The Tax Cut and Jobs Act of 2017 (TCJA) created a new bread-and-er development apparatus advised to abetment low-income communities which are appointed as Able Befalling Zones (QOZs). The allurement operates to accomplish QOZs adorable targets for advance by the allurement of deferring the acceptance of taxable gains. As a result, QOZs accept become the affair du jour in the advance and bread-and-er development world.
The TCJA created two basic tax incentives to animate advance in QOZs. First, it allows for the cessation of acquainted assertive tax assets to the admeasurement a agnate bulk is reinvested in a Able Befalling Armamentarium (QOF). Second, the TCJA offers a gross assets exclusion for the post-acquisition assets on investments in QOFs that are captivated for at atomic 10 years.
The aboriginal Befalling Area allurement allows taxpayers to adjourn until 2026 advantageous tax on all or a allocation of assets which are reinvested in QOFs. QOFs are disinterestedness funds that accomplish investments in “Qualified Befalling Area Property” which is amid in QOZs. QOFs are appropriate to accommodated an asset test. The asset analysis requests QOFs to authority at atomic 90 percent of their assets in QOZs. While QOFs can advance basic in businesses amid in QOZs, the broker absorption has mostly focused on absolute acreage development/redevelopment projects. A allocation of the taxable assets which abide invested in a QOF for assertive time periods are acceptable for fractional abiding non-recognition treatment. If the funds abide invested for at atomic 5 years, alone 90 percent of the aboriginal accretion is accountable to tax. If the advance is captivated for 7 years, alone 85 percent of the aboriginal accretion is taxed. However, because the aboriginal QOZ allurement alone allows taxpayers with acceptable investments to adjourn taxes on their assets until the end of 2026, taxpayers charge accomplish acceptable investments by the end of 2021 in adjustment to authorize for the five-year allurement to abate the appropriate 2026 tax payment. The added QOZ allurement allows access in bulk of an advance in a QOF to abstain taxation. The acknowledgment in bulk of an advance in a QOF which is captivated for 10 years escapes tax absolutely by acceptance the aborigine to addition the adapted base to fair bazaar value.
See Dickinson Wright’s Client Alert: “Treasury and IRS advertise appellation of Befalling Zones for 18 States” anachronous April 11, 2018 which sets alternating a added abundant description of the Befalling Area tax incentive.
Each accompaniment was accustomed to baptize up to 25% of its low-income, aerial abjection demography tracts as a QOZ. The appellation action assured in July 2018. For a anniversary of the added than 8,700 QOZs created nationally and a mapping apparatus for analysis QOZ’s, see the Befalling Zones Resources Page maintained by the Community Development Banking Institutions Armamentarium here: https://www.cdfifund.gov/Pages/Opportunity-Zones.aspx
The TCJA approved accent establishing QOZs larboard several changing questions. What types of tax assets can be deferred? How are the rules activated to partnerships? Back can a addition acclamation be made? How to accredit a QOF? While there has been cogent absorption in the new Befalling Area tax incentive, abeyant investors and armamentarium sponsors accept agilely been cat-and-mouse for added advice on the aggregation of changing questions from U.S. Department of the Treasury (Treasury). On October 19, 2018, Treasury assuredly issued long-awaited Befalling Area advice in the anatomy of proposed regulations. The Proposed Regulations assay the appearance of assets that – in Treasury’s appearance – authorize for tax deferral, which taxpayers and investments are eligible, the ambit for QOFs, and added guidance. Treasury additionally appear affairs to affair added advice afore the end of 2018. The Proposed Regulations can be activate here: https://www.irs.gov/pub/irs-drop/reg-115420-18.pdf
Contemporaneous with the arising of the Proposed Regulations, the IRS appear Rev. Rul. 2018-29 acclamation the appliance to absolute acreage of the “original use” and “substantial improvement” requirements as they chronicle to QOZ investments.
Below is a arbitrary of the advice provided by Treasury for the Proposed Regulations and Rev. Rul. 2018-29.
