Law360 (January 16, 2020, 6:38 PM EST) -- Final opportunity zone regulations clarify that qualified funds may directly operate so-called sin enterprises such as golf courses and racetracks, but such operations still may not be appealing, since they would be constrained by the program's requirements.
Full Answer
Opinions expressed by Forbes Contributors are their own. I share insights on real estate, healthcare and wealth building. This article is more than 2 years old. Opportunity Zone legislation just got better and clearer. Potentially, the legislation will become even more favorable in the future. For whom did it get better? Investors AND communities.
[25] And based on proposed regulations, investors can have more than a third of their investments in property not within opportunity zones, but still receive the program’s preferential tax treatment. [26] See “Section 2.6: Equity motivations for place-based policies,” in David Neumark and Helen Simpson, “Place-based policies.”
Zone business property – treatment of inventory for purposes of determining substantial use in an opportunity zone.
The concern that real estate was the only asset class that could partake in the Opportunity Zone legislation should be alleviated and hopefully reduce community misbalances and displacement. The most encouraging announcements for communities come from outside of the new 169-page guidance document but are of equal importance.
A qualified Opportunity Zone business is a trade or business in which: (i) substantially all of the tangible property owned or leased is located in a qualified Opportunity Zone, (ii) at least 50% of the business's total gross income is derived from the active conduct of a qualified business within a qualified ...
Substantial Improvement The basis of the property must be increased by an amount that exceeds the amount of the adjusted basis with respect to the property (exclusive of land) at the beginning of the 30-month period.
The risks. Though every investment entails some level of risk, the timelines associated with opportunity zone funds create an extra layer. Once the tax deferral period ends in December 2026, many will likely cash out soon after, which could cause the value of funds to decline.
The Hidden Risks Of Opportunity ZonesRegulation Uncertainty. QOZ regulations started off quite vague. ... Pipeline/Capital Matching. There are many moving parts when going from deal introduction to closing. ... Crowded Exit. ... Non-Conforming States. ... Rising Land Values. ... Sponsor Fee Structure/Economic Alignment.
How to Minimize or Avoid Capital Gains TaxInvest for the long term. ... Take advantage of tax-deferred retirement plans. ... Use capital losses to offset gains. ... Watch your holding periods. ... Pick your cost basis.
With three months left until the critical December 31, 2021, QOF deadline, investors have an unprecedented opportunity to stash their stock market or property markets gains of the last year and put them to work elsewhere to continue earning returns that will ultimately be tax-free beginning in 2031.
A: Any taxpaying individual or entity can create an Opportunity Fund, through a self-certification process. A form (expected to be released in the summer of 2018) is submitted with the taxpayer's federal income tax return for the taxable year.
If investors find a good deal past 2021, the benefits of opportunity zones can make it even sweeter, he said. “At the end of the day, the investment still needs to be a good investment,” Helberg said. Or, as Mason said: “Opportunity zones can make a good deal great, but a bad deal is a bad deal.”
Opportunity Zones Investment Deadline While investments can be made into qualified opportunity zones until December 31, 2026, the end of 2021 is the deadline for an investment to be made in order to have held it for five years as of December 31, 2026, and thus qualify for a 10% basis step-up and related gain exclusion.
Qualified opportunity zone tax benefits only apply to capital gains, not to ordinary income. If a transaction produces both ordinary income and capital gains, the entire gain can still be invested in a QOZ if the taxpayer elects to do so, but only the capital gain amount will be eligible for the QOZ benefits.
For investments held for at least 10 years, investors pay no taxes on any capital gains produced through their investment in Opportunity Funds (the investment vehicle that invests in Opportunity Zones).
Rather, it's paid to you (at the company's discretion) out of profits. As such, dividends have nothing to do with Opportunity Zone investments.
Here is a List of Qualified Opportunity Zone Funds compiled by the QOZ Marketplace as of June 6th, 2022 IMPORTANT: Only funds marked "CERTIFIED have been vetted by the Opportunity Zones Authority.Click on the Fund Name to get more details on that particular fund.
A5. QOZs are designed to spur economic development by providing tax incentives for investors who invest new capital in businesses operating in one or more QOZs. First, an investor can defer tax on any prior eligible gain to the extent that a corresponding amount is timely invested in a Qualified Opportunity Fund (QOF).
