On January 19, 2021, the IRS provided guidance for Qualified Opportunity Funds (QOF) and their investors in response to the ongoing COVID-19 pandemic by issuing Notice 2021-10.
Notice 2021-10 provides a number of extensions related to Opportunity Zone investments. These extensions further extend deadlines that were granted in Notice 2020-39 and apply to the 180-day investment window, the 30-month substantial improvement period, and the 90% investment standard requirement. It also addresses the additional time for a Qualified Opportunity Zone business to spend capital under the working capital safe harbor period.
Extension of 180-Day Investment Requirement for QOF Investors
Taxpayers who sold property for an eligible gain are generally required to reinvest the gain in a Qualified Opportunity Zone (QOZ) within 180 days from the date of the sale. Notice 2021-10 extends the investment window by giving investors until March 31, 2021, to invest eligible gains into QOFs if the original 180-day window for investment would have ended any time from April 1, 2020 through March 31, 2021. If the 180th day after a gain is recognized falls between April 1, 2020 and March 31, 2021, the taxpayer will have until March 31, 2021 to make an investment in a Qualified Opportunity Fund (QOF). This relief is automatic. However, a taxpayer will still need to make a valid deferral election in accordance with the instructions to Form 8949. They will need to complete Form 8997, and file the completed Form 8949 and Form 8997 with a timely filed federal income tax return (including extensions), or amended federal income tax return.
This extension provides a planning opportunity for investors who may have 2019 capital gains that can still be invested in QOF and who can then amend 2019 tax returns to request refunds for taxes paid on those gains.
Extension of the 30-Month Substantial Improvement Period for QOFs and QOZ Businesses
For purposes of the substantial improvement requirement with respect to property held by a QOF or QOZ business, Notice 2021-10 disregards the period beginning on April 1, 2020, and ending on March 31, 2021, in counting the 30-month period for substantial improvement. In other words, the 30-month substantial improvement period is tolled during the period beginning on April 1, 2020, and ending on March 31, 2021.
Relief from penalty if 90-Percent Investment Standard for QOFs is not met
A QOF is required to hold at least 90% of its assets in QOZ property, determined by the average of the percentage of QOZ property held by that QOF as measured (1) on the last day of the first six-month period of the tax year of the QOF, and (2) on the last day of the tax year of the QOF.
Under Notice 2021-10, if QOF fails the 90% investment standard test within the period starting on April 1, 2020, and ending on June 30, 2021, the failure is deemed to be due to “reasonable cause” and does not disqualify the QOF, or investments in the QOF, under IRC Section 1400Z-2. As a result, no penalties are owed. This relief is automatic. However, a QOF must accurately complete all lines on Form 8996 filed with respect to each affected taxable year EXCEPT that the QOF should place a “0” in Part IV, Line 8 (Penalty). The accurately completed Form 8996 must be filed with the QOF’s timely filed federal income tax return (including extensions) for the affected taxable year(s).
Extension of the 12-Month Reinvestment Period for QOFs
Under Notice 2021-10, if a QOF had previously disposed of a qualifying investment and was seeking to reinvest in a new qualifying investment (which it is required to do within 12 months of the disposition to be treated as continuously invested in qualifying investments) and if the 12 month period includes June 30, 2020, the QOF will have an additional 12 months to make the reinvestment.
In addition, Notice 2021-10 applies the additional 12 months for QOFs to reinvest certain proceeds to all QOFs that otherwise qualify, so long as the original reinvestment period included June 30, 2020. This 12-month extension includes any relief provided under Notice 2020-39, allowing a maximum reinvestment window of 24 months.
Reminder of the 24-Month Extension for the Working Capital Safe Harbor
For QOZ business projects that meet the requirements of the 31-month working capital safe harbor under the final regulations, the notice reminds taxpayers that due to the COVID-19 pandemic, Qualified Opportunity Zone Businesses with a “working capital safe harbor” before June 30, 2021, will have an additional 24 months (i.e., potentially up to 86 months) to expend the working capital.
These provisions are a welcomed response, providing clarification of the final regulations and helping investors and funds navigate delays in deploying their capital as a result of COVID-19. For more information, visit the IRS’ updated Opportunity Zones Frequently Asked Questions page.
Article written by:
Azra Nakicevic, CPA
Director, Tax & Business Advisory Services
Lorani Orobitg, CPA
Manager, Tax & Business Advisory Services