Anticipation about forthcoming regulations for the Qualified Opportunity Zone (QOZ) program has grown to a fever pitch in recent weeks. Investors, fund managers, and the business community eagerly await guidance that will hopefully fill in a litany of unknowns concerning QOZ tax benefits. These unknowns have kept investable dollars on the sidelines. In the meantime, many state and local governments have seized on the opportunity to court investment and facilitate an anticipated capital flow in excess of $10 billion.
The tax reform law commonly known as the Tax Cuts and Jobs Act (TCJA) of 2017 introduced the QOZ program. Generally, the QOZ program permits any taxpayer with a recognized capital gain to defer or potentially eliminate the taxation of the capital gain. To do so, the QOZ program requires an election within 180 days— or potentially 544 days if the gain was recognized by a partnership—to reinvest those gains into a Qualified Opportunity Fund (QOF). Gains invested into a QOF are deferred from taxation until the earlier of the time the QOF investment is sold or Dec. 31, 2026. Because only the gains are eligible for the QOZ benefits, the investor’s initial basis is zero. If the QOF investment is maintained for at least five years, the basis in the reinvested gains is increased by 10%. If the investment is held for at least seven years, the basis in the reinvested gains is increased by another 5%—resulting in a 15% permanent exclusion of the originally deferred gain. Finally, if the QOF investment is held at least 10 years, the taxpayer permanently avoids recognition of any post-acquisition gain on the QOF investment.
The potential benefits of the QOZ program have not only captured the attention of those with eligible capital gains, but have also garnered significant attention from those seeking to court investment. Moreover, state and the local governments are utilizing all tools at their disposal to ensure that the Census tracts they previously designated as QOZs attract a flood of investment. In 2019 alone, 17 state legislatures have introduced and considered various bills offering a variety of additional tax breaks and incentives which could be paired with a QOZ project.
The State & Local Response
The State of Maryland, in particular, has been active in laying the groundwork for public-private cooperation. A Maryland Opportunity Zone Leadership Task Force led by the lieutenant governor has been created, together with summits aimed at “align[ing] Opportunity Zone goals with state and local economic and cultural priorities.”
Others, like the City of Cleveland and surrounding Cuyahoga County, have pursued other strategies. For instance, OpportunityCle was formed as an “agile network of public, private, and philanthropic partners” to help facilitate investor entry into the market, and to provide access “to the full spectrum of resources, including neighborhood level organizations, state and federal governments, utility and infrastructure agencies, workforce development organizations, private developers, and key industry experts.”
The intention of these programs and dedicated agencies is clear: attract investment, facilitate and streamline the various levels of approval, and channel outside investment into the most desirable QOZs. Understandably, in the grand scheme of city planning and revitalization, local governments are seeking to guide investment into the areas that will have the largest impact within communities. On the other hand, some communities have been hesitant or outright resistant to open the floodgates to developers, out of fear of uncoordinated and unchecked development.
Even without the creation of these additional incentives and help from governing bodies, QOZ fund managers and developers have multiple existing avenues worth exploring. State and local incentives such as Tax Incremental Financing (TIF), Payment in Lieu of Taxes (PILOT) programs, and state tax incentives for job creation are all established opportunities that, in most cases, can be paired with the development of a QOZ project. Additionally, many states offer training grants depending on the type of business or industry. Finally, although beyond the scope of this article, federal tax credits such as the New Market Tax Credit (NMTC) program and the Historical Rehabilitation Tax Credit program are also tempting avenues to explore, especially for developers seeking to finance large and complex QOZ projects.
Ultimately, state and local governments are signaling a clear desire to court investment associated with the QOZ program. This could have a transformative impact for many communities that have previously struggled to capture the attention of outside investors. For business owners and developers seeking to capitalize on the QOZ program and other incentives, it is imperative to work with a tax expert who can help navigate the various nuances of each programs. The early actions by some communities, as noted previously, have set the stage for a competitive environment; cities and counties previously passed over for investment opportunities are keen to ensure that fate is not repeated.
Seek Help When Needed
As can be seen, these tax incentive programs are highly nuanced and require careful analysis. A tax professional may be able to help analyze how to best leverage the benefits of the QOZ program to your advantage.
Published on April 16, 2019