For -------------- projects, Taxpayer does not erect new ---------------. Taxpayer renovates
major components and substantial structural parts of the ---------------. The renovations
either materially increase the value of the ---------------, substantially prolong the useful
life of the ---------------, or both.

A -------------- is a ----------------------------------------- that ----------------------------------------------
---------------------------------------------------------------------------------------------------------------------
---------------------------------------------------------------------------------------------------------------------
---------------------------------------------------------------------------------------------------------------------
---------------------------------------------------------------------------------------------------------------------
----------------------------------------------------------------------------.

A --------------------------may be ----- feet tall and consists of tandem pairs of --------
installed at elevations of ----- or ---- stories, each of which may be over --- feet in
diameter. Most --------------- have -------------------------. In general, a ---------------------------
weighs ----------- lbs. while the framework on top of the ---------- may weigh
approximately ----------- lbs.

-------- and ---------------structures have many similarities and thus require similar
foundations. A ------------------------- is installed on large reinforced I-Beam supports and
connects to large concrete footings. Like for ----------, preparation for foundation and
ground work for --------------- may take as long as four to twelve months. During this
period, new --------------- are constructed and generally require a crew of ----- employees
working ---- to ------ weeks to complete. ---------------- may be delivered to the
construction site in pieces where they are connected together, or the complete -------
may be delivered to the site and erected on-site with the use of heavy construction
equipment and large capacity cranes. Permanent ------- affixation to the support
structures and concrete foundation occurs through bolting, welding, or similar methods.

Generally, --------------- have a useful life of more than --- years with renovations
performed every ------- to -----years. The -------- can be replaced when they wear out,
but on-site assembly may be required to complete their construction. When
components of --------------- are retired from service, Taxpayer similarly dismantles the
pieces, picks them up with a crane, and takes them off-site for demolition. However,
demolition and removal of an entire -------------- rarely occurs, and --------------- are not
moved to new sites for reuse.

    D. ----------

Taxpayer’s projects involved the new erection of ---------- at ------------------------------
plants and ---------- complexes.
TAM-134796-15                                            5

In general, an -------- is an ---------------------------------------------- that -----------------------------
---------------------------------------------------------------------------------------------------------------------
----------------. The -------- generally does not have moving parts. There are several
different types of -------- configurations based on the type of application.

One common application for an -------- is use in a ------------------------------plant. The
components of a ------------------------------plant include ----------------------------------------------
--------------------------------. In such a plant, the -------------- generates ------------. A system
of piping carries -------------- from this process and ------- to the --------, where ---------------
---------------------------------------------------------------------------------------------------------------------
------------------------------------------------------------.

A typical -------- is made up of various equipment and control components, including -----
------------------------------------------------------------------------------------. ------------------------------
---------------------------------------------------------------------------------------------------------------------
---------------------------------------------------------------------------------------------------------------------
---------------------------------------------------------------------------------------------------------------------
------------------------------------------------------------------------------------.

---------- can vary in size depending on the project, but generally are very large and
heavy. In a ------------------------------plant, the -------- serves as -----------------------------------
-----------------------------------------------------------------------. -------------------------------------------
--------------------------------------------------------------------------------. Generally, ---------- range
from: (1) small -------- – ----- feet by --- feet by --- feet; (2) medium -------- – ----- feet by --
--- feet by ----- feet; (3) large -------- – ----- feet by --- feet by ----- feet. The total steel
weight and the size of the -------- need to meet the specific design as well as impact
from ---------- design criteria. Generally, the weights associated with the sizes above
include: (1) small -------- – --------------pounds; (2) medium – --------------pounds; or
(3) large -------- – --------------pounds.

Taxpayer affixes ---------- to a concrete foundation that is several feet thick, with a
perimeter that spans several feet beyond the footprint of the --------. The thickness of
the foundation depends on the size of the -------- and the ----------------- design criteria. --
---------- require the support of several integral beams and columns, which form the
structural backbone for the entire --------. These columns sit on base plates embedded
in the concrete anchored by means of anchor bolts.

