Navigating the Next Phase of Qualified Opportunity Zones

And so we've divided this program up into this first session, this first section, which is a little bit about when the program was formed and where we would have been with the program if it wasn't for the One Big Beautiful Bill Act, which was enacted last year and really changed the program going forward. So first we kind of cover some of the basics and then we'll go into the changes and kind of where we go from here. So the Qualified Opportunities Zone Program or QOZ for short was established in 2017 with the Tax Cuts and Jobs Act. The purpose of the program was really to incentivize investment in lower income communities throughout the US.

And we'll talk about how the program was supposed to incentivize investors and what some of the benefits are for the investors. So started in 2017. Initially, I would say for the first six to 12 months or so, from what I recall, the program had a bit of a slow start. Here we shown the timeline, the initial round of designations didn't happen until April of 2018 with the final round happening in June of 2018. So the program and kind of the foundation of the program was enacted in 2017, but taxpayers really didn't know what the qualifying zones were until the middle part of 2018. Once those zones were designated, there was no guidance really as to how to participate or implement the program until the regulations came out. And so you see the proposed regulations were issued ... There was actually two rounds. One first round was in October of 2018, and the second round was in April of 2019.

And then the final regulations weren't issued until 2020. So you see that there was quite a bit of a gap between when the program was established in 2017, before we actually had final regulations as to all the mechanics of the program. So that's where a lot of activities started really to occur in 2018, 2019 in the program. We really started to see, and I think Jessica, this is actually where we first met, was at some point, I have to say in 2019, we were working on a deal together, but it really started to pick up the ... It really started to hit the news that this program was out there and that this was a substantial benefit. So how was the program designed to attract capital into these communities? So there's three main benefits. And so the first main benefit was effectively, if a taxpayer invested capital gains into one of these qualified opportunity funds, which invest into its own, they'd be able to defer the recognition of gain.

So the requirement was that they had to invest capital gain dollars into these areas. And by doing so, the code and the regulations allow the deferral of that gain, right? So if investor had $100 of gain and they recognized that in 2018, well, they realized that in 2018, if they followed the program and they met all the requirements, they wouldn't have to pay tax, at least federal tax on the $100 of gain until December 31 of 2026. So here I've kind of labeled that benefit. Number one, deferred gain is recognized, right? So that's benefit number one. So any capital gains invested into a program were deferred until December 31, 26. And it didn't matter whether you invested in 2018 or if you invested yesterday into this program. The deferral was until December of 2026. So that's benefit number one. Obviously, that deferral would end earlier if you sold the investment earlier.

The second benefit was a potential haircut on the deferred gain. So if you invested into a program at an early enough time, you could potentially reduce that $100 of gain that I had in my first example, either by 15% or by 10%, depending on when you made your investment. And the way it works is if you had a seven year hold prior to December 31, 26, meaning if you invested on or before December 31 of 2019, you could get a 15% haircut. And the way that really worked is you get a basis step up from zero, basically up to 15% of your gain. Again, said differently, it's a 15% haircut off of your original deferred gain, right? So my original $100, I'd only have to pay tax on $85 if I met that date threshold. If I didn't make the investment until on or before December 31 of 21, it's only 10%.

That was the benefit on that haircut. So instead of the $15 haircut, I'd get $10 of gain elimination effectively. My original $100 would have been only $90 that I'd have to pay tax on at the end of this year, actually. So that was benefit number two, right? Number one was a deferral. Number two was a potential haircut of that deferred gain.

The last benefit, right benefit number three, probably what has really caught the most attention of most investors is if you hold an investment in one of these qualified opportunity zones for at least 10 years, you have the potential to eliminate any additional appreciation, right? Going back to my $100, if my $100 grew to $1,000 at some point, and I sold that after 10 years of holding that investment, that $900 of additional appreciation would be tax free for federal income tax purposes. And that has really caught the potential of a lot of people in the industry. I'd have to say that's probably one of the biggest benefits of the program. And so that we have here, again, labeled as an undefined year, again, it's 10 years after your initial investments. Two other important dates here under the original program, the zones that were designated back in 2018, those are set to expire at the end of December on December 31 of 2028.

We'll talk a little bit more about what does that mean with the program and zones expiring and what's going to happen in the future, but that was a set date. Another date in the pre OPBA program was December 31, 2047. That was the last date to make the 10 year election, right? So that benefit number three I mentioned where you could step up to fair market value, you would effectively have to have sold the investment by December 31 of 27.

