We have been following the new federal Opportunity Zone program designed to promote investment in underserved areas across the country with federal tax incentives. Back in May 2018, the state of Ohio announced that 320 “Opportunity Zones” in Ohio are ripe for investments that would benefit from program, among 8,700 designated zones nationwide.
Efforts to invest in Opportunity Zones have been ramping up as the IRS and Treasury Department provide regulatory guidance on the specifics of the program. Investors have been eagerly awaiting guidance on the Opportunity Zone program since it was adopted as part of federal tax reform in 2017 through the Tax Cuts and Jobs Act. Last October we received the initial proposed regulations and on April 17, 2019, the Treasury released more proposed regulations, available here.
Second Set of Proposed Rules
Early analysis of the most recent guidance shows that the IRS and Treasury are trying to make the program palatable to investors considering investment in low-income communities. The rules allow a more lenient timeline for investment vehicles, or “Opportunity Funds,” to invest cash from investors. The rules also allow Opportunity Funds leeway to make multiple investments, as well as sell assets and reinvest the proceeds without penalty during a one-year grace period. And there is now clearer guidance regarding the rules for how much activity must be conducted in the geographically designated “Opportunity Zone” to qualify for the program and tax benefits.
Opportunity Zone Program Basics
Recently we outlined how the Opportunity Zone program works and the corresponding tax benefits. The program basically requires investors to take three steps to qualify:
- The investor must realize eligible capital gain income, meaning almost any capital gain income subject to a few exceptions.
- Within 180 days (subject to certain exceptions), the investor must defer the capital gain and reinvest the capital gain in an "Opportunity Fund.”
- The Opportunity Fund must invest more than 90 percent of its assets in a Qualified Opportunity Zone Property (qualified property) within an Opportunity Zone, either through operating a Qualified Opportunity Zone Business (qualified business) itself or investing in a subsidiary that operates a qualified business.
An investor following the steps listed above may defer any tax owed on capital gains until Dec. 31, 2026, or at an earlier time when the investor disposes of their Opportunity Fund investment. In addition, the investor may exclude 10 percent of their deferred gain after five years of investment and an additional 5 percent on the deferred gain after seven years. If the investor holds their interest in the Opportunity Fund for 10 years, then the appreciation on that Opportunity Fund investment is generally free from federal income tax. These tax benefits are implemented through step-ups in the investor’s basis in the Opportunity Fund investment at the five, seven, and 10 year marks.
Beyond the federal tax incentives, the state of Ohio is currently considering a credit against the Ohio income tax for Opportunity Fund investors. The proposed Ohio legislation that would adopt the credit (Senate Bill 8) recently cleared the Ohio Senate and is currently under consideration in the Ohio House of Representatives.
We are following the latest developments with the Opportunity Zone program as they occur. Please contact one of the attorneys listed below with any additional inquiries.