Investing in Qualified Opportunity Zones
By Detelina Staneva, Kutchins, Robbins & Diamond, Ltd. (KRD)
The Tax Cuts and Jobs Act signed into law on December 22, 2017 contains new tax incentives for long-term investments in low-income communities designated as Qualified Opportunity Zones (QOZ). The new QOZs provide incentives to investors to defer recognition of current investment gains from sales to unrelated parties, if those gains are reinvested in designated low-income areas.
In contrast to the current like-kind exchange rules of IRC Sec. 1031 where all proceeds from the sale of an appreciated asset must be reinvested to defer recognition of gain, the current rules related to QOZs are more advantageous and only require that the realized gain be reinvested. This new tax incentive is available for all gains realized through December 31, 2026.
Taxpayers can invest in QOZs using Qualified Opportunity Funds (QOF) - an investment vehicle structured as a corporation or partnership for the purposes of investing in and holding at least 90 percent of its assets in QOZ property. QOZ property can be business property, stock, or partnership interest in businesses that hold that property. The recently issued proposed regulations provide a detailed listing of the specific requirements for assets held in QOFs.
An eligible interest in a QOF is an equity interest issued by the QOF, including preferred stock or partnership interest. An entity that wants to be treated as a QOF will be required to self-certify itself by attaching a tax form to its tax return. Existing entities can apply to be a QOF but still need to meet the requirements of IRC Sec. 1400-Z2(d)(2) for QOZ property and meet the requirement that the property be purchased after December 31, 2017.
Gains from sales of assets are deferred when a taxpayer elects to make an investment in a QOF within 180 days of the sale. The deferred gain is recognized in income as of the date the QOF is sold or December 31, 2026, whichever is earlier. The amount recognized is the lesser of the deferred gain or the excess of the fair market value of the investment over the taxpayer’s basis in the investment. The gain recognized at the time has to have the same attributes that it would have had if tax on the gain had not been deferred.
Additional benefits are provided if the investment in the QOF is held long-term. If the investment is held five years, its initial basis is increased by 10 percent of the deferred gain. If the investment is held for at least seven years, its initial basis is increased by an additional five percent of the deferred gain. The remaining gain must be recognized in income in tax year 2026, but if the investment is held at least ten years, and, if the taxpayer elects, any additional gain from the sale of the QOF property will not be recognized in income.
Each state nominates communities for QOZs. A list of approved QOZs can be found on the Opportunity Zones Resources page of the CDFI Fund’s website. https://www.cdfifund.gov/Pages/Opportunity-Zones.aspx.
Detelina StanevaKutchins, Robbins & Diamond, Ltd. (KRD), Chicago, IL USA
T: +1 847 240 1040
Published: November 2018 l Photo: ©lmel900 - stock.adobe.com