Opportunity Zone Regulations: Round 2

Date: July 30, 2019
“Good things come to those who wait…”

At long last, on April 17, 2019, Treasury released its second set of proposed regulations providing guidance on Opportunity Zones. (Available here). These proposed regulations answer some questions about how operating businesses can take advantage of the Opportunity Zones. Of particular note and as highlighted below, Treasury provided much needed guidance and flexibility regarding leased property.

One of the key questions for operating businesses positioning themselves for investment as Qualified Opportunity Zone Businesses was how leased property would be treated under the regulations. The regulations propose two general criteria which must be met for leased tangible property to satisfy the 90% asset test (§1400Z-2(d)(1)) or the “substantially all” test (§1400Z-2(d)(3)(A)(i)): (1) leased property must be acquired under a lease entered into after December 31, 2017, and (2) substantially all of the use must be in the Opportunity Zone during “substantially all” of the lease period.

Leased property is no longer subject to the “original use” requirement or the “substantial improvement” requirement, and the property can be leased from a related party.

Any lease must be a “market rate lease,” as determined under §482. Additionally, if the lessor and lessee are related: (1) the lessee cannot make a prepayment for a period of use exceeding 12 months and (2) the lessee must purchase tangible qualified Opportunity Zone Business Property with a value equal to or greater than the value of the lessee’s leased personal property (the regulations include methodologies for valuing the leased personal property).

In general, this set of regulations is favorable to making operating business investments in Opportunity Zones by enabling a broad range of businesses to qualify as Opportunity Zone Businesses.

Aggressive planners should be aware that these regulations include an anti-abuse provision that permits Treasury officials to revoke a tax break for any Opportunity Zone project “if a significant purpose of a transaction is to achieve a tax result that is inconsistent with the purposes” of the program. While the design of the program generally requires self-reporting of qualifications, it is important to ensure that Opportunity Zone projects are structured to meet the requirements of the regulations.

For more general information about the Opportunity Zone program, please refer to our earlier article, What You Should Know About Qualified Opportