What is an Opportunity Zone?
The Federal Tax Cuts & Jobs Act of 2017 (TCJA) which passed December 2017 included new provisions to increase the economic growth in communities across the United States that were labeled as “opportunity zones.” According to the IRS, an opportunity zone is classified as an economically-distressed community where new investments, under certain conditions, may be eligible for preferential tax treatment. An economically-distressed community, or low-income census tract, is defined as having an individual poverty rate of at least 20 percent or a median family income of less than 80 percent of the area median income. A taxpayer wishing to defer tax on capital gains can invest directly in property in an opportunity zone or may invest in a qualified opportunity fund (QOF). A QOF is an investment vehicle set up as either a partnership or corporation for investing at least 90 percent of their capital in eligible property that is in a qualified opportunity zone. For a business to become a QOF, the corporation or partnership must self-certify by filing Form 8996 with their federal tax return. This form is still in draft version and must be filed by the due date of the return, including extensions.
Opportunity Zones in Virginia
The Virginia Department of Housing and Community Development (DHCD) worked with the Virginia Economic Development Partnership (VEDP) and Governor Ralph Northam to nominate 212 localities of the potential 901 eligible tracts based on available criteria and input received to ensure fairness across the state, between rural, urban, and suburban localities. These localities were submitted and established in April 2018, along with localities that reach across all 50 states, the District of Columbia, and five US territories. There are qualified opportunity zones listed in Fairfax, Arlington, Fauquier, Loudoun, and Prince William counties. Also, parts of the following local cities are included: Alexandria, Fredericksburg, Harrisonburg, Manassas, and Winchester. These designations are permanent until December 31, 2028. To find an interactive map of the Virginia opportunity zones, click here. A listing of counties and cities throughout Virginia can be found here.
Tax Benefits of Investing
Investment in opportunity zones or funds allow investors to receive tax benefits by deferring tax on prior capital gains when investing those gains in qualified opportunity zones or funds. The investment must be made within 180 days of the receipt of the capital gain. Tax can be deferred until the earlier of the date of which the investment in the opportunity zone or fund is sold or exchanged, or December 31, 2026. If the investment is held for longer than five years, there is a 10% exclusion of the deferred gain by increasing the basis of the investment, and if it is held for longer than seven years, there is a 15% exclusion. Lastly, if the investor holds the investment for ten or more years, they are eligible to increase their basis in the investment to the fair market value on the date the investment is sold or exchanged, and, therefore, the entire gain from the gain deferral is excluded from tax. An investor may choose to only invest a portion of their prior capital gains in an opportunity zone. The portion not invested in the opportunity zone must be recognized as a capital gain in the year the gain was received. To claim the tax deferral, an investor would make an election on their tax return that would have normally reported the original capital gains. If the gains from stocks sold in 2017 were invested in qualified opportunity zones or funds in 2018, an amended 2017 tax return can be filed to defer the capital gains tax.
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Written by Emma Sowers, CPA
Emma is a Tax Senior at Thompson Greenspon specializing in the construction industry with over six years of experience. She is a Certified Public Accountant in Virginia, and holds a Bachelor of Business Administration with majors in Accounting, Finance, and Management from Radford University.