We have received many questions from potential QO Fund investors regarding the exclusion of gain from a QO Fund investment after 10 years. In December of 2017, Congress passed the Tax Cuts and Jobs Act, which made many changes to the current federal tax system. As part of this reform, the Act included a new tax incentive designed to encourage investment in low-income areas. The tax incentive is different than previous incentives designed as tax credits for investors. Instead of a tax credit, the QO Fund incentive allows for a deferral of taxes that would otherwise be owed by the investor as a result of sale of property. These funds must invest in companies located in "opportunity zones," which are certain low-income areas that are designated as opportunity zones by the state's governor. For example, if Joe sells a piece of property for a $1,000 gain and invests that gain in a QO Fund, he will not recognize (pay taxes on) the $1,000 gain in the year of sale. Instead, Joe will recognize that $1,000 of taxable income at the earlier of (1) when he sells his investment in the QO Fund, or (2) the tax year 2026. If he has held the QO Fund investment for at least 5 years, Joe will pay taxes on $900 of income. If Joe has held the investment in the QO Fund for at least 7 years, Joe will pay taxes on $850 of income.
The added bonus is an exclusion for gain on the QO Fund investment itself. Suppose that Joe's investment in the QO Fund appreciated in value over time, so that after 10 years the initial $1,000 investment was worth $2,000. While Joe would have to pay taxes on the $1,000 of gain that he deferred 10 years ago, he wouldn't be forced to pay any taxes on the additional $1,000 of gain related to the investment in the QO Fund itself! This benefit is often overlooked, but could be the larger of the two tax benefits offered by the QO Fund statute.