United States: IRS Proposes Regulations For Opportunity Zone Tax Incentives

Last Updated: November 5 2018
Article by Robert Swenson

The Tax Cuts and Jobs Act (TCJA) includes a provision that Secretary of the Treasury Steven Mnuchin said should lead to $100 billion in capital investments in distressed areas. The provision allows taxpayers to defer tax on capital gains by investing in such Opportunity Zones. The IRS unveiled proposed regulations on October 19, 2018 that should help investors capture this tax incentive.

The tax incentive in a nutshell

The TCJA established Opportunity Zones, which are census tracts within low-income communities. More than 8,700 communities in all 50 states, the District of Columbia and five U.S. territories have been designated as Qualified Opportunity Zones.

Investors can defer capital gains from any investment by reinvesting the proceeds into qualified opportunity funds (a QOF, or for this alert a "Fund"). The Funds are private investment vehicles to develop and redevelop projects in the zones, including investments in new or substantially improved commercial buildings, equipment, multifamily complexes and Qualified Opportunity Zone businesses. The subsequent appreciation of the investment in a Fund can qualify for permanent exclusion of the capital gain.

The details

Congress created the Opportunity Zone program as an economic development tool to incentivize the movement of capital into designated areas in an effort to reduce poverty and increase employment. The tax incentives are:

  1. Temporary deferral of capital gains until the investment is sold, or December 31, 2026 at the latest;
  2. Step up in basis of the Fund of 10% of the deferred gain if the investment is held five years and an additional 5% (for a total of 15%) for investments held seven years; and
  3. Permanent exclusion of the capital gain on the appreciation of the Fund for investments held ten years.

Which gains are eligible?

The tax incentive is available to any individual, partnership, C or S corporation, trust or estate. The proposed regulations make it clear that only capital gains between unrelated parties are eligible for tax deferral, so this includes both short-term and long-term capital gains from any investment. It also includes gains from the sale of real estate known as Section 1231 gains and unrecaptured Section 1250 gains.

A taxpayer has 180 days to reinvest the capital gain amount into a Fund. There is no requirement that these funds need to be segregated during this time period, which differentiates this from the rules of like-kind or 1031 exchanges. Only the reinvested gain is eligible for these tax benefits, additional investment into the Fund does not qualify for the gain exclusion.

For gains realized by pass-through entities, the rules generally allow either the entity or the partners, shareholders or beneficiaries to elect deferral. If gains are not deferred by the entity, the owner's 180-day period generally begins on the last day of the entity's taxable year. If the owner knows both the date of the entity's gain and its decision not to elect deferral, the owner can begin its own period on the same date as the start of the entity's 180-day period.

The proposed regulations also clarify that an investment in a Fund must be an equity interest, including preferred stock or a partnership interest with special allocations. A debt instrument does not qualify, however a taxpayer can use a Fund investment as collateral for a loan.

If an investor disposes of its entire original interest in a Fund, which normally would trigger inclusion of the deferred gain, the investor can continue the deferral by reinvesting the proceeds in another Fund within 180 days. This allows investors to escape bad deals without forfeiting the deferral benefit.

What is a QOF?

A Qualified Opportunity Zone Fund is a private investment vehicle taxed as a corporation or partnership (including LLCs) that is organized for the purpose of investing in Qualified Opportunity Zone (QOZ) property. At least 90% of its assets must be QOZ property. A Fund cannot invest in another Fund. QOZ property includes stock, partnership interests and business property.

QOZ business property is an important definition as a Fund could invest in that property directly or through an equity interest in a partnership or corporation owning such property. QOZ business property is defined as tangible property used in a trade or business if:

  1. The property is acquired by purchase after December 31, 2017;
  2. Either the original use of the property in the zone commences with the Fund or the Fund substantially improves the property (the Fund or Fund-owned business in both cases); and
  3. During substantially all of the holding period for the property, substantially all of the use of the property is in the zone.

Property is treated as substantially improved if the Fund makes capital expenditures in excess of the amount of initial basis of the property during the 30-month period after acquisition (this has been referred to as "doubling down" because basis needs to be doubled).

The proposed regulations address the issue of land and substantial improvement. The regulations exclude land from the determination of whether a purchased building in an Opportunity Zone has been substantially improved. Improvement is measured only by the Fund's additions to the adjusted basis of the building. For example, if a Fund buys a $3 million property, with $2 million for the land and $1 million for the building, it is only required to invest $1 million to improve the building to qualify.