Taxpayer generally requires a crew of ----- direct craft personnel and --- indirect
personnel when constructing a new --------. New ---------- are constructed with heavy
construction equipment and specialty cranes generally on-site which occurs
concurrently with the construction of the ------------------------------plant. Portions of the ----
-------- units may be assembled off-site and transported, then rigged and constructed at
the customer’s site. ---------- are attached to and integrated with the -------- plant.
TAM-134796-15                                 6

Generally, the useful life of an -------- may extend as long as --------years, with
maintenance and replacement of components occurring periodically. The demolition
and removal of an entire ---------is rare. Taxpayer may scrap ---------- at the end of their
useful lives. To Taxpayer’s knowledge, ---------- are not moved to a different site for
reuse.

LAW:

Section 199

Section 199(c)(4)(A)(ii) of the Internal Revenue Code defines DPGR to include the
gross receipts of the taxpayer which are derived from, in the case of a taxpayer
engaged in the active conduct of a construction trade or business, construction of real
property performed in the United States by the taxpayer in the ordinary course of such
trade or business.

Section 1.199-3(d)(1)(i) defines the term “item” as the property offered by the taxpayer
in the normal course of the taxpayer’s business for lease, rental, license, sale,
exchange, or other disposition (collectively “disposition”), if the gross receipts from the
disposition of such property qualify as DPGR.

Section 1.199-3(d)(2)(iii) provides that for purposes of § 1.199-3(d)(1), in the case of
construction activities and services or engineering and architectural services, a taxpayer
may use any reasonable method that is satisfactory to the Secretary based on all of the
facts and circumstances to determine what construction activities and services or
engineering or architectural services constitute an item.

Section 1.199-3(m)(1)(i) defines the term “construction” to mean activities and services
relating to the construction or erection of real property (as defined in § 1.199-3(m)(3)) in
the United States by a taxpayer that, at the time the taxpayer constructs the real
property, is engaged in a trade or business (but not necessarily its primary, or only,
trade or business) that is considered construction for purposes of the North American
Industry Classification System (NAICS) on a regular and ongoing basis. A trade or
business that is considered construction under the NAICS means a construction activity
under the two-digit NAICS code of 23 and any other construction activity in any other
NAICS code provided the construction activity relates to the construction of real
property such as NAICS code 21311 (drilling oil and gas wells) and 213112 (support
activities for oil and gas operations). For purposes of § 1.199-3(m), the term
“construction project” means the construction activities and services treated as the item
under § 1.199-3(d)(2)(iii). Tangible personal property (for example, appliances,
furniture, and fixtures) that is sold as part of a construction project that is not considered
real property for purposes of § 1.199-3(m)(1)(i). In determining whether property is real
property, the fact that property is real property under local law is not controlling.
TAM-134796-15                                7

Conversely, property may be real property for purposes of § 1.199-3(m)(1)(i) even
though under local law the property is considered tangible personal property.

Section 1.199-3(m)(2)(i) describes activities constituting construction as activities
performed in connection with a project to erect or substantially renovate real property
including activities performed by a general contractor, for example, activities relating to
the management and oversight of the construction process such as approvals, periodic
inspection of the progress of the construction project, and required job modifications.

Section 1.199-3(m)(3) defines “real property” to mean buildings (including items that are
structural components of such buildings), inherently permanent structures (as defined in
§ 1.263A-8(c)(3)) other than machinery (as defined in § 1.263A-8(c)(4)) (including items
that are components of such inherently permanent structures), inherently permanent
land improvements, oil and gas wells, and infrastructure (as defined in § 1.199-3(m)(4)).
For purposes of the preceding sentence, an entire utility plant including both the shell
and the interior will be treated as an inherently permanent structure. Property produced
by a taxpayer that is not real property in the hands of that taxpayer, but that may be
incorporated into real property by another taxpayer, is not treated as real property by
the producing taxpayer (for example, bricks, nails, paint, and windowpanes). For
purposes of § 1.199-3(m)(3), structural components of buildings and inherently
permanent structures include property such as walls, partitions, doors, wiring, plumbing,
central air conditioning and heating systems, pipes and ducts, elevators and escalators,
and other similar property.

Section 1.199-3(m)(5) defines “substantial renovation” as the renovation of a major
component or substantial structural part of real property that materially increases the
value of the property, substantially prolongs the useful life of the property, or adapts the
property to a new or different use.

