It’s my annual Taxes from A to Z series! This time, it’s Tax Cuts and Jobs Act (TCJA) style. If you’re wondering whether you can claim home office expenses or whether to deduct a capital loss under the new law, you won’t want to miss a single letter.
O is for Opportunity Zone.
Under the TCJA, new investments in some economically-distressed areas may be eligible for preferential tax treatment. To qualify, areas must be nominated by the state and certified by the Secretary of the U.S. Treasury. Opportunity Zones exist in all 50 states, the District of Columbia and five U.S. territories.
For a list of designated opportunity zones, click here to see IRS Notice 2018-48.
Here’s how it works. Taxpayers set up a Qualified Opportunity Fund (QOF) as a partnership or corporation (yes, that includes an LLC) used to invest in eligible property in a Qualified Opportunity Zone. You don’t have to live, work or have a business in an Opportunity Zone to take advantage of the tax break; you just have to invest a recognized QOF. It is worth noting that only a corporation or a partnership organized in one of the 50 states, the District of Columbia, or a U.S. possession is eligible to be a QOF.
A QOF must hold at least 90% of its assets in qualified opportunity zone property. To signal participation to the Internal Revenue Service (IRS), the partnership or corporation self-certifies by filing form 8996, Qualified Opportunity Fund, with its federal income tax return (downloads as a PDF). The return must be filed timely, including extensions. In addition to the initial filing, the form must be filed annually to report that the QOF meets the investment standard (that 90% rule) or to figure any applicable penalty.
Here’s the attraction to a QOF: investors can defer tax on any prior gains invested in a QOF until the investment, including stock and business property, is sold or exchanged, or December 31, 2026, whichever comes first. The longer the investment is held, the better. If the QOF investment is held for longer than five years, there is a 10% exclusion of the deferred gain, but if the QOF investment is held for more than seven years, there’s a 15% exclusion of deferred gain.
Investors who hold a qualifying investment for at least ten years are eligible for an increase in basis of the QOF investment equal to its fair market value on the date that the QOF investment is sold or exchanged (do the math on that one: it’s very favorable because it’s really a permanent exclusion of any capital gain).
Some tests exist to ensure that a QOF business is really a business. That includes the sort of restrictions that you’d expect, such as requiring the business to generate at least half of its total gross income from the active conduct of a qualifying trade or business and use a substantial part of its intangible property in the active conduct of the business. But it also includes some very particular limitations: the business may not be a private or commercial golf course, country club, massage parlor, hot tub facility, suntan facility, racetrack or other facility used for gambling, or any store where the principal business is the sale of alcoholic beverages for consumption off-premises.
The rules for Opportunity Zones can be complicated, and the IRS continues to offer guidance, including Rev. Rul. 2018-29 (downloads as a PDF). Be sure to check with your tax and legal professionals before making a move.
For more Taxes From A To ZTM 2019, check out the rest of the series:
- A is for Alimony
- B is for Bracket Creep
- C is for Credit For The Elderly Or The Disabled
- D is for Due Dates
- E is for Earned Income Tax Credit (EITC)
- F is for Fair Debt Collection Practices Act (FDCPA)
- G is for Gross Estate
- H is for Home Office Deduction
- I is for Innocent Spouse
- J is for Jackpot
- K is for Kiddie Tax
- L is for Long-Term Capital Gains or Losses
- M is for Medical Expenses
- N is for Notice