When the Tax Cuts and Jobs Act was passed in late 2017 many significant changes to the tax code were made. These changes were designed to make the U.S. more business-friendly by lowering business taxes and offering new saving opportunities. One such opportunity was the introduction of Qualified Opportunity Zones investment. This program is designed to incentivize investment in economically challenged urban and rural communities across the country. It permits taxpayers the opportunity to defer capital gains from the sale of an asset if the gains are invested in an Opportunity Zone. In late December, the IRS issued final regulations covering a variety of investment details. Topics addressed include the gain types eligible for investment and gain exclusions available after the 10-year holding period. The final regulations are designed to make it easier for taxpayers and fund managers to understand investment and fund management details. Below is a brief summary of the major changes made to regulations.
Final OZ Regulation Highlights
Gains Types Eligible for Investment
- General Rule Change – The final regulations change the general rule that only capital gains may be invested in a Qualified Opportunity Fund (QOF) during the 180-day investment period by stating only eligible gains in the US may be invested.
- Business Property Sale – There was a change that permits the sale of business property to allow a taxpayer to invest the entire amount of the gain without regard to losses and changes to the investment period from year-end to the asset sale date.
- Partnership Gains – The final regulations permit partnerships, S-corp shareholders and estate beneficiaries to start the 180-day investment period on the due date of the entity’s tax return.
- REIT Gains – The rule clarifies the 180-day investment period generally starts at the close of the shareholder’s tax year and allows gains to also be invested starting when gains are received.
- Installment Sales – Any gain from an installment sale can be invested when received, even if the sale was made prior to 2018.
- Nonresident Investments – Permits nonresident aliens and foreign corporations to make QOZ investments of gains connected to U.S. trade or business.
Gain Exclusions After 10 Year Holding Period
There were two significant changes made to the final regulations that Atlanta taxpayers should be aware of including the sale of property used by a Qualified Opportunity Zone Business (QOZB), and additional clarifications about gain exclusions. The final regulations permit capital gains from the sale of property used by a QOZB held by a QOF may be excluded from income as long as the qualifying investment has been held for 10 years. In addition, the amount of gain an investor elects to exclude will reduce the interest in the QOF investment. The final regulations also clarify that exclusions are available for other gain types, such as distributions to shareholders or partners, that are treated as gains from the sale or exchange of property for income tax purposes.
Fund Determination of New Level of Investments in a QOZ
- Aggregation of Property for Substantial Improvement Test – QOFs and QOZBs can claim original use assets that would otherwise qualify as opportunity zone business property, assuming, the assets are used in the same trade or business in a QOZ for which a non-original asset is used and there is an improvement to functionality.
- Working Capital Safe Harbor – The final regulations make several changes to the safe harbor rule in the proposed regulations, including;
- There is now an additional 62-month safe harbor for start-up businesses to ensure compliance with the 70% tangible property standard and the 50% gross income requirement to qualify as a QOZB.
- A QOZB can now receive an extra 24 months to use working capital if located within a federally declared disaster area.
- A safe harbor can only be used for a 62-month period and amounts remaining may not be counted as tangible property for the 70% tangible property standard.
- QOZBs are permitted to treat buildings, equipment, and other tangible property being improved with working capital as Qualified Opportunity Zone Business Property (QOZBP) for purposes of the requirement that a QOZB is engaged in a trade or business. It’s important to note, the final regulations state a QOZB not using the working capital safe harbor may treat tangible property undergoing improvement as being used in a trade or business.
- Measurement of Use in the 70% Use Test – The final regulations allow that if the tangible property is in one or more QOZs, the measurement of use test is determined by aggregating the number of days the property in each QOZ is used.
Other Important Changes
- Brownfield Sites – The final regulations permit both the land and structures in a Brownfield site redevelopment to be considered original use property as long as the QOF/QOZB makes an investment to improve the site’s safety and environmental standard compliance.
- Property Adjoining Census Tracts – There was an addition of a square footage and unadjusted cost test to determine if a project primarily located in a QOZ, and provide parcels of tracts of land will be considered contiguous if they have common boundaries (where a road, street, river or railroad interferes). In addition, the regulations also extend the straddle rules to QOFs/QOZBs for the 70% use test.
- Self-Constructed Property – This type of property can now count for purposes of the 90% asset and 70% asset test and is valued at the purchase price when the physical work of a significant nature begins.
Contact Us
The tax-saving opportunity available to qualifying taxpayers that invest in an Opportunity Zone can be quite powerful. However, the specifics about qualifying gains, investment periods and Qualified Opportunity Funds is complex and often require the assistance of a qualified advisor to guide Atlanta investors. There were several more changes made in the final regulations, but the information outlined above provides a good summary. If you have questions about Opportunity Zones or how your Atlanta business can take advantage, Wilson Lewis can help! For additional information call us at 770-476-1004 or click here to contact us. We look forward to speaking with you soon.