The Opportunity Zone (OZ) program is relatively new, having been created by Congress as part of the $1.5 billion Tax Cuts and Jobs Act of 2017. The Internal Revenue Service (IRS) added two new sections to the Internal Revenue Code—Sections 1400Z-1 and 1400Z-2—to codify this new program. The program was designed to encourage robust, long-term capital investments in low-income and economically distressed communities across the nation. There are currently 8,700 Opportunity Zones across the United States and in territories like Puerto Rico. The OZ program is the first new community development program to be created that utilizes tax incentives since the New Markets Tax Credit Program of 2001.
How Does an Opportunity Zone Investment Work?
Like a 1031 Exchange, an OZ investment provides an investor with significant federal tax benefits and acts as an important tool for managing tax liabilities. Any OZ investment requires the investor to procure the investment via a legal entity—like a limited liability company (LLC) or a corporation—or directly into a Qualified Opportunity Zone (QOZ) business property. Most businesses qualify as an OZ business, although some exceptions do exist, including golf clubs and courses, gambling establishments, country clubs and the like. While QOF investments are not limited to real estate, all QOF investments must be in a designated OZ. Twice yearly, the Opportunity Zone Funds (OZF) must certify that a minimum of 90 percent of the funds’ assets are being held in an OZ. The capital gains on the property must then be rolled over into a QOF within 180 days of the realized gain. There is no limit to the amount of capital gains that can be reinvested through a QOF using this program.
What are the Tax Benefits of a Qualified Opportunity Zone?
OZ funds allow for the elimination of any capital gains taxes earned from the OZ investment under certain circumstances. There are two key incentives for OZ investments: Firstly, all capital gains used to fund investments into an OZ are currently eligible for tax deferral until 2026; secondly, if the OZ investment is held for a minimum of 10 years, the gains generated from the OZ are tax-free. Therefore, an investor who opts for an OZ investment can both defer and reduce the initial capital gains bill while also eliminating the payment of any capital gains taxes, depending on the circumstances of the transaction. (However, the elimination of subsequent capital gains taxes is dependent upon the value of the underlying investment in the OZF increasing over time.) If an investor has basis in the property sold, that investor can invest the capital gain—the difference between the sale price and the basis—in the OZF to receive the maximum tax benefits. This provides cash to the investor along with liquidity for the basis of the property sold.
What Determines a “Good” Opportunity Zone Investment?
In many ways, OZ investments are like any 1031 Exchange investment, so potential investors should stick to core investment parameters when making a new OZ investment. Instead of focusing solely on the tax advantages of an OZ investment, factors like supply, location, population density and income growth patterns should carry more weight in the decision-making process. Investors should seek out OZ investment opportunities in areas that are historically resilient when the economy slows down. This is especially important since the minimum investment horizon for an OZ investment is 10 years.
Opportunity Zones in North Carolina: Where Are They?
In North Carolina, there are a total of 2,195 Census tracts. At least 252 of those tracts are designated as Opportunity Zones (roughly 11.5 percent). These Opportunity Zones are scattered throughout the state. Areas considered Opportunity Zones represent a total population of more than 1.1 million, along with over 50,000 business establishments. Land in the downtown centers of both Raleigh and Durham have received the OZ designation, as well as parcels along Franklin Street in Chapel Hill.
Interested in maximizing your Opportunity Zone investment opportunities? Ground + Space is a leading commercial real estate brokerage firm that specializes in single-tenant and retail NNN investments. Contact us today to learn more about the Opportunity Zone opportunities in North Carolina and beyond.