Qualified Opportunity Zone Funds (“QOF”s) were introduced in 2017 as part of the Tax Cuts and Jobs Act. Tax on capital gains may be deferred if the gains were invested in a QOF. The 2017 version had the following requirements and corresponding benefits:
- Investment in a QOF had to be made within 180 days from the gain event.
- The deferral period ends on the earlier of the date the investment is sold or December 31, 2026. If you previously took advantage of this deferral, deferred gains, less any applicable reduction, will generally be recognized at year-end 2026. Planning will be important to help manage the tax impact, as this taxable income inclusion may occur without additional liquidity if you continue to hold the QOF investment. The deferred gain could be reduced by 10% after holding the QOF 5 years, and an additional 5% after a 7 year holding period.
- The amount of gain to be recognized on December 31, 2026 is the LESSER of: Your originally deferred gain less either the 10% or 15% reduction (if applicable) OR the QOF fair market value as of 12/31/26.
- If the QOF investment is held for 10 years or more, the appreciation on the QOF could be excluded from Federal income tax.
What Changed?
The One Big Beautiful Bill Act (“OBBBA”) changed the requirements for QOFs going forward. The new requirements and corresponding benefits are as follows:
- The 180-day investment window remains the same.
- The gains can be deferred for 5 years from the date of investment.
- The deferred gain reduction is capped at 10% after 5 years.
- The 10-year holding requirement for gain exclusion still applies.
- QOFs are now subject to mandatory annual reporting with penalties up to $50,000 for noncompliance.
Another change as part of the OBBBA is a new designation for Qualified Rural Opportunity Zone Funds (QROF). A rural zone is defined as any area other than a city or town that has 50,000 or fewer residents. For QROFs, the deferred gain reduction increases from 10% to 30% after 5 years.
While new Qualified Opportunity Zone Fund designations will not be available until 2027, taxpayers may consider deferring capital gains recognized in the 2nd half of 2026 into new qualified opportunity zones available in 2027. Please note that the requirement that the gains be reinvested within 180 days of gain realization still applies so timing is very important. Taxpayers considering sales or gain recognition near year-end 2026 should evaluate the timing and potential impact of the new rules.
Will the State of California conform to the New OBBBA Opportunity Zone Gain Deferral and Exclusion?
Although California has designated Opportunity Zones for investments, California does not conform to the Federal tax bill for gain deferral/exclusion at this time.
Realize Can Help with Planning Opportunities
Time is of the essence with QOF deferred gains recognized at the end of 2026. Proper planning may mitigate income from your gain recognition. Your Realize team would be happy to discuss any questions you may have about your prior deferred gains from QOF and any possible new investments in QOF. We will keep you updated as new developments arise related to this opportunity and other strategies
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