Strategic Tax Planning with Opportunity Funds
- Posted: February 28, 2019
- Posted by: Travis Lynk
- Last Reviewed: February 28, 2019
Recently, the U.S. Department of the Treasury issued new guidelines regarding the timeline for reinvesting capital gains into a Qualified Opportunity Fund. From a tax planning perspective, this guidance is good news for investors.
The 2017 Tax Cuts and Jobs Act established the Opportunity Zone Program, which aims to stimulate private development in economically distressed communities through incentives in the capital gains tax code. Taxpayers with exposure to capital gains tax can take advantage of these incentives by investing realized gains into Qualified Opportunity Funds, which in turn invest in businesses and properties in Opportunity Zones.
Under the program’s guidelines, individual investors have 180 days from the sale or other disposition of assets to reinvest gains into an Opportunity Fund and defer capital gains taxes until 2026, or until assets in the fund are sold, whichever comes first. In addition, if assets are held for at least five years, taxpayers can reduce their capital gains tax liability by 10%; if the assets are held for at least seven years, this step-up in basis increases to 15%. If assets are held for at least 10 years, investors pay no capital gains tax on the sale or transfer of those assets.
The new guidelines offer flexible tax planning benefits for partnerships realizing capital gains. The regulations issued on October 26, 2018, in §1400Z-2(a)(1)(A), clarified the reinvestment timeline for partnerships and extended the time for individual partners to reinvest.
Partnerships also have 180 days to invest capital gains into a Qualified Opportunity Fund to take advantage of the program’s tax incentives. The new rules, however, define a second 180-day reinvestment period for individual partners in the event the partnership itself chooses not to invest in a Qualified Opportunity Fund and distribute the gains to the partners.
Importantly, if an individual partner knows that the partnership will not invest in a Qualified Opportunity Fund, then that partner can choose to either use the same 180-day window as the partnership based on the date of the transaction or take advantage of a second 180-day reinvestment period beginning on the last day of the partnership’s tax year.
For example, if a partnership with a tax year ending on December 31 realizes capital gains from the sale of property on February 15, the partnership entity has 180 days, until August 14, to reinvest those gains in a Qualified Opportunity Fund.
If the partnership chooses not to reinvest in a Qualified Opportunity Fund, the individual partners have the option of investing their gains during the original 180-day period, or waiting to invest between December 31 and June 28 of the following year.
The guidance suggests that these new rules will also apply to other pass-through entities such as S corporations and to any shareholders. Estates and trusts may also take advantage of this timeline flexibility.