By Andrew T. Smith
Through the 2017 Tax Cuts and Jobs Act ("TCJA"), the federal government incentivized the development of economically distressed areas by offering substantial tax breaks, including the indefinite deferral of capital gain taxes, to individuals investing in real estate located in these communities. Accordingly, Qualified Opportunity Zones ("QOZ") were created, being defined by the Internal Revenue Service ("IRS") as "economically-distressed communities where new investments, under certain conditions, may be eligible for preferential tax treatment." The IRS has designated more than 8,700 Federal Opportunity Zones in fifty (50) States, the District of Columbia, and five (5) U.S. territories, including 260 census tracts in the State of Georgia.
Through the IRS, investors can file Form 8896 to create a Qualified Opportunity Fund ("QOF"). QOF's are structured as either a partnership or corporation for the purpose of investing in an QOZ, whether in real estate or directly in businesses through equity. The QOF is required to hold at least ninety percent (90%) of its assets in the QOZ area. Investors receive the following benefits for putting their capital into a QOZ:
- Temporary deferral of taxes on previously earned capital gains. Investors can place existing assets with accumulated capital gains into a QOF, and those existing capital gains are not taxed until the end of 2026, or at such time when the asset is disposed.
- Basis step-up of previously earned capital gains invested. For capital gains placed in a QOF for at least five (5) years, investors' basis on the original investment increases by ten percent (10%). If invested for at least seven (7) years, investors' basis on the original investment increases by fifteen percent (15%).
- Permanent exclusion of taxable income on new gains. For investments held for at least ten (10) years, investors pay no taxes on any capital gains produced through their QOF investment.
The IRS has relaxed regulations related to QOZ investments to encourage greater participation in the program. Individuals who sold property for an eligible gain would ordinarily have had 180 days to invest in a QOF to defer such gain, but now have additional time. If an individual's 180th day to invest in a QOF would have fallen on or after April 1, 2020 but before December 31, 2020, the individual now has until December 31, 2020 to invest the gain into a QOF.With businesses activity and real estate markets slowing as a result of the COVID-19 pandemic, enterprising individuals will likely have greater prospects for QOZ investments and acquisitions.
Andrew T. Smith is an associate attorney with Flint, Connolly & Walker, LLP currently assisting clients in various corporate and real estate transactional matters. He is experienced in a range of legal issues affecting business owners and is knowledgeable in the various federal programs available to investors which minimize their tax exposure.