Billions of dollars have poured into the Opportunity Zone Program since it was created by the Tax Cuts and Jobs Act in 2017 and the IRS issued final guidance at the end of 2019.
Now the revenuer has just changed some of the rules about what can be done with the money -- presumably most of it in the form of tax-deferred capital gains -- that's sitting there waiting to be invested.
Those changes are in the form of an Aug. 5 entry in the Federal Register titled "Investing in Qualified Opportunity Funds; Correction."
'Quiet corrections' that have investor reverberations
Qualified opportunity funds (QOFs) are the investment vehicle set up to invest 90% of its assets in a Qualified Opportunity Zone Business (QOZB) in an Opportunity Zone (OZ), one of 8,700 or so census-designated areas where investors can receive significant, long-term tax breaks for committing to the development and redevelopment of economically challenged areas.
The two "corrections" change the timeline for decertifying a QOF -- essentially liberating the funds for other use without penalty -- and clarifying how fund managers can use the Working Capital Safe Harbor (WCSH) period, during which time cash is parked in the funds and in QOZBs.
Here's a blog from OpportunityZone.com that explains these changes in detail: "The 'Quiet' Corrections That Will Reverberate Loudly in the Opportunity Zone World."
Millionacres also sought some highline info about the changes from two of our go-to sources for OZ info: Utah-based tax consultant Blake Christian of HCVT and California-based investment attorney Mike Krueger with Newmeyer Dillion.
Decertifying a QOF
The IRS has removed language that restricted when a QOF manager could file for decertification, with the expectation that when new rules in that regard are issued, Christian says, they won't likely include the ability to do so retroactively.
That eliminates the possibility, for now, of running into the 3% penalty for periods of noncompliance, Christian says, adding that there are a number of reasons that taxpayers may want to decertify their QOF.
"They may not find attractive OZ assets to acquire, they may not secure adequate equity or debt for their projects, or they may run out of time to meet the various OZ timelines," he says. "Rather than liquidating the entity, they may prefer to retain the entity and assets and simply proceed without jumping the various OZ requirements, including the 90% qualified OZ business property test."
The Working Capital Safe Harbor (WCSH) period
The second correction involves how QOF managers can use their capital during the WCSH period, starting from the day the money is placed in a qualified OZ business. Christian says that generally runs for 31 to 55 months for existing businesses to 62 months for a start-up business.
Krueger says this correction affects the definitions of Non-Qualified Financial Property (NQFP) during the safe harbor period and is mostly for start-up companies that are qualifying their business as a QOZB by satisfying the 70% tangible property test.
Generally, the new regulations clarify that as long as the fund manager has a written plan and budget for planned improvements, those will qualify for the 70/30 substantial improvement test needed to earn the deferred capital gains tax break.
Krueger says the purpose behind this is to give start-up companies further clarification about how they can use their capital to stay in compliance during the 62-month WCSH.
Christian adds, "Ironically the prior and correcting regulations do not define 'start-up business' but common sense would indicate a new or relatively new business should qualify." He also notes that it's not yet clear what can be done with the cash waiting to be invested in worthy projects: "There remains a split in interpretations as to whether QOZBs can invest unlimited amounts into stocks, bonds, and other assets while deciding on specific OZ projects, or whether the QOZB is limited to the 5% limit on (NQFP)."
The Millionacres bottom line
Krueger says these changes should give investors interested in funding start-up companies more confidence that the QOZB will satisfy safe harbor requirements. However, investors may still want to check with their tax advisors before filing that next Form 8996, or -- if you're the one making these kinds of decisions -- diverting some of that idle cash into Bitcoin while waiting for the right time to spend on an OZ project.