Gains Acceptable for Cessation Alone basic assets are acceptable for cessation beneath Area 1400Z-2(a)(1) of the Internal Revenue Code of 1986, as adapted (Code). Assets characterized as “ordinary income” are not acceptable for deferral. The Proposed Regulations abode two added accretion cessation requirements. First, the accretion to be deferred charge be accretion that would contrarily be recognized, if cessation beneath Area 1400Z-2(a)(1) were not permitted, not afterwards than December 31, 2026. For example, assets deferred beneath the like-kind barter rules of Area 1031 of the Code – which is binding and not constituent – would alarm off the availability of cessation beneath Area 1400Z-2(a)(1).1 Second, the accretion charge not appear from a auction or barter with a accompanying person. For Area 1400Z-2 purposes, a accompanying affair is added broadly defined, which will crave greater analysis of continuing buying interests in QOFs.
Types of Taxpayers Acceptable to Accept Accretion DeferralTaxpayers charge affably accept accretion cessation beneath Area 1400Z-2. Taxpayers acceptable to accept cessation beneath Area 1400Z-2 are those that admit basic accretion for Federal assets tax purposes. Taxpayers acceptable to accomplish an acclamation accommodate individuals, C corporations, partnerships, and assertive added pass-through entities (e.g., REITs and RICs). The Proposed Regulations accommodate appropriate acclimation rules for partnerships and added pass-through entities, and for ally or added owners of pass-through entities. Beneath Proposed Regulations, not alone can partnerships accomplish an acclamation beneath Area 1400Z-2, but ally can additionally accomplish cessation elections in the accident the affiliation does not accomplish an election.
Investments in a QOFTo be an acceptable absorption in a QOF, the advance charge be an disinterestedness absorption in the QOF. The disinterestedness absorption could accommodate adopted banal or a adopted affiliation absorption which carries appropriate allocations. Investments in “debt” instruments are disqualified interests. Thus, QOF sponsors and investors will charge to anxiously anatomy the agreement of QOF disinterestedness interests to ensure that the absorption is not accurate debt for federal assets tax purposes. As a applied matter, it is accepted that the majority of the QOFs will seek to be classified as partnerships for federal assets tax purposes. Accordingly, sponsors and investors of QOFs advised to be classified as a affiliation will charge to anxiously assay the business agreement in adjustment to anticipate jeopardizing the allocation of the QOF as a bona fide affiliation for federal assets tax purposes. Provided that the acceptable aborigine is the tax buyer of the disinterestedness absorption for Federal assets tax purposes, cachet as an acceptable absorption is not broken by the taxpayer’s use of the absorption as accessory for a accommodation (i.e., the Proposed Regulations advance that a aborigine could agreement his disinterestedness absorption to defended a loan). Accounted contributions of money to a QOF – such as, for example, a accounted banknote addition for accountability of affiliation acknowledgment beneath Area 752 of the Code – do not aftereffect in the conception of an added advance in a QOF.
180-Day Aphorism for Deferring Accretion by Advance in a QOFUnder Area 1400Z-2(a)(1)(A), to be able to accept to adjourn gain, a aborigine charge about advance in a QOF during an 180-day period. Prior to arising of the Proposed Regulations, there were questions with anniversary to back the 180-day aeon would begin. Generally, the timing aphorism of Area 1400Z-2 provides that the 180-day aeon begins on the date of the auction or exchange. Some basic gains, however, may appear due to a accounted auction or barter of a basic asset. The Proposed Regulations abode the affair by accouterment a timing aphorism that, except as contrarily accurately provided in the Proposed Regulations, the aboriginal day of the 180-day aeon is the date on which the accretion would be accustomed for Federal assets tax purposes, afterwards attention to the cessation accessible beneath Area 1400Z-2. The Proposed Regulations accommodate examples which allegorize the accepted aphorism by applying it to basic assets in a array of situations (including, for example, assets from the auction of exchange-traded banal and basic accretion allotment distributions). As discussed below, the Proposed Regulations additionally action a timing aphorism back ally accomplish a Area 1400Z-2 acclamation as a aftereffect of a accretion accustomed by a partnership.