IR-2019-212, December 19, 2019. WASHINGTON — The Internal Revenue Service today issued final regulations PDF providing details about investment in qualified opportunity zones (QOZ).. The final regulations modified and finalized the proposed regulations PDF that were issued on October 28, 2018 and May 1, 2019.. The final regulations provide additional guidance for taxpayers eligible to make ...
Background. Code Sec. 1400Z-1, which was added by the Tax Cuts and Jobs Act (TCJA, PL 115-97), addresses the designation of population census tracts located in the 50 states, U.S. territories, and the District of Columbia as QOZs.
Law360 (January 16, 2020, 6:38 PM EST) -- Final opportunity zone regulations clarify that qualified funds may directly operate so-called sin enterprises such as golf courses and racetracks, but such operations still may not be appealing, since they would be constrained by the program's requirements.
The 90% asset test restricts the kinds of sin businesses that a fund can operate. For example, the test would make it quite difficult for a fund to operate a facility used for gambling, such as a casino, because casinos need to have significant amounts of cash on hand at all times, Schultz said.
The final set of rules "explicitly allows for a QOF to operate a sin business, but it's still difficult to operate a sin business at the QOF level because of the QOF restrictions," Schultz said. Under the opportunity zone law, at least 90% of a QOF's assets must be invested in qualified business property and "substantially all" ...
physical assets, such as real estate or equipment, that are located in opportunity zones; and/or. ownership interests, such as stock, of businesses that operate at least partially in opportunity zones (referred to as opportunity zone businesses), including subsidiaries of larger businesses that largely operate elsewhere.
Because taxpayers must have unrealized capital gains to invest in an opportunity zone, and capital gains are heavily concentrated among the wealthy, the tax break will directly benefit wealthy private investors . Local residents of opportunity zones will benefit only to the extent that the tax break encourages new investments (not those that would have occurred anyway); creates jobs for residents; spurs the development of new, affordable housing; or creates broader economic improvements that reach local residents.
Investors can take advantage of the new tax break for opportunity zones in up to three ways. First, investors can defer taxes on their capital gains until 2027 if they invest their gains in opportunity zone funds. Second, those who hold their opportunity zone investments for at least seven years also will get a 15 percent cut in ...
Since policymakers enacted the 2017 tax law, governors (and the District of Columbia’s mayor) have designated about 8,700 opportunity zones in states and territories, including Puerto Rico. Governors, who have now completed the selection process, had to choose most of these zones from localities that qualify as “low-income communities,” meaning that they have either a poverty rate of at least 20 percent or a median income that’s no greater than 80 percent of the median income in their metropolitan area.
The tax break includes no requirements to ensure that local residents benefit from investments receiving it. The law enabled state policymakers to designate relatively affluent areas as opportunity zones, which could divert investment from truly disadvantaged communities.
Only up to 10% of a fund’s property (and any cash and property that’s not located in an opportunity zone) can be intangible property, but there is no requirement that a percentage of a fund’s intangible property be related to the active business of the fund. Financial Property Restrictions.
Some opportunity zones will choose to invest solely in opportunity zone businesses, while others will choose to own assets, such as real estate, in opportunity zones rather than acquire ownership interests in opportunity zone firms. Still others will choose some combination of both.
Budgetary and Economic Costs of the Opportunity Zone Program. The Joint Committee on Taxation (JCT) estimates the Opportunity Zones program will cost $1.6 billion between 2018 and 2027.
The Opportunity Zones Program attracts investment to economically distressed communities by modifying this standard tax treatment of capital gains in several ways. These modifications either delay or reduce the capital gains tax liability of investors. But to qualify for these benefits, investors must reinvest one or more capital gains in a Qualified Opportunity Fund (QOF). [4]
The TCJA describes a QOF as any investment vehicle organized as a partnership or corporation that holds 90 percent or more of its assets in qualified opportunity zone property, other than another qualified opportunity fund. [5] Proposed regulations would require 70 percent, or “substantially all,” of a business’s tangible business property be in an opportunity zone to qualify for QOF funding. Combining the 90 percent asset requirement for opportunity funds with the 70 percent tangible property requirement for qualifying businesses means that a QOF may be as minimally invested in a zone as 63 percent. [6] These proposed regulations would also require that “50 percent of the gross income of a qualified opportunity zone business [be] derived from the active conduct of a trade or business in the qualified opportunity zone.” [7]
The Tax Cuts and Jobs Act created the Opportunity Zones program to spur investment in economically distressed census tracts. Opportunity zones reduce capital gains taxes for individuals and businesses who invest in qualified opportunity zones.
