Invest in Qualified Opportunity Zones Through Qualified Opportunity Funds

MCC Construction Zone

Invest in Qualified Opportunity Zones Through Qualified Opportunity Funds

BrianMarron,CPA

heTax Cuts and Jobs Act (TCJA) of 2017introduced incentives for taxpayers to defercapital gains byinvestinginlow-incomeareas.Certaintaxpayerscanbenefitiftheymakealong-term investmentintheQualifiedOpportunityZone(QOZ)throughaQualifiedOpportunityFund(QOF).

InvestmentOpportunities QOZswerecreatedunderTCJAtoencourageinvestmentinlow-incomecommunities.Thousandsof QOZs are designated in all 50 states, the District of Columbia, and five U.S. territories. Partnerships or corporations are typically formed to run and manage QOFs. Ninety percent of QOFs must be invested in QOZs.

Taxes on capital gains andqualified 1231 gains (gains from the disposition of depreciable assets heldbythebusinessforlongerthanoneyear)maybetemporarilydeferred.Thegainsmustbe recognized before January 1, 2027, for federal income tax purposes and cannot be from a transaction with a related person.

One of the benefits of investing in a QOF is that there is a basis (amount of the investment) step-up by10%ofthedeferredgainforinvestmentsheldforfiveyearsandanadditional5%(15%intotal) for investments held for seven years if met by December 31, 2026. For mosttaxpayers, this benefit has timed out. However, there is an exception for pass-through entities to still reinvest 2021 gains through September 11, 2022.

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Eventhoughthebasisstep-upisnolongeravailableformosttaxpayers,thereisstill a significant benefit remaining. If the investment is held for 10 years, the asset's appreciation will be a tax-freesale; this includesany depreciation recapture that otherwise would have been recognized atthat time.

FilingRequirements Anentitymust file Form8996(QualifiedOpportunityFund)annuallywithits eligible partnership or corporate federal income tax return. Taxpayers must also (self) certify that the corporation or partnership is organized to invest in QOZ property. This is done by: • Filing a federal incometax return as a partnership, corporation,orLLCthatistreatedasa partnership or corporation; • Organizing for the purpose of investing in QOZ property under the laws in one of the 50 states,theDistrictofColumbia, a U.S.possessionor a federally recognizedIndigenous tribal government; and • Holding 90%ofitsassetsinQOZproperty.

90%InvestmentStandard A QOFmustinvest90%ofitsassetsinQOZ property. Thisisdeterminedbytheaverageofthe percentage of QOZ property held in the QOF as measured on: • Thelastdayofthefirstsix-monthperiodofthetaxyearoftheQOF;and • ThelastdayofthetaxyearoftheQOF.

Taxpayersmust report theamountofgainorloss inthetaxyearitwas sold orexchangedonForm 8949, Sales and Other Dispositions of Capital Assets.

Allowable deferment As noted above, the IRS allows the deferral of all or part of a gain invested into a QOF that would otherwise be includedin income. The gain is deferred until the investment is sold or exchangedor December31,2026,whicheverisearlier.IRSguidancepermitstangibleproperty acquiredafterDec. 31,2017,under a marketrateleaseto qualifyasQOZbusinessproperty.“Substantially all”(atleast70%of theproperty)mustbeusedin a QOZ.

Theguidancenotesthere are situationswhere deferred gainsmaybecometaxableifaninvestor transfers their interest in QOF. For example, if the transfer is done by gift, the deferred gain may become taxable. However, inheritance by a survivingspouseisnot a taxable transfer, noris a transfer,upondeath,of an ownership interest in a QOF to an estate or a revocable trust that becomes irrevocable upon death.

Taxpayers need to consider if the tax rate on capital gains is expected to increaseor decrease withintheinvestmentperiod.Asalways,itisgoodto check with usbefore making an investment.

Brian Marron, CPA

MeettheAuthor Brian Marron, CPA, is a manager in the firm’s New Jersey office. He helps clients reduce their tax obligationbyplanningthroughthetaximplicationsofcontemplatedtransactions.Briancanbe contacted at 732.341.3893 or brian.marron@mccarthy.cpa. Reprinted from ConstructionExec.com, June 6, 2022, a publication of Associated Builders and Contractors (ABC). Copyright 2022. All rights reserved.