J.L.: Most appealing is that it provides a combination of tax deferral and step up in basis that can be used by investors with capital gains to defer both long-term and short-term capital gains. Also, it doesn’t require the investment of the underlying principal to be deferred, but only the actual capital gain.
Least appealing is that there’s a short time horizon for managers to allocate the invested funds. Another weakness is the inability to deduct appreciation, but that can be partially mitigated by recapture.
Financial Advisor: What do investors need to know before committing to a long-term investment in a Qualified Opportunity Zone (QOZ) Fund?
J.L.: For managers, make sure the investment is already a solid candidate for capital appreciation. Although this tax incentive favors capital appreciation over income, often these funds can be stacked with varying municipal, state and federal incentives.
Investors need to be aware that in seven years, the deferred capital gains will need to be paid, and they will need to have liquid cash to pay that tax. Since the capital will still be invested in the Opportunity Zone Fund, where it will need to stay for 10 years in order to realize the full potential tax benefit, investors also need to be careful about the fund managers they choose. This incentive program is likely to attract a number of new, non-traditional managers, many of which may not have the requisite finance and fund management experience.