The White House has also created an Opportunity and Revitalization Council that will, among other things, assess “what data, metrics, and methodologies can be used to measure the effectiveness of public and private investments in urban and economically distressed communities, including qualified opportunity zones.”.
However, if the investor invested the $2.5 million in a QOF, they would save $53,550 in capital gains taxes. This is because the step-up in basis means they pay taxes on just $1.275 million in capital gains rather than the original capital gain of $1.5 million. Table 2.
Governments use place-based incentive programs to subsidize firms or investors who operate in specific areas, often with the intent to revitalize economically depressed communities. In the U.S., place-based incentive programs occur at all levels of government and are often (but not always) called “Enterprise Zones.”
The Qualified Opportunity Zone Business cannot be a private or commercial golf course, country club, massage parlor, hot tub facility, suntan facility, liquor store, or racetrack or other facility used for gambling. Beware of Related Party Sales.
The Act allows the taxpayer to partially eliminate some of the deferred gain by increasing the basis of the Qualified Opportunity Fund investment if the taxpayer holds the investment for a sufficient length of time. The taxpayer’s income tax basis in the Opportunity Zone Fund is initially zero.
The investment in the Qualified Opportunity Fund must generally be made within 180 days from the date of the sale or exchange to defer capital gain. However, the Qualified Opportunity Fund has additional time to invest in Qualified Opportunity Zone Property to qualify as a Qualified Opportunity Fund.
If Taxpayer sells the Qualified Opportunity Fund investment on November 1, 2030, for $45 million, then Taxpayer can elect to step up the basis in the investment to $45 million and not recognize ANY of the $35 million in capital gain. On July 1, 2023, Taxpayer sells stock for $30 million.
Taxpayer invests the entire $10 million capital gain (and only that gain) into a Qualified Opportunity Fund within 180 days from July 1, 2019. On November 1 , 2021, Taxpayer sells his or her Qualified Opportunity Fund investment, which has a fair market value of $40 million.
Taxpayer’s income tax basis is not stepped up because the investment was held for less than five years. Taxpayer recognizes $10 million in deferred capital gain plus $30 million in additional capital gain. The entire $40 million in capital gain is reported on Taxpayer’s 2021 income tax return filed in 2022.
The rules regarding the treatment of leased property are incredibly helpful, especially for operating businesses. For businesses that have few tangible assets, leas ing property in a QOZ might allow a business to clearly satisfy the asset tests where there might otherwise be ambiguity.
QOZ Property is either (i) “QOZ Business Property” or (ii) stock or partnership interests in an entity that is a “QOZ Business” at the time such interest was acquired and during substantially all of the QOF’s holding period for such interest . QOZ Business Property .
A QOZ Business is a qualifying trade or business in which: substantially all (more than 70%) of the tangible property owned or leased by the taxpayer is QOZ Business Property; at least 50% of the total gross income of such trade or business is derived from the active conduct of such trade business within a QOZ;
The QOZ program extends special tax benefits to investors that would otherwise recognize taxable gain from a sale or exchange provided that the amount of such gain is reinvested into Qualified Opportunity Funds (“ QOFs ”) that engage in economic activity in QOZs. If a taxpayer reinvests all or a portion of the taxable capital gain recognized on a sale or exchange into a QOF generally within 180 days of such sale or exchange, the taxpayer will thereby become eligible for the following tax benefits with respect to such reinvested gain. The investor will have a zero basis in its QOF interest with respect to the reinvested gain.
Qualified Opportunity Fund. A QOF is either a corporation or a partnership established for the purpose of investing in Qualified Opportunity Zone Property (“ QOZ Property ”) (as defined below), other than another QOF. At least 90% of the assets of a QOF must be QOZ Property. The 90% test is applied by averaging the percentage of QOZ Property held by the QOF as of: (i) the last day of the first 6-month period of the taxable year of the QOF; and (ii) the last day of the taxable year of the QOF.
Notably the safe harbors include services performed by independent contractors and the employees of independent contractors retained by the business (as well as the business’s own employees) but do not address how to determine the source of income for businesses that do not have their own employees or independent contractors.
If the QOF interest is held for 10 years or more , elimination of any taxable gain on ultimate sale of the QOF (i.e., no tax would be owed on the appreciation in value of the QOF interest after its initial acquisition by the taxpayer).
