To operate a business in a Qualified Opportunity Zone (QOZ), certain criteria must be met to be designated as a Qualified Opportunity Zone Business (QOZB). Opportunity Zones were established under the Tax Cuts and Jobs Act (TCJA) of 2017.
The legislative intent behind this enacted tax code was to stimulate economic growth by incentivizing new, old, small, or even large organizations to establish their businesses within a designated zone. What is the incentive? In exchange for investing in these locations, taxpayers are offered deferred tax benefits based on the duration of time the business is owned or leased within the designated QOZ.
There are currently 8,764 designated opportunity zones. The governors of each state and territory nominated opportunity zone locations that have been approved by the US Treasury as qualified opportunity zones. Section 13823 of the TCJA includes section 1400Z-1, which identifies these specific census tracts as eligible qualified opportunity zones.
Incentives and Benefits for Businesses Who are QOZB-Eligible
Business investors who leverage tax vehicles, such as the federal Opportunity Zone program, are able to reap benefits and incentives when recognized as a Qualified Opportunity Zone Business. Whether a business or individual, these tax benefits may be recognized when investments are placed in a Qualified Opportunity Fund (QOF).
A Qualified Opportunity Zone Fund has to invest at least 90% of its capital into the QOZB. This investment requirement for the QOF allows for businesses to be restructured, renovated, improved, and even repurposed for the surrounding community and optimization for revenue. This allows properties already within an Opportunity Zone to be renovated or repurposed by a QOF.
These business within Opportunity Zones or built in these designated census tracts provide an incentive to raise capital. This incentive to raise capital comes from investments distributed into businesses in order to qualify for QOZ tax exemptions. The raising of capital not only helps the businesses that are being invested in, but also the surrounding communities near Opportunity Zones. The investments into business increases economic stimulation and in return creates new jobs, investment opportunities, and much more within the community.
What is a Qualified Opportunity Fund (QOF)?
A Qualified Opportunity Fund is an investment tool allowing business owners and investors the opportunity to invest in Qualified Opportunity Zone Properties. These funds must be organized as a corporation or partnership. At least 90% of the fund’s assets must be in a Qualified Opportunity Zone Property.
What are These Incentives and Benefits for the Investor?
When leveraging an investment vehicle like a Qualified Opportunity Fund, a business or investor who invests using this type of fund may realize the following three tax benefits:
- A tax deferral until 2026
- Investors may choose to defer part of their tax gains, if not all, beginning at the 180-day period based on the date of sale or exchange. Any taxable gain may be deferred until December of 2026, or until interest of the fund is sold or exchanged, whichever comes first.
- Step-up in tax basis of 10% or up to 15% of deferred gains
- Investors who use a QOF and retain their investment throughout the five year holding period may recognize a 10% step up after five years and an additional 5% after seven years. In order for the taxpayer to recognize a full 15% step-up, the investment needed to be made by December 31, 2019, in order to hold a full seven year term and maximize the tax benefit at this rate.
- No tax on appreciation
- Investors choosing to hold their investment in a QOF for up to 10 years realize the maximum benefit when the cost basis of the property is equal to the fair market value of the date of sale or exchange
With incentives like these, it makes sense to explore eligibility and determine if this path is worth exploring. Make sure to check to see which individual fund is found within your state here.
Assessing if Your Company is Eligible for QOZB Benefits and Incentives
To recognize whether your company qualifies for QOZB benefits and incentives, use the following criteria to explore your company’s eligibility:
- Determine if your business is qualified, which can be assessed from our article here.
- Determine if your business lies within an Opportunity Zone
- Determine what QOF you want to use as an investment platform
How are These Requirements Similar to QSBS?
Both QSBS and QOZB have several mandatory requirements that are similar, including the need to meet a gross asset (for QSBS) and a gross income (for QOZB) test, satisfy the entity requirement and qualify as a trade or business. In addition to this criteria, the Qualified Opportunity Zone Business framework has requirements of its own. In order for there to be a Qualified Opportunity Fund, there must be a QOZB that meets specific requirements in order to qualify—such as the gross income test, qualified entity and trade or business, etc. QOZB benefits are less generous than the 100% tax exclusions found within QSBS. Some may argue QOF may provide less of a risky investment option with a greater benefit ratio when compared to the risk/reward of investing in startups in order to qualify for the QSBS exemption.
Does Your Business Meet These Requirements?
At CapGains, our QOZB Experts are here to help answer any questions you may have about your business’s QOZB eligibility and can answer any questions related to QOZB incentives and benefits. Contact us for more information.