Section 1.199-3(m)(6)(i) provides, assuming all of the requirements of § 1.199-3(m) are
met, DPGR derived from the construction of real property performed in the United
States includes the proceeds from the sale, exchange, or disposition of real property
constructed by the taxpayer in the United States (whether or not the property is sold
immediately after construction is completed and whether or not the construction project
is completed). DPGR derived from the construction of real property includes
compensation for the performance of construction services by the taxpayer in the United
States. DPGR derived from the construction of real property includes gross receipts
derived from materials and supplies consumed in the construction project or that
become part of the constructed real property, assuming all requirements of § 1.199-
3(m) are met.

Section 263A

Section 1.263A-8(c)(3) defines “inherently permanent structures” as follows:
TAM-134796-15                                8


    Inherently permanent structures include property that is affixed to real
    property and that will ordinarily remain affixed for an indefinite period of time,
    such as swimming pools, roads, bridges, tunnels, paved parking areas and
    other pavements, special foundations, wharves and docks, fences, inherently
    permanent advertising displays, inherently permanent outdoor lighting
    facilities, railroad tracks and signals, telephone poles, power generation and
    transmission facilities, permanently installed telecommunications cables,
    broadcasting towers, oil and gas pipelines, derricks and storage equipment,
    grain storage bins and silos. For purposes of this section, affixation to real
    property may be accomplished by weight alone. Property may constitute an
    inherently permanent structure even though it is not classified as a building
    for purposes of former section 48(a)(1)(B) and § 1.48-1. Any property not
    otherwise described in this paragraph (c)(3) that constitutes other tangible
    property under the principles of former section 48(a)(1)(B) and § 1.48-1(d) is
    treated for the purposes of this section as an inherently permanent structure.

Section 1.263A-8(c)(4) provides the following with respect to machinery:

    (i) Treatment. A structure that is property in the nature of machinery or is
    essentially an item of machinery or equipment is not an inherently permanent
    structure and is not real property. In the case, however, of a building or
    inherently permanent structure that includes property in the nature of
    machinery as a structural component, the property in the nature of
    machinery is real property.

    (ii) Certain factors not determinative. A structure may be an inherently
    permanent structure, and not property in the nature of machinery or
    essentially an item of machinery, even if the structure is necessary to
    operate or use, supports, or is otherwise associated with, machinery.

ANALYSIS:

Under § 199(c)(4)(A)(ii), Taxpayer’s gross receipts are DPGR if Taxpayer derived gross
receipts from the construction of real property performed in the United States while
engaged in the active conduct of a construction trade or business. Section 1.199-
3(m)(6)(i) provides, assuming all of the requirements of § 1.199-3(m) are met, DPGR
derived from the construction of real property performed in the United States includes
compensation for the performance of construction services by the taxpayer in the United
States.

Under § 199, the term “item” generally means the property offered by the taxpayer in
the normal course of the taxpayer’s business for disposition, if the gross receipts from
the disposition of such property qualify as DPGR. Section 1.199-3(d)(2)(iii) provides a
TAM-134796-15                                           9

special rule for construction activities. It provides that a taxpayer engaged in
construction activities may use any reasonable method that is satisfactory to the
Secretary based on all of the facts and circumstances to determine what construction
activities and services constitute an item.

Taxpayer claims that it performs substantial renovation, construction, or erection of ------
----------, ---------------, and ----------, that these activities are construction of real property
for § 199 purposes, and that gross receipts from each project are DPGR under § 1.199-
3(m). Taxpayer claims it is reasonable to consider each project as an “item” for
purposes of section 199 because Taxpayer’s activities relate to the construction of real
property in the United States. LB&I’s position is that Taxpayer’s activities performed on
----------, ---------------, and/or ---------- do not qualify as the construction of real property
for § 199 purposes because ----------, ---------------, and ---------- are tangible personal
property. Accordingly, LB&I concluded that it is not reasonable for Taxpayer to treat
each project as an item for purposes of determining DPGR under § 1.199-3(d)(2).

Section 1.199-3(m)(2)(i) describes activities constituting construction as activities
performed in connection with a project to erect or substantially renovate real property.
While LB&I and Taxpayer have addressed other issues in their respective submissions,
both agree that if the ----------, ---------------, and ---------- are real property for § 199
purposes, then Taxpayer’s activities are construction activities under § 1.199-3(m)(2)(i)
and gross receipts from the qualified projects are DPGR assuming Taxpayer meets the
other § 199 requirements.

