The Internal Revenue Service recently published a second set of Opportunity Zone Proposed Regulations (REG-120186-18). The new proposed regulations give taxpayers important rules for how they might benefit from the Tax Cuts and Jobs Act’s (TCJA) Opportunity Zone capital gain tax incentives. This article, a follow-up to PYA’s first Opportunity Zone article, alerts readers to some of the new rules with which taxpayers must comply in order to plan for, and make, qualifying Opportunity Zone investments.
“Substantially All” Clarified—Twice
If 70% or more of a business property’s use is inside a qualified Opportunity Zone, the new proposed regulations allow that property to meet the substantially all requirement. Also, a qualified Opportunity Fund’s holding period for any partnership- or corporation-equity interests it owns meets the substantially all requirement if, during 90% or more of that holding period, those partnerships or corporations qualified as Opportunity Zone businesses.
The new proposed regulations allow Opportunity Zone buildings that were vacant for at least five consecutive years before being purchased by a qualified Opportunity Fund (i.e., indirect investment) or a qualified Opportunity Zone business (i.e., direct investment) to satisfy the “original use” requirement. An item of tangible property qualifies as original use if it was never previously depreciated or amortized and was acquired and placed in service on or after December 31, 2017.
Leased Tangible Property
Leased tangible property will be treated the same as purchased or debt-financed property under the new proposed regulations. Moreover, leased tangible property receives preferential treatment in that, unlike other forms of property acquisition, related party acquisitions of leased tangible property are permitted if certain valuation requirements are met.
Gross Income Test
The new proposed regulations clarify that the qualified Opportunity Zone business “50% of gross income” requirement can be met if one of three safe harbor tests, or a facts-and-circumstances test, is met. For example, the first safe harbor test requires that, of the total hours spent in service to the qualified Opportunity Zone business, at least 50% must be performed within an Opportunity Zone by an employee, independent contractor, or employee of an independent contractor.
Original Election and Annual Self-Reporting
Those interested in taking advantage of qualified Opportunity Zone investment incentives should make an original election on IRS Form 8996, assuming they have complied with all rules applicable to investing in a qualified Opportunity Zone. Form 8996 also is used for annual compliance reporting. While the 2018 Form 8996 was not altered to reflect the TCJA Opportunity Zone election, the IRS expects to revise the 2019 Form to assist taxpayers in making the election and annual compliance reporting.
If you are interested in investing in Opportunity Zones, note that prompt action may be required because certain related tax benefits cease being available as soon as December 31, 2020. To help taxpayers identify Opportunity Zone property tracts, the IRS has issued a revenue procedure and placed helpful information and links on its website.
While not intended to be exhaustive, this article sets forth certain aspects of the new Opportunity Zone proposed regulations to impart a snapshot of some1 of the issues involved. Further Opportunity Zone guidance is likely forthcoming as the new regulations include several requests for comments.
If you would like to speak with a tax professional for more in-depth information about the new proposed regulations or other Opportunity Zone rules or related tax planning, contact a PYA executive below at (800) 270-9629.
1 For one example, the new regulations list over 20 “Inclusion Events”—none of which are listed in this article— that would cause the inclusion of previously (or planned) deferred gain in a taxpayer’s gross income.
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