The 2017 Tax Cuts and Jobs Act established opportunity zones to spur private investment in distressed communities throughout the United States. This new opportunity zones (OZ) program will encourage investment in some of the most economically challenged communities through tax incentives. The private investment promotes economic growth and job creation. 

Investors can re-invest unrealized capital gains into opportunity funds. These funds in turn invest in projects located within designated OZs. Investors can then temporarily defer and reduce taxes on the invested capital gains and eliminate taxes on future gains from the opportunity funds if held for 10 years.

Are there opportunity zones in Wisconsin?

There are 120 census tracts across 44 counties, 60 municipalities and two tribal reservations designated as OZs in Wisconsin. See the resources box on the next page to see where the Wisconsin OZs are located and if there are any in your community. 

Seventy-one percent of the OZs are urban, and 29 percent are rural. The median household income in Wisconsin OZs is $33,222, the median home value is $111,807, the median rent per month is $700, the homeownership rate is 40.60 percent, and 27.33 percent of the residents experience a severe rent burden.

How does the opportunity zone program benefit investors?

The OZ tax policies provide for the deferral or the exclusion of capital gains taxes on investments that are sold if the proceeds are reinvested into low-income or economically disadvantaged communities or neighborhoods that have been officially designated as OZs. 

What are the opportunity zone benefits?

Investors are able to defer and reduce taxes up to 15 percent on capital gains realized from asset sales, if these capital gains are reinvested into opportunity funds within 180 days of the asset sale. In addition, the taxation on the capital appreciation eventually realized on the opportunity fund’s performance may be forgiven if the opportunity fund investment is held for at least 10 years. 

There are three core tax incentives for capital gains investments:

• Temporary deferral: A temporary deferral of inclusion in taxable income for capital gains reinvested into an opportunity fund until the earlier of the date on which the investment in an opportunity fund is sold or exchanged, or December 31, 2026. 
• Step-up in basis: A step-up in basis for the deferred capital gains reinvested in an opportunity fund, which effectively results in forgiveness of a proportional amount of the gain. The basis is increased by 10 percent if the investment in the opportunity fund is held by the taxpayer for at least five years and by an additional 5 percent if held for at least seven years, thereby excluding up to 15 percent of the original deferred gain from taxation. In other words, if the investment is held for longer than five years, there is a 10 percent exclusion of the deferred gain; and if held for more than seven years, the 10 percent becomes 15 percent.
• Permanent exclusion: A permanent exclusion from taxable income of capital gains from the sale or exchange of an investment in an opportunity fund if the investment is held for at least 10 years. This exclusion only applies to post-investment gains accrued on investments made through an opportunity fund. There is no permanent exclusion possible for the initially deferred gain.

This exclusion only applies to post-investment gains accrued on investments made through an opportunity fund. There is no permanent exclusion possible for the initially deferred gain.

Investment example

Ozzie Opportunity owns land he purchased many years ago for $10,000. In 2018, he sold his land for $60,000, and within 180 days he reinvested the proceeds into an opportunity fund. The following are the possible tax benefits Ozzie might enjoy, depending on how long the capital gain remains invested in the opportunity fund:

• Ozzie can defer paying tax on the $50,000 gain until the earlier of the date he sells his interest in the opportunity fund or the last day of 2026.
• If Ozzie holds his investment in the opportunity fund for at least five years, 10 percent of the gain, which is $5,000, will escape tax when he sells his interest.
• If Ozzie holds his investment for at least seven years, 15 percent of the gain, which is $7,500, will escape tax when he sells his interest. 
• Assume Ozzie’s interest in his opportunity fund was worth $70,000 after 10 years. Under the regular tax rules, he would realize a $20,000 capital gain on value since the date of the investment, but investing in the opportunity fund allows the entire appreciation to escape taxation.

What are the requirements for opportunity funds?

Investments in OZs must be made via an opportunity fund. An opportunity fund is an investment vehicle that is set up as either a partnership or corporation for investing in eligible property located in an OZ. There are no statutory limits on who may form opportunity funds, but there are other requirements. The requirements for an opportunity fund include:

• The fund may be a partnership or corporation organized for the purpose of investing in OZ property. An LLC that chooses to be treated either as a partnership or corporation for federal tax purposes can also organize as an opportunity fund.
• The fund must hold at least 90 percent of its assets in OZ property, which can be stock, partnership interests and/or other tangible property used in a trade or business such as real estate within an OZ.
• The fund must be certified according to IRS and Treasury regulations. Opportunity funds will be able to self-certify by filing a Form 8996 with the entity’s applicable federal income tax return. 

Does an investor need to live in an OZ to take advantage of the tax benefits?

No, an investor can receive the tax benefits even if the investor does not live, work or have a business in an OZ. All one needs to do is invest a recognized gain in an opportunity fund and elect to defer the tax on that gain.

Are there any downsides to OZs?

That remains to be seen. Opponents are concerned the OZ program will encourage gentrification of neighborhoods as opposed to creating economic opportunities for current residents. They argue there are not enough government parameters and rules as to what is developed. They say requirements for affordable housing or jobs are missing, and this could lead to fraud and abuse of the program.

What does the OZ program mean for real estate professionals?

The OZ program presents multiple opportunities for real estate professionals. On the front end, it provides a way for investors to invest capital gains without paying the tax on those gains immediately, which may encourage them to sell real estate assets they might otherwise hold on to in order to avoid taxes. On the back end, the opportunity funds created to invest in the zones will be looking for business property to invest in, which in many cases will include real property and/or involve development opportunities for real estate. 

Debbi Conrad is Senior Attorney and Director of Legal Affairs for the WRA.

Resources 

• General OZ information: For general information, see the February 2019 Legal Update, “Qualified Opportunity Zones,” at www.wra.org/LU1902. 
• Milwaukee OZs: The City of Milwaukee is an ideal location to maximize the benefits of OZs that are found from the far northwest side to an area near General Mitchell International Airport. Real estate projects in the 30th Street Industrial Corridor/Century City business park, the Menomonee Valley, Riverworks industrial area, Harbor District, the near south side, and adjacent to the Park East corridor all qualify for OZ investment. See the information at www.wra.org/MilwaukeeOZ.
• Madison OZs: The City of Madison has an excellent prospectus regarding its OZs at www.wra.org/MadisonOZProspectus as well as a short flier at www.wra.org/MadisonOZflier. 
• Green Bay OZs: See the Green Bay OZ information at www.wra.org/GreenBayOZ.
• Eau Claire OZs: See the Eau Claire OZ information at www.wra.org/EauClaireOZ.
• OZ search: To see if your community has OZs, use the map at www.wheda.com/Opportunity-Zones or contact your local planning department.