Ohio opportunity zones receive a boost and great flexibility

By Jeremy J. Schirra, Esq., CPA

The Ohio opportunity zone tax credit (Ohio OZ Credit) has emerged as a powerful tool for investors looking to capitalize on the state’s economic growth.

With 320 designated opportunity zones (OZs) throughout Ohio,¹ the Ohio OZ Credit offers significant tax benefits for those who invest in low-income communities (and adjacent communities) to drive economic development in these areas. Investors facilitate their investment in several ways, including:

(1) investing in OZ-situated real estate development projects organized by professional real estate development firms,

(2) developing their own real estate project in an OZ, or

(3) investing in a professionally managed qualified opportunity zone fund.²

The Ohio OZ Credit is an accretive tool that works in tandem with the federal OZ program as a credit against Ohio personal income taxes. While not required, the Ohio OZ Credit and federal OZ incentive are nearly always paired. For example, an Ohio OZ investor who does not have gains with which to qualify under the federal OZ program can still qualify to receive the Ohio OZ Credit.

There have been key legislative changes made to the credit in 2022, and it’s valuable to understand opportunity zones since they are a prerequisite to obtaining the Ohio OZ Credit.

Opportunity zones program

The Tax Cuts and Jobs Act of 2017 (TCJA) marked the conception of the OZ program. Following the TCJA’s passage, OZs were designated, and the program provided several options to incentivize investment in those designated areas. Incentives and tax advantages under the federal OZ program include:

• Deferral of otherwise taxable gains invested through Dec. 31, 2026; and

• Permanent exclusion of post-acquisition gains for qualifying investments held for 10 years (e.g., if an initial investment of $100,000 is later sold for $1,000,000 after a 10-year holding period, the capital gains on such investment would not be taxed).³

In general, the federal OZ program requires that an investor invest an eligible gain into a qualified opportunity fund (QOF) within a 180-day period of realizing such gain.4 A qualified opportunity fund (QOF) is an entity structured as a partnership or corporation for tax purposes that intends to meet

(and meets) the requisite ownership threshold of “qualified opportunity zone property” within the required time, among other technical requirements. 5 In practice, an overwhelming majority of experienced OZ investors utilize a so-called two-tier structure where the QOF makes an investment into a qualified opportunity zone business (QOZB). This investment into a QOZB in exchange for equity constitutes the purchase of qualified opportunity zone property. The use of a QOZB implicates other technical structural, operational and asset-based requirements. While this two-tier structure sounds more complex, practitioners view this structure as the more flexible structure from a compliance perspective in most circumstances.

Ohio opportunity zone tax credit program

The Ohio Opportunity Zones Tax Credit Program (the Ohio Program) provides qualifying applicants a tax credit against Ohio income taxes for 10% of a qualifying investment into an Ohio QOF. This credit is immediately available to the qualifying investor upon award and thus can significantly improve an investor’s after-tax return on investment. There are several requirements to qualify for the Ohio OZ Credit, including:

• The applicant’s investment must be invested in an Ohio qualified opportunity fund (Ohio Fund) (i.e., a QOF that holds one hundred percent of its invested assets in Ohio-situated qualified opportunity zone property); and

• The Ohio Fund must deploy the applicant’s original investment into Ohio qualified opportunity zone property, which can consist of interests in an Ohio QOZB.6

The Ohio legislature modified and enhanced the Ohio Program by the passage of Ohio Substitute Senate Bill 225 (S.B. 225) in June 2022, which law became effective in September 2022. This past January, the Ohio Department of Development (Development) received its first round of applications under its revised Ohio Program.

