Individuals with sizable capital gains are looking for proactive solutions to address their taxable event.
WHAT IS THE QUALIFIED OPPORTUNITY ZONE PROGRAM (“QOZ PROGRAM”)?
The QOZ program, made available under the 2017 Tax Cuts and Jobs Act (“TCJA”), has emerged as a potentially effective tax management strategy. The QOZ Program was created to encourage investment in designated communities across the U.S. by providing certain tax incentives in return for committing long term capital to these communities through investment vehicles known as Qualified Opportunity Funds (“QOFs”).
WHAT ARE QUALIFIED OPPORTUNITY ZONES (“QOZs”)?
QOZs are designated census tracts throughout the United States that have been selected by state governors and certified by the U.S. Department of Treasury for inclusion in the QOZ Program. Each state governor was allowed to nominate up to 25% of the state’s qualifying census tracts for inclusion in the QOZ Program. In total, there are over 8,700 QOZs spread across all 50 states, D.C., and several U.S. territories.
Investors, which can be individuals and certain entities, may receive a combination of potential tax benefits when short and/or long-term capital gains are invested in a QOF and held for the required time-frame. A QOF is an investment vehicle organized as either a partnership or corporation that invests at least 90% of its assets in Qualified Opportunity Zone Property(“QOZ Property”). QOZ Property includes a wide variety ofreal estate and new or existing businesses, including commercial real estate, housing, infrastructure, and start-up businesses located in QOZs. QOFs can hold single or multiple assets.The investments made by QOFs are intended to drive economic growth and job creation in the communities in which the investments are made.
UNDERSTANDING THE TAX BENEFITS
The potential tax benefits of investing in a QOF apply to federal income taxes and may also be available in certain states (see specific guidelines for appropriate state of residence).
DEFERRAL Generally, if a taxpayer invests the capital gain from the sale of a qualifying asset into a QOF within 180 days of recognizing the gain, taxes on such proceeds may be deferred until the earlier of December 31, 20262 or when the QOF investment is sold.
ELIMINATION Investors who hold their investment for at least ten years receive a step-up in basis, which means they pay no tax on the appreciation of their QOF investment upon disposition or through 2047, whichever occurs first, regardless of the size of the potential profit.3 In addition, the step-up in basis eliminates any depreciation recapture tax that would otherwise be owed upon sale.
IMPORTANT CAPITAL GAINS DEADLINES
The QOZ Program final regulations were released on December 19, 2019 by the U.S. Treasury Department addressing much of the uncertainty from the QOZ Program’s original legislation under the 2017 Tax Cuts and Jobs Act.
Generally, to receive the QOF Program tax benefits, eligible capital gains must be reinvested in a QOF within 180 day from the sale of an asset. However, certain K-1 partnership gains have additional flexibility.
K-1 PARTNERSHIP GAINS
The QOZ Program final regulations provide additional flexibility for K-1 partnership gains resulting in additional planning options for financial advisors. Assuming a calendar-year partnership, K-1 partnership gains realized on or after January 1, 2024 and January 1, 2025, have until September 11, 2025, and September 11, 2026, respectively, to complete an investment in a QOF.
Investors with K-1 gains have three options for calculating their 180-day window resulting in additional planning options for financial advisors and their clients:
- 180 days starting with the date the asset is sold by the partnership;
- 180 days beginning on the last day of the partnership’s taxable year (December 31st for a calendar-year partnership); or
- 180 days starting on the date the partnership’s tax return is due, without any extension (March 15th for a calendar-year partnership).
1 All investments involve risk, and the realization of the benefits is dependent on proper structuring and the structure and performance of the future investments selected. Not all investments will provide all of these benefits.
2 A 10% step-up in basis was available for investments made prior to December 31, 2021 and an additional 5% step-up in basis was available for investments made prior to December 31, 2019.
3 Assumes that the investor is a resident of a state that conforms with the QOZ Program or a no state income tax state, otherwise the investor will owe tax on any realized gain in investor’s state.
WHAT GAINS ARE ELIGIBLE?
A capital gain is eligible for deferral if it is from the sale or exchange of property with an unrelated party (not more than 20% common ownership) and the gain is treated as a capital gain (short-term or long term) for federal income tax purposes, including gains from:
- Businesses or Business Interests
- Real Estate
- Stock
- Collectibles
- Mutual Funds
- Cryptocurrency
WHAT IS AN “ELIGIBLE” TAXPAYER?
QOZ regulations provide that taxpayers eligible to elect gain deferral include:
- Individuals
- C Corporations Including regulated investment companies and real estate investment trusts
- Partnerships, and certain other pass-through entities
K-1 PARTNERSHIP GAINS
The final regulations provide additional flexibility for K-1 partnership gains resulting in additional planning options for financial advisors. Assuming a calendar-year partnership, K-1 partnership gains realized on or after January 1, 2023, have until September 11, 2024 to complete an investment in a QOF. If the proceeds came from a blown 1031 exchange, investors may have additional time to complete a QOF investment.
WHAT NEXT?
Investors who have filed and/or paid capital gains taxes on 2024 tax returns may still be able to complete a QOF investment. Due to the complexities of the QOZ Program, individuals considering an investment in a QOF should consult a qualified professional for financial, tax, and legal advice.
OUTLOOK FOR EXTENSION AND IMPROVEMENTS: TOWARD “OZ 2.0”
As of now, new investments in QOFs will only be accepted until December 31, 2026. However, there is growing bipartisan momentum in Washington to extend and enhance the QOZ Program, especially with key provisions of the TCJA set to expire at the end of 2025.
This proposed legislation (often dubbed “OZ 2.0”) includes a suite of reforms to extend the investment period and strengthen the incentive’s impact and accountability.
ABOUT CANTOR FITZGERALD4
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Cantor Fitzgerald Asset Management’s global investment platform consists of approximately $15 billion of assets under management across mutual funds, interval funds, exchange-traded funds, separately managed accounts, unified managed accounts, non-traded REITs, opportunity zone funds, 1031 and 721 exchange vehicles, and other private investment vehicles managed on behalf of high net worth and institutional investors. The experience and knowledge of its senior leadership and portfolio management teams combined with the financial services prowess of industry leader, Cantor Fitzgerald*, enable the delivery of a platform of solutions across a comprehensive range of capabilities. For more information, please visit: cantorassetmanagement.com.
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The information contained herein is not an offer to sell or a solicitation of an offer to buy any securities and is for training and educational purposes only. Such an offer or solicitation can be made only through the Confidential Private Placement Memorandum relating to an offering. An investment in real estate carries certain risks including but not limited to a lack of liquidity and potential loss of principal.
Cantor Fitzgerald and its affiliates do not provide tax, legal, or accounting advice. This material has been prepared for informational purposes only, and is not intended to provide, and should not be relied on for, tax, legal, or accounting advice. You should consult your own tax, legal, and accounting professionals before engaging in any transaction.