Treasury Department and IRS Issue Final Regulations on Investing in Qualified Opportunity Funds

The Treasury Department and the IRS on December 19, 2019 issued final regulations (the “Final Regulations”) addressing investments in qualified opportunity funds (“QOF”). The Final Regulations retain the general structure of the proposed regulations that were issued on October 28, 2018 and May 1, 2019, but make significant modifications that in certain cases provide those managing or investing in a QOF with greater flexibility than was available under the proposed regulations. The Final Regulations are effective for taxable years beginning 60 days after their publication in the Federal Register, but provide that for taxable years beginning before such effective date, taxpayers may choose to apply either the Final Regulations of the proposed regulations (with certain exceptions), as long as taxpayers are consistent in such application. The Final Regulations may be accessed here.

Some highlights of the Final Regulations are set forth below.

The Final Regulations provide sought-after relief for QOFs that make multiple investments by providing an exclusion from income of capital gain realized after the 10-year holding period upon disposition of one or multiple qualified opportunity zone businesses (“QOZ Businesses”) (which may be disposed of at different times) by a single QOF treated as a partnership or S corporation. This rule would resolve a concern that had arisen under the proposed regulations that appeared to require a QOF to dispose of all of its properties and subsidiary QOZ Businesses simultaneously in order for investors in the QOF to be eligible for the 10-year exclusion of such gain.

The Final Regulations additionally provide that gross, rather than net, gains from the disposition of certain business property known as “Section 1231 Property” may be deferred via qualifying investment in a QOF. The regulations also confirm that only capital gains (whether short- or long-term), and not gains that are treated as ordinary income, may be deferred via such an investment. Additionally, the Final Regulations add flexibility regarding the beginning of the 180-day investment period for partners, S corporation shareholders, and beneficiaries of estates and non-grantor trusts by giving such taxpayers the option to start the investment period on the due date of the entity’s federal income tax return, without regard to extensions.

The Final Regulations provide that nonresident alien individuals and foreign corporations may invest and defer capital gains in a QOF if such capital gains are effectively connected with a U.S. trade or business, including capital gains arising from the disposition of U.S. real property interests under FIRPTA.

The Final Regulations contain a number of provisions that clarify and/or provide additional flexibility for an entity’s qualification as a QOF or a QOZ Business, including with regard to the original use and substantial improvement tests for purchased property, the rules governing leased property, the working capital safe harbor, the asset use requirement, and a de minimis exception for otherwise forbidden “sin” businesses.

For further information about this Alert, please contact:
Paul Marino, Partner 212.573.8158 or pmarino@sadis.com
Seth Lebowitz, Partner 212.573.8152 or slebowitz@sadis.com
Richard Shamos, Counsel 212.573.8027 or rshamos@sadis.com

Please feel free to discuss any aspect of this Alert with your regular Sadis & Goldberg contact.