And here's our next Polling Question #2. And I'm going to give everybody 60 seconds to respond.

Jessica Millett:
While everybody's considering the first [official content related] polling question, just one thing to note to Michael's summary about the tax benefits, that third tax benefit, the 10-year benefit, agree 100% with everything Michael said about that's really the big tax incentive that a lot of investors are going for. Keep in mind, especially relevant for real estate, that what that means essentially is that there's no depreciation recapture. So if you're eligible for the 10 year benefit, not only do you walk away without paying any tax at the end when the underlying investment is sold, but to the extent you've been able to benefit from taking depreciation deductions throughout that 10 year period, there's no depreciation recapture. So sometimes people call that like the fourth benefit, sort of an additional add-on, which is always helpful to keep in mind for real estate.

Michael Torhan:
Thanks, Jessica. Great point. And we'll talk a little bit more about depreciation, particularly bonus depreciation and cost studies later on. So great. Thank you. Great. So I'm going to advance to the next slide here in the results. And I'm going to pass it off to you, Jessica, to kick us off on the QOZ 1.0 versus 2.0 differences.

Jessica Millett:
Great. Thanks, Michael. All right. So listen, you can't talk about the OZ program without talking about the zones themselves. The Opportunity Zone Program is a geographic program. There is a very important map that everybody's been looking at for the past eight years or so. And what that means is that either your real estate project or your business has to be located within a qualified opportunity zone in order to meet all the requirements so that your investors in the QOF get the tax benefits. So let's talk about how the designation process worked the first time around, and then I'll highlight some of the changes as we creep towards OZ 2.0. So the general rule is that the governor of every state can nominate 25% of the low income census tracks in that state. And the definition of low income for this purpose piggybacked off of the definition of low income for purposes of the new market tax credits program.

And so generally there were two different ways to qualify as low income. The first way to qualify was if a particular census track had a poverty rate of at least 20%. The alternative qualification is if the median family income for that census track did not exceed 80% of either the area or the statewide median family income. So you had two different ways to get in. Now, in OZE 1.0, there were two sweeteners to the qualification process. The first, as you'll see on the slide, talks about continuous tracks. And so under OZ 1.0, if a census tract did not specifically meet the requirements of that to be low income under the new market's tax credit rules, the census tract could still qualify if it was next to, if it was contiguous to a census tract that was low income and the median family income couldn't be too high, couldn't be greater than 125% of the state or area median family income.

So we'll talk about this a little bit at the end too, but the OZU program has had its fair share of criticism for a number of reasons and the ability to designate certain non-low income tracks didn't really help all that qualification. So we'll see in a minute that that one didn't survive to OZ 2.0. Now only a certain number of your census tracks, your qualified opportunity zones in any one particular state could be these contiguous tracks, but still it allowed the designation of certain census tracks that themselves were not low income. The second sweetener for OZ 1.0 has to do with Puerto Rico. So as I mentioned, the governor of every state was able to nominate their qualified opportunity zones, and for this purpose, states includes all the US possessions, including Puerto Rico. And so in late 2017, Hurricane Maria hit Puerto Rico and just devastated the island.

So there was actually additional legislation that was passed that said that all eligible low income census tracks in Puerto Rico were designated as qualified opportunity zones. So it wasn't quite the whole island, but it was very close. So there was really a push to get additional investment into Puerto Rico with OZ 1.0. And as Michael mentioned, the OZ designation process, it was a one-time designation in 2018 for 10 years. And interestingly, even though we've had another full census since then, the geographic borders of the OZ 1.0 tracks are still the geographic borders. Even if census tracks have changed, the OZ map as it was put in place back in 2018 is still the OZ map. It hasn't changed. Now, flipping forward to OZ 2.0, the base case is still the same. The governor of every state can nominate 25% of their low income census tracks, but they changed the definition of low income.

They tightened up that definition to ... So essentially there's a smaller pool to choose from. You still have the poverty rate test, but they put a median family income cap on it, so it's harder to qualify under the poverty test. And the prong of the test that's gotten the most attention is the median family income test. Instead of 80% or less, it's now dropped to 70% or less. So they've made it more difficult to qualify as a low income census track. Now, perhaps in reaction to some of the criticism that was lobbed at the program the first time around, they also eliminated the continuous tracks and they also eliminated the special rule for Puerto Rico. So when you take all that together, what it means is some of the estimates floating around there for people who have crunched the numbers is that there are expected to be approximately 25% fewer qualified opportunity zones starting next year in 2027 than there were in OZ 1.0.

