Part II: Structuring Opportunity Zone Funds | Part I: Investing in Opportunity Zones
This newsletter is the second piece of a two-part series analyzing the income tax deferral and exclusion opportunities created by the Tax Cuts and Jobs Act’s Opportunity Zone legislation. Part I focused on the tax benefits offered by the Opportunity Zone legislation. Part II focuses on the mechanical and practical considerations applicable to Opportunity Zone investments. After Part I of this newsletter was published, the Treasury Department released proposed regulations expanding on the Opportunity Zone legislation. The proposed regulations are generally taxpayer favorable and, while some limits have been placed on Opportunity Zone investments (e.g., the regulations clarify that only capital gains are eligible for deferral), the takeaway remains that the Opportunity Zone program represents a compelling opportunity for many taxpayers to attain substantial federal income tax savings.
An Opportunity Zone Fund is established by filing a self-certification election with the IRS on Form 8996, attached to the federal income tax return of the entity making the election, for the tax year in which the election is intended to take effect. The regulations clarify that any domestic entity classified for federal income tax purposes as a partnership or corporation is eligible to self-certify as an Opportunity Zone Fund including both newly-formed and pre-existing entities. After filing the initial self-certification election, an Opportunity Zone Fund must establish that at least 90% of its assets, calculated as the average of a mid-year and end of year testing date, constitute Qualified Opportunity Zone Property.
Many taxpayers pursuing tax benefits through Opportunity Zone Fund investments are seeking to invest in real estate. The proposed regulations alleviate much of the uncertainty as to structuring real estate investments. To structure an Opportunity Zone Fund for real estate investments, a taxpayer can, assuming the taxpayer has realized a capital gain and can reinvest this gain within 180-days, (1) form a domestic entity classified as a partnership (a corporation is not advisable for a real estate investment), (2) file the self-certification election with the IRS attached to the entity’s initial federal income tax return, and (3) satisfy the asset tests. To satisfy the asset tests, the Opportunity Zone Fund must invest at least 90% of its assets in Qualified Opportunity Zone Property. Qualified Opportunity Zone Property includes tangible property used in a trade or business, partnership interests or stock. Qualified Opportunity Zone Business Property includes tangible property used in a trade or business if (i) the property is acquired by purchase after 2017, (ii) the original use of the property in the Qualified Opportunity Zone commences with the Opportunity Zone Fund or the property is substantially improved by the Opportunity Zone Fund, and (iii) during substantially all of the Opportunity Zone Fund’s holding period, the property is used in a Qualified Opportunity Zone.
For real estate to qualify as a permissible Opportunity Zone Fund investment, the real estate must represent “original use” property to the Opportunity Zone Fund or be “substantially improved.” Under current guidance, it is not clear what “original use” means in the context of a real estate investment. The proposed regulations, on the other hand, clarify that real estate is considered “substantially improved” when capital expenditures are made within a 30-month period following the acquisition of the property equal to or in excess of the property’s adjusted basis – excluding basis allocable to land - as of its acquisition.
The proposed regulations also provide other important guidance to real estate investors. The regulations resolve uncertainty as to the treatment of working capital when making a real estate investment. The regulations clarify that an Opportunity Zone Fund does not need to spend down its cash (which is not qualifying property for purposes of the asset tests) by the applicable measuring dates, which would frustrate many common private equity funded real estate ventures, so long as the cash is held pursuant to a regulatory safe harbor.
The purpose of the Opportunity Zone program is to encourage the investment of capital into low income communities. Rebuilding low income communities requires investments in real estate – not simply acquiring stabilized properties (which do not qualify for the Opportunity Zone program) – but substantial improvements into the rehabilitation of distressed or underutilized properties to encourage other businesses to invest in a revitalized area. The tax benefits offered by the Opportunity Zone program provide substantial economic incentives for real estate investors to consider tax-favored socially conscious investment opportunities. To learn more about the exciting new Opportunity Zone program, join Cory J. Bilodeau, Esq. at McLaughlinQuinn LLC’s Opportunity Zone seminar at the downtown Providence Marriott on December 14, 2018. For additional information regarding this seminar and to register, click the link in the banner of this newsletter.
For more information on this newsletter and McLaughlinQuinn LLC’s tax planning practice, contact Cory J. Bilodeau, Esq., Partner, at (401) 655-2203 or via email at
Upcoming Seminar
Opportunity Zones: An Incredible Opportunity to Reduce Taxes and Invest Locally
Friday, December 14, 2018 from 8 am to 12:30 pm
Location: Providence Mariott - Downtown
Host: McLaughlinQuinn LLC
Speaker: Cory J. Bilodeau, Esq.
The landmark tax reform efforts of 2017 ushered in new Internal Revenue Code Sec. 1400Z-1 and 1400Z-2. These late additions to the tax reform efforts create a powerful tax saving tool designed to redirect investor capital into low income communities. At this seminar, we will discuss the Opportunity Zone program, the tax benefits it offers, and the various requirements necessary to invest. This seminar will provide practical guidance to implement Opportunity Zone planning in 2018 and beyond including:
- Detailed analysis of the recently released Opportunity Zone Proposed Regulations.
- Discussion of the tax benefits offered by the Opportunity Zone legislation including both income tax deferrals and exclusions.
- Guidance to identify what taxable gains can be deferred through Opportunity Zone investments and how to achieve deferral.
- Strategies for structuring Opportunity Zone Funds – permissive Treasury Regulations extend this exciting opportunity to a wide class of taxpayers.
- Strategies for identifying and structuring real estate investments in Opportunity Zones – including compliance with the new Proposed Regulations’ working capital rules.
- Who can establish an Opportunity Zone Fund.
- Combining Opportunity Zone investments with federal and state tax credits.
Click here to Register for Opportunity Zones: An Incredible Opportunity to Reduce Taxes and Invest Locally.