By Janet C. Hagy, CPA, Tax Insider
The law known at the Tax Cuts and Jobs Act, P.L. 115-97, added Secs. 1400Z-1 and -2 to encourage investment in economically depressed areas. They are referred to as opportunity zones — and provide for investments in qualified opportunity funds (QOFs) including:
- Capital gain reinvested in a QOF during a 180-day period is deferred until the earlier of:
- The date on which the opportunity zone investment is sold or exchanged; or
- Dec. 31, 2026 (Secs. 1400Z-2(a)(1)(A) and (B)).
- Up to 15% of the deferred gain is permanently excluded from income if the opportunity zone investment is held for more than seven years (Secs. 1400Z-2(b)(2)(B)(iii) and (iv)). In other words, the investor will pay tax on only 85% of the deferred gain when that gain is eventually recognized.
- Any post-investment appreciation in the QOF is permanently excluded from income if the investment is held at least 10 years (Secs. 1400Z-2(a)(1)(C) and 1400Z-2(c)).
The incentives are available only if gain is reinvested during a 180-day period. Gain invested before the 180-day period begins is not eligible for deferral, which makes it important to determine that date.
Investment in QOFs can be a significant benefit for individual taxpayers with capital gains that they wish to defer. Determining the appropriate timing for a qualified investment is challenging. The author's goal is to provide a comprehensive discussion of the applicable deadlines for individuals for investing in a QOF and obtaining tax deferral.
For 2020, taxpayers can choose to follow the proposed or the final regulations under Sec. 1400Z-2 (Regs. Sec. 1.1400Z2(a)-1(g)(2)). The rules for Sec. 1231 gains were significantly revised by the final regulations. It is important to understand the differences, since many individuals can still make qualifying investments in 2021 that will reduce 2020 tax.
Note that the ordinary gain portion of the gain under Secs. 1245 and 1250 cannot be deferred by making a QOF investment (Regs. Sec. 1.1400Z2(a)-1(b)(11)(iii)(A)). In addition, the taxpayer must be consistent in choosing to follow the proposed or final regulations for all deferrals for the 2020 tax year (Regs. Sec. 1.1400Z2(a)-(1)(g)(2)(i)). Investments in a QOF before the applicable start date will not qualify for deferral. Therefore, it is important to document the start date and the chosen accounting method.