So the math is going to be smaller.

Also, the way that the statute was amended with the OB-3 is that now every 10 years, you'll see this on a timeline in a little bit. Every 10 years, we're going to repeat this process of a new round of designations by the governors of each state. The last thing I want to point out here is that the numbers, the metrics that go into determining whether a census track is low income or not, are pulled from the American community survey data. Now, just a couple months ago at the end of January, the US Census Bureau released the ACS data from 2020 through 2024. So it's a five-year set of data that they've averaged to come up with these numbers. Now, the ACS survey is a survey. It's not a holistic measure of every single income metric of every single person in every single census track. So invariably, there's going to be a margin of error associated with that data.

There has been some chatter around, well, what happens if the median family income of a particular census track comes out to be 71%? So technically, you don't meet the low income criteria, but again, if there's a margin of error associated with that data that's significant, should there be a chance to reevaluate whether or not that census track qualifies? We don't have any official guidance yet on whether we'll get any flexibility, but just want to make sure that everybody is aware that there's some discussion going on about what to do in situations like that. All right, Michael, I'm going to pass it off to you for the tax benefits.

Michael Torhan:
Great. Thanks, Jessica. So now we're going to compare and contrast the three benefits that three plus one that Jessica mentioned that we spoke about a couple of minutes ago and how they differ between QSE 1.0 and 2.0. So as you recall, for benefit number one, I mentioned the first benefit was the deferral of the capital gain that's invested into the program. As I mentioned, under the original program, if you invest a gain at any point before January one, 2027, the last day being at the end of this year, the deferred gain would be recognized again on the earlier of, if you sell or exchange investment, obviously you kind of lose the deferral, but the key date was December 31, 26. So they've changed the program so that it's more of a rolling program going forward. And again, the one big beautiful bill act enacted last year in 25 really made this program permanent, right?

Everything we've spoken about up until now was that this program was really going to end at a certain point because you really couldn't invest anymore after this year. There was a cap on when that third benefit would apply.

And there was a declining benefit of the deferral, right? Like I mentioned, if you invested in 2018, you would have had a nice seven, eight year deferral until this year, whereas if you invested today or last year, your benefit was really only a year or nine of year. So the new program, they've essentially eliminated that kind of fixed benefit, really kind of a declining benefit for the deferral. And now it's just going to be five years after the date the investment is made into the QOF. So there's still that, obviously if you sell or exchange investment, you lose the deferral, you have to recognize at that point, but there's no longer like a fixed target date for recognition of deferred gains. You invested on March 30th of 27, you get a deferral until March 30th of 2032, right? It's five years after the date you made the investment.

So just a rolling five year deferral period. For benefit number two, again, that 10 or 50% haircut of that original gain, like I mentioned earlier, if you didn't meet that date threshold, if you didn't make your investment by December 31st of 2019 or 21, you didn't qualify, right? Now you get a 10% benefit after holding that investment for five years, right? So two big changes there. There's no longer kind of a fixed, again, holding date. You still have to hold for five years, but you're no longer kind of precluded from participating in that benefit because whenever you make it, that starts the five year holding period and they've eliminated the 15% benefit there, right? So it's only one 10%, again, basis step up. There is a special rule for rural investments. And again, the next slide, Jessica is going to talk a little bit more about some of the additional benefits for investments in rural areas, but this is one of those actually areas.

That 10% haircut is 30% for investment into rural qualified opportunity funds. And again, we'll talk a little bit more later about these incentives for rural investments. And then for benefit number three, again, that was the 10 year fair market value step up, right? If you held the investment for 10 years, you get to eliminate any post investment appreciation. That 10 year benefit has been retained, but it's effectively going to be capped after the 30th anniversary of your investment. What does that mean? Up until the 30th anniversary, right up until year 30, you get to eliminate any post investment appreciation, right? So if you sell it for some kind of additional gain, you get to eliminate that again for federal purposes. We did actually have a question come in about five minutes ago about federal versus state differences. So most of what we're discussing today is on the federal side.

States vary as to their conformity or non-conformity with these rules. There are many states that do not conform with these rules. So keep that in mind. Some of these benefits do not apply for state income tax purposes, again, depending on what state you may be located in or where investments are located in. So going back to the 10 year, right? So up to year 30, you get to eliminate all post investment gain. After the 30th year, your benefit here is kind of capped at that value on the 30th anniversary, right? So if my $100 from earlier went up to $5,000 on the 30th anniversary, and I still didn't want to sell, and I held it for another five years, if that $5,000 now went up to 7,000, that additional $2,000 would be subject to gain, right? That first 4,900 would have been tax-free, that additional gain after that 30th anniversary would be subject to gain recognition.

