Opportunity Zone Investment Tax Benefits

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Opportunity Zones Timeline And Impact

Opportunity Zone Tax Benefits and Investment Analysis with Guest Chris Loeffler

Q: What is a reasonable timeframe in which we might see the first Opportunity Fund investments deployed?A: It will take some time for the IRS to establish regulations and guidance relating to the certification of Opportunity Funds and the eligible use of proceeds. It is possible that the first Opportunity Funds will be deployed in late 2018, though we anticipate this happening in 2019.

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How Pwc Can Help

PwC can provide a complete suite of tax, assurance, and advisory services related to all phases of an opportunity zone fund investment lifecycle. We help with identifying qualifying opportunity zone investments, assisting in structuring opportunity zone investments to accomplish the specific goals of investors , advising on the operation of the opportunity zone investments, and the investors eventual exit from the opportunity zone investment. Our offerings include:

  • Identifying avenues for taxpayers to utilize the Opportunity Zone Program
  • Identifying various Opportunity Zone Fund structures for consideration and assisting with the implementation of the selected structure
  • Confirming that an investment in an Opportunity Zone Fund qualifies for the benefits of the program
  • Determining if state and local tax benefits may also be available
  • Ongoing tax consulting and compliance related to the status of the Opportunity Zone Fund and its tax operations
  • Assisting in the disposition of Opportunity Zone Fund qualifying properties and interests in Opportunity Zone Funds

Oklahoma’s Priority Enterprise Zones

To coordinate with the federal governments goal of alleviating poverty, Oklahoma will utilize Priority Enterprise Zones created in the Oklahoma Enterprise Zone Act to attract capital to Oklahomas Opportunity Zones.Investors who take advantage of Oklahomas Federal Opportunity Zones within PEZs can potentially layer other state and/or local incentives, including:

  • Investment Tax Credit Allows a corporate income tax credit for new investment or job creation. PEZs double the income tax credit and enjoy Enterprise Zone designation for the life of the selected OZ tracts, instead of being subject to typical annual updates. This provides certainty to businesses for multi-year planning purposes.
  • Enterprise Zone Incentive Leverage Act Allows local areas to capture state sales tax if the local areas have a match. PEZ would allow participation in leverage incentive, if it is extended.
  • Tax Increment Financing Local incentive authorized in state statute utilized for redevelopment and reinvestment of blighted areas. PEZ designations are evidence of distressed areas and would be allowed to be incorporated in a Local Development Plan as a TIF District.

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Opportunity Zones Structurally Favor High Returns Not Community Benefits

Opportunity zones have fewer limits on the range of qualifying investments and fewer safeguards to prevent abuse and revenue loss than other tax-based programs designed to promote community and economic development, such as the New Markets Tax Credit and the Low-Income Housing Tax Credit programs. Whats more, regulations issued by the Trump administration broadened the intent of the original law and created opportunities for abuse. As a result of lenient regulations, for example, investors can claim a full tax break even if only 63 percent of the capital in an opportunity fund is actually invested in an opportunity zone. Moreover, the original law includes no requirements that opportunity zone residents actually benefit from investments.

Opportunity zones singular focus on reducing taxes owed on capital gains structurally favors projects that generate high returns, rather than the greatest social impact.

Deferral Of Eligible Gain

The Pros and Cons of Opportunity Zone Funds for the Passive Investor ...

Gains that may be deferred are called “eligible gains.” They include both capital gains and qualified 1231 gains, but only gains that would be recognized for federal income tax purposes before January 1, 2027, and that aren’t from a transaction with a related person. To obtain this deferral, the amount of the eligible gain must be timely invested in a QOF in exchange for an equity interest in the QOF . Once this is done, taxpayers may make an election to defer the gain on their federal income tax return for the taxable year in which the gain would have been recognized if they had not deferred it.

Taxpayers may make an election to defer the gain, in whole or in part. For additional information, see How To Report an Election To Defer Tax on Eligible Gain Invested in a QOF in the Form 8949 instructions.

