Opportunity Zones. for Real Estate Investors. Michael Lortz, CPA, LEED AP (503)

Transcription

1 Opportunity Zones for Real Estate Investors Michael Lortz, CPA, LEED AP (503) March 6, 2019

2 Disclaimer The purpose of this presentation is to provide information, rather than advice or opinion. It is accurate to the best of the presenters knowledge as of the date the presentation was developed. The information, examples, and suggestions presented in this material have been developed from sources believed to be reliable. Accordingly, this presentation should not be viewed as a substitute for the guidance and recommendations of a retained professional and should not be construed as legal, tax, or other professional advice. We recommend consultation with competent professional advisors before applying this material in any particular factual situations. 2

3 Agenda Background Investors Fund Structure & Qualified Assets Open Issues 3

4 Law / Guidance Part of Tax Cuts and Jobs Act (12/22/2017) IRC Sec. 1400Z-1, -2 IRS Notice (list of designated QOZs) More than 8,700 QOZs, including all 50 states, D.C., and 5 U.S. territories Designations valid through 12/31/2028 Proposed Reg issued 10/29/2018 Rev. Rul (land) Form 8996 (QOF self-certification) Additional guidance expected late March / early April Oregon has proposed legislation to disconnect! 4

5 Qualified Opportunity Zones 2010 population census tracts (1,200 8,000 inhabitants) Low Income Community (LIC) is a census tract Poverty rate 20% or median family income (MFI) 80% of statewide MFI (modified if metro-area) Also, census tract contiguous to designated LIC if MFI 125% of the contiguous LIC may be designated Designated by CEO of each jurisdiction (e.g. Gov. Brown) Maximum of 25% LICs designated, only 5% of which could be non- LIC contiguous to LIC designations Summary: Qualified Opportunity Zone = designated LIC 5

6 Qualified Opportunity Zones in Oregon 834 census tracts 342 low income communities 86 qualified opportunity zones located in Oregon Multnomah County (17): Portland (Downtown, Gateway, Rosewood), Gresham, Fairview Washington County (8): Beaverton, Forest Grove, Hillsboro, Tigard, Tualatin Clackamas County (6): Clackamas, Oregon City, Wilsonville Note: don t forget about Vancouver, WA waterfront! 6

7 QOZ in Downtown Portland 7

8 Investors Eligible investors include C-Corporations, S- Corporations, partnerships, LLC s, individuals, trusts, and estates Investor must have capital gains (long-term or shortterm) from the sale of property to an unrelated (20% or less common ownership) person through 12/31/2026 Investor must invest capital gain (not basis) within 180 days of recognizing capital gain into Qualified Opportunity Fund (QOF) and make election on Form 8949 when filing income tax returns 8

9 Investor Example Sell stock in 2018 for $500,000 realizing $300,000 gain Within 180 days of sale, invest $300,000 into QOF Make election in 2019 when filing 2018 tax return and reporting stock sale Don t Have to invest $200,000 basis Have to use accommodator / QI Have to identify replacement property 9

10 Investors in PTEs Investors receiving capital gains from pass-through entities (PTEs) are considered to have recognized capital gain on last day of pass-through entity fiscal year, often 12/31 Example: partnership with 12/31 FYE sells capital asset on 1/2/2018, giving partners 180 days from 12/31/2018 to invest in QOF, i.e. until 6/29/2019 If PTE provides information to investors regarding sale date, capital gain amount, and statement that PTE is not electing to invest gains in a QOF, then investors can individually elect to apply 180 days from PTE s sale date 10

11 Investors & Tax Consequences Deferral: Investor s initial capital gain is deferred until earlier of 12/31/2026 or disposition of investment in QOF (if disposition proceeds are less than investment, then less gain to recognize) If disposition of investment in QOF, may reinvest within 180 days into another QOF if before 12/31/2026 and continue deferral Deferred gain s tax attributes remain with it until recognition, e.g. shortterm rate, 25% rate on real estate depreciation, Sec contracts, etc. Reduction: Investor s initial capital gain is reduced via basis adjustments: By 10% if hold QOF for 5 years (through 12/31/2026) By additional 5% if hold QOF for 7 years (through 12/31/2026) Exclusion: 10-year hold allows investor to elect basis adjustment to FMV as of date that investment in QOF is sold (through 12/31/2047) 11

12 Investor Example cont. Invest $300,000 capital gain into QOF on 2/1/2019 initial tax basis = -0- On 2/1/2024, tax basis in QOF increases from -0- to $30,000 On 2/1/2026, tax basis in QOF increases from $30,000 to $45,000 On 12/31/2026, investor recognizes taxable income of $255,000 ($300,000 - $45,000), which is 85% of original gain Sometime after 2/1/2029 but no later than 12/31/2047, investor sells investment in QOF for $1,000,000 resulting in a $700,000 gain > NO FEDERAL TAX due to 10+ year hold 12