So that is a small change to that benefit. And now we'll talk a little bit about some other updates, pass it back to Jessica.

Jessica Millett:
Thanks, Michael. Okay. Two other big updates we wanted to cover between OZ 1.0 and OZ2.0. So the first, as Michael previewed on the previous slide, there is a new set of incentives around investing in specific rural areas. So we got another acronym for the alphabet soup. We now have a QROF, which stands for a qualified rural opportunity fund. And a QROF is a QOF that is invested in rural areas or a QOF that's invested in a QOZB that is invested in rural areas. And rural areas for this purpose, it's defined in the negative. It's defined as any area other than a city or a town with a population greater than 50,000 and adjacent urbanized areas. We got a notice out in September of last year from the IRS that gave a little bit more color to these defined terms and how to interpret them. And we also got a list in terms of all the OZ 1.0 zones that would qualify as rural.

So we've started to get some guidance in this area, and I expect that we'll see a little bit more when the OZA 2.0 map comes out. So two different incentives around the rural areas. The first is with respect to that second tax benefit, the basis step up. So as Michael said, after five years, you should get a 10% basis step up, which essentially translates to 10% elimination of your initially deferred gain, which is a really nice benefit. However, if you're invested in a qualified rural opportunity fund, that 10% jumps to 30%. So again, whatever your initially deferred gain is, you get a complete elimination of 30% of that initially invested gain if you happen to be invested in a qualified rural opportunity fund, which is pretty powerful. The second benefit has to do with qualified opportunity zoned business property. So to take a step back, there's generally two different ways that ... Let's talk about real estate since that's the focus here.

Two different ways that your real estate can qualify as good property in a QOF or more likely in a QOZB. The first way is if you have original used property, and that is essentially ground up development, right? So you buy some land, you build a new building, you place your building into service, that's original used property. The second way that you can have qualifying property is if you invest in an existing building, an existing property that's already in service. And if you buy an existing in- service asset like that, you can still qualify the property as good qualified opportunities on business property if you substantially improve the property. And the general rule for substantial improvement is that you need to double your cost basis within two and a half years. So not just like another coat of paint on the walls, like significant capital improvements to really improve the property.

However, if that property is in a rural zone, your substantial improvement requirement gets cut in half. You only need to increase the basis by fit 50% instead of the full 100%. So they've made it easier to qualify if your property is in a rural zone for the substantial improvement test. Now, there's a whole host of other things to think about in terms of these rural zones, including zoning requirements and infrastructure and all the rest, but we are hopeful that we will get some additional leniency there. And this is really an area where we are expecting the states to weigh in. Because again, a lot of that now you're talking about at the state and local level in terms of building permits, zoning requirements, all the rest. And so to the extent a particular area is not zoned for a certain kind of development, we're really hoping now that when the governors of all the states are looking at these areas and figuring out which of my low income census tracks do I want to nominate, how can I really encourage investment in this space that they're taking into account a lot of these other ancillary requirements, which really can be a deal breaker in terms of the likelihood of success of a particular development or not.

The other big change with OZ 2.0 as compared to OZ 1.0 has to do with the reporting requirements. So back when the Tax Cuts and Jobs Act was being negotiated and voted on in Congress, there actually was a set of reporting requirements that were attached to the initial bill. Those reporting requirements did not make it through the budget reconciliation process. So we have had no real in depth reporting requirements for the OZ program since its enactment up until OB3. Now with OB3, they managed to tweak the legislation enough so that these reporting requirements were passed under the budget reconciliation process. And there is now a fairly robust set of requirements that apply both at the QOF level as well as the QOZB level. And keep in mind, these reporting requirements are in effect for 2026. Okay. So they are in effect now and some of the requirements are sort of basic things like you'd expect, like what is your tax ID number and what zone are you invested in?

But the requirements go a bit deeper and are really now trying to capture certain economic metrics. So for example, QOZB will have to report whether it has employees, and if so, how many? We'll also have to report how many units of housing did it develop or does it own? So they're really trying to start to gather information to answer the question of, is the opportunity zone program working? And again, without any of that data, it's been very difficult to respond to a lot of the criticism that was lobbed at the program the first time around. So we are hopeful that having some more data and some ancillary reports that are intended to be put together by treasury every five years to really report on what's going on in these zones, but that will really help to strengthen the program, make it better, and really respond to some of those criticisms that we heard the first time around.