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Criticism Of Opportunity Zones

Opportunity zones and the tax benefits associated with qualified opportunity funds have received their fair share of criticism since being introduced in 2017. Some critics suggest that opportunity zones and associated investments are more about tax planning for the rich than making a meaningful long-term impact in economically disadvantaged regions across the country. According to the U.S. Environmental Protection Agency , data about opportunity zones are clear that most of the census tracts suffer from a lack of ongoing public and private investment. As a result, opportunity zones may lack key infrastructure or other assets that investors seek to ensure productive returns on their investments. The differences between various opportunity zones could mean that only a small portion of opportunity zones will be the beneficiaries of investment and long-term change.

Qualified Opportunity Zones: What Investors Should Know

Key takeaways:

  • The 2017 Tax Cuts and Jobs Act established the Qualified Opportunity Zone program to provide a tax incentive for private, long-term investment in economically distressed communities.
  • Investors in these programs are given an opportunity to defer and potentially reduce tax on recognized capital gains.
  • Tax savings are only available when investors retain the investment in the Qualified Opportunity Fund for the time frame stated.

What this may mean for you:

  • If you are facing a significant tax liability as a result of capital gains, investing in a Qualified Opportunity Fund may be worth exploring, provided you invest within a prescribed amount of time.

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What Is An Opportunity Zone

An Opportunity Zone is a community nominated by the state and certified by the Treasury Department as qualifying for this program. The Treasury Department has certified zones in all 50 states Washington, D.C. and U.S. territories.

There are approximately 8,700 Opportunity Zones nationwide. A list can be found at the U.S. Department of Housing and Urban Development.

The 2 Hidden Benefits Of Opportunity Zone Investing

Opportunity Zones: Will Tax Breaks for Investors Benefit Communities Too?

Opportunity Zone investing offers two little-known hidden benefits that almost no one talks about. First, lets review the three main tax benefits:

  • When you roll over capital gains into a Qualified Opportunity Fund within 180 days, you are able to defer recognition of that gain until December 31, 2026.
  • When the tax bill on your initial gain comes due, you are able to reduce the amount of gain recognized by 10%, so long as your Qualified Opportunity Fund holding period reaches at least five years by the end of 2026.
  • You can exclude 100% of the new capital gain that accrues within your Opportunity Zone investment, after a 10-year holding period. Essentially, you pay zero tax on your long-term Qualified Opportunity Fund gains.
  • These three main tax benefits are well known. But now lets discuss Opportunity Zone investings two hidden benefits.

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    Potential Risks Of Qofs

    There is no guarantee that an investment in a QOF will yield a profit, and it may lose money. If a QOF declines in value, a taxpayer runs the risk that the overall loss in a QOF may be greater than the discount on the initially invested capital gain. Since QOFs are long-term strategies, QOF investors may not have the option to sell to mitigate potential losses. For example, there may be no market to sell the QOF, or a sale would be considered an “inclusion event,” which would cause a QOF investor to recognize some or all of its deferred capital gains5.

    Example 4The QOF declines in value during Tiffanys 5 year holding period by 25%, which causes a drop in value of Tiffanys interest from $5 million to $3.75 million. Tiffany’s capital gains tax liability at the end of the holding period should still be calculated on her original $5 million investment and not the current value of the fund. This will be calculated using the 10% cost basis step-up, which reduces the capital gain from $5 million to $4.5 million, but that gain still exceeds the $3.75 million current value of her QOF investment. Had Tiffany recognized her $5 million capital gain initially, rather than invest it in the QOF, she might have considered more conservative investment options that may have allowed her to mitigate potential losses in value

    Tax Advantages Of Investing In Opportunity Zones

    The primary tax benefit for investors of qualified opportunity funds is that they can defer tax payments on capital gains realized from prior investments. More specifically, if an investor allocates capital gains from a prior investment into a qualified opportunity fund within 180 days from the sale date, then that person is eligible to defer tax payment on the gain until the opportunity fund is sold or Dec. 31, 2026, whichever comes first.

