Part 1 – Getting Started
The talk of real estate (and to a lesser extent business and infrastructure) investing in 2019 was the Opportunity Zones tax incentive program promulgated under the Tax Cuts and Jobs Act of 2017. Simply put, the opportunity zone program provides generous incentives to taxpayers that invest capital gains proceeds in development projects or businesses in low-income areas designated as “Opportunity Zones.” The mission of the opportunity zone program is to incentivize private investment, at scale, to accelerate the development and rehabilitation of overlooked or disregarded localities that are most in need of new investment dollars. This Six Part Series will explore certain important aspects of the various stages of an opportunity zone investment, with a brief description of each Part discussed in turn below.
Part 2 – What Do We Know Now, And What Is Yet To Come?
While conceptually straight-forward, meticulous planning is involved with properly qualifying an opportunity zone investment. This process is made more difficult by the current dearth of precedent transactions and other guidance. In December 2019, the U.S. Treasury Department and Internal Revenue Service released 544 pages of final regulations, including commentary and examples, for the opportunity zone program. Despite being quite detailed, the final regulations are still a relatively high-level framework governing the program. Part 2 will explore the guidance thus far provided by Treasury and the IRS, as well as some of the unresolved questions that investors are facing as they seek to make opportunity zone compliant investments.
Part 3 – The Opportunity Zone Tax Benefits Explained
If you’ve been following the roll out of the opportunity zone program, even at a high level, you know that the upside lies in the following three categories of tax benefits: (1) the deferral of tax on capital gains that are timely invested in qualifying opportunity zone projects; (2) a reduction in those deferred capital gains due to a favorable “step-up” in basis after holding the qualified opportunity fund investment for at least five years; and (3) the exclusion of all capital gains taxes arising from the appreciation in value of the qualified opportunity fund investment if held for at least ten years. The requirements to enjoy the benefit of each of these distinct tax advantages will be covered in Part 3.
Part 4 – Forming a Qualified Opportunity Fund: The Opportunity Zone Compliant Investment Vehicle
The first step to pursuing a tax advantageous opportunity zone transaction is to invest capital gain proceeds into a “qualified opportunity fund” within 180 days after the gain is realized. A qualified opportunity fund can be any investment vehicle that is taxed as a corporation or partnership and is organized to invest in opportunity zone compliant projects or businesses. A qualified opportunity fund can be organized by individuals, a family office, a small investment manager with a limited group of targeted clients, or a large institutional fund manager.
Part 5 – Structuring an Opportunity Zone Compliant Investment
The most complicated and least understood aspects of an opportunity zone investment are those surrounding the structuring of each investment made by the qualified opportunity fund and its“Qualified Opportunity Zone Business” subsidiary. These requirements include, among other things,that a qualified opportunity zone business maintain 70% or more of its assets in property that meets the (complicated) definition of “Qualified Opportunity Zone Business Property,”and that at least 50% of the qualified opportunity zone business’s income is derived from its active conduct of a trade or business within an opportunity zone. Part 5 we will explore these and other requirements for investment structuring, as well as how these requirements deviate from typical non-opportunity zone investments.
Part 6 – Exiting an Opportunity Zone Investment
Exit planning is a challenging aspect of the process to address in advance of the investment stage due to the long holding period for opportunity zone investments and the lack of detailed guidance or precedent transactions. Since it will be at least ten years before investors begin to exit their opportunity zone investments, there is no reasonable expectation that sufficient – and court tested – guidance will be available any time soon. Thoughtful exit planning will be key to mitigating these concerns.
While this Series will serve as an effective primer on the opportunity zone regulations and compliance framework, the devil is always in the details. If you are considering making an opportunity zone investment in the near future, or just want to learn more than this primer can offer, the attorneys at Martin LLP are always available to consult with you.