The law known as the Tax Cuts and Jobs Act of 2017 (TCJA) opened up a bevy of opportunities in tax and estate planning through the new qualified opportunity zone (QOZ) provisions. If they invest properly, taxpayers can reduce capital gains taxes and defer recognition of that gain until 2026.
If they invest properly, enterprising taxpayers have a chance to simultaneously reduce current capital gains and defer recognition until Dec. 31, 2026. They also could potentially benefit from an unprecedented tax-free real estate investment opportunity in designated low-income neighborhoods. Investors with significant capital gains should investigate opportunities to reinvest their cash within designated QOZs to take full advantage of this tax boon.
QOZ program summary
The program’s goal is to generate long-term investments in economically distressed communities across the United States, in zones designated by state governors and approved by the Treasury secretary. The final list of qualified tracts has already been published and can be found in IRS Bulletin No. 2018-28. QOZs can be found in almost all segments of the market. As expected, many zones are in distressed cities and impoverished rural communities, but there are also plenty of zones in highly developed areas of major cities (see “The Top 10 Opportunity Zones in the US,” Fundrise LLC, available at fundrise.com.
The program is relatively simple to get into, as no action is required by the IRS to establish a qualified investment, and the taxpayer need only attach a statement to a timely filed federal tax return. (However, the applicable IRS form has not yet been published.) To qualify for gain deferral, investors must reinvest capital gains into a qualified opportunity fund (QOF) within 180 days of the gain transaction. Qualified new property must be acquired from unrelated parties; related-party transactions are disqualified, though the definition of a related party is very narrow. For example, sales to siblings are not considered related-party transactions and may qualify.
QOFs must maintain 90% of their assets in QOZ property. Property can be held directly or by equity stake in a qualified opportunity zone business (QOZB). Typically, a QOZB is a newly created entity with qualified assets purchased after Dec. 31, 2017. The original use of the property generally must begin in the QOZ with the QOF, or the QOF must substantially improve the business property for use in the qualified improvement zone. To be substantially improved, the QOF must make additions to basis with respect to such property in excess of the amount of the QOF’s original adjusted basis in the property.