Opportunity Zone Advisors | Specialty CPA Services

Overview

The Economic Opportunity Zones program was created by the Tax Cuts and Jobs Act (TCJA) in December of 2017 to incentivize the private sector to invest long term in qualified low-income communities throughout the United States in order to spur economic development and job creation. The program seeks to utilize a portion of the trillions of dollars of unrealized capital gains (in the stock market and mutual funds alone) for development in these designated areas.

Taxpayers can roll their gains into these new Qualified Opportunity Funds in exchange for potentially significant tax benefits. Investors in Qualified Opportunity Funds can defer the tax on the gains from the sale of assets rolled into the funds and, depending on how long they maintain the investments in such funds, they may receive an increase to their basis and tax free treatment on additional gains earned from funds invested in the fund.

Qualified Opportunity Funds can be set up as either corporations or partnerships and will generally need to hold at least 90% of their assets in Qualified Opportunity Zone Property acquired after December 31, 2017. To become a Qualified Opportunity Fund, an eligible taxpayer will self certify. No approval or action by the IRS will be required. To self-certify, a taxpayer will merely complete a form and attach that form to their timely filed federal income tax return for the taxable year.

Opportunity Zones present a significant new opportunity both for investors as well as developers and business owners. We will continue to monitor this program and provide guidance and insight as it becomes available.

*The information contained in this article is for general guidance on the subject matter. It should not be used as a substitute for consultation with professional accounting, tax, legal or other competent advisors. You should not make any decisions or take any action based on the information in this article. Please refer to the Terms and Conditions section of this web site.

Tax Benefits

If an investor holds the gain rolled over in a QOF for at least 5 years, then the basis of such investment will be increased by 10% of the amount of the gain deferred. If that investment is held by the taxpayer for at least 7 years, the basis is increased by an additional 5% of the amount of the deferred gain. If the investor is still holding the investment in the QOF on 12/31/26 the original gain deferred (reduced for any increase in basis related to holding periods above) would then need to be recognized for tax purposes. If that investment is held for a period of at least 10 years, the basis of the investment in the QOF can be stepped-up to the fair market value on the date of disposal thus making all of the appreciation on the investment in the QOF tax-free!

Example:

Ted realizes a gain of $5,000,000 from the sale of property on July 1, 2018. Reinvesting the gain of $5,000,000 into a QOF by 12/31/18 will allow Ted to defer the taxable recognition of that gain. If Ted leaves the money in the QOF for 5 years he will increase the basis of his investment by $500,000 (10% of the $5,000,000 deferred gain). If he leaves the money in for 7 years he will increase the basis of his investment by a cumulative $750,000 (15% of the $5,000,000 deferred gain). If he is still invested in the QOF on 12/31/26 he will recognize taxable gain in 2026 of $4,250,000 (the original gain reduced by the basis increase). If he leaves the money in for 10 years and then sells his investment for a fair market value of $20,000.000, his basis in the investment is equal to the fair market value of $20,000,000 resulting in zero additional taxable gain.

Where the taxpayer invests both gains and other cash into a QOF, the Act specifically states that the investment will be treated as two separate investments of which only the gain proceeds would be eligible for the basis increases and the 10 year gain exclusion.

*The information contained in this article is for general guidance on the subject matter. It should not be used as a substitute for consultation with professional accounting, tax, legal or other competent advisors. You should not make any decisions or take any action based on the information in this article. Please refer to the Terms and Conditions section of this web site.

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Maps

For a map of all designated QOZs go to:
https://www.cims.cdfifund.gov/preparation/?config=config_nmtc.xml

To view all designated QOZs on the map, click on the “Layers” tab on the menu on the right hand side of the screen. Select “Opportunity Zone Tract” and unselect “2011-2015 LIC Census Tract,” You can then zoom in to a specific area on the map. Designated QOZs will appear in blue.

For maps of all NYS designated QOZs by region go to:
https://esd.ny.gov/opportunity-zones

Formation of a Fund

In order to qualify as a QOF, an investment vehicle:

Must be organized as a corporation or partnership for the purpose of investing in Qualified Opportunity Zone Property (QOZ), and
90% of its assets must be QOZ property determined by the average of the percentage of QOZ property held in the fund as measured on the last day of the first six-month period of the taxable year of the fund and on the last day of the taxable year of the fund.
While there was initial uncertainty as to how certification as a QOF would be established, the IRS has issued guidance that eligibility will be established through self-certification. The fund will attach a form to its timely filed federal tax return, including extensions.