Attributes of Included Assets Back Accretion Cessation EndsSection 1400Z-2(a)(1)(B) and (b) crave taxpayers to accommodate in assets ahead deferred gains. The Proposed Regulations accommodate that all of the deferred gain’s tax attributes are preserved through the cessation aeon and are taken into anniversary back the accretion is included. Preservation of tax attributes would mean, for example, that abbreviate appellation basic assets absorb their assuming as such. The Proposed Regulations additionally abode situations in which abstracted investments accouterment duplicate acreage rights (such as consecutive purchases of accepted banal in a association that is a QOF) are fabricated at altered times or are fabricated at the aforementioned time with abstracted assets possessing altered attributes (such as altered captivation periods). If a aborigine disposes of beneath than all of its changeable interests in a QOF, the Proposed Regulations accommodate that the QOF interests disposed of charge be articular appliance a first-in, first-out (FIFO) method. If FIFO adjustment does not accommodate a complete answer, such as area assets with altered attributes are invested in duplicate interests at the aforementioned time, the Proposed Regulations admittance taxpayers to use a pro-rata adjustment to actuate the character, and any added attributes, of the accretion recognized.
Gains of Partnerships and Added Pass-Through Entities The Proposed Regulations accommodate rules that admittance a affiliation to accept cessation beneath Area 1400Z-2. Significantly, the Proposed Regulations accommodate rules for a accomplice to accomplish a Area 1400Z-2 acclamation back a affiliation does not accept deferral. The availability of a accomplice akin acclamation will action partners, and partnerships, absurd planning and advance options based on the alone partners’ tax positions. The Proposed Regulations both assay the affairs beneath which the affiliation or accomplice can accept and back the applicative 180-day aeon begins. Proposed Regulations § 1.1400Z-2(a)-1(c)(1) provides that a affiliation may accept to adjourn all or allotment of a basic accretion to the admeasurement that it makes an acceptable advance in a QOF. A partner’s 180-day aeon about begins on the aftermost day of the partnership’s taxable year, because that is the day on which the accomplice would be appropriate to admit the accretion if the accretion is not deferred. However, a accomplice can accept for the 180 day aeon to arise on the date of the auction or exchange. The change in timing may be benign if a aborigine intends to advance in a QOF at an beforehand time
How to Accept Cessation The Proposed Regulations crave cessation elections to be fabricated at the time and in the address provided by the IRS. Taxpayers will accomplish cessation elections on Anatomy 8949, which will be absorbed to their Federal assets tax allotment for the taxable year in which the accretion would accept been accustomed if it had not been deferred. Anatomy instructions to this aftereffect are accepted to be appear soon.
Section 1400Z-2(c) Acclamation for Investments Captivated At Atomic 10 Years Beneath Area 1400Z-2(c), a aborigine that holds a QOF advance for at atomic ten years may accept to access the base of the advance to the fair bazaar bulk of the advance on the date that the advance is awash or exchanged. The base addition acclamation beneath Area 1400Z-2(c) is accessible alone for assets accomplished aloft investments that were fabricated in affiliation with a able cessation acclamation beneath Area 1400Z-2(a). It is accessible for a aborigine to advance in a QOF in allotment with assets for which a cessation acclamation beneath Area 1400Z-2(a) is fabricated and in allotment with added funds (for which no Area 1400Z-2(a) cessation acclamation is fabricated or for which no such acclamation is available). Area 1400Z-2(e) requires that these two types of QOF investments be advised as abstracted investments, which accept altered analysis for Federal assets tax purposes. Pursuant to Area 1400Z-2(e)(1)(B), the Proposed Regulations reiterate that a aborigine may accomplish the acclamation to addition base in an advance in a QOF that was captivated for 10 years or added alone if a able cessation acclamation beneath Area 1400Z-2(a) was fabricated for the investment.
QOF Investments and the 10-Year Area Appellation PeriodSection 1400Z-2(c), as declared above, permits a aborigine to accept to access the base in its advance in a QOF if the advance is captivated for at atomic ten years from the date of the aboriginal advance in the QOF. However, beneath Area 1400Z-1(f), the designations of all able befalling zones now in actuality will expire on December 31, 2028. The accident of able befalling area appellation raises issues apropos accretion cessation elections that are still in aftereffect back the appellation expires. Amid the issues that the area cessation date raises is whether, afterwards the accordant able befalling area loses its designation, investors may still accomplish base addition elections for QOF investments from 2019 and later. For example, will a aborigine whose advance in a QOF has its 10-year ceremony afterwards the 2028 agenda year be able to booty advantage of the base addition acclamation provided in Area 1400Z-2(c)? The Proposed Regulations affirm that taxpayers are acceptable to accomplish the base addition acclamation beneath Area 1400Z-2(c) afterwards a able befalling area appellation expires. The adeptness to accomplish this acclamation is preserved beneath the Proposed Regulations until December 31, 2047, 20½ years afterwards the latest date that an acceptable aborigine may appropriately accomplish an advance that is allotment of an acclamation to adjourn accretion beneath Area 1400Z-2(a).
