Does opportunity really knock only once in a lifetime?  How much truth is there that when one door closes another is certain to open?  With the close of the past two calendar tax years, we watched as a number of tax provisions sunsetted out of the tax law, with little hope of retroactively being reinstated.  However, with the advent of the Tax Cuts and Jobs Act, the Internal Revenue Service made opportunity knock again with the creation of new Opportunity Zones.

Opportunity Zones are now designated in economically distressed communities in all 50 states, the District of Columbia, and five US territories.  The intent is to revitalize these distressed low-income communities through economic development and job creation.  Individuals, S corporations, C corporations, partnerships, estates, as well as real estate investment trusts are all eligible to participate.  There is no need to live in an Opportunity Zone to take advantage.

To garner participation, a large carrot in the form of tax benefits have been dangled in front of taxpayers deciding to invest their money in Opportunity Zones.  To take advantage taxpayers who sell either business or personal property must invest the proceeds in a Qualified Opportunity Fund (QOF) within 180 days of the sale.  The property sold does not need to be connected to, or located in, an Opportunity Zone.  The sale must be to an unrelated party.

A QOF is a partnership or corporation that is formed to invest in qualified opportunity zone property.  No approval or action is required by the IRS to become a QOF.  Businesses must self-certify each year on their tax returns by attaching Form 8996.  A QOF may not invest in another QOF.  There are annual percentage requirements of the assets that need to be met to remain a QOF.

Taxpayers investing in a QOF within 180 days of the sale are allowed to temporarily defer capital gains from the sale.  The deferral must be elected on Form 8949.  The gains are deferred until the earlier of: December 31, 2026 when the gain must then be recognized, the sale of the QOF, the dissolution of the QOF, or assignment of interest in the QOF. Taxpayers need to plan accordingly for the cash flow that will be needed to pay taxes in the year of the recognition.

The longer the investment in the QOF is held, the greater the tax benefits realized.  There are possible permanent tax exclusions sweetening the pot for investors:

• If the investment is held for five years, there is a permanent tax exclusion of 10%.  Investments receive a basis increase equal to 10% of the original deferred gain.
• If the investment is held for seven years, there is a permanent tax exclusion of 15%.  Investments receive a basis increase equal to 15% of the original deferred gain (this is not in addition to the 10% for a five year investment).
• There is also a 100% permanent taxable gain exclusion if the investment is held for at least 10 years. This exclusion does not apply to the original deferred gains invested into an opportunity fund (because December 31, 2026 will pass first when tax must be paid on the original deferred gain), but only the gains accrued above the original investment in an opportunity fund.  The basis is increased to fair market value when it is sold in this scenario.

Opportunity has knocked in the form of the newly created Opportunity Zones across the US; however, they are set to expire December 31, 2026.  Take advantage of this newfound opportunity if you feel it could possibly be a fit for your investment goals.  There are some intricacies surrounding this new opportunity for investors beyond the scope of this article, so please contact your Dermody, Burke & Brown tax advisor to further discuss any questions you may have.

The information reflected in this article was current at the time of publication.  This information will not be modified or updated for any subsequent tax law changes, if any.