In terms of the requirements, and as I mentioned, they are technically in effect for 2026. Although I can't tell anybody yet exactly how to comply with those requirements, the way that the statute was drafted, it essentially passes the requirement of how to capture that information over to the treasury department. So I think what Michael and I are expecting is that we'll get a couple more forms and schedules that'll be thrown on to the tax returns for 2026. So fast forward a year from now when we're all dealing with the 2026 returns and we'll see what kind of forms get attached that we all have to respond to. All right. So I think we're up to our next polling question. Polling Question #3

Give you all a minute to answer that one.

Michael Torhan:
Yeah. While everybody answers, Jessica, what I found interesting is the benefits for rural investments. There's actually the code and I'm curious to see how the regulations address this. The 30% benefit is specifically for investments in rural opportunity funds, whereas the 50% substantial prural benefit just talks about investments in rural areas, right?

Jessica Millett:
Yeah, it is a bit of a disconnect in terms of how those requirements work. Absolutely. And it was also interesting when they put out that notice and they specifically designated certain existing OZ 1.0 zones as rural, because technically that some of these benefits, they kick in starting next year and we have a lot of transition issues to talk about, but there's definitely a question about, well, if you invest in one of the OZ 1.0 zones that's rural starting next year, and technically you should be eligible for these benefits. So there's, again, some overlap issues that we'll need to figure out. All right. And here are the results. Looks like most of you got it right at 30%. All right. So I think we have one more timeline. Is that right, Michael?

Michael Torhan:
Yes. So I will advance the slide to our next timeline. And so there's a lot here, so we'll really kind of take this step by step, but this is really an extension of the original timeline that I spoke about earlier. And it's really meant to show you, right? So we had the first timeline, which really got us the history, how we got to where we are today, and everything that has transpired and changed because of the One Big Beautiful Bill Act, kind of where do we go from here? And we have a lot of really important kind of considerations here. So this is probably one of our most important kind of parts of the webinar, because there's action items here and really thanks for everybody on this webinar to consider. So again, last July, the One Big Beautiful Bill Act was enacted, modified and permanently extended the program.

Again, QOZ 2.0, QC1. I don't think those are actual technical terms anywhere, but I think a lot of industry professionals are kind of differentiating between the two programs like that. So now we have this new program going forward. And so what does that mean? So you are here. I kind of drew my little map, you are here in a logo. So July one, 26, right? So in just about three months, the first decennial determination date is going to happen, right? And so what does that mean? So because of the permanent nature of the program going forward, and like Jessica was saying, we're going to have these QOD designations and redesignations every 10 years, this decennual determination date is effectively the date where that process is going to kick off every 10 years, right? So the first process is going to kick off in about three months on July 1st, and that's going to start the process at all the states where the state governor's offices are going to put together task force and really kind of work toward identifying these zones based on the survey data, like Jessica was saying.

So what are we seeing out in the market now? Obviously, we don't know what those new zones are yet. We've been having a lot of discussions with clients about existing projects or projects that they're looking at in different states, whether they ... Is there any potential for them to be in qualified opportunity zones or not? And there are some websites out there. There's one economic innovation group that kind of puts together a lot of different QOZ maps out there. They've actually, I think, put together a potential zone map on their website where based on the most recent survey, you can go in and see which census tracks would meet the requirements of the new 2.0 program. And so really, everybody that's in the space should be looking at those maps. First, whether if you have existing properties in those potential zones, if you're planning projects in those zones, or if there's areas they're looking to invest in, in the next couple of years, right?

If they potentially fall in one of the potential 2.0 zones, well, it may make sense to be reaching out to your state, your governor's offices, right? Having those discussions now about, look, these are the projects that you're thinking about, you want to do this kind of development, and working with the governor's offices potentially to see if they could incorporate those zones as part of their processes, right? All the states, most of the states have a lot of these zones. And remember, just because it's a low income census track does not mean it's going to qualify or it's going to be designated. The state still needs to take that next step and actually designate that zone as a good zone as part of the process. So that's really one big action item. We're working with a lot of our clients and identifying, again, existing properties that are owned.

