The short answer... Yes!
The Tax Cuts and Jobs Act of 2017 has brought on a lot of changes to the tax code. Perhaps one of the most interesting changes was the implementation of opportunity zones. According to the IRS, the creation of opportunity zones was designed to spur investment in distressed communities throughout the country through tax benefits. However, taxpayers are still awaiting much needed guidance from the IRS.
For now we do know what the tax incentives are for taxpayers. There are two main benefits to investing in an opportunity zone.
1) Tax-Free Income - A taxpayer will enjoy tax-free income off of any returns from investing capital gains into a qualified opportunity zone fund ("QOF"). All a taxpayer has to do is invest their capital gains into a QOF by December 31, 2026 and keep it there for at least 10 years. To further elaborate, a taxpayer would have 180 days to invest their capital gains from the sale of a property to an "unrelated person" into a QOF. So technically a taxpayer will have until June of 2027 to invest their capital gains from a sale that occurred no later than December 31, 2026. The related persons rules are a little complex and a professional should be consulted.
2) 15% Decrease in Capital Gains Tax - A taxpayer will also enjoy a step up in their basis for the property they sold. Any capital gains invested in a QOF will be taxed in the year 2026. This is because the ability to invest in a QOF and receive the tax benefits terminates on December 31, 2026. Therefore, a taxpayer will be taxed on their capital gain on April 15, 2027. If a taxpayer invests their capital gains into a QOF and defers tax, then they will receive a 10% increase in their basis they invested five years before December 31, 2026 deadline, and another 5% increase if they invested seven years before deadline. For example, If a taxpayer sold their property an received $1 million in capital gains, then they will only pay capital gains tax in 2026 on $900,000 if they invested in a QOF by 2021, or capital gains tax on $850,000 if by 2019.
So are opportunity zones worth they hype? Yes, they are. A taxpayer could potentially make tax-free income off their investment in a QOF after 10 years. Imagine if you invested $1 million of capital gains into a start-up and ten years later you made very profitable return and it is all tax-free.
However, the real question is, will investing in opportunity zones be attractive to taxpayers. While the main drive behind opportunity zones was increasing investments in low-income areas, investors still need to see the potential for a valuable return in their investments. Perhaps the tax incentives will be enough to help direct cash flow into opportunity zones.