Therefore, the question is whether the ----------, ---------------, and ---------- are “real
property” under § 1.199-3(m)(3). Section 1.199-3(m)(3) provides that “real property”
includes “inherently permanent structures (as defined in § 1.263A-8(c)(3)) other than
machinery (as defined in § 1.263A-8(c)(4)) (including items that are structural
components of such inherently permanent structures).”1 As this is a cross-reference to
§§ 1.263A-8(c)(3) and (4), the determination under those sections controls for purposes
of determining whether the ----------, ---------------, and ---------- are real property for
purposes of § 1.199-3(m)(3).

Section 1.263A-8(c)(3) sets forth the general definition of “inherently permanent
structures.” Section 1.263A-8(c)(4) specifies that “a structure that is property in the
nature of machinery or is essentially an item of machinery or equipment” (hereinafter,
“machinery”) is “not an inherently permanent structure” and is “not real property.” We
believe that the purpose of § 1.263-8(c)(4) is to clarify that machinery and inherently
permanent structures are mutually exclusive categories of property. The scope of
machinery under § 1.263A-8(c)(4) is therefore limited in that it does not include any

1
 Taxpayer and LB&I agree that the -----------, -----------------, and ----------- do not constitute any other type
of real property specified in § 1.199-3(m)(3), such as buildings, infrastructure, or utility plants. Therefore,
we do not analyze whether the -----------, -----------------, and ----------- qualify as these other types of real
property.
TAM-134796-15                                   10

property that qualifies as an inherently permanent structure under § 1.263A-8(c)(3). We
do not think that § 1.263A-8(c)(4) establishes an additional requirement whereby
property that qualifies as an inherently permanent structure under § 1.263A-8(c)(3) may
be removed from such classification as an inherently permanent structure if it is
machinery under § 1.263A-8(c)(4). As a result, if the ----------, ---------------, and ----------
satisfy the definition of inherently permanent structures under § 1.263A-8(c)(3), they are
“real property” for purposes of § 1.199-3(m)(3).

Inherently Permanent Structures Under § 1.263A-8(c)(3)

Section 1.263A-8(c)(3) provides that inherently permanent structures include “property
that is affixed to real property and that will ordinarily remain affixed for an indefinite
period of time.” This definition establishes two basic requirements for an inherently
permanent structure, both of which must be satisfied: first, the structure must be affixed
to real property; second, the structure must ordinarily remain affixed for an indefinite
period of time. Section 1.263A-8(c)(3) illustrates this definition through numerous
examples.

Section 1.263A-8(c)(3) uses the term “affixed to real property” for its ordinary and
common meaning, that is, physically connected or attached. Section 1.263A-8(c)(3)
specifies that affixation to real property may be accomplished by weight alone. Where a
structure is affixed to real property by weight alone, additional evidence of attachment to
real property is not required. Additional evidence may include embedding a structure in
the ground or mounting a structure to a foundation. If installation of the structure
involves the use of construction machinery and equipment, attachment to real property
may be indicated. See CCA 201302017 (Jan. 11, 2013).

The ----------, ---------------, and ---------- satisfy this first criterion of an inherently
permanent structure on the basis of their weight alone; however, these units also
evidence affixation to real property through their attachment to concrete foundations
and support work. The ----------, ---------------, and ---------- are enormously large and
heavy structures. They typically stand over ----- feet in height and weigh hundreds or
even thousands of tons. They each require significant foundations and other
groundwork, as well as concrete support beams and columns. The construction of
these foundations and other groundwork is accomplished through the use of heavy
construction equipment and large capacity cranes over a period of approximately ----- to
-------- months. The ----------, ---------------, and ---------- are then constructed on-site over
a period of approximately ---- to ------ weeks using heavy construction equipment and
large capacity cranes, and finally welded, bolted, or affixed through similar methods to
the foundations and support columns. Thus, ----------, ---------------, and ---------- satisfy
the first criterion of an inherently permanent structure under § 1.263A-8(c)(3) because
they are affixed to real property through both their weight, as well as their attachment to
the concrete foundations and support work through welding, bolting, or other affixation.
TAM-134796-15                                     11

The second criterion of an inherently permanent structure requires that the property “will
ordinarily remain affixed for an indefinite period of time.” Section 1.263A-8(c)(3) does
not expressly define the term “indefinite,” and so we are required to apply a reasonable
interpretation. Accordingly, we interpret the phrase according to its ordinary and
common meaning to mean the useful life of the affixed property. See CCA 200101003
(Aug. 31, 2000). An “indefinite” period of time cannot reasonably be interpreted to
mean forever because virtually no property would satisfy that definition. If the term were
interpreted to mean forever, that would exclude most, if not all, of the examples of
inherently permanent structures described in § 1.263A-8(c)(3).

