An Update on Opportunity Zones - U.S. Treasury Releases Guidance on Opportunity Funds

By Aaron Clapper, GOPC Project Manager

On Friday, Treasury released its first publication for guidance regarding Opportunity Zones, which includes proposed regulations, revenue rulings, and a draft tax form specific to the certification of Opportunity Funds. Though only proposed, these guidelines assist those interested in the tax benefits associated with Opportunity Zones, such as communities seeking to attract investment, investors seeking tax benefits, and fund managers establishing Funds. These proposed regulations are the first set of guidelines since the introduction of the tax bill late last year. Treasury will accept comments for sixty days, and plans to hold a public hearing the first part of January 2019.

To read the proposed regulations, please see Treasury’s guidelines posted on Friday, as well as Treasury’s updated Q&A document and Revenue Ruling. The draft Form 8996 is also available for review. A synopsis of these proposed regulations has been prepared by Novogradac and The National Law Review, and provides a brief overview of what has been published.

Below are some of Treasury’s key guidelines issued, though not a fully inclusive list of the proposed regulations:

  • Treasury’s document specifies the opportunity zone incentive refers to “capital gains” as eligible “gains” when referenced in the tax law

    • Eligible taxpayers who can defer capital gains include: individuals, corporations (including RICs and REITs), partnerships, common trust funds under Section 584, qualified settlement funds, disputed ownership funds, and other entities taxable under Section 1.468B

  • To qualify as a Qualified Opportunity Fund, an entity must be classified as a corporation or a partnership for Federal income tax purposes

    • LLCs can be Opportunity Funds, so long as they are taxed as a partnership or corporation

    • Preexisting entities can qualify as Qualified Opportunity Funds or Opportunity Zones businesses, considering they satisfy the necessary requirements.

  • To qualify as an OZ business, “substantially all” of a partnership or corporation’s tangible property owned or leased must be qualified opportunity zone business property. The legislation doesn’t define the phrase “substantially all,” however, guidance recommends that it be 70 percent.

  • An Opportunity Zone Business can hold the working capital for a period of up to 31 months if there is a written plan that identifies the working capital as held for the acquisition, construction, or substantial improvement of tangible property in an Opportunity Zone and such written plan identifies a schedule of expenditures

    • This is designed to safe harbor those who acquire, construct, or rehabilitate tangible business property

  • The regulations suggest the use of asset values reported on an applicable financial statement of the Fund to determine the 90 percent threshold for assets in Qualified Opportunity Funds

    • The law requires that a Fund invest 90 percent of its assets in qualified opportunity zone business property, measured as the average of two testing dates. The first testing date is the last day of the 6th month following formation, and the second is the last day of the taxable year.

  • If an Opportunity Fund investor sells all of its interest in a Fund before the end of deferral in 2026, the Fund investor can maintain the original gain deferral by reinvesting the proceeds into a new Fund within 180 days.

    • The ability to make the 10-year basis step-up election at sale of the Qualified Opportunity Fund investment is preserved under the proposed regulations until Dec. 31, 2047. The guidelines propose the tax incentives stem beyond the time period for which a Zone is designated (which expire in 2028).

  • Land is excluded from the requirement that the original use of Opportunity Zone property commence with the Fund or that the Fund substantially improve the property. When purchasing property, an Opportunity Fund will be required to substantially improve (“double the basis”) of the building; land will be excluded.

While these regulations are not binding, Treasury’s publication provides guidance for those interested in Opportunity Zones. Communities should consider creating prospectuses to ensure the needs of the community are met when working to attract long-term capital investments in their designated zones. Simultaneously, investors are continuing to establish Opportunity Funds and investment plans and will use these proposed regulations in the creation of Funds and investment plans.

Previous blogs covering Opportunity Zones are available in the links below:

For further information, visit https://www.novoco.com/periodicals/articles/treasurys-opportunity-zones-guidance-answers-many-key-questions

As more information becomes available, we will continue to provide updates on proposed and implemented regulations.

Interested in learning more?