Qualified Opportunity Zones vs. Code 1031

Larry R. Kemm

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Cristin Conley Keane

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Qualified Opportunity Zones vs. 1031

by: Larry R. Kemm, Cristin Conley Keane of Carlton Fields - The Tax of Life

Wednesday, January 30, 2019

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For years, Code § 1031 has been a popular way to defer taxation on the sale of capital gain assets. However, Code § 1031 has significant requirements, including complex timing and identification requirements and a requirement that the capital gain asset be exchanged with “like kind” property that, as of the enactment of the so-called Tax Cuts and Jobs Act in 2017, must be real property. With the enactment of Code §§ 1400Z-1 and 1400Z-2 in the Tax Cuts and Jobs Act, the ability to defer current capital gains (and potentially avoid taxation on future appreciation) by investing in real property in a Qualified Opportunity Zone has expanded options for taxpayers with capital gains. The following chart compares the requirements, pros, and cons of Code § 1031 Like Kind Exchanges and Code § 1400Z-1 Qualified Opportunity Zones.

	§ 1031 Like Kind Exchanges	§ 1400Z-1 Qualified Opportunity Zones
Relinquished Property – Character and Use	Must be real property No personal property, even property used in or on real property as part of business	Any property that generates capital gain Can be real or personal, tangible or intangible property
Replacement Property – Character and Use	Must be real property No personal property, even property used in or on real property as part of business	Tangible property used in a trade or business located in a Qualified Opportunity Zone Can be real or personal property
Does replacement property have to be “like-kind” to relinquished property?	Yes All real property is like-kind to other real property	No
Identification requirements for replacement property?	Replacement property must be identified in 45 days, with limit on number of properties	No separate “identification” requirement, but must be in a Qualified Opportunity Zone
Acquisition of replacement property	Within 180 days	Must invest in Qualified Opportunity Fund within 180 days Qualified Opportunity Fund must meet 90% Asset Test
Proceeds that must be rolled over into qualifying investment	Entire proceeds from sale	Only the gain from the sale
Taxpayer vs. Property Analysis	Taxpayer selling property must also acquire replacement property, creating issues when partners don’t all want to engage in like-kind exchange	Either partnership or its partners may elect deferral. Similar rules apply to other pass-through entities, such as S corporations and their shareholders, and estates and trusts and their beneficiaries
Partnership or LLC interests	Not allowed	Allowed, as long as meet the requirements of Qualified Opportunity Zone Partnership Interest
Stock in corporations	Not allowed	Allowed, as long as meet the requirements of Qualified Opportunity Zone Stock
Additional Capital Requirements	No	Qualified Opportunity Fund must either create a new business located in the Qualified Opportunity Zone or substantially improve an existing business located in the Qualified Opportunity Zone.
Timing of inclusion of deferred gain	Upon sale of replacement property (unless further deferred in another like-kind exchange)	Earlier of: sale or exchange of Opportunity Zone Fund investment or 12/31/26
Reduction in deferred gain inclusion through basis step-up	None	10% basis step-up if hold investment 5 years before December 31, 2026, 15% basis step-up if hold investment 7 years before 12/31/26
Timing of inclusion of gain over and above deferred gain	Upon sale of replacement property (unless further deferred in another like-kind exchange)	Upon sale of opportunity zone fund unless held for more than 10 years, in which case there would be no gain
Related parties	Not prohibited, but 2 year holding period after exchange required	Sale to related party cannot be deferred