A critical incentive for Qualified Opportunity Zone investing is nearing its deadline at the end of the year, and this has OZ investors scrambling to identify a qualified opportunity zone fund to place gains in anticipation.
Investors far and away are aware of President Biden’s proposed tax plan for 2022, which would include almost doubling the capital gains tax, among other things. Well, the incentive that is approaching its deadline for Opportunity Zones—a 10% step-up in the basis of their investment—is seen as a way to mitigate the tax hike. In order to capitalize on this incentive, investors must allocate funds from a separate capital gain into an opportunity zone fund before the year ends.
For example, an investor who places $1 million in capital gains into an opportunity zone fund before Dec. 31 can only be taxed on $900 thousand once the deferment period ends.
“Investors who place money into opportunity zone funds allocate that investment from a separate capital gain, and the program allows them to defer the capital gains tax on that initial investment to 2026.”
Opportunity Zones were created in 2017 with the goal to stimulate more economic investment in areas that are historically undercapitalized, underdeveloped, or low-income. The idea is that investors will take on projects to develop properties that will bring in more jobs, infrastructure, or lower-income housing. The incentive being, a 10% step-up in basis, capital gains tax deferral until 2026, and permanent exclusion of taxable income on new gains.
“It’s the tax-free exit that is really the biggest driver of value,” Meyer said. “If they’re thinking about making an opportunity zone investment, rather than wait until January or February because they will lose that 10% basis step-up, on the margin it definitely will push people toward funding by the end of the year.”
The real driver behind an expected rise in OZ funding is due to the fact that the 10% basis step-up is expiring for good at the end of the year, so the time is truly now in order to take advantage of all three major tax incentives that OZ’s offer.