And again, you can't generally invest into your own existing property to qualify. There are various structures where existing property owners sometimes can use it as a fundraising technique, right? Maybe a property owner does not get the QSE benefits, but they can attract capital using the QOZ program. There's different leasing structures. There are different ways to still somehow participate in the program, even if it's not gain deferral or gain elimination. But again, it's really important for everybody to be looking at those potential maps, right? Because again, a lot of these states are starting those processes over the next few months. We've already heard various states putting together task forces. I think a lot of the states are trying to understand what does this program really mean? What kind of investors, what kind of investment can it attract to their states, and what locations are best able to benefit from those investments?

So again, that's coming up in the next few months. The next important date here is actually the last day of this year, December 31 of this year. As we've spoken about a couple of times, that's the date that any deferred gain from 1.0 is going to be recognized, right? If it hasn't already, due to some kind of earlier sale or other inclusion event. So anybody that invested gains from 2018 through, I guess, to the end of the year, they're going to have to recognize that gain this year until on their 2026 income tax return. Or if there's a fiscal year taxpayer, whatever tax return incorporates December 31, 26.

So what are the considerations there? Obviously, we have a lot of taxpayers going to have a lot of deferred gain that's recognized. Sometimes it might be phantom gain, right? Remember, the money that had been invested for those gains are in the programs, right? The money is really sitting in real estate today, these investors may not have liquidity to pay tax on those gains. So that's one consideration, is liquidity. Other considerations as to methods to help with the tax burden are potentially bonus depreciation and just valuation in general, right? So let me break those two apart. We want to talk about bonus depreciation.

A lot of these projects, whether they were substantial improvement projects or ground up development, we've seen a lot of ground up development on new projects. There's a lot of property in those projects that may be eligible for bonus depreciation. For those of you that are not familiar with it, generally properties appreciated over 27 and a half years, if it's residential or 39 years. If it's not residential, certain property that has a recovered period of less than 20 years is eligible for an accelerated write-off. And that had been 100% for some time, it was slowly being phased out. But again, one of the changes from the One Big Beautiful Bill Act was the reinstatement of 100% bonus, right? Any property that's acquired and placed in service after January 19 of 25 is again, eligible for bonus depreciation, right? So why do we even talk about bonus depreciation?

Well, number one, if you have taxpayers that are acquiring and placing property into service in 26, seeing if you could take bonus depreciation could potentially absorb some of that deferred gain that taxpayers are recognizing. So you're looking at new property, you're buying and placing the service this year. If you've acquired and placed into service property over the last several years, and if you didn't take bonus, let's say you just depreciated everything over the longer straight line, there's still the ability to go back and do a cost segregation study and do a change of accounting method to effectively true up the depreciation you could have taken in 26, right? If that's something that you choose. We have a cost aggregation team here. We work with a lot of clients kind of looking back several years to see, are there assets that could have been accelerated in terms of depreciation?

So you are able to kind of go back and look. It might not be 100%, you may have placed something into service a couple years ago when it was 80% or 60%, that could still help you with this deferred gain that's being recognized at the end of the year.

Likewise, again, any assets placed into service from the beginning through the end of this year, you really want to focus on any cost segregation they could potentially do there. So that's the cost segregation piece of it and the bonus depreciation, potentially looking at how you could generate losses that could potentially help you with the deferred gain. The other consideration with this is valuation. So there is a rule in the code and the regulations that going back to my simple example of $100 and forgetting about the 10% or 50% step up, again, not to complicate things. If my $100 was invested into this and the investment didn't really do great, right? I invested it into some kind of asset, it's been vacant, it really can't get leased. A $900 investment is only worth $70 on December 31. Well, there is some help in the guidance, right?

Rather than me selling my investment for $70 so I don't have to pay tax on the hundred, the guidance does let you pay tax on the lesser of your deferred gain or the fair market value, right? So in my example, it only be $70 rather than the hundred. But there is kind of a caveat. I really want to flag this because I'm not just comparing the fair market value of my investment versus the deferred gain, my 70 or the hundred. If my investment is in a partnership with a lot of these investments have been in partnerships, again, I've seen some that are in REITs and in corporations, the vast majority have been in partnership form. The guidance makes you take it a step further. I don't just compare the $70 to 100. I have to assume I sold my investment for $70 on the 731.

And so why does it change, right? Well, if my investment is only worth $70 because I took out $50 of refinancing proceeds the day prior, right? That refi is usually tax free, but here they effectively make you add it back in, right, because your basis would have gone down. And they really incorporated the special provision so that distributions and losses, frankly, have to get taken into account when you're doing that comparison. So it's not just the valuation of the investment. You have to look at what would your gain be if you sold it for that fair value? Again, so something to keep in mind when you're looking at that valuation. But with that said, we are having a lot of discussions with clients. We have teams here actually that do valuations of real estate and valuations of partnership interest because again, most of these structures are two tier, right?

