Opportunity Zones offer new tax incentives. What you need to know about Opportunity Zones

Transcription

1 offer new tax incentives What you need to know about Opportunity Zones Danny McKeithen, Partner Rebecca Stork, Associate 2018 (US) LLP All Rights Reserved. This communication is for general informational purposes only and is not intended to constitute legal advice or a recommended course of action in any given situation. This communication is not intended to be, and should not be, relied upon by the recipient in making decisions of a legal nature with respect to the issues discussed herein. The recipient is encouraged to consult independent counsel before making any decisions or taking any action concerning the matters in this communication. This communication does not create an attorney-client relationship between (US) LLP and the recipient. (US) LLP is part of a global legal practice, operating through various separate and distinct legal entities, under. For a full description of the structure and a list of offices, please visit

2 New opportunities Congress enacted sections 1400Z-1 and 1400Z-2, which were intended to promote investments in certain low-income communities (Opportunity Zones). On October 19, 2018, the Treasury released the first set of proposed regulations that provide some clarity; Treasury indicated another set of proposed regulations would be forthcoming. Who: Open to a wide array of taxpayers, including individuals, C corporations (including regulated investment companies (RICs) and real estate investment trusts (REITs)), partnerships and certain other pass-through entities. What: Defer tax on capital gains from a sale or exchange of property to an unrelated party with the potential to reduce the gain. How: Within 180 days, the taxpayer reinvests the amount of such gain (Reinvested Gain) in a Qualified Opportunity Fund (QOF). Where: Opportunity Zones have been designated across the United States in a wide variety of markets. 2

3 Tax incentives Gain Deferral The taxpayer can defer inclusion of the Reinvested Gain in income until the sale of the interest in the QOF or December 2026, whichever comes first. Reduction of Gain Amount The taxpayer can increase its basis in the QOF if it holds its interest for at least five years. If the investment in the QOF is held for five years, the taxpayer s basis in the QOF is increased by an amount equal to 10% of the Reinvested Gain. If the investment is held for seven years, the basis is increased again by an additional amount equal to 5% of the Reinvested Gain (or 15% total). This step-up in basis can reduce the amount of gain included in income either in December 2026 or when the interest is sold, whichever comes first. Elimination of Tax on Post-Acquisition Appreciation If the interest in the QOF is held for at least 10 years, the taxpayer can elect to step up its basis in the QOF to fair market value, effectively eliminating gain on any appreciation in value of the QOF. The proposed regulations clarify that the taxpayer can make the election until December 31,

4 The building blocks of the Opportunity Zone Program QOF A US corporation or partnership that holds 90% of its assets in Qualified Opportunity Zone Property (OZ Property). QOFs can choose to invest directly in OZ Property or indirectly into a Qualified Opportunity Zone Business (OZ Business). OZ Property Tangible property used in the trade or business, acquired by purchase from an unrelated third party after December 31, 2017, located in an Opportunity Zone and either having its original use commence with the acquisition or being substantially improved by the QOF or OZ Business. Also includes interests in an OZ Business. OZ Business A corporation or partnership substantially all (70% according to the proposed regulations) of whose tangible property is OZ Property and which derives 50% of its gross income from the active conduct of the trade or business. Working Capital Safe Harbor Proposed regulations allow an OZ Business to hold financial property for up to 31 months so long as such property is being held as part of a plan to acquire, construct or rehabilitate tangible property in an Opportunity Zone. 4

5 Other key points and open questions Applies to gains that are treated as capital gains Partnerships can make the election; partners can make the election only if the partnership does not For real estate, substantially improve does not include the basis in land Reasonable period for QOF to reinvest following sale of assets? QOF fails to meet the 90% asset test? 5

6 Contact Us Danny McKeithen, Partner Rebecca Stork, Associate eversheds-sutherland.com 2018 (US) LLP All rights reserved. This communication cannot be used for the purpose of avoiding any penalties that may be imposed under federal, state or local tax law.