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    Which Option Is Best For You

    How do you decide which option is right for you and your investment strategy? Answering this question is easier with the help of a trusted investment advisor, CPA, or financial consultant. However, to help you get started, consider following a few guidelines:

    1031 Like-Kind Exchanges Are Most Suitable For:

    • Active real estate investors. These investors should have the resources and / or expertise needed to maintain ongoing management.
    • Investors who have already received a gain from a piece of sold real estate or other qualifying asset.
    • Investors who do not need to access their principal capital.
    • Older investors who plan on leaving any assets acquired through a 1031 Exchange as part of their will.

    Opportunity Funds Are Most Suitable For:

    • Passive investors who want to enjoy the benefits of professionally managed funds.
    • Passive investors who are interested in diversifying their portfolios.
    • Investors who have already received a gain from the sale of an asset, such as stocks, bonds, or real estate.
    • Investors who want to have access to their invested principal.
    • Investors who are planning on selling the investment within their lifetime.

    Real estate can offer many unique benefits, including tax advantages. Working with a real estate expert can help you determine the type of real estate assets, and tax-deferred vehicle you should use to maximize your investment opportunities.

    Tax Deferral And Savings

    PROGRESS CAPITAL

    A Qualified Opportunity Fund investment provides potential tax savings in three ways:

    Tax deferral through 2026 – A taxpayer may elect to defer the tax on some or all of a capital gain if, during the 180-day period beginning at the date of sale/exchange, they invest in a Qualified Opportunity Fund. Any taxable gain invested in a Qualified Opportunity Fund is not recognized until December 31, 2026 , or until the interest in the fund is sold or exchanged, whichever occurs first. In addition, the deferred gain can be further reduced as described below.

    Step-up in tax basis of 10% or up to 15% of deferred gains – A taxpayer who defers gains through a Qualified Opportunity Fund investment receives a 10% step-up in tax basis after five years and an additional 5% step-up after seven years. Note that to take full advantage of the 15% step-up in tax basis, the taxpayer must have invested by December 31, 2019. When the tax is triggered at the end of 2026, the taxpayer will have held the investment in the fund for seven years, thereby qualifying for the 15% increase in tax basis.

    No tax on appreciation – Remaining in the Qualified Opportunity Fund for at least 10 years results in the cost basis of the property being equal to the fair market value on the date of sale/exchange.

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    Where And What Is An Opportunity Zone

    An Opportunity Zone is an economically distressed urban or rural community that has been identified by certain local, state, and federal qualifications. Additionally, localities can qualify as Opportunity Zones if they have been previously nominated for the designation by the state. If the localities have been nominated, then they will need to be certified by the Secretary of the U.S. Treasury.

    The tax legislation surrounding this relatively new type of tax advantaged program may be a bit confusing. We do know that taxpayers can exclude or postpone taxes on capital gains that come from investing in a qualified Opportunity Zone fund, should the fund be held for at least 10 years. This means that both investors and syndicators can benefit from investing in Opportunity Zones. Finally, there are currently over 8,762 designated Opportunity Zones within the United States.

    For a list of designated Qualified Opportunity Zones, click u003ca href=u0022https://www.cdfifund.gov/Pages/Opportunity-Zones.aspxu0022 target=u0022_blanku0022 rel=u0022noreferrer noopeneru0022 aria-label=u0022here u0022u003ehereu003c/au003e.

    How Are Opportunity Zones Created

    Low-income communities, as well as certain neighboring areas, are defined by population census tracts and can qualify as an opportunity zone. State governors nominate a limited number of eligible tracts for official designation. The certification and designation of an opportunity zone comes from the secretary of the treasury via their delegation of authority to the Internal Revenue Service . Detailed information on the eligibility criteria for census tract designation and the nomination and designation process can be found on the IRS website.