You have the fund that you're investing in, and then there's usually a second tier below, which is the QOZ business, which has the real estate. So again, you have to value the real estate, then you have to value the partnership interest in the QF. Again, we're working with many clients to kind of go in and see what is the property appraised that, what is the partnership interest value that? And then really you have to do an analysis, right? Compare that ultimate valuation to the deferred gain. And if that valuation is less than the deferred gain, the guys does say, you only have to pay tax on that lesser of. Again, but that's ... Obviously you can't value anything as of December 31st yet because that date hasn't passed, but certainly this is a meaningful analysis to start thinking about now again, because all of your investors are going to have this issue or this, not an issue, but this deferred gain to think about starting next year when they're filing their returns.

So that's as of December 31. Again, there's some more considerations. I will pass it off to Jessica here for the rest of the timeline.

Jessica Millett:
Thanks, Michael. A couple things to note about the rest of the timeline. So first of all, you'll see that there is a overlap between OZ 1.0 and OZ 2.0. We have kind of a unique overlap that's happening for 2027 and 2028. And as Michael said, the original zones, right, they're in effect until the end of 2028. The new zones come into being on January, 2027. So this is a one time, very unique two year overlap. There's some transition issues which we're going to get to on the next slide. That overlap is not going to happen any other time in the future because going forward, right, I mentioned earlier, every 10 years there's going to be a reset of the zones. So the new zones start on Jan one, 2027, they go until the end of 2036. There will be this process repeats. So then the OZ, maybe we'll call it OZE 3.0 zones, they will kick in on Jan one 2037 and go to the end of 2046.

So an attempt to really keep up with the changing demographics and changing census tracks in the country. There have been a couple different questions in the chat and want to make sure this part is clear. If you recognize an eligible gain, the timeline around when you have to invest your eligible gain has not changed from OZ 1.0 to OZ 2.0. So the general rules, if you recognize a gain as an individual, you have 180 days beginning on the date of the capital event to invest your eligible gain into a QOF. If you are a partner in a partnership and the partnership triggers a gain, you have a lot more flexibility. You have a couple different timelines to choose from, but you get well into the next taxable year to actually invest your K1 gain, which is very helpful. So now, if you are an investor and you recognize a gain during 2026, let's take the easier example.

If you're a partner in a partnership and the partnership recognizes the gain in 2026, you will have the ability to invest that gain up until early September of 2027. So you have a good amount of time to do that. I would recommend, as your tax advisor, that you wait to invest that gain in the QOF until Jan one, 2027, because if you do that, you are then eligible for all of the OZ 2.0 tax benefits, even though that gain was triggered in 2026. So if you invest on December 31st, you get no deferral, you get no basis step up, you are eligible for the 10 year benefit though. If you wait one more day, and then if you invest on January one, 2027, you get five years of deferral. If you hold for the five years, you get a 10% basis step up or 30 if it's a qualified rural opportunity fund, and you get the 10 year benefit.

So that pivot point between the end of 2026 and 2027 is a big swing in terms of the OZ 2.0 tax benefits. So if you have the flexibility to wait until January one, 2027, your tax benefits are better, so you should do that. The other thing to keep in mind, and I don't want to go down too much of a rabbit hole here because we're getting close to the top of the hour, in terms of if you have an inclusion event gain, meaning you have some inclusion event other than just waiting until the end of 2026, and that triggers a new 180 day period for you to invest in a qualified opportunity fund, and that happens to push you into 2027, then you invest in 2027 and you get all the OZ 2.0 tax benefits. So the timing of your investment into the QOF determines whether or not you're eligible for OZ 1.0 benefits or OZ 2.0 benefits.

I think we've covered actually quite a bit of the rest of this already on the slide. And so I actually am going to punt us to the next slide because there have been a bunch of questions around transition. So I'm going to advance the slide and Michael, I think you were going to talk for a few minutes around some of the transition roles and some recent project you were involved in with the real estate round table.