Rules for a Able Befalling Armamentarium
Valuation Adjustment for Applying the 90-Percent Asset TestFor purposes of the adding of the 90-Percent Asset Analysis in Area 1400Z-2(d)(1) by the QOF, the Proposed Regulations crave the QOF to use the asset ethics that are appear on the QOF’s applicative banking account for the taxable year.
Nonqualified Banking Acreage (working basic safe harbor) QOFs are accountable to the nonqualified banking acreage (NQFP) limitation of Area 1397C(e)(1) of the Code. Generally, Area 1397C banned the bulk of NQFP a aborigine may hold. Money is NQFP beneath the federal assets tax law. Activity sponsors and investors of New Bazaar Tax Credit costs affairs are accustomed with the NQFP limitations and the difficult questions which can be presented with banknote captivated for architecture of improvements to absolute property. The Proposed Regulations accommodate a alive basic safe anchorage for QOFs, which if met, will not account the alive basic to be advised as NQFP. The safe anchorage applies to investments in able befalling area businesses that acquire, construct, or adjust actual business property, which includes both absolute acreage and added actual acreage acclimated in a business operating in an befalling zone. The safe anchorage allows able befalling area businesses to administer the analogue of alive basic provided in Area 1397C(e)(1) to acreage captivated by the business for a aeon of up to 31 months. To accommodated the safe harbor, the Proposed Regulations added crave a QOF to accept a accounting plan that identifies the banking acreage as acreage captivated for the acquisition, construction, or abundant advance of actual acreage in the befalling zone, a accounting agenda constant with the accustomed business operations of the business demonstrating that the alive basic will be acclimated aural 31-months, and the business essentially complies with the schedule. From a applied standpoint, the alive basic barring offers a acceptable apparatus for QOFs; however, QOFs will acceptable charge to assignment in affiliation with architecture contractors to advance reasonable architecture schedules and activity budgets.
Qualified Befalling Area BusinessUnder Area 1400Z-2(d)(1), a QOF is any advance agent organized as a association or affiliation for the purpose of advance in able befalling area acreage (other than addition QOF). A QOF charge authority at atomic 90 percent of its assets in able befalling area property. Acquiescence with the 90 Percent Asset Analysis is bent by the boilerplate of the allotment of the able befalling area acreage captivated in the QOF as abstinent on the aftermost day of the aboriginal 6-month aeon of the taxable year of the QOF and on the aftermost day of the taxable year of the QOF.
Under Area 1400Z-2(d)(2)(A), the appellation able befalling area acreage includes able befalling area business property. Able befalling area acreage may additionally accommodate assertive disinterestedness interests in an operating accessory article (either a association or a partnership) that qualifies as a able befalling area business by acceptable assertive requirements pursuant to Area 1400Z-2(d)(2)(B) and (C). The analogue of able befalling area business acreage requires acreage to be acclimated in a QOZ and additionally requires new basic to be active in a QOZ.
Under Area 1400Z- 2(d)(2)(D)(i), able befalling area business acreage agency actual acreage acclimated in a barter or business of a QOF, but alone if (1) the acreage was acquired by acquirement afterwards December 31, 2017; (2) the aboriginal use of the acreage in the QOZ commences with the QOF, or the QOF essentially improves the property; and (3) during essentially all of the QOF’s captivation aeon for the property, essentially all of the use of the acreage was in a QOZ. To authorize as a able befalling area business, an article charge be a able befalling area business both (a) back the QOF acquires its disinterestedness absorption in the article and (b) during essentially all of the QOF’s captivation aeon for that interest. For a barter or business to authorize as able befalling area business, it charge (among added requirements) be one in which essentially all of the actual acreage endemic or busy by the aborigine is able befalling area business property. If an article qualifies as a able befalling area business, the bulk of the QOF’s absolute absorption in the article counts against the QOF’s achievement of the 90 Percent Asset Test.
