As Interest in Opportunity Zone Investing Grows, So Does the List of Investor Questions
Ever since the Tax Cuts and Jobs Act was signed into law on December 22, 2017 and investing in opportunity zones became a reality, investors have encountered several areas of confusion, if not outright spots of misunderstanding. That should not come as a complete surprise since the Department of the Treasury has already issued additional guidance intended to help explain exactly how opportunity zone investing works.
The opportunity for economic stimulation and job growth in the 8700+ designated qualified opportunity zones is almost boundless. It has been estimated that at the end of 2017, U.S. investors held as much as $3.8 trillion in unrealized capital gains1 which represents a potential pool of investment capital that many of most economically depressed communities are in great need of. The generous tax advantages offered by investing in Qualified Opportunity Funds, or QOFs (which are the designated investment vehicle used to invest in Qualified Opportunity Zones) were designed to help tap into that large pool of capital.
Yet, as with any piece of new legislation, especially with one where new clarifications are being offered by the IRS and Treasury, misunderstandings will inevitably arise, and there are several worth mentioning as it relates to opportunity zone investing.
By investing in a qualified opportunity zone fund, I can completely eliminate any capital gains obligations.
Not entirely true, however the tax advantages are generous. If an investor acquires an interest in a QOF and holds that investment for at least five years, payment of capital gains is deferred and 10% of the taxable gains from the original amount invested is excluded. If an investor holds the QOF investment for at least ten years, any capital gains generated solely from the opportunity zone investment may become tax-exempt.
Only the capital gains on some of my assets qualify for tax-advantaged treatment in an opportunity zone investment.
Not true. QOF investments allow any type of capital gain – on stocks, bonds, precious metals, real estate (including personal residences), artwork, etc. – to qualify for tax-advantaged treatment. However, only the gains that are invested, not the full proceeds from the sale, will be subject to preferential tax treatment.
I can invest non-capital gains money into an opportunity zone investment and enjoy the same tax benefits.
Although you may be able to invest non-capital gains into an opportunity zone investment, only “re-invested capital gains” (not other sources of funds) qualify for the temporary deferral of capital gains, the potential reduction of the capital gains tax bill and possible tax-emption of gains earned within the QOF.
When my gains are recognized, (upon the sale of my investment or December 31, 2026 whichever comes first) they will be calculated at my current capital gains rate.
Not true. An investment in an opportunity zone today does not ensure the current capital gains tax rate will still be applicable in 2026. Tax rates can change over time. However, the capital gains “reduction benefits” built into the structure of a QOF investment are designed to help ease investor anxiety by providing a 10% basis step-up on investments at year five (assuming the investment was made on or before December 31, 2021), which could help soften the blow if rates were to increase.
We hope this information has been helpful if you are evaluating an opportunity zone investment. Of course, there are many aspects to consider with any investment and we encourage you to contact your financial professional if you have additional questions or would like more insight.
You should also know that due to the many impacts of the Covid-19 pandemic, the IRS and U.S. Treasury have provided relief to QOF investors in the form of time extensions on certain deadlines, so please discuss how those changes could potentially influence any strategy decisions.
This communication is not intended as tax advice. Potential investors should consult with their own tax advisors.