Qualified Opportunity Zones were created by the Tax Cuts and Jobs Act of 2017 to spur investment in distressed, low-income communities throughout the United States. In order to accomplish this, the Act provides investors the ability to defer tax on gains generated after December 22, 2017 if the funds are partially or fully reinvested into a Qualified Opportunity Fund. A Qualified Opportunity Fund invests in eligible property located in one or more opportunity zones. If these investments are held for at least 5 years, additional tax benefits may apply.
What is an Opportunity Zone and how is it created?
Opportunity Zones are economically-distressed communities located throughout the US where income generation opportunities and economic growth are low and where investments are typically less attractive. They are created by each state and certified by the secretary of the US Treasury and the IRS. The full list of approved zones can be found in IRS Notice 2018-48 here.
How can you invest in Opportunity Zones?
Qualified Opportunity Funds (Funds) can be set up to allow investors the ability to reinvest proceeds from a previous gain transaction. These Funds are either partnerships or corporations in which the contributed capital is invested in eligible property within an Opportunity Zone. Investments can include qualified opportunity zone stock, partnership interests, or business property located within a zone. The Fund must hold at least 90% of its assets in qualified opportunity zone property to qualify for the preferential treatment.
How do Opportunity Zones benefit taxpayers?
Investors can elect to defer income tax on gains from the sale of property (stocks, bonds, real estate, etc.) if they invest the proceeds from such sale into a Fund within 180 days of the gain transaction. The deferred gain is recognized on the earlier of the date on which their investment in a qualified opportunity zone is disposed of, or December 31, 2026. In addition to deferring the gain, the longer you hold your investment in the Fund, the less gain you will have to recognize. Discounts on deferred gains are offered for longer holding periods.
What are the holding periods and how large of a discount could I receive?
If the investment in a Fund is held for:
- Less than 5 years, 100% of the deferred gain will be recognized on the date of sale of the Fund.
- Between 5 and 7 years, 90% of the deferred gain will be recognized providing a 10% discount.
- Over 7 years, 85% of the deferred gain will be recognized providing a 15% discount.
In addition, if the investment is held for 10 years or more, the taxpayer can make an election to increase the basis of such investment to the fair market value on the date the investment is sold or exchanged.
Opportunity Zones and Qualified Opportunity Funds are complex with several important nuances worth considering. Please feel free to contact your L&B professional at 858-558-9200 to further discuss these details.