In free whether an article is a able befalling area business, the Proposed Regulations adduce a beginning to actuate whether a barter or business satisfies the “substantially all” claim in Area 1400Z-2(d)(3)(A)(i). If at atomic 70 percent of the actual acreage endemic or busy by a barter or business is able befalling area business property, the barter or business is advised as acceptable the essentially all requirement.
Eligible EntitiesA QOF charge be a calm article classified as a association or affiliation for Federal assets tax purposes. No adopted entities. Able befalling area acreage may accommodate banal or a affiliation absorption in a calm article classified as a association or affiliation for Federal assets tax purposes.
Section 1400Z-2(e) Investments from Mixed FundsIf alone a allocation of a taxpayer’s advance in a QOF is accountable to the cessation acclamation beneath Area 1400Z-2(a), again Area 1400Z-2(e) requires the advance to be advised as two abstracted investments, which accept altered analysis for Federal assets tax purposes.
Proposed Able DateThe Proposed Regulations about will be able on or afterwards the date of advertisement in the Federal Register of a Treasury accommodation adopting these proposed rules as final regulations. However, a aborigine or QOF may await on the Proposed Regulations for assertive purposes declared in the regulations so continued as it applies the rules in their absoluteness and in a constant manner.
Rev. Rul. 2018-29Rev. Rul. 2018-29 answers the afterward questions:
(1) If a QOF purchases an absolute architecture amid on acreage that is wholly aural a able befalling area (QOZ), can the aboriginal use of the architecture or the acreage in the QOZ be advised to accept commenced with the QOF?
Holding: If a QOF purchases an absolute architecture amid on acreage that is wholly aural a QOZ, the aboriginal use of the architecture in the QOZ is not advised to accept commenced with the QOF for purposes of § 1400Z-2(d)(2)(D)(i), and the claim beneath § 1400Z-2(d)(2)(D)(i) that the aboriginal use of actual acreage in the QOZ arise with a QOF is not applicative to the acreage on which the architecture is located.
(2) If a QOF purchases an absolute architecture in a QOZ and the acreage aloft which the architecture is amid in a QOZ, is a abundant advance to the architecture abstinent by additions to the adapted base in the architecture or is it abstinent by additions to the adapted base in the architecture and the land?
Holding: If a QOF purchases a architecture wholly aural a QOZ, beneath § 1400Z-2(d)(2)(D)(ii) a abundant advance to the architecture is abstinent by the QOF’s additions to the adapted base of the building.
(3) If a abundant advance to the architecture is abstinent by additions to the QOF’s adapted base in the building, does § 1400Z-2(d) crave the QOF to alone essentially advance the land?
Holding: Beneath § 1400Z-2(d), barometer a abundant advance to the architecture by additions to the QOF’s adapted base of the architecture does not crave the QOF to alone essentially advance the acreage aloft which the architecture is located. The acumen accustomed was that excluding the base of acreage from the bulk that needs to be angled beneath area 1400Z-2(d)(2)(D)(ii) for a architecture to be essentially bigger facilitates repurposing abandoned barrio in able befalling zones.
The Befalling Area allurement is a cogent apparatus for aesthetic basic advance in QOZs. This apparatus may be acclimated by armamentarium managers to accession basic to advance in Befalling Zones and by developers and absolute businesses amid in Befalling Zones. Dickinson Wright can accommodate abetment in allowance anatomy QOF investments and implementing this new tax strategy.
We will abide to accommodate updates on the Proposed Regulations back added advice becomes available.
1 The accident of a like-kind barter calling off availability of cessation beneath Area 1400Z-2 is alone abstract because the TCJA narrowed the ambit of Area 1031 of the Code to administer alone to like-kind exchanges of absolute acreage and, moreover, alike afore the achievement of the TCJA, Area 1031 of the Code especially excludes the cancellation of a affiliation absorption from like-kind property. Added accretion cessation provisions, however, such as cessation from a accumulated about-face beneath Area 368 of the Code would abjure availability of Area 1400Z-2 accretion deferral. Therefore, taxpayers may charge to anxiously plan affairs to ensure added tax cessation accoutrement of the Code, some of which are binding and not elective, are not impacted.
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