In the past year, Opportunity Zones have become one of the most popular topics to come out of the Tax Cuts and Jobs Act.
Yet, most people still find themselves scratching their heads when it comes to decoding the details surrounding the Opportunity Zones provision and the labyrinth of regulations and requirements that go along with it (not to mention keeping up with new ones).
That’s why we’ve outlined some of the basics and some of the questions we’ve heard the most since the program’s inception in 2017.
What is the Opportunity Zones program?
Opportunity Zones are identified, low-income areas that have been designated by the government as a place in need of long-term investment to spur economic activity. The Opportunity Zones program provides a mechanism for taxpayers to defer current capital gains tax liabilities by investing in these economically distressed areas.
Taxpayers are required to set up an investment structure in which capital gains are rolled into a taxable entity called an Opportunity Fund. These Opportunity Funds then deploy this capital into qualifying real estate, businesses or other investments located within an Opportunity Zone.
Why and how were Opportunity Zones created?
Opportunity Zones were initially created in 2017 as part of the Tax Cuts and Jobs Act (TJCA or tax reform) with bipartisan support to spur economic development and commercial activity in lower-income areas while also attempting to unlock part of the estimated $6 trillion of unrealized capital gains currently being held by taxpayers.
How were Opportunity Zones designated?
Governors in U.S. states and territories selected their Opportunity Zones based on requirements pertaining to low-income census tracts based on 2010 census data. These nominated tracts were then sent to the U.S. Treasury in the spring of 2018 for designation as Opportunity Zones. Once designated, these areas will keep their status as an Opportunity Zone for at least ten years.
Do I have to live in an Opportunity Zone to receive the tax benefit?
No. You can still receive tax benefits (even if you don’t live, work or own a business that’s located in an Opportunity Zone) by investing in an Opportunity Fund that invests in qualifying property.
How can I find out where Opportunity Zones are?
You can access an interactive map of Opportunity Zones here to identify where these areas are located across the country.
How do I get the area I’m living and working in designated as an Opportunity Zone?
Currently, there isn’t much legislative activity toward designating new Opportunity Zones, so it may be tough for the time being to get an additional area officially designated.
There may be more activity toward designating new Opportunity Zones in the future, so the best place to start is to reach out to your Congressional representatives.
What should business owners and executives know before investing?
We recommend that investors carefully evaluate before making an investment. Don’t invest solely because of the tax benefit.
- First, make sure that the investment you’re considering is a good investment—one that you would make even without the benefits offered by Opportunity Zones.
- Make sure that you’re working with a reputable group that is putting funds together.
- Have a solid understanding of the compliance regulations that are associated with this type of investment.
- One of the most difficult factors of investing in an Opportunity Zone is that the IRS hasn’t issued final regulations, and there are still some items that need to be clarified. The most advantageous thing that a taxpayer can do is to partner with a tax advisor who can offer insights about specific situations and navigate regulations.
What are the tax benefits of investing in an Opportunity Zone?
The tax benefit of Opportunity Zones is threefold:
- Taxpayers who choose to invest in an Opportunity Fund get a temporary deferral of their current capital gains tax liabilities. (A common misconception is that Opportunity Zones provide a permanent deferral. December 31, 2026 is the mandatory recognition date when taxpayers will realize the deferred gain if they haven’t sold the Fund investment beforehand.)
- If you hold your investment in an Opportunity Fund for at least five years, your original gain is reduced by 10%, and if you hold it for an additional two years, the original gain is reduced by an additional 5% (total possible reduction of 15%).
- If you hold your investment in an Opportunity Fund for at least ten years, you’ll exclude the gain on the appreciation of the Opportunity Fund.
Is there a certain time I should consider making an Opportunity Fund investment?
Any developments or businesses locating within an Opportunity Zone should evaluate the possible benefits of structuring as an Opportunity Zone investment. Some existing businesses may even be eligible for Opportunity Zone benefits.
In addition, any taxpayers who have recognized a recent capital gain or are planning to recognize a capital gain in the near future should evaluate their personal tax and investment situations to discern whether an Opportunity Zone investment is right for them. There are investment period requirements, though, so investors should consult with their advisors as soon as possible if any of the previous situations are relevant.
Taxpayers should also be aware that to receive the maximum benefit associated with their original deferred gain they will need to make a qualifying investment in an Opportunity Fund by the end of 2019.
Moving Forward with Opportunity Zones
Investing in Opportunity Zones may look different depending on the specific situation. The best way to navigate the Opportunity Zones program and the numerous regulations and requirements that come with it is to partner with a tax advisor who can offer insights into your particular situation.
This blog was originally published by Warren Averett on August 17, 2018 and was most recently updated with new information and insights on December 4, 2019.