Opportunity Zone Legislation and IRS Examinations

Blake Christian, Tax Partner and Ryan Mark, Tax Principal
December 19, 2022

Qualified Opportunity Funds (QOF) are expected to surpass $10 billion in funding for 2022, raising the total equity to over $32 billion. When factoring in non-reporting "captive" QOFs and the debt portion of the OZ projects' capital stack, total OZ projects are well over $100 billion just five years into the program.

The proposed bi-partisan Opportunity Zone Transparency, Extension, and Improvement Act would also provide a two-year extension of the deferral period to December 31, 2028. The Act would also bring back the additional 5-10% basis increase for investments held for five or six years, respectively, before the deferral end date. These benefits come at the small cost of an early sunset for some wealthier OZ census tracts with higher median family income than the program intended. There will also be increased tax return information reporting requirements on form 8996, such as the number of employees in the OZ. Qualified Opportunity Zone (QOZ) businesses will be required to report certain information to enable the QOFs to better comply with their form 8996 reporting requirements.

Opportunity Zone Reviews

The OZ audits are soon to come. Frank Fisher of the Associate Chief Council's IRS office states, "We expect to start seeing examinations in connection with Opportunity Zones soon." This focus is partly due to a Treasury study over the last year that showed a relatively high error rate in certain OZ-reporting entities.

There has been little activity in Opportunity Zone Funds due to the long reinvestment windows available under the program and extensions provided due to the COVID pandemic. The IRS will likely begin the examinations of taxpayers' returns that have elected to be treated as a QOF. If you receive a notice from the IRS regarding your Form 8996, please pass it along to an HCVT team member.

If HCVT has not prepared your QOF or QOZB returns, we are available to review your formation documents and initial tax returns. HCVT will ensure everything is in order and that a valid election has been made to be treated as a QOF. As we review Form 8996's prepared by other firms, we are commonly seeing the following issues:

  • Late filing of the QOF returns (e.g., no extensions), Form 1065, P.3 Line 26 or Form 1120, P. 5, Line 25 blank or marked "No" asking whether the entity is a QOF
  • Tax preparer electing a self-certification date after a qualified equity contribution was made
  • Single Member LLC QOFs intended to be partnerships
  • Late movement of funds from the QOF to the QOZB
  • Other structural and reporting problems

Potential Scope Expansion

Due to the reporting requirements of Form 8996, the IRS could expand the examination scope to include Qualified Opportunity Zone Businesses (QOZB) owned by the QOF and the QOF owner's tax returns to confirm gain deferral amounts and audit the reinvestment dates on Form 8997. It is ideal for taxpayers to review their Opportunity Zone structure to confirm that gains have been properly deferred and reported on Form 8997. Taxpayers should also ensure that any QOZBs created have been adequately funded with a written business plan to take advantage of the 31/55-month Working Capital Safe Harbor.

Treasury's 2022 – 2023 Priority Guidance Plan

The Treasury Department recently issued its Priority Guidance Plan, which included two topics related to the Opportunity Zone Program:

  • We can anticipate additional guidance under §§1400Z–1 and §§1400Z–2 regarding Opportunity Zones in 2023. Taxpayers will expect further guidance to help those still on the sidelines of the Opportunity Zone program due to the complexity of the rules and some of the current uncertainties.
  • We can anticipate guidance under §301.9100 regarding relief for late regulatory elections. All will anticipate Treasury to provide a streamlined approach to correcting QOF elections made on a late filing. The Private Letter Ruling is the only expensive and time-consuming remedy ($13,000 IRS filing fee). Fortunately, all of the late filing requests can be granted virtually.

We appreciate the opportunity to be a resource. Our team continues to build specialization in OZ real estate and assist businesses with over 200 OZ Funds and QOZBs. Don't hesitate to contact our team with questions at: OZTeam@hcvt.com or call us at (435) 200-9262 or (562) 590-9535.

For further OZ updates and information:

Qualified Opportunity Zone: HCVT
News & Insights: HCVT
Blake Christian: Accounting Today


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