What are Qualified Opportunity Zones and how can I benefit as a taxpayer?
Recently, I’ve had many clients – individuals, business owners, and investors – ask me about the recent buzz surrounding Qualified Opportunity Zones (QOZs). They’ve come to me saying they’ve heard that QOZs can help them defer…and even reduce…their tax liability on capital gains.
The first thing I tell them is, yes, all of the above is true. Next? I warn them that it’s complicated, like many of the tax regulations that have emerged from 2018’s Tax Cuts and Jobs Act. You must consult with a qualified CPA to ensure you’re following proper protocol required for reaping the rewards of investing in a Qualified Opportunity Zone.
As of June 2019, there are over 9,000 Qualified Opportunity Zones in the United States. These are low-income communities where the Federal government hopes to spark economic revival through tax breaks and incentives for investors…like you.
As for how you can benefit from investing your capital gains in a Qualified Opportunity Zone, here’s a quick overview of section 1400Z in the TCJA:
If you sell an asset before December 31st of this year, and you have a capital gain – whether it’s long or short term – and you reinvest the gain within 180 days into a Qualified Opportunity Zone, you will be able to defer taxes on that gain until 2026.
If you hold the Fund for 5 years, the gain will be reduced by 10%.
If you hold the Fund for 7 years, the gain will be reduced by 15%.
Here’s an example: If you are selling stocks or property, and you have a long-term gain of $100,000, you have 180 days to invest that into a Qualified Opportunity Zone. If you hold that investment for 5 years, you will only be taxed on 90% of your capital gain – or $90,000. Hold your investment for 7 years? You’ll only be taxed on 85% of your gain, or $80,000.
It is important to note that if you want to invest in a Qualified Opportunity Zone (QOZ) as an individual, you will need to invest in a QOZ fund – which can then invest your money into a specific property or business within that zone.
Is this a time-sensitive situation? Do I need to invest in a Qualified Opportunity Zone before December 31st, 2019?
If you want to take advantage of the 15% reduction in your taxable capital gains, yes, you must invest that gain this year because Section 1400Z and the TCJA in general are only considered “law” through 2026. After that, we don’t know what will happen. It could be extended, but don’t bet on it.
Are there any tax benefits if I keep my investment in a Qualified Opportunity Fund for a longer period? Let’s say 10 years?
Yes, in fact, that’s how you can really maximize your investment. Let’s say that you decide to keep your $100,000 invested in a Qualified Opportunity Zone for 10 years. First, you still get the benefit we outlined above: you will only be taxed on 85% of your gain.
However, if your investment into that Qualified Opportunity Zone has grown from $100,000 to $150,000? Get ready for this…you will pay ZERO taxes on that additional gain of $50,000.
While it is important that you make your QOZ investments before the end of 2019 to realize the 15% reduction in taxable capital gains, the additional direct gains from the investment will still be tax-free.
How exactly can I invest in a Qualified Opportunity Zone? What am I investing in?
There are multiple ways you can invest: it can be in a Qualified Opportunity Zone Fund (QOZF). If you choose to invest in a QOZF, at least 90% of the fund’s assets must be invested in either property or a business operating in the designated zone.
Another option is to invest directly into Qualified Opportunity Zone real estate or businesses. You can make the investment as part of a business or partnership (but remember, if you are investing as an individual you must go through a QOZ fund).
So, I could purchase land and an existing building in a QOZ and that would yield the tax benefits you mentioned above?
Yes, but remember, you are investing in a low-income area. In most cases, the buildings are in need of renovations – and there are strict guidelines to follow so you can receive the maximum tax benefits. Here’s an example:
Let’s say your business wants to invest $500,000 in a QOZ by purchasing land and an old factory building. The value of the land is $300,000. The building is worth $200,000. In order to qualify as an QOZ, your renovations must meet or exceed the value of the building – which is $200,000 in this instance. You don’t need to make upgrades to the land, so no worries there.
Are there any down sides to the Qualified Opportunity Zone tax opportunities? This all sounds too…perfect. I’m helping a low-income community – and getting tax benefits as well.
Let’s fast forward to 2026, when it comes time to pay your taxes on that capital gain you acquired way back in 2019. Four years from now, a new congress will decide on the tax rates. What if they change the capital gain rates? Unless there’s a grandfather clause, your capital gains may be taxed at a higher rate (or lower, if you’re an optimist).
So how can I get started?
As I mentioned, it’s imperative that you consult now with a qualified CPA. You can always reach out to our team here at Robert P. Russo CPA. And don’t wait until the end of the year because now is the time to calculate what capital gains you may be coming into this year.
After you’ve got a plan in place, find a Qualified Opportunity Zone using this interactive map. Many people find it very rewarding to know they’re investing in their local community, although you are able to invest in any of the 9,000 Qualified Opportunity Zones throughout the U.S.