Qualified Opportunity Zones came to be as part of the 2017 Tax Cuts and Jobs Act (TCJA). Some key elements of the TCJA are:
The primary goal of the Opportunity Zone program is to promote investments in economically challenged areas through reinvestment of capital gains. The program offered two tiers of tax reduction, but the time for receiving the first benefit has expired. That portion of the program related to an available increase in basis for new gains from other assets that were reinvested into a QOZ. To reap the benefits of that provision, investors needed to act before the end of 2021.
Furthermore, capital gains taxes on investments made using capital gains from other sources into QOZ funds are deferred only until 2026. At that time, the taxes are due. Therefore, investors could obtain a potential reduction of ten or fifteen percent if the investment was made before the applicable deadline and held for the time required.
Investments made using capital gains from other sources (including the sale of real estate, stocks, or bonds) will not owe capital gains taxes on the appreciation within the QOZ Fund if the investment is held for at least ten years. For example, suppose an investor reaps a gain of $100,000 from selling real estate and invests the $100,000 into an approved QOZ project. The investor maintains the holding for at least ten years, during which the $100,000 grows to $200,000. The investor will not owe capital gains taxes on that gain. Keep in mind that the investor will owe capital gains taxes on the original amount in 2026 but not on the profit accrued in the QOZ.
For an investment to be eligible for the deferral and elimination of capital gains taxes, it must adhere to IRS rules. The stipulations include the location, which must be inside one of the more than 8,700 designated Opportunity Zones. Each state and territory had the opportunity to nominate census tracts for inclusion in the program, with the final list curated by the Treasury Department.
In addition, the project must satisfy the other requirements, including:
The TCJA was passed in December 2017. However, it took the Treasury and the IRS almost two more years to finalize the applicable regulations. This delay ended as the Covid-19 pandemic sent uncertainty through most economic sectors, further slowing the initiation of many projects. According to Forbes, some advisors remain cautious of the investments, which should only be considered long-term and are riskier than alternatives.1
However, the IRS expects the amount invested to reach $100 billion, with over $75 billion already in place by the end of 2021. However, some financial advisors recommend that potential investors consider the tax benefits a bonus, not a reason to join a program that doesn’t make sense otherwise.
1 Forbes, “What Investors Need to Know About Investing in Opportunity Zones,” Ehud Gersten, June 23, 2022, https://www.forbes.com/sites/forbesfinancecouncil/2022/06/23/what-investors-need-to-know-about-investing-in-opportunity-zones/?clickid=baf07c36-a8ab-11ed-bb8a-0afb117bfcd5&sh=347b1cb051d0