Defer capital gains by investing in a Qualified Opportunity Fund (QOF) as described in the Tax Reform Act.
What are Opportunity Zones?
Opportunity Zones are a mechanism created by the Tax Cuts and Jobs Act on December 22, 2017. They were designed to spur investments in economically-distressed communities throughout the U.S. by giving investors the opportunity to invest in projects in specified communities, defer realized capital gains until 2026 and even reduce the amount of those capital gains by receiving a 10%-15% step-up in basis.
Additionally, the new gains received during the investment into these projects can be taken out after 10 years tax-free. Opportunity Zones have now been designated in all 50 states through a nomination and approval process guided and controlled locally with final approval at the Federal level Lists of Qualified Opportunity Zones can be found at the IRS website and here.
The tax advantages of investing in Qualified Opportunity Zones
There are three taxable gain deferral and exclusion benefits that make this an incredible tool to attract investment into Qualified Opportunity Zones.
Temporary Deferral of Gain:
Taxpayers investing capital gains into a Qualified Opportunity Fund (QOF) can defer taxation until the earlier of the sale or exchange of the investment or December 31, 2026. – IRC Section 1400Z-2
Partial Exemption of Deferred Gain:
The Opportunity Zone program encourages long- term investments by adding two steps up in basis for investments at the five and seven year timeframes. The investor’s initial basis in their interest in the QOF is zero after making an investment equal to the amount of gain deferred. If an investment is held for five years, the investor receives a 10% step up in their basis. If the investment is held for two more years (seven years after the original investment into the QOF) the investor receives an additional 5% step up in basis. – IRC Section 1400Z-2
Exclusion of Additional Gains:
The last benefit is reached by keeping the investment for at least 10 years. Gains from the disposition of the investment in the QOF are generally exempt from any additional tax. This section is meant to encourage long-term (10 year +) investment by allowing appreciation of the investment to be sold tax free. – IRC Section 1400Z-2
Qualified Opportunity Funds:
In order for the qualified capital gain to be invested in a Qualified Opportunity Zone, it must be placed into an investment vehicle called the QOF. The QOF must be organized specifically to invest into qualified Opportunity Zone property, organized as a corporation or a partnership, and hold at least 90% of its assets in qualified OZ property. – IRC Section 1400Z-2
Opportunity Zones The Market Size & The Opportunity
- There are more than 8,700 Opportunity Zones in the United States
- Opportunity Zones established to drive investment into under-invested communities.
- There are at least 284 entrepreneurship incubators or accelerators in Opportunity Zones.
- Opportunity Zones are home to at least 379 2- and 4-year colleges and universities, with numerous other institutions directly adjacent.
- Between 2015 and May 2019, businesses based in Opportunity Zones won over 3,200 Small Business Innovation Research and Technology Transfer (SBIR/STTR) grants.
- SBIR/STTR) grants are awards by federal agencies to especially innovative and high-potential small technology businesses.
- 31.3 million residents live in Zones
- Opportunity Zones are more likely to host commercial and business activity than non-Opportunity Zones.
- 24 million jobs currently in Zones
- 1.6 million current business establishments in Zones
- According to SMB Intelligence, zones are home to 6,300 prime growth businesses poised for investment and expansion in the near term.
Source: Economic Innovation Group (EIG)