Since early 2018, much has been said about the opportunity zone provisions that were enacted as part of the Tax Cuts and Jobs Act (TCJA). Designed to spur economic growth in select low-income communities across the U.S., the provisions designate more than 8,700 such communities as qualified opportunity zones (QOZs). Taxpayers who invest in businesses or property within QOZs may be eligible for federal tax incentives.
The IRS guidance surrounding QOZs was initially quite vague. To alleviate confusion, the IRS issued proposed regulations in October 2018. Although the regulations clarified certain aspects of the provisions, much remains unclear. Nevertheless, this is certain: When leveraged correctly, QOZs have the potential to provide investors with significant tax benefits.
If you’re considering a QOZ investment, here are a few things you should know first.
Are you eligible?
According to the TCJA, any taxpayer who realizes eligible gain for federal tax purposes may elect to defer the gain—as long as the taxpayer meets certain requirements. A taxpayer could be an individual, C corporation, partnership, S corporation, trust, or estate.
What are the requirements?
To invest in a QOZ, a taxpayer must realize eligible gain, reinvest the gain within 180 days into a qualified opportunity fund (QOF), and then defer the gain for the year of sale. Before taking advantage of the associated tax benefits, a taxpayer must satisfy several requirements, including a specific process, critical definitions, deadlines, and quantitative tests. Also, at least 90% of the assets held by the QOF must be within the QOZ.
What are the tax benefits?
Taxpayers who invest in a QOZ and meet the necessary requirements may take advantage of the following tax benefits:
- Temporary deferral of capital gains reinvested in a QOF
- Partial exclusion of previously deferred gains from gross income when the QOF is held for at least five years
- Permanent exclusions of post-acquisition gains from the sale of an investment in a QOF held longer than 10 years
Is it a good investment?
Just because a business or property is in a QOZ does not make it a good investment, despite its tax benefits. Think of the potential for tax benefits as icing on the cake—they shouldn’t make the deal.
When should you take action?
The opportunity zone provisions won’t be around forever. In fact, a portion of the potential tax benefits will expire as early as 2020, and QOZs will disappear at the end of 2028. In order to take full advantage of the tax benefits, it’s important to act quickly. To qualify for the full exclusion of gains, investors will need to complete a deal by the end of 2019. But if you don’t make this deadline, don’t worry—you can still defer a portion of your gains up to 2026 and qualify for the permanent gain exclusion.
Look before you leap.
Although the benefits associated with QOZ investments may sound enticing, it’s important to fully understand the IRS requirements, potential tax benefits, and, of course, the viability of the investment itself before you move forward. If you have questions about the tax implications associated with QOZs, the JAK team can help. We can also guide you through setting up the appropriate entity for investing in a QOF and provide an overall analysis of the investment. Contact us today to learn more about how the opportunity zone provisions could benefit you.