Key Ohio Opportunity Zone Changes made by S.B. 225:

• Increased availability. S.B. 225 increased the biennium cap on program tax credit awards from $50 million to $75 million for the 2022-23 biennium (July 1, 2021 through June 30, 2023). Thereafter, there will be a $50 million cap

for the 2024 fiscal year and a $25 million cap for each fiscal year thereafter.7

• Increased eligibility. The original Ohio OZ Credit law required that to be an eligible applicant, the applicant had to be an Ohio personal income taxpayer. Under S.B. 225, non-taxpayers can be eligible applicants. 8

• Increased transferability. Awardees of Ohio OZ Credit certificates can transfer, in whole or in part, the amount of Ohio OZ Credits awarded to any number of transferees by providing written notice to the Ohio Tax Commissioner.9 Those transferees can similarly transfer their rights to Ohio OZ Credits, in whole or in part, to others.10 Under the original Ohio OZ Credit law, the entire certificate was to be transferred. This enhanced transferability should result in more efficient and expedient use of the Ohio OZ Credits awarded and should minimize the amount of credits carried forward.

• More frequent application windows. Under Ohio’s revised program, instead of a single month-long annual window each January with respect to prior calendar year investments, there are now two application windows. The first window runs from Jan. 10 through Feb. 1. The second window runs from July 10 through August 1.11 Each new application window looks back to qualifying Ohio OZ investments in the immediately preceding investment period. The investment periods are now: (A) January 1 through June 30, and (B) July 1 through December 31.

Other OZ Tips of Note:

• QOF managers should be especially wary of the implications of making debt-financed distributions to their investors, especially in the case of distributions made within two years from the time when the QOF raised capital.12 The OZ regulations modify the general disguised sale rules and may cause an OZ investor’s original contribution that was a qualifying investment to retroactively be treated as not being made in exchange for a qualifying investment and trigger disguised sale treatment.

• Many would-be OZ investors mistakenly believe that the law provides for a 180-day investment period measured only from the date that the underlying gain or gains were realized. While this is generally the case, there may be different 180-day periods available, especially in the event of gains realized by a partnership.13 For example, if a partnership using a calendar year as its tax year realized gains in May 2022, the individual partners may be able to use a 180-day period beginning on Dec. 31, 2022.

• The Department grants Ohio OZ Credits in each application window on a first come, first served basis. Thus, it is advisable for qualifying investors to submit an application upon the opening of the application window.

This article represents a summary only. It does not include all of the provisions of the applicable statutes, rules, regulations and guidance, and ignores various fact-specific technicalities and requirements. It is intended for discussion purposes only and not intended to provide tax advice. Please consult with your real estate tax counsel and certified public accountants with opportunity zone expertise prior to making any opportunity zone investment.

1 Ohio Department of Development, Ohio Opportunity Zones Tax Credit Program, https://development.ohio.gov/business/state-incentives/ ohio-opportunity-zones (last visited Jan. 29, 2023).

2 Note that any investor utilizing an organized qualified opportunity fund should ensure that only investments in Ohio qualified opportunity zone property would be made if the investor desires to be eligible for Ohio OZ Credits. Further, it should be noted that both the Ohio and federal opportunity zone programs incentivize not only real estate development projects, but also investments into operating businesses.

3 I.R.C. §1400Z-2(c). Note that there were opportunities to obtain a 10 or 15 percent step up in basis on the investor’s original investment but those provisions have expired for new opportunity zone investments.

4 See I.R.C. §1400Z-2(a)(1)(A).

5 See, e.g., Internal Revenue Code §1400Z-2(d)(1) and the underlying Treasury Regulations.

6 In the application process to obtain the Ohio OZ Credit, Development requires documentation enabling it to trace the investment to ensure the Ohio Fund in fact received funds and that funds were in fact deployed by the Ohio Fund into a qualifying investment.

7 Ohio Rev. Code §122.84(C)(2).

8 See, e.g., Ohio Rev. Code §§122.84(A)(4) & (B).

9 Ohio Rev. Code §122.84(E)

10 See id.

11 Ohio Rev. Code §122.84(B).

12 See Treas. Reg. §1.1400Z2(a)-1(c)(6)(iii)(A)(2).

13 See Treas. Reg. §1.1400Z2(a)-1(c)(8)(iii)(A) & (B).

Jeremy J. Schirra is a member of Dickinson Wright PLLC, a full-service national law firm with 19 offices throughout the United States and Canada, and is an attorney and CPA in Ohio. Mr. Schirra’s legal practice focuses on real estate development, joint ventures, capital raises, taxation and finance, with an emphasis on complex real estate transactions involving tax and economic development incentives.