[2] The opportunity zone program is designed to encourage investment in distressed communities designated as “qualified opportunity zones” (“opportunity zones”) by providing tax incentives to invest in “qualified opportunity funds” (“QOFs”) that, in turn, invest directly or indirectly in the opportunity zones.
The IRS and Treasury issued two sets of proposed regulations under section 1400Z-2 in October 2018 and April 2019 (the “Proposed Regulations”).
Section 1231 gains and losses generally arise when a taxpayer disposes of depreciable or real property that is used in the taxpayer’s trade or business and held for more than one year.
The Final Regulations provide that tangible property may benefit from an additional 31-month safe harbor period, for a maximum of 62 months, in the form of either overlapping or sequential applications of the working capital safe harbor.
The Final Regulations retain the rule that death is not an inclusion event (because the obligation to include the decedent’s deferred gain is transferred to the beneficiary who will be required to recognize the gain on December 31, 2026 or upon an earlier inclusion event). [58] .
In response to requests for clarification, the Final Regulations provide that section 1400Z-2 is not a gain non-recognition provision for purposes of FIRPTA because an election under section 1400Z-2 generally defers, rather than excludes altogether, the recognition of gain. [34]
Investors now have one year to reinvest funds that were in an Opportunity Fund and then sell without taking a tax penalty. This gives flexibility to investors to exit particular investments if they really need to without completely interrupting their tax status.
The much-anticipated second round of guidance was released yesterday, which is timely because the maximum benefit of the legislation requires an Opportunity Zone investment be completed by December 31, 2019. By and large, investors have been excited about Opportunity Zones but slow to engage without clearer IRS guidance.
If an Opportunity Fund buys a building that has been vacant for an uninterrupted period of five years, it does not appear as if the fund must improve it. Investors can’t land-bank, but they may be able to purchase properties that have been vacant for five years and not improve them. Let’s hope that is not the case.
The Final Regulations will be effective on March 13, 2020, and are applicable to a taxpayer’s first tax year beginning after March 13, 2020.
The QOZ program, introduced in 2017’s Tax Cuts and Jobs Act, is an incentive program for investments in more than 8,700 QOZs located in all 50 states, the District of Columbia, and the five U.S. possessions . The program’s benefits include gain deferral and gain elimination for a taxpayer who ...
Code Section 1231 applies to depreciable property and real property used in a trade or business held for more than one year. Net Section 1231 gain is treated as long-term capital gain (subject to a recapture rule) and net Section 1231 loss is treated as an ordinary loss. Because a taxpayer will not know if it has net Section 1231 gain until the end of a tax year, the Proposed Regulations treat net Section 1231 gain as recognized on the last day of the tax year and started an investor’s 180-day period to roll over the gain on that date. This created a less favorable result for Section 1231 gains than for other capital gains because only the net amount of Code Section 1231 gains could be rolled over into a QOF and the 180-day period did not start until the last day of the taxpayer’s tax year.
The QOF 90% asset test is an average of the entity’s assets on two annual snapshot testing dates—the end of the entity’s first six months and the last day of its taxable year (with exceptions provided for a short taxable year).
The Proposed and Final Regulations also require that the QOF investor dispose of its QOF interest on or before December 31, 2047. As a technical matter, the gain is eliminated by allowing the QOF investor to elect to step-up its tax basis for its QOF interest to its fair market value immediately before the sale.
An eligible entity, which is merely a partnership or corporation for federal income tax purposes (and not a disregarded entity), will qualify as a QOF provided that 90% or more of its assets (on average) are composed of (1) Qualified Opportunity Zone Business Property (QOZBP) and/or (2) interests in an eligible entity—a partnership or corporation (that is not a disregarded entity)—that qualifies as a Qualified Opportunity Zone Business (QOZB). The QOF 90% asset test is an average of the entity’s assets on two annual snapshot testing dates—the end of the entity’s first six months and the last day of its taxable year (with exceptions provided for a short taxable year). A grace period allows a QOF to ignore contributed assets on the first testing date after those assets are contributed. Notably, cash and working capital are not “good assets” for purposes of the QOF 90% asset test. An eligible entity self-certifies as a QOF on IRS Form 8996.
If a partnership rolls over the capital gain into a QOF, the partnership has 180 days from the date it recognizes the gain to invest in a QOF.