Opportunity Zones - The Low Down

In late 2017, a new federal tax provision was enacted that allows investors with capital gains to defer tax on the gains when they invest in a Qualified Opportunity Fund (QOF). The QOF must invest the capital contributions in qualified investments located in “opportunity zones” which are census tracts identified in each state. Several websites, including state-specific sites, contain information about the qualified opportunity zones (census tracts).

QOF investors receive three main benefits:

  1. Temporary deferral of capital gains from inclusion in taxable income. Deferred gain will be recognized on the earlier of the disposition date of the QOF investment or December 31, 2026.
  2. Step-up in basis for capital gains reinvested in the QOF. Basis is increased by 10% if the investment in the QOF is held by the taxpayer for at least 5 years and by an additional 5% if held for at least 7 years. The result is exclusion of up to 15% of the original gain from taxation.
  3. Permanent exclusion from taxable income of capital gains from the sale or exchange of an investment in a QOF if the investment is held for at least 10 years. This exclusion applies only to gains that accrue after investment in the QOF (it does not apply to the originally deferred gain, which as noted above, is recognized on disposition or by December 31, 2026).

Investors with long-term capital gains may find QOFs a useful program for tax deferral and reinvestment. While Treasury Regulations are still in process, the IRS has confirmed that a QOF can self-certify and “no approval or action by the IRS is required.” The IRS is developing a form that will be attached to the investor’s tax return to claim the deferral. The regulations are also expected to address several unanswered questions in the statute concerning administration of the program.

Importantly, investors have only 180 days within which to invest their deferred gain in a QOF. There are several ways in which QOFs are developing, ranging from QOFs formed directly by individual investors that have gains and wish to control their investment in specific opportunity zone projects to managed QOFs that offer equity to investors and in return will invest the capital in qualified projects and manage compliance with the QOF program.

Tax Benefit Information

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