13 Qualified Opportunity Fund The QOF must be a U.S. entity taxable as either a corporation or a partnership and self-certify with the IRS via annual filing of Form 8996 with its income tax returns Must invest 90% of assets in Qualified Opportunity Zone Property (QOZP) acquired after 12/31/17 Test dates are the last day of first 6-month period of QOF and on last day of QOF s FYE results are averaged, e.g. if calendar-year QOF begins 2/1, then first test dates will be 7/31 and 12/31 Assets are valued per applicable financial statement (e.g. audit) or cost basis if no AFS Penalty at underpayment rate (e.g. 6%) applies on shortfall if QOF fails test unless reasonable cause rate adjusts quarterly 13

14 Qualified Opportunity Fund Example 1/1/2019 LLC is formed to be a QOF, has a 12/31 FYE 2/1/2019 Investor contributes gains into LLC, which makes election to be treated as a QOF as of 2/1/ st test date = 7/31/2019 (end of first 6 months) 2 nd test date = 12/31/2019 (fiscal year-end) 3 rd test date = 6/30/2020 (every 6 months) 4 th test date = 12/31/2020 (every 6 months) etc. 14

15 Qualified Opportunity Fund Per Form 8996 instructions, the QOF s organizing documents must contain a statement that the entity s purpose is to invest in QOZP as well as a description of the QOZB(s) that QOF expects to engage in directly or through a first-tier operating entity Currently, no additional reporting requirements besides Form 8996, e.g. no audited financial statement or community impact statement required 15

16 Qualified Opportunity Zone Property QOZP includes: Qualified Opportunity Zone Business Property (QOZBP) = tangible property used in a trade or business within a Qualified Opportunity Zone Ownership interest in Qualified Opportunity Zone Business (QOZB) organized as corporation or partnership for income tax purposes that invests in QOZBP Note: preferred stock in corporations and special allocations within partnership agreements are OK 16

17 Qualified Opportunity Zone Business Property Acquired by purchase (not from related party, 20% test) after 12/31/17 Original use of property commences with QOF / QOZB or property is substantially improved* by QOF / QOZB During holding period, substantially all use of property is within Qualified Opportunity Zone * During 30-month period after acquisition, additions to basis must exceed adjusted basis of property at start of 30- month period, e.g. must double the basis of an existing building (not including the land) 17

18 Structure Option 1 QOF w/no QOZB Investor A Investor B QOF QOZ Business Prop. Non-Qualified Assets Problem: It is often difficult for QOF to spend 90%+ of its cash on qualified property before its first testing date, which could result in a penalty, e.g. substantially improving a building or ground-up construction typically takes more than 6 months. 18

19 Qualified Opportunity Zone Business Criteria: 70% of all tangible property, owned/leased is QOZBP 50% gross income derived from active conduct of its business < 5% of average unadjusted basis of property attributable to nonqualified financial property No portion of proceeds used for golf course, country club, massage/hot tub/suntan facilities, racetrack/gambling facilities, or liquor store but it appears that you can rent to them 19

20 Qualified Opportunity Zone Business Working Capital QOZB can hold working capital as cash, cash equivalents, or debt instruments with term 18 months If QOZB acquires, constructs, or rehabilitates tangible business property in OZ, then can qualify for working capital safe harbor: Written plan identifying cash being held for qualifying project Reasonable written schedule consistent with ordinary start-up of a business for deployment of cash within 31 months Working capital is spent in manner that is substantially consistent with plan and schedule 20

21 Structure Option 2 QOF w/qozb Investor A Investor B Partner C QOF QOZB Non-Qualified Assets QOZ Business Property Eligible for working capital safe harbor No restricted businesses Non-Qualified Assets e.g. assets purchased from related parties e.g. financial assets 5% 21

22 Exit Strategy Problem: 10+ year gain exclusion is only applicable on sale of QOF ownership interest, i.e. not sale of property Potential solutions: Each QOF/QOZB structure only owns 1 piece of real estate QOF is structured as REIT so that investors can easily sell shares and there is no tax at REIT level when assets are sold 22

23 Many Unanswered Questions Is working capital qualifying for 31 month safe harbor treated as tangible property in the interim? Is land purchased or contributed by related parties disregarded in tests? How can QOF reinvest interim gains from sales of property and what is impact on investors? What is definition of substantially consistent in working capital safe harbor? Are there real estate leases that would not meet trade/business definition, e.g. triple-net leased property? What is inside basis of property owned by fund for depreciation purposes and for Sec. 199A (new 20% deduction) purposes? How are distributions from refinance proceeds treated? Are multi-tiered entity structures allowed? 23

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