Opportunity Zones and New Market Tax Credits both provide tax benefits to taxpayers who invest directly into low-income neighborhoods that historically have been overlooked when it comes to new investment capital.
Since the tax incentives offered by both programs are different, investors have inquired whether they can combine the two programs and reap greater benefits for their investment capital. Below we’ll take a closer look at the tax breaks offered by both programs and whether it’s possible to stack the two programs simultaneously.
New Market Tax Credits Explained
The New Market Tax Credits (NMTC) program was enacted in 2000 as part of the Community Renewal Tax Relief Act. The goal was to spur private investment in impoverished communities. Investors place investment capital in Community Development Entities -- financial intermediaries certified by the U.S. Treasury -- for equity in real estate, community centers, or businesses in financially distressed communities in exchange for a credit on their annual tax return totaling 39 percent of their investment. The credit can be claimed for seven years.
At the end of the fiscal year 2020, the NMTC program had led to the creation of more than 230,000 square feet of new retail, office, and manufacturing space and financed close to 7,800 businesses in low-income communities.1
Opportunity Zones Explained
The Opportunity Zone Program, enacted through the Tax Cuts and Jobs Act of 2017, also was created to incentivize private investment in distressed and impoverished communities. More than 8,700 census tracts in all 50 states have been designated as Qualified Opportunity Zones (QOZs).
Here’s how the program works: Investors can defer capital gains taxes on the sale of investment assets if they roll those proceeds over into new investments located in QOZs. Investors who hold their QOZ investments for five years are eligible for a 10-percent deferral on capital gains, while investors who hold for seven years are eligible for a 15-percent deferral. If the investment is held for 10 years, investors are eligible for a step-up in basis at current fair market value, which effectively defers taxation on any capital gained through asset appreciation.2
Combining Investments in QOZs and NMTCs
The two programs share many synergies, and there is a great deal of overlap in the geographical location of QOZs and NCTCs.
As currently written, there are no statutes in the Opportunity Zone literature that exclude NMTC investors from also capitalizing on Opportunity Zone benefits.3 In fact, the seven-year holding period for NMTC investments matches up perfectly with the seven-year deferral for QOZ investments.
If a qualified Community Development Entity also gained status as a qualified Opportunity Zone Fund (making it a CDE/QOF), it could potentially reward investors with new market tax credits as well as tax deferral through the Opportunity Zone investment program since the programs provide different incentives. The Opportunity Zone program focuses exclusively on investment gain, so tax-deferral benefits are generated solely on equity. New Market Tax Credits, meanwhile, are generated from both equity and debt. Lastly, many businesses located in QOZs are typically eligible for NMTCs, so pairing the two programs when there’s overlap could potentially benefit investors through greater yield.
The Bottom Line
There are many considerations to ponder before attempting to twin these two programs. NMTCs are claimed over seven years, so investors who want to reap the reward of a step-up in basis through the Opportunity Zone program may choose to opt for the latter since it's a 10-year holding period.
Investors considering blending Opportunity Zone and New Market Tax Credit investments should have a deep discussion with their tax professionals to determine the proper structure for such an investment since it’s likely to be quite complicated.
1. New Markets Tax Credit Program, U.S. Department of the Treasury Community Development Financial Institutions Fund, https://www.cdfifund.gov/programs-training/programs/new-markets-tax-credit
2. Opportunity Zones Frequently Asked Questions, IRS, https://www.irs.gov/credits-deductions/opportunity-zones-frequently-asked-questions#general
3. The Twinning Opportunities in Qualified Opportunity Zones, Applegate & Thorne-Thomsen Attorneys at Law, https://www.att-law.com/post/twinning-opportunities-in-qualified-opportunity-zones/
This material is for general information and educational purposes only. Information is based on data gathered from what we believe are reliable sources. It is not guaranteed as to accuracy, does not purport to be complete and is not intended to be used as a primary basis for investment decisions. It should also not be construed as advice meeting the particular investment needs of any investor. Realized does not provide tax or legal advice. This material is not a substitute for seeking the advice of a qualified professional for your individual situation.