The length of the affixed property’s useful life relative to the useful lives of other items or
types of property is also not relevant to the determination of whether the property is
affixed for an indefinite period. The examples of inherently permanent structures in
§ 1.263A-8(c)(3) vary considerably in the length of time that the property typically
remains affixed to real property, depending on the physical characteristics of the affixed
property, the location where the affixation occurs, and the mode of affixation. For
example, a fence may have a relatively short useful life, whereas a tunnel may have a
relatively long useful life. It is reasonable to assume that these examples reflect an
appropriate range of anticipated affixation. The term “indefinite,” therefore, is best
interpreted to mean that the property is affixed to real property for the useful life of the
property, or the period during which the property remains in operating condition and
serves a useful function at its installation site. This interpretation of “indefinite”
accommodates the inherent variability among and within the various types of inherently
permanent structures.

The ----------, ---------------, and ---------- satisfy the second criterion of an inherently
permanent structure under § 1.263A-8(c)(3) because they ordinarily remain affixed to
real property for an indefinite period of time (i.e., the duration of their useful lives). The
facts provided indicate that the function of the ---------- and --------------- is to ----------------
-----------, and the function of the ---------- is to ---------------------. These units have useful
lives of several decades, provided the required maintenance is performed. Thus, their
useful lives fall in the middle of the range provided by the examples in § 1.263A-8(c)(3).
The ----------, ---------------, and ---------- remain affixed to real property for the duration of
their useful lives, from the time they are installed through the end of their useful lives, as
evidenced by the fact that they are typically abandoned in place. Thus, similar to the
examples of inherently permanent structures in § 1.263A-8(c)(3), these units generally
remain affixed to real property for the duration of the period during which they remain in
operating condition and serve a useful function at their installation sites. Accordingly, ---
----------, ---------------, and ---------- satisfy the second criterion of an inherently
permanent structure under § 1.263A-8(c)(3) because they are affixed to real property for
an “indefinite” period of time.

In sum, the ----------, ---------------, and ---------- qualify as inherently permanent structures
under § 1.263A-8(c)(3) because they are affixed to real property and will ordinarily
TAM-134796-15                                            12

remain affixed for an indefinite period of time.2 Because they are “inherently permanent
structures under § 1.263A-8(c)(3), the ----------, ---------------, and ---------- satisfy the
definition “real property” under § 1.199-3(m)(3).

Machinery Under Section 1.263A-8(c)(4)

Our conclusion that the ----------, ---------------, and ---------- qualify as inherently
permanent structures under § 1.263A-8(c)(3) is not impacted by § 1.263A-8(c)(4).
Section 1.263A-8(c)(4)(i) provides that a structure that is property “in the nature of
machinery” or is “essentially an item of machinery or equipment” is “not an inherently
permanent structure” and is “not real property.” We think that this language is intended
to clarify that machinery and inherently permanent structures are mutually exclusive
categories of property. We do not think that § 1.263A-8(c)(4)(i) imposes an additional
test whereby property that otherwise qualifies as an inherently permanent structure
under § 1.263A-8(c)(3) must also not be machinery under § 1.263A-8(c)(4).3

Section 1.263A-8(c)(4)(i) provides an additional clarification that where a building or
inherently permanent structure includes property in the nature of machinery as a
structural component thereof, “the property in the nature of machinery is real property.”
This statement is consistent with § 1.263A-8(c)(1), which provides that real property
includes “the structural components of both buildings and inherently permanent
structures, such as walls, partitions, doors, wiring, plumbing, central air conditioning and
heating systems, pipes and ducts, elevators and escalators, and other similar property.”