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    How Opportunity Zone Tax Benefits Work

    Deferral of capital gains taxes. If investors move any realized capital gains into a qualified Opportunity Zone Fund within 180 days of the asset sale, they can defer paying capital gains taxes on that gain until December 31, 2026 or until they sell their Opportunity Zone Fund investment, whichever is earlier.

    Potential reduction of deferred capital gains tax liability. Not only can Opportunity Zone investors defer their capital gains taxes, but they may also be able to minimize, or even eliminate, those taxes under certain circumstances.

    • If an investor holds their Opportunity Zone Fund investment for at least 5 years prior to December 31, 2026, they can reduce their deferred capital gains tax liability by 10% through a step-up in basis.
    • If an investor holds their Opportunity Zone Fund investment for 7 years prior to December 31, 2026, they can reduce their deferred capital gains liability by another 5%.
    • If an investor moved their capital gains into a qualified Opportunity Zone Fund in 2019 and held that investment for 10 years total, they could pay zero dollars in capital gains taxes on any appreciation from their original Opportunity Zone Fund investment. That is because Opportunity Zone Fund gains earned from Opportunity Zone investments can qualify for a step-up in basis at year 10.

    The tax benefit sunsets on December 31, 2047 to allow for an investment beyond 10 years if an investor so chooses.

    Additional Evidence Also Points To Lack Of Impact

    Benefits and Myths: Tax Advantages of Opportunity Zones

    The new study builds off prior research that finds minimal to no impact resulting from opportunity zone designation. Taken as a whole, research to date suggests that opportunity zone tax breaks have largely benefited areas already experiencing development, projects that would have occurred in the absence of an incentive, and/or projectssuch as self-storage facilities and bitcoin mining facilitiesthat do little to create employment and economic activity in surrounding communities. Notably, the evidence includes:

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    Tax Benefits For Investing In An Opportunity Zone:

  • A temporary deferral of inclusion in taxable income for capital gains reinvested in an Opportunity Zone fund. The deferred gain must be recognized on the earlier of the date on which the opportunity zone investment is disposed of, or December 31, 2026.
  • A step-up in basis for capital gains reinvested in an Opportunity Zone. The basis is increased by 10% if the investment is held by the taxpayer for at least five years and by an additional 5% if held for at least seven years, thereby excluding up to 15% of the original gain from taxation.
  • A permanent exclusion from taxable income of capital gains from the sale or exchange of an investment in an Opportunity Zone fund if the investment is held for at least 10 years. This exclusion only applies to gains accrued after an investment in an Opportunity Zone.
  • The Opportunity Zone Act Is Structured To Incentivize Investments In Certain Economically Depressed Areas

    • In order to qualify, money from a gain must be invested after December 31, 2017 in an Opportunity Zone under certain conditions.
    • An Opportunity Zone is one of the census tracts that have been designated as an Opportunity Zone under the Opportunity Zone Act.
    • A map and a search tool to find opportunity zones is at the following URL:

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    Whats The Difference Between Investing In An Opportunity Zone And A Section 1031 Exchange

    When you invest in an opportunity zone or fund, you can tap into tax-deferral options. Additionally, you can enjoy tax-free growth in perpetuity if you reach the 10-year milestone in your investment.

    Unlike an opportunity zone or opportunity fund investment, Section 1031 exchanges only defer taxes so the investment can continue to grow. But outside of an opportunity zone, capital gains taxes will come due whenever the property is sold.

    For example, lets say you invest $100,000 in an opportunity fund. You enjoy the tax deferral options along the way. But you choose to hold onto the investment for 10 years. At that point, you can sell the property and will only have to pay taxes on capital gains created by your initial investment. Plus, even these can be reduced through a step-up basis of up to 15%.

    On the flip side, if you pursue a Section 1031 exchange, youll have to pay capital gains taxes when you eventually sell your property.

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