Michael Torhan:
Yes. Thank you, Jessica. And thanks for advancing us, because we do have about seven minutes left. Obviously we could go a couple minutes over if anybody's available to stay on, but we do want to address some of these matters. So kind of looking back and forward here, so there are some questions. I know we had a couple of questions come in on this, and this has been on top of mind for everybody in the QOZ kind of professional world, I'd say Jessica, I want to say over the last eight years, but I think people have really started to think about it more so in the last couple months because we're finally here. So we've mentioned a couple of times that the OD12 zones expire at the end of 28.

The new zones start January one of 27, right? So again, you're going to have this kind of two year overlap period, but more importantly, those zones from 1.0 that expired at the end of 28, the questions really anybody should be asking is, well, what happens to my project on January one of 29? Because it's not in a zone, does that now mean my project's no longer good? If I place it into service before December 31, 20, 2020, am I good? If I'm 80% complete, if I'm 10% complete, if I broke ground, and the short answer I think today is there is no guidance or very little guidance as to what does that mean, right? When you kind of cross over from 28 to 29, there's a couple of small pieces in the regulations that talk about expiring zones. I think there's only one or two places, frankly, that talk about it.

One of which is that the investors like fair market value step up won't be precluded just because a zone is no longer designated. That doesn't really help you much at the property level, right? And then there's some other guidance that if qualifying property is no longer good, there's a safe harbor for a certain time period where it's still a good property for a number of years if you met a couple of historical tests. But there really isn't much guidance as to, well, I placed this property into service February of 28 and now 10 months later, the zone is no longer there. And of course, this assumes that you're not redesignated. So we're members of the real estate round table and there's a accused of subcommittee with the real estate round table. I had the opportunity, I know this is on their website because they've sent this to treasury and the IRS.

There's a draft rev proc that the real estate round table has kind of sent over to treasury and IRS really to kind of implement some kind of grandfathering concept for these zones and for projects that are in these zones. Again, we don't know where that's going to end up, what the treasury and the IRS is responsible be to that. But essentially, again, everybody could go on the real estate round table, it's on their website, kind of just draft rev proc and some of the correspondence they've issued to treasury. But the ask there is that, look, if a QOF has started a project that's placed property into service and it's complying with all the requirements is that just because the zone is no longer designated on January one of 2029, that you shouldn't just start to fail all of these tests, right? That you've really still kind of complied with the spirit of the law and that you should still ... You did everything the program asked you to do, you got money into the zone, you kind of did ground up development or substantial improvement and the rev proc is really asking, or the ask for the rev proc is that we should still be able to comply with the test going forward, right?

Because there are many tests at the QF and the QCB level they have to comply with and you don't want to get hit with penalties just because the zone is not designated anymore in 29. So that is out there. Again, stay tuned, that's all in draft form. Nothing is finalized yet, but there's a lot of people in the professional space and industry space that are kind of working with treasury to try to get some guidance on that. And Jessica, you want to talk a little bit about, we have a couple of things here on the wish list?

Jessica Millett:
Yeah. I'm going to punt ahead to the last poll question first so that we get that in before everybody drops so you all can get your credits. Polling Question #4: While you guys are thinking about that, just want to let you know, I know we've gotten a lot of questions in Q&A chat. Thank you to everybody for asking those questions. We will make sure to get back to you via email if we didn't get a chance to answer your question today, because I know that there's a lot to say on this topic. So give you all just another minute there. And as Michael indicated, we have sort of a mini wish list, or maybe not so many, of different items that we are still waiting for guidance on.

So we're all hoping that we will get a chance from treasury as part of OZ 2.0 guidance to get some of those questions answered. I'm not sure we have time to go into it now since we're already yet. 159, but I want to let you all know that we are certainly on our radars to get some of these questions answered.

Michael Torhan:
Yeah. Foreign ownership was the correct answer, right? So again, for everybody, obviously US taxpayers are allowed to participate. And I think overall, again, like Jessica just said, there's a lot to talk about on this topic. There's a lot of opportunities here, I think going forward. I think they've really changed the program that in a way that's going to create a lot more opportunities. They've really created a permanent program. There might have been some hesitation over the last eight years for the very large institutions to kind of consider it because of the finite timeline, but now it's permanent. There's going to be opportunities for open-ended funds. We've been seeing questions like that, again, because you're going to be able to have funds that continue on. And definitely, we've been working with our internal fund admin team here and they work with open admit funds. And so that's a topic that has come up.

As we get more guidance, this is just a code that's been updated. We're hopeful in the next couple, several months that we'll see some regulations get issued on these new provisions. I'm sure we'll have many more of these sessions, Jessica. There'll be a lot more topics to cover, but stay tuned.

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