Contributions of Property to a Qualified Opportunity Zone Fund
An excerpt from our Opportunity Zone Expo Panel Discussion on November 14, 2019
Before the second round of the proposed rules, the only way for investors to purchase an interest in a Qualified Opportunity Zone Funds (QOF) was with cash. Round Two of the proposed regulations allowed for QOFs to accept property contributions in exchange for partnership interest or stock.
At first glance, the use of property instead of cash seems like it could be a good idea. However, before moving forward with this type of Opportunity Zone (OZ) investment, there are some potential pitfalls to consider.
- 90% asset test – As you may be aware, QOFs are required to have 90% of their assets invested in a Qualified Opportunity Zone Business (QOZB) or Business Property (QOZBP). Currently, there is a requirement that QOFs must purchase QOZB interests or QOZBP with cash after December 31, 2017. Thus, the contributed property may not qualify for the QOF’s 90% asset test.
- QOF use of the property contribution – Currently, there is no guidance as to what a QOF can or cannot do with the contributed property. Until there is additional guidance, it appears that the QOF may have to hold the contributed property. Partnership interests, stock, and QOZBP all have to be acquired by purchase after December 31, 2017.
- Mixed-Fund Investment –If you’re contributing either appreciated property or property burdened with debt to a QOF as an investment, this could result in a mixed-fund investment. For Example, part of your investment will be eligible for OZ benefits, and the rest may not be qualified for OZ benefits. In some cases, if debt exceeds the adjusted basis, the entire investment will not qualify for OZ benefits.
- Disguised Sales – QOF investors that contribute cash or property to a partnership in exchange for an interest in the QOF partnership, and who receive certain distributions within two years of their investment, may be subject to the disguised sale rules, which could result in not only recognition of deferred gain but also could disqualify their entire investment.
There are two final things to keep in mind in regards to this type of investment. The first is that the final round of OZ rules has yet to be released. There is an expectation that the final regulations will come out by the 2019 year-end, and they may or may not address the issues mentioned above.
Finally, contributions of appreciated property, even to a non-QOF entity, come with a lot of complexity. As such, planning and structuring are key to moving forward with an investment of this type.
If you want to discuss how you might benefit from Opportunity Zone investments or the contribution of appreciated property to a partnership, please reach out to Cheryl Ganim or Jennifer Wesselman via email, or by calling 513-241-8313.