Presented By: Anchin
What You Need to Know About Opportunity Zones
Since the Tax Cuts and Jobs Act (TCJA) was passed in 2017, much has been written on the subject of qualified opportunity zones. There have been countless seminars, webinars and other forms of communication attempting to educate the public on this new beneficial tax program.
As an accountant, advisor and consultant, I have been asked many times to explain the program. Even after reading about and attending seminars, my clients were still confused.
For these reasons I thought it would make sense to give the basics in a simple format.
What is a qualified opportunity zone (QOZ)?
Each state designated areas within their borders that were under the poverty level and that they determined needed gentrification. Congress then evaluated this selection and ultimately approved approximately 8,700 zone areas throughout the country.
What is a qualified opportunity fund (QOF)?
A QOF is a corporation or partnership. This includes LLC’s taxed as a partnership. Nothing fancy, not a fund, just any corporation or entity taxed as a partnership.
What gain qualifies?
Any gain taxed as a capital gain generated from a sale with an unrelated party qualifies. Therefore, if you invest the equivalent amount of any capital gain in a QOF, the investment will qualify. Note: Only the gain amount needs to be invested, not all proceeds and not all the gain. If you invest only part of your gain, then that is the amount that will qualify for the benefits.
Who can elect to invest gains in a QOF?
Any individual or entity can elect to defer their gain and invest the gain in a QOF. In the case of an S-corporation or partnership (including LLC’s taxed as partnerships), the entity can elect to defer the gain or can pass the gain out to its partners or shareholders, who then can elect to defer their portion of the gain.
When do I need to make the investment in the QOF?
You have 180 days (including weekends and holidays) from the time of the gain in which to invest the gain in a QOF. Note: During the 180 days you can do anything with the money. Unlike a 1031 exchange, the money does not have to go to an intermediary. If the gain is flowing to a partner or a shareholder from a partnership or corporation, the individual has 180 days from the end of the entity’s tax year (Dec. 31 to the following June 29 or 30 (2020 is a leap year)).
How does a corporation or partnership become a QOF?
The partnership or corporation that will invest in a qualified opportunity zone investment must file Form 8996 with the filing of its tax return to elect to be a QOF. (Yes, it’s that simple.)
How does one elect to defer the gain?
The individual or entity that elects to defer its capital gain amount in a QOF files Form 8949 with their income tax return for the year they elect to defer the gain and indicate on Form 8949 that it has elected to defer the gain.
What does a QOF do with the money?
In order for the deferral to qualify and the QOF to benefit from this program, the QOF must invest the gain money or allocate 90% of it in a qualified opportunity zone project and invest the funds within 180 days from the date it receives the funds.
What can a QOF invest in?
A QOF can invest in property to be developed, stock in a business or partnership interest in a business or development, as long as the investment is located in a QOZ. The business must use the fund to expand its business or to start a new one.
What makes a business in a QOZ qualify?
For an investment in a business to qualify, at least 50% of the gross income must be derived from the active conduct of the business in the zone. Substantially all of its business-tangible property must be in the zone and less than 35% of its property can be in non-qualified property (i.e., stocks).
What businesses do not qualify?
A QOZ business cannot be a “sin business” such as a country club, golf course, massage parlor, tanning salon, gambling facility, hot tub facility, racetrack, or any business in which the principal business is the sale of alcoholic beverages off premises.
If I invest my capital gain in a QOF will I pay tax on this gain?
Yes! Tax on the capital gain deferred will be paid in 2026, regardless of when the gain was recognized.
Can I invest other money in a QOF and get the benefits of the program?
No! Only capital gains deferred will qualify for the benefits, no other money invested in a QOF will qualify.
How much tax will I pay in 2026?
If you defer your gain by investing it in a QOF and have held the QOF investment for five years come 2026, you will pay tax on 90% of the gain. If by 2026 you have held the QOF investment for about seven years you will pay tax on 85% of the gain. As for the tax rate, the gain will be based on its original classification (long-term, short-term, 1256 gain, etc.). Therefore, in 2026 you will pay at the rate of tax on such gain class that is applicable in 2026.
Are there any other benefits?
What is probably the best benefit of the program, or at least it can be, is that if you hold your QOF investment for at least 10 years and then sell your investment, you can elect to step your basis in the QOF investment up to fair market value. What this means is you would pay no tax on the gain from the QOF investment.
If you did not find this article clear and informative, feel free to read Section 1400Z of the Internal Revenue Code.
Website: You may go to http://www.cdfifund.gov/Pages/Opportunity-Zones.aspx and put in an address to see if the location is in a QOZ.
Marc Wieder is co-leader of the Real Estate Group at Anchin, Block & Anchin LLP. He may be reached at firstname.lastname@example.org or 212-840-3456.