QUALIFIED OPPORTUNITY ZONE FAQs

A QOZ is a designated census tract in the United States that has been selected by a state governor and certified by the U.S. Department of Treasury for inclusion in the QOZ Program.

Governors were allowed to nominate up to 25% of their total low-income communities (“LICs”) for certification by the Treasury as QOZs.

An LIC is a census tract that meets one of the following qualifications:

• The poverty rate for the LIC is at least 20%
• If the LIC is located in a metropolitan area, the median household income does not exceed 80% of the median household income for that metropolitan area (or the statewide median household income, whichever is greater)
• If the LIC is not located in a metropolitan area, the median income does not exceed 80% of the statewide median household income

There are over 8,700 QOZs spread across all 50 states, D.C., and several U.S. territories. There are rural, suburban and urban QOZs. According to ESRI¹, 18.2% of the U.S. total land area is in a QOZ and 5.4% of major metro land area.

¹ ESRI, 2018

A QOF is an investment vehicle organized as either a partnership or corporation that invests at least 90% of its assets in qualified businesses or real property located within a QOZ.

QOFs can make investments in a wide variety of real estate or new or existing businesses, including commercial real estate, housing, infrastructure and start-up businesses. QOFs can hold single or multiple assets. QOZ property includes interests held by the QOF in a Qualified Opportunity Zone Business (“QOZB”—see next question/answer).

A QOZB is a business in which at least 70% of tangible assets qualify as QOZ business property owned or located in a QOZ. At least 50% of the gross income earned by the business must be from the active conduct of the business in the QOZ and generally may not be a “Sin Business.” No more than 5% of the assets of the QOZB can be “non-qualified financial property”, which generally refers to debt, stock, partnership interests, options, futures contracts, forward contracts, warrants, etc. that do not relate to the OZ investment.

There are two potential QOZ tax benefits: Deferral and Elimination.

Deferral
The most immediate QOZ tax benefit is the ability to defer the recognition of capital gains invested in a QOF as taxable income until the QOF investment is sold or December 31, 2026,² whichever occurs first.

Note: There is no limit on the amount of gains that can be deferred in this manner.

Elimination
Investors who hold their investment for at least ten years pay no tax on the appreciation of their QOF investment upon disposition of such QOF investment, regardless of the size of the potential profit.³

All investments involve risk and the realization of the benefits is dependent on proper structuring and the structure and performance of the future investments selected. Not all investments will provide all of these benefits.

² 10% step-up in basis was available for investments made prior to December 31, 2021 and an additional 5% step-up in basis was available for investments made prior to December 31, 2019.
³ Assumes that the investor is a resident of a state that conforms with the QOZ Program or a no state income tax state, otherwise the investor will owe tax on any realized gain in investor’s state.

A capital gain is eligible for deferral if it is from the sale or exchange of property with an unrelated party (not more than 20 percent common ownership) and the gain is treated as a capital gain (short-term or long-term) for federal income tax purposes. In order to qualify for QOZ tax treatment, such gain must be invested into a QOF within 180 days of recognizing the gain (note: the deadline for investment has been extended for some taxpayers due to COVID-19; see answer to question: “Has the federal government extended the timeline for QOZ investment in response to COVID-19?”.)

Gains from a wide range of investment assets are eligible, including gains from:

• Stocks, bonds, options, hedge funds
• Primary and secondary residences
• Businesses, machinery, commercial buildings, rental properties
• Land, livestock, art, wine, automobiles

QOZ regulations provide that taxpayers eligible to elect gain deferral include:

• Individuals
• C Corporations (including regulated investment companies (RICs) and real estate investment trusts (REITs))
• Partnerships
• Certain other pass-through entities

The first day of the 180-day period to reinvest gains into a QOF generally is the date on which the gain would be recognized for federal income tax purposes.

Yes, the final regulations provide additional flexibility for K-1 partnership gains resulting in additional planning options for financial advisors. For example, assuming a calendar-year partnership, K-1 partnership gains realized on or after January 1, 2022 have until September 11, 2023 to complete an investment in a QOF that is eligible for QOZ Program tax benefits because of the third of the three options allowed for calculating their 180-day window:

1. 180-days starting with the date the asset is sold;
2. 180-days beginning on the last day of the partnership’s taxable year (December 31^st for a calendar year partnership;
3. 180-days starting on the date the partnership’s tax return is due, without any extension (March 15^th for a calendar year partnership).

While residents of all U.S. states are eligible to receive federal tax incentives related to QOZ legislation, individual states have full discretion regarding whether or not to offer any benefits related to state taxes. Therefore, state tax treatment related to QOF investment differs from state to state.

Key dates and timelines for investors are as follows:

• 180 Days: Generally, a taxpayer has 180 days from recognizing a capital gain to invest in a QOF to qualify for tax incentives. Additional flexibility is available for individuals with K-1 partnership gains
• 10 years: The investor must hold the interest in the QOF for at least 10 years to qualify for elimination of taxation on gains related to appreciation of the investment
• Dec 31, 2026: End of the legislated deferral period (taxes on deferred gains must be paid no later than tax year 2026)
• Dec 31, 2047: End of the capital gain exclusion period

Yes, an investor may exchange an interest in one QOF for an interest in another QOF without triggering an early recognition of capital gains tax liability, as long as the exchange is completed within 180 days.

No. Because gains from life insurance and annuities are taxed at normal income tax rates (not at the capital gains tax rate), they are not eligible for QOZ tax treatment.

Yes. Any proceeds may be invested into a QOF, but only eligible gains can receive the QOZ tax benefits.

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