Opportunity Zone Program Defers Tax on Capital Gains

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A new provision in the Tax Cuts and Jobs Act allows the capital gain on any asset you sell, such as shares of stock, to be deferred from tax until 2026. The only proviso is that you can't sell the asset to a related party. The deferral is allowed if the gain is reinvested in a new type of fund called a Qualified Opportunity Fund. These funds finance property in low-income areas known as Qualified Opportunity Zones.

 

Gains reinvested into a fund within 180 days of the sale may be excluded from current income. You do not need to live, work, or have a business in an Opportunity Zone to take advantage of the tax benefits - you just need to invest the gain in an Opportunity Fund.

 

Only the gain portion of the sale proceeds must be reinvested in an Opportunity Fund to trigger the deferral. For example, if you receive proceeds of $50,000 for a stock that cost $40,000, you can defer the gain by investing $10,000 in an Opportunity Fund within 180 days.

 

The deferral is one of three tax benefits that may be achieved by investing in an Opportunity Fund: 

  1. Capital gains tax on reinvested gain is deferred until the fund is sold. If the fund is still held on December 31, 2026, the gain becomes taxable on that date.
  2. Investors that hold the fund for a certain length of time will receive a 10 percent (five years) or 15 percent (seven years) reduction on the tax bill for their deferred gain. Gains automatically recognized in 2026 will get the reduction based on how long the fund was held before December 31, 2026.
  3. Appreciation of Opportunity Funds held for at least 10 years is permanently exempted from tax. Although the original deferred gain must be recognized on December 31, 2026, any fund value beyond the initial investment is tax-free after 10 years. Losses, however, may be recognized.

Becoming Certified as a Qualified Opportunity Fund

This week, the IRS issued the first guidance addressing the process for certification of Qualified Opportunity Funds. Taxpayers will self-certify; no approval or action by the IRS is required. The self-certification will be done by attaching a new form to the fund creator's federal income tax return.

 

Funds are required to have at least 90 percent of their assets invested in Opportunity Zones. These zones are census tracts that meet certain low-income community requirements and are designated by a state, US possession, or the District of Columbia. Last month, the US Treasury approved designations nominated by 20 states and four US possessions, and more are expected. New Jersey has approved zones in 169 census tracts located in 75 municipalities. New York State has submitted nominations for 514 census tracts in 14 regions, including areas in all five boroughs of New York City and on Long Island.

 

While more Opportunity Zones will be designated and additional IRS guidance is expected, the self-certified tax return procedure insures that interested taxpayers will be able to create a fund without obtaining prior authorization. Taxpayers may immediately initiate the process of setting up a fund, seeding it with realized capital gains, and investing the capital in Opportunity Zone property.

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