*The information contained in this article is for general guidance on the subject matter. It should not be used as a substitute for consultation with professional accounting, tax, legal or other competent advisors. You should not make any decisions or take any action based on the information in this article. Please refer to the Terms and Conditions section of this web site.

Qualified opportunity zone property

QOZ property is defined as property which is: (1) QOZ stock, (2) a QOZ partnership interest or (3) QOZ business property.

QOZ stock is stock in a domestic corporation that is acquired by the QOF after December 31, 2017 in exchange solely for cash. The corporation must be in a QOZ business at the time the stock was acquired if not a newly formed corporation with the intent on being a QOZ business and during substantially all of the stock’s holding period the corporation qualified as a QOZ business.
A QOZ partnership interest is a capital or profits interest in a domestic partnership acquired by the QOF after December 31, 2017 from the partnership solely in exchange for cash. The partnership must be in a QOZ business at the time the partnership was acquired if not a newly formed partnership with the intent on being a QOZ business and during substantially all of the partnership’s holding period the partnership qualified as a QOZ business.
QOZ business property is tangible personal property used in a trade or business acquired by the QOF by purchase after December 31, 2017. The original use of the property must start with the QOF or the QOF must substantially improve the property. Property is substantially improved by the QOF if the additions to the basis during any 30-month period beginning after the date of acquisition by the QOF exceed the adjusted basis of the property at the beginning of that 30-month period. As an example, a property acquired within a QOZ for $1 million would need to be improved by an amount in excess of $1 million within a 30-month period to be considered substantially improved.
Both the QOZ stock and QOZ partnership interest require that the acquired or newly created entity be a QOZ business. A QOZ business is one in which substantially all of the tangible property owned or leased by the taxpayer is QOZ business property; at least 50% of the gross income is derived from the active conduct of the trade or business; a substantial portion of any intangible property is used in the active conduct of the trade or business; less than 5% of the average of the aggregate unadjusted bases of the property is attributable to nonqualified financial property; and business is not a specifically excluded “sin” business (i.e., golf course, country club, massage parlor, hot tub facility, suntan facility, racetrack or other facilities used for gambling, or any store where the principal business is the sale of alcoholic beverages for consumption off premises).

If a QOF fails to meet the 90% asset test it will be subject to a penalty for each month that it fails to meet the test. There is no penalty imposed where the QOF’s failure to meet the 90% asset test requirement can be shown to be due to reasonable cause.

*The information contained in this article is for general guidance on the subject matter. It should not be used as a substitute for consultation with professional accounting, tax, legal or other competent advisors. You should not make any decisions or take any action based on the information in this article. Please refer to the Terms and Conditions section of this web site.

Advantages over a section 1031 “like-kind” exchange

There are two important advantages of investing in a QOZ Fund as opposed to entering into a Section 1031 exchange:

QOF Investments Require Less Investment to Defer Tax– To defer the tax on a gain, only the amount of the gain is rolled into a QOF within 180 days of the sale or exchange. The balance can be used elsewhere.
A Section 1031 exchange requires the entire value of the original property be reinvested into a new property in order to defer the tax on the gain. Section 1031 exchanges have a 45-day identification period and a 180 day window to complete the exchange.
- Example:
  Ted has a building with a value of $8,000,000 and has basis of $5,000,000. The sale of the building would trigger $3,000,000 of taxable gain for Ted.
- To defer the tax through a QOF Ted only needs to invest the $3,000,000 gain into a QOZ Fund within 180 days. There are no restrictions on what the taxpayer does with the remaining proceeds of $5,000,000.
- To defer tax on the entire $3,000,000 gain in a Section 1031 exchange, Ted would need to roll the entire $8,000,000 into a property that meets the 45 and 180 day requirements.
Less Restrictions on Type of Gains Invested in QOF– The new QOZ law places far less restrictions on the type of gain eligible for deferment. It only requires that the capital gain stem from a sale or exchange to an unrelated person. Real estate, personal property, intangibles assets, and virtually any other capital asset should qualify. In contrast, under the TCJA, eligibility for Section 1031 exchange treatment is now restricted to gains from the sale of real estate only.

*The information contained in this article is for general guidance on the subject matter. It should not be used as a substitute for consultation with professional accounting, tax, legal or other competent advisors. You should not make any decisions or take any action based on the information in this article. Please refer to the Terms and Conditions section of this web site.