There has been much press on the reduction of the corporate tax rate to 21% and the 20% Qualified Business Income deduction (199A). But what has not received as much press is a small portion of the Tax Cuts and Jobs Act (TCJA) – Subchapter Z which has a surprising tax incentive for investors. This portion of the TCJA is meant to promote investments in certain economically distressed communities. The incentive is to allow those who invest in these areas to defer gains they have incurred and the potential to exclude gains on that investment when sold.
The intent of this article is not to go into all the minute details of the incentive (which are numerous), but to give the reader an idea of what is available. Similar to like-kind exchange rules, we expect that in order to meet the requirements, this will be an extremely regimented process.
Key Opportunity Zone Tax Incentive Terms
Opportunity Zones – These zones (SEE LINK) are designated by your state’s governor as areas of economic need that will continue to grow after initial investment. Below is a link to the government’s website listing the zones. And yes, Sarasota and Manatee Counties have designated areas. Some of the large brokerage houses have Opportunity Funds set up, but due to the lack of final regulations, they have not been financed. However, this can also be done by individual investors.
Opportunity Funds – These funds are organized as corporations or partnerships and must have 90% of their assets held and used in qualified Opportunity Zone property. The qualified Opportunity Fund property must hold real and tangible property in qualified Opportunity Zones. This property must be acquired after 12/31/17 and the use of this property originates with the fund, or the fund substantially improves the property.
Capital Gain Deferral – TCJA provides that a taxpayer may defer the recognition of a gain (short-term, long-term, ordinary or Section 1231) if the gain is invested into an Opportunity Fund. It is in fact, just the gain that must be invested, not all proceeds from the sale.
Capital Gain Exclusion – The Act provides that if certain requirements are met, the gain on the sale of the investment in the Opportunity Fund will permanently be excluded from taxation.
How The Opportunity Zone Tax May Work
You sell a stock for a $1.5 Million with a $1M gain. You take that $1M gain and invest it in an Opportunity Fund that invests in an old property and building. The fund upgrades that location for rental or operates a business in the location. You do not recognize the gain on your current year’s tax return. The investment in the fund will have no basis. If held for seven years, you get 15% of your basis restored. Using the date you sell the property or December 31, 2026, whichever is earlier, you will recognize the 85% gain that was deferred. If you hold your investment ten years and sell it after that, the gain on the sale would be excluded from income.
This gives you just a brief overview of this new incentive. For more information, please call your Kerkering, Barberio & Co. advisor at 941-365-4617 or contact us to discuss your situation.