Part of the joy of reading or watching Game of Thrones is that developments that seem relatively minor at the time often prove to be unexpectedly important as the story unfolds. The writings of lawmakers can likewise sometimes prove to be more significant than was originally appreciated. When Congress conceived a radically new sort of tax break for what it called “Opportunity Zones,” for instance, the birth was lightly heralded, buried as it was in just a few pages of the massive Tax Cuts and Jobs Act of 2017.
But investors certainly took notice, and just a few years on, the new tax credit has opened up wholly new frontiers of practice areas for attorneys. But whereas other recent federal laws that generated countless billable hours for attorneys—think HIPAA, Sarbanes-Oxley—were largely confined to their own moated-off corners of the law, the new opportunity zone tax credit sits at a busy crossroads interlocking tax law, real estate and business formation. What then, ought attorneys to know in order to ensure that their clients aren’t missing out?
Start with a brief primer on what has investors so intrigued. The law seeks to entice them to invest in economically distressed areas by offering them three main incentives. First, it allows investors to defer paying any taxes owed on capital gains—selling a stock or whatnot for more than you paid for it—until as late as the end of 2026 by plowing the money back into a qualifying opportunity zone fund. It also lets them lop as much as 15 percent of their tax bill if they keep the money parked there long enough.
Those carrots are tasty enough, but the final incentive is perhaps the biggest: investors can potentially forgo paying taxes on any profits they earn from a qualifying investment into an opportunity zone. So if a new tech venture starts up in one of these zones and grows into a billion-dollar company, some of its investors might be able to bank their profits totally tax-free.
“Even if this was just the deferral, we would have something huge on our hands,” said Molly Stuart of Morningstar Law Group in Raleigh. “But there are almost uncapped benefits for investors. It really has people’s attention because the pot of gold at the end is potentially huge.”
An aim of zones
There are plenty of technicalities that need to be observed in order to benefit from these tax breaks, however—hence the need for attorneys who know how to navigate them. First, you need to have recently realized some capital gains. Then you need to reinvest those gains into an Opportunity Zone Fund, which then steers that money into a business or property located into one of the thousands of opportunity zones—Census tracts that were selected based on having low median incomes or high rates of poverty, or both—sprinkled throughout the country.
And that only scratches the surface of the law’s complexity. But Stephanie Yarbrough, an economic development attorney with Womble Bond Dickinson in Charleston, says that it’s important for attorneys, and particularly real estate attorneys, to have a basic understanding of the law’s key parts.
“If they’re working on a transaction where an investor is going to sink a bunch of assets into an Opportunity Zone, it’s wise to contact an Opportunity Zone attorney and talk about where that money came from and discuss creating an opportunity fund,” Yarbrough said. “I think the working knowledge to call pause and contact that attorney could be extremely beneficial, because what a happy client you’re going to have if you have a client who’s going to deploy a bunch of assets into an Opportunity Zone, and you were able to flag the issue in a timely manner so they receive a benefit from that.”
Even the locations of the zones themselves can sometimes provoke puzzlement. The U.S. Treasury has certified more than 8,700 Census tracts as opportunity zones, or about one out of every eight tracts in the country. It left it up to the states to choose which tracts to include, but tracts were chosen on an all-or-nothing basis. Many of them, even if low-income in the aggregate, thus contain areas that are already doing quite nicely. In other places, severely economically distressed neighborhoods were left out.
Capital is coming
The tax law was enacted in 2017, but interest in opportunity zones has really picked up this year, for several reasons. The first is guidance: as drafted, the opportunity zone program was really more of a skeleton; the Treasury Department has subsequently put some meat on those bones in the form of enabling regulations.
A big batch of proposed regulations published in April particularly helped clarify how companies can qualify as an opportunity zone business. The definition turns out to be quite lenient—businesses can qualify if most of the work, either by hours or payroll, is performed in the zone, or most of the income comes from property or management functions located inside the zone.
The greater clarity should spur even more investment into opportunity zone funds, said Emily Meeker of Poyner Spruill in Raleigh.
“I think the one thing that has been covered a lot is the real estate focus of it, but I think these new regulations are an opportunity to open up to other industries. This is no longer just a real estate play,” Meeker said. “If a tech startup builds an app on a campus in South Raleigh and sells the app all over the world, so long as half the hours are worked on that campus, that is an Opportunity Zone business.”
Another reason you can expect to see a surge of interest before the end of the year is that in order to get the greatest possible benefit out of the capital gains tax deferment, investors need to leave their money in an opportunity zone fund for at least seven years (the law was intentionally drafted so as to encourage long-term investing). But those taxes still need to be paid by the end of 2026, so this Dec. 31 is the last day to get one’s money in and still be able to receive the greatest possible benefit.
But the law will continue to impose a significant influence long past that date. Investors can get their money into an opportunity zone fund as late as 2028 and still avoid paying taxes on any appreciation in the investment so long as they realize those gains by 2047. In Game of Thrones, they might call that a very long summer indeed.
Follow David Donovan on Twitter @SCLWDonovan