Finally, § 1.263A-8(c)(4)(ii) clarifies that “a structure may be an inherently permanent
structure, and not property in the nature of machinery or essentially an item of
machinery, even if the structure is necessary to operate or use, supports, or is
otherwise associated with, machinery.” This statement serves merely to confirm that
where a structure is necessary to operate or use, supports, or is otherwise associated
with, machinery (presumably, machinery that is not a structural component of the
structure), the structure is an inherently permanent structure, separate from the
associated machinery.
2
  Section 1.263A-8(c)(3) describes an additional category of property that qualifies as inherently
permanent structures, namely property not otherwise described in § 1.263A-8(c)(3) that constitutes other
tangible property under the principles of former § 48(a)(1)(B) and § 1.48-1(d). Having already determined
that the -----------, -----------------, and ----------- satisfy § 1.263A-8(c)(3) under the affixed for an indefinite
period of time standard, we do not need to determine whether these units also constitute other tangible
property under the principles of former § 48(a)(1)(B) and § 1.48-1(d).
3
 Note that the analysis under CCA 201211011 (Mar. 16, 2012) suggests an overlap between inherently
permanent structures and machinery whereby property that qualifies as an inherently permanent structure
under § 1.263A-8(c)(3) must also not be machinery under § 1.263A-8(c)(4). We agree with the
conclusions of CCA 201211011, namely that the jacket-type platforms are the type of inherently
permanent structures described in § 1.263A-8(c)(4)(ii); however, we disagree with the portion of the
analysis that concerns the relationship between §§ 1.263A-8(c)(3) and 1.263A-8(c)(4).
TAM-134796-15                                        13


Our reading of the relationship between § 1.263A-8(c)(3) and § 1.263A-8(c)(4) as
clarifying the mutually exclusive nature of machinery and inherently permanent
structures is consistent with the Preamble to the final regulations, T.D. 8584 (Dec. 29,
1994), which supports a broad reading of “real property” for purposes of § 263A(f),
consistent with the intent of § 263A to ensure that taxpayers capitalize the appropriate
amount of production costs, including the production of real property.4 This reading is
also consistent with the fact that several examples of inherently permanent structures
provided in § 1.263A-8(c)(3), including power generation and transmission facilities and
derricks, have a mechanical function. It would not be reasonable to include such items
as examples of inherently permanent structures under § 1.263A-8(c)(4) only to remove
them from such classification by recasting them as machinery under § 1.263A-8(c)(4).

Therefore, § 1.263A-8(c)(4) does not alter our foregoing conclusion that the ----------, ----
---------------, and ---------- satisfy the definition of inherently permanent structures under
§ 1.263A-8(c)(3), and are “real property” for purposes of § 1.199-3(m)(3). Based on this
conclusion, Taxpayer’s activities in projects in the United States that involve substantial
renovation, construction, or erection of ----------, ---------------, and ---------- qualify as real
property construction activities and gross receipts from such projects are DPGR under
§ 1.199-3(m). Taxpayer, therefore, may be entitled to the deduction under § 199,
assuming all of the other § 199 requirements are met.


CAVEATS:

A copy of this technical advice memorandum is to be given to the taxpayer. Section
6110(k)(3) of the Code provides that it may not be used or cited as precedent.




4
  See T.D. 8584, 1995-1 C.B. 20, 22 (Dec. 29, 1994). Although not binding, the conclusion that
machinery and inherently permanent structures are separate and distinct categories of property is also
consistent with the text of the proposed regulations. Prop. Treas. Reg. § 1.263A(f)-1(c)(3) (Aug. 9, 1991)
contained the same general definition of inherently permanent structures as the final regulations (i.e.,
affixed to real property for an indefinite period of time); however, the regulation addressed machinery only
in the context of “other tangible property” under § 48, stating that “[a]ny property not otherwise described
in this paragraph (c)(3) that constitutes other tangible property under the principles of former section
48(a)(1)(B) and § 1.48-1(d) (and that is not property in the nature of machinery under § 1.48-1(c)) is
treated for purposes of this section as an inherently permanent structure.” Property that was “other
tangible property under the principles of former section 48(a)(1)(B) and § 1.48-1(d)” did not overlap with
“property in the nature of machinery under § 1.48-1(c),” and so this statement serves merely to
differentiate between two categories of property – not to suggest that property in the nature of machinery
under § 1.48-1(c) was excepted from the category of “other tangible property under the principles of
former section 48(a)(1)(B) and § 1.48-1(d). Thus, under both the proposed and final regulations, the
reference to machinery serves merely to contrast machinery with another category of property.