Proposed Bipartisan Amendments to the Opportunity Zone Statute Could Have a Significant Effect on Current and Potential Investors
Late last week, a bipartisan group of U.S. Senators and U.S. Representatives introduced an expansive bicameral bill, titled the Opportunity Zones Transparency, Extension, and Improvement Act (the “OZ Bill”). This proposed legislation would amend Sections 1400Z-1 and 1400Z-2 (the “Original OZ Act”) of the Internal Revenue Code (the “Code”) in substantial ways, including:
- disqualifying certain census tracts that have previously been designated as Qualified Opportunity Zones;
- designating unpopulated industrial brownfields as Qualified Opportunity Zones;
- introducing additional information reporting requirements for Qualified Opportunity Funds (“QOFs”), persons investing in QOFs, and Qualified Opportunity Zone Businesses (“QOZBs”);
- introducing penalties for failing to comply with the information reporting requirements;
- extending the time in which a QOF investor has to pay capital gains tax on an initial investment by two (2) years;
- allowing an additional 5% reduction in the capital gain tax ultimately due if a QOF investment is held for six (6) years;
- allowing for feeder funds to invest in a QOF; and
- providing federal funding for certain projects.
Disqualification of Census Tracts
The OZ Bill would eliminate any previously designated Qualified Opportunity Zone (“QOZ”) if the associated census tract has a median family income in excess of 130% of the national median family income, unless the poverty rate in such census tract is 30% or more (not including college students). In addition, the chief executive officer of a state may request that certain other census tracts be disqualified as QOZs if the continued designation of such census tract as a QOZ is not consistent with the purposes of the OZ Bill or the Original OZ Act. These “disqualified census tracts” would have to be identified no later than 12 months following enactment of the OZ Bill. The chief executive of a state may nominate replacement census tracts as Qualified Opportunity Zones.
Importantly, preexisting trades or businesses operated by a QOF or QOZB in a disqualified census tract can retain the tax benefits of the Original OZ Act so long as a registration statement under the Securities Act of 1933 or similar offering memorandum or disclosure statement has been prepared disclosing an intent to invest in the disqualified census tract, and (1) the QOF or QOZB has made, or has entered into binding commitments to make, an investment of at least $250,000 that has been designated in writing for use in the trade or business, or (2) the IRS has determined that the entity has relied upon the designation of the disqualified census tract as a QOZ and has suffered a loss as a result of the removal of the designation.
Brownfield Industrial Tracts
The OZ Bill would allow unpopulated brownfield industrial tracts that are contiguous to a QOZ or has been merged into a QOZ as a result of the 2020 Census to be designated as QOZs. Such tracts would have to be nominated by the chief executive of each state or territory and would not count against the limitation on the number of QOZs in each state or territory.
Information Reporting Requirements
The OZ Bill would introduce a new section of the Code, section 6039K. Code section 3039K would require every QOF to annually file an information return that reports a host of information, including the value of property held by the QOF, the name and taxpayer identification number (“TIN”) of the QOZB a QOF has invested in, the NAICC code for the business conducted by the QOF or QOZB, the census tract the QOF or QOZB operates in, the value of the property owned or leased by the QOF or QOZB, the number of residential units held by the QOF or QOZB (if any), and the average number of full time equivalent employees of the QOF or QOZB.
Additionally, each QOF would be required to identify the name and TIN of each person who disposed of an interest in the QOF, as well as the dates acquired and disposed, and the amount of investment disposed. The QOF would also have to provide some of this information to its investors.
In addition, the OZ Bill would introduce new Code section 6039L, which would require QOF investors to provide information annually regarding an investment in a QOF. Such information would include the name and TIN of the QOF, the amount of short- and long-term gains invested, and information related to the disposition of any QOF investment.
Finally, the OZ Bill would introduce new Code section 6039M, which would require a QOZB to report certain information to be determined by the IRS by Regulation.
The OZ Bill would also impose penalties for the failure to provide the information returns identified above, ranging from $500 to $50,000 (adjusted by inflation after 2023), depending on the nature of the failure and the amount of assets in the QOF.
The OZ Bill would require, as soon as practicable after enactment, a report on QOFs that will include the total number of QOFs, the dollar amount of assets held in QOFs, the dollar amounts by investments across each NAICC industry code, the percentage of census tracts that have received QOF investment, the number of employees of a QOZB in each QOZ, and the amount of QOF investment in real property and other qualified opportunity zone property.
The OZ Bill would also require studies into of the effects of QOF investment on poverty and employment, and new businesses.
Modification of Certain Rules for Investment
The OZ Bill would effectively extend the opportunity zone program for two years by making December 31, 2028 the date upon which the tax would be due on any deferred capital gains invested in a QOF. As noted above, the OZ Bill would also allow for an additional 5% reduction on the capital gains tax due if the investment in a QOF is held for six (6) years. These provisions would apply to QOF investments made after December 22, 2017.
The OZ Bill would also allow for so-called “feeder funds” to invest in QOFs. A feeder fund, for the purposes of the OZ Bill, is any investment vehicle organized as a partnership and formed for the purpose of investing in a QOF. All investments into the feeder fund must be made in cash, and no less than 95% of the assets of the feeder fund must be QOF investments.