A Fund can own stock or a partnership interest of a QOZ business. The stock or partnership interest must be originally issued to the Fund after December 31, 2017 and as long as substantially all of the business's leased or owned tangible property is QOZ business property. The proposed regulations provide that substantially all means at least 70% of the leased or owned tangible property.

The tax benefits can be further enhanced when combined with other credits, such as the Low Income Housing tax credit and the New Markets tax credit. Additional rules cover self-certification of Funds, valuation for purposes of the 90% asset test, disqualified businesses and other matters.

More guidance to come

The IRS has requested comments on several parts of the proposed regulations and promises more guidance. Nonetheless, taxpayers generally may rely on these rules if they apply them in their entirety and in a consistent manner. Please contact us if you have questions regarding the Opportunity Zone tax incentives.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Authors
Robert Swenson
Similar Articles
Relevancy Powered by MondaqAI
Sheppard Mullin Richter & Hampton
Proskauer Rose LLP
 
In association with
Related Topics
 
Similar Articles
Relevancy Powered by MondaqAI
Sheppard Mullin Richter & Hampton
Proskauer Rose LLP
Related Articles
 
Related Video
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
Mondaq on Twitter
 
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
 
Email Address
Company Name
Password
Confirm Password
Position
Mondaq Topics -- Select your Interests
 Accounting
 Anti-trust
 Commercial
 Compliance
 Consumer
 Criminal
 Employment
 Energy
 Environment
 Family
 Finance
 Government
 Healthcare
 Immigration
 Insolvency
 Insurance
 International
 IP
 Law Performance
 Law Practice
 Litigation
 Media & IT
 Privacy
 Real Estate
 Strategy
 Tax
 Technology
 Transport
 Wealth Mgt
Regions
Africa
Asia
Asia Pacific
Australasia
Canada
Caribbean
Europe
European Union
Latin America
Middle East
U.K.
United States
Worldwide Updates
Registration (you must scroll down to set your data preferences)

Mondaq Ltd requires you to register and provide information that personally identifies you, including your content preferences, for three primary purposes (full details of Mondaq’s use of your personal data can be found in our Privacy and Cookies Notice):

  • To allow you to personalize the Mondaq websites you are visiting to show content ("Content") relevant to your interests.
  • To enable features such as password reminder, news alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our content providers ("Contributors") who contribute Content for free for your use.

Mondaq hopes that our registered users will support us in maintaining our free to view business model by consenting to our use of your personal data as described below.

Mondaq has a "free to view" business model. Our services are paid for by Contributors in exchange for Mondaq providing them with access to information about who accesses their content. Once personal data is transferred to our Contributors they become a data controller of this personal data. They use it to measure the response that their articles are receiving, as a form of market research. They may also use it to provide Mondaq users with information about their products and services.

Details of each Contributor to which your personal data will be transferred is clearly stated within the Content that you access. For full details of how this Contributor will use your personal data, you should review the Contributor’s own Privacy Notice.

Please indicate your preference below:

Yes, I am happy to support Mondaq in maintaining its free to view business model by agreeing to allow Mondaq to share my personal data with Contributors whose Content I access
No, I do not want Mondaq to share my personal data with Contributors

Also please let us know whether you are happy to receive communications promoting products and services offered by Mondaq:

Yes, I am happy to received promotional communications from Mondaq
No, please do not send me promotional communications from Mondaq
Terms & Conditions

Mondaq.com (the Website) is owned and managed by Mondaq Ltd (Mondaq). Mondaq grants you a non-exclusive, revocable licence to access the Website and associated services, such as the Mondaq News Alerts (Services), subject to and in consideration of your compliance with the following terms and conditions of use (Terms). Your use of the Website and/or Services constitutes your agreement to the Terms. Mondaq may terminate your use of the Website and Services if you are in breach of these Terms or if Mondaq decides to terminate the licence granted hereunder for any reason whatsoever.

Use of www.mondaq.com

To Use Mondaq.com you must be: eighteen (18) years old or over; legally capable of entering into binding contracts; and not in any way prohibited by the applicable law to enter into these Terms in the jurisdiction which you are currently located.

You may use the Website as an unregistered user, however, you are required to register as a user if you wish to read the full text of the Content or to receive the Services.

You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these Terms or with the prior written consent of Mondaq. You may not use electronic or other means to extract details or information from the Content. Nor shall you extract information about users or Contributors in order to offer them any services or products.

In your use of the Website and/or Services you shall: comply with all applicable laws, regulations, directives and legislations which apply to your Use of the Website and/or Services in whatever country you are physically located including without limitation any and all consumer law, export control laws and regulations; provide to us true, correct and accurate information and promptly inform us in the event that any information that you have provided to us changes or becomes inaccurate; notify Mondaq immediately of any circumstances where you have reason to believe that any Intellectual Property Rights or any other rights of any third party may have been infringed; co-operate with reasonable security or other checks or requests for information made by Mondaq from time to time; and at all times be fully liable for the breach of any of these Terms by a third party using your login details to access the Website and/or Services

however, you shall not: do anything likely to impair, interfere with or damage or cause harm or distress to any persons, or the network; do anything that will infringe any Intellectual Property Rights or other rights of Mondaq or any third party; or use the Website, Services and/or Content otherwise than in accordance with these Terms; use any trade marks or service marks of Mondaq or the Contributors, or do anything which may be seen to take unfair advantage of the reputation and goodwill of Mondaq or the Contributors, or the Website, Services and/or Content.

Mondaq reserves the right, in its sole discretion, to take any action that it deems necessary and appropriate in the event it considers that there is a breach or threatened breach of the Terms.

Mondaq’s Rights and Obligations

Unless otherwise expressly set out to the contrary, nothing in these Terms shall serve to transfer from Mondaq to you, any Intellectual Property Rights owned by and/or licensed to Mondaq and all rights, title and interest in and to such Intellectual Property Rights will remain exclusively with Mondaq and/or its licensors.

Mondaq shall use its reasonable endeavours to make the Website and Services available to you at all times, but we cannot guarantee an uninterrupted and fault free service.

Mondaq reserves the right to make changes to the services and/or the Website or part thereof, from time to time, and we may add, remove, modify and/or vary any elements of features and functionalities of the Website or the services.

Mondaq also reserves the right from time to time to monitor your Use of the Website and/or services.

Disclaimer

The Content is general information only. It is not intended to constitute legal advice or seek to be the complete and comprehensive statement of the law, nor is it intended to address your specific requirements or provide advice on which reliance should be placed. Mondaq and/or its Contributors and other suppliers make no representations about the suitability of the information contained in the Content for any purpose. All Content provided "as is" without warranty of any kind. Mondaq and/or its Contributors and other suppliers hereby exclude and disclaim all representations, warranties or guarantees with regard to the Content, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. To the maximum extent permitted by law, Mondaq expressly excludes all representations, warranties, obligations, and liabilities arising out of or in connection with all Content. In no event shall Mondaq and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use of the Content or performance of Mondaq’s Services.

General

Mondaq may alter or amend these Terms by amending them on the Website. By continuing to Use the Services and/or the Website after such amendment, you will be deemed to have accepted any amendment to these Terms.

These Terms shall be governed by and construed in accordance with the laws of England and Wales and you irrevocably submit to the exclusive jurisdiction of the courts of England and Wales to settle any dispute which may arise out of or in connection with these Terms. If you live outside the United Kingdom, English law shall apply only to the extent that English law shall not deprive you of any legal protection accorded in accordance with the law of the place where you are habitually resident ("Local Law"). In the event English law deprives you of any legal protection which is accorded to you under Local Law, then these terms shall be governed by Local Law and any dispute or claim arising out of or in connection with these Terms shall be subject to the non-exclusive jurisdiction of the courts where you are habitually resident.

You may print and keep a copy of these Terms, which form the entire agreement between you and Mondaq and supersede any other communications or advertising in respect of the Service and/or the Website.

No delay in exercising or non-exercise by you and/or Mondaq of any of its rights under or in connection with these Terms shall operate as a waiver or release of each of your or Mondaq’s right. Rather, any such waiver or release must be specifically granted in writing signed by the party granting it.

If any part of these Terms is held unenforceable, that part shall be enforced to the maximum extent permissible so as to give effect to the intent of the parties, and the Terms shall continue in full force and effect.

Mondaq shall not incur any liability to you on account of any loss or damage resulting from any delay or failure to perform all or any part of these Terms if such delay or failure is caused, in whole or in part, by events, occurrences, or causes beyond the control of Mondaq. Such events, occurrences or causes will include, without limitation, acts of God, strikes, lockouts, server and network failure, riots, acts of war, earthquakes, fire and explosions.

By clicking Register you state you have read and agree to our Terms and Conditions