This series of blog posts is intended to highlight some key tax planning strategies resulting from the sweeping tax changes contained in the One Big Beautiful Bill Act (OBBBA). This post focuses on Opportunity Zones, which were established in 2017 under the Tax Cuts and Jobs Act (TCJA) as a way to boost the U.S. economy in low-income communities and territories. This program gives investors an incentive to place their assets into Qualified Opportunity Funds (QOF), where the tax on capital gains will be deferred. The OBBBA has made Opportunity Zones permanent, with a reassessment of zones every 10 years.
Background
Amongst all the changes introduced in the TCJA, Opportunity Zones were created to benefit distressed communities as well as private investors who place their assets accumulated capital gains in Qualified Opportunity Funds. Under the TCJA, QOF investors receives several tax benefits:
Deferral of Gain – previously earned capital gains could be temporarily deferred to the end of 2026 or the disposal date.
Basis Increase/Reduced Gain on Original Capital Gain – If invested for five years, the basis increased by 10%, and if invested for seven years, the basis increased by 15%. This provision could reduce the amount of gain the investor originally deferred in the year it was required to be recognized in income.
Potential Exclusion of Gain on Qualified Opportunity Fund Investment – The TCJA permanently excluded taxable income on new gains from the investment in the QOF. Note: this benefit only applied to the new investment in the QOF. The original deferred gain that was reinvested into the QOF was still subject to taxation after the deferral periods and applicable to the deferral period calculations. For investments held10 years or more, investors did not have to pay any taxes on capital gains produced through the QOF.
In the United States and its territories, there are over 8,000 Opportunity Zones, which comes out to roughly 12% of the U.S. Census. Capital gains in Opportunity Funds are used to invest in real estate and business development in those Opportunity Zones. Boosting economic activity and creating jobs were the primary focuses of funding, but the system was not perfect. Only half of the Opportunity Zones received any investment in the last few years, and 5% of the zones received 78% of the funding. Also, Opportunity Fund investments under the TCJA rules tended to go to zones that were already showing improvement, which were referred to as “contiguous tracts.” The areas that received funding had higher median home values, higher median income, and lower unemployment and poverty rates than the majority of Opportunity Zones.
See related post for more details on Opportunity Zones.
OBBBA Changes to Opportunity Zones
The OBBBA intended to fix some of the issues with the program and to extend the sunsetting provision. Initially set to expire at the end of 2026, the Opportunity Zone program is now considered a permanent fixture in the Tax Code. Governors are also required to redesignate opportunity zones every 10 years to ensure funding is going to the right places. The new structure of the program favors rural investment by increasing the 10% basis benefit to 30% for investors. In addition, the OBBBA eliminated the option for certain “contiguous tracts” to qualify as an Opportunity Zone investment.
To ensure the program’s neutrality and track its progress, new requirements were put in place. Opportunity Zone investments now have a stricter reporting and transparency policy on how their funds are spent, and the Treasury Department will publish annual reports to track the economic growth of Opportunity Zone communities. Qualifications will be stricter to help ensure that deserving communities get the majority of the support. These changes were put in place in an effort to build up the most adverse communities until they begin to prosper, then focus funding elsewhere after zones have been reassessed.
Final Thoughts
The new modifications and permanent status of the Opportunity Zone program make it an even more enticing opportunity for investors. Contact your GYF tax professional at 412-338-9300 to discuss the benefits of investing in a Qualified Opportunity Fund.
Related Posts:
Tax Planning Strategies: SALT Deductions
Tax Planning Strategies: 100% Depreciation with New QPP Rule
Tax Planning Strategies: R&E Expensing
Tax Planning Strategies: Expanded Section 179 Expensing
