The new tax code provides a new way to defer gain on the sale of assets. You can defer paying tax on a capital gain if you reinvest funds into a Qualified Opportunity Fund within 180 days of selling the asset. The amount you invest in the Qualified Opportunity Fund (up to the total of your gain) determines the amount of gain that you can defer. You do NOT need to invest the entire proceeds from the sale of your asset, only the amount (up to your total gain) that you want to defer.
If you sell an asset (stock or real estate) in 2018, you have 180 days to invest the gain in the Qualified Opportunity Fund. When you file the 2018 tax return, you make an election to defer the gain using Form 8949. The gain is deferred until you sell your investment in the Qualified Opportunity Fund or December 2026, whichever comes first. This allows you flexibility in choosing the year when your gain will be taxed. For example, if you have a year with lower income you can trigger the taxable gain by withdrawing funds or selling your investment in the QOF.
An Opportunity Zone is an economically-distressed community where new investments may be eligible for this preferential tax treatment. Localities qualify as Opportunity Zones if they have been nominated for that designation by the state and that nomination has been certified by the Secretary of the U.S. Treasury. The Opportunity Zone classification was added the Internal Revenue code by the Tax Cuts and Jobs Act. Opportunity Zones are designed to spur economic development by providing tax benefits to investors.
Eventually you will pay tax on the gain from the sale of your asset. You can defer tax on the amount of your gain which is invested in a Qualified Opportunity Fund (QOF) until the earlier of the date on which the investment in a QOF is sold or exchanged, or December 31, 2026. If the QOF investment is held for longer than 5 years, there is a 10% exclusion of the deferred gain. If held for more than 7 years, the 10% becomes 15%.
Another benefit is that you can exclude the gain that you earn in the QFO if you hold the investment in the Opportunity Fund for at least ten years. After ten years, your basis in your investment increases to its fair market value on the date that the QOF investment is sold or exchanged. This allows you to sell the investment after ten years and not pay tax on the gain in that investment.
A Qualified Opportunity Fund is an investment vehicle that is set up as either a partnership or corporation for investing in eligible property that is located in a Qualified Opportunity Zone. To become a Qualified Opportunity Fund, an eligible corporation or partnership self certifies. To self-certify, a corporation or partnership completes a form and attaches that form to its federal income tax return. The return with the attached form must be filed timely, taking extensions into account. A LLC that chooses to be treated either as a partnership or corporation for federal tax purposes can organize as a Qualified Opportunity Fund.
The IRS is continuing to provide further details on the Opportunity Zones and more guidance on this new tax benefit will be coming. We want you to be aware that this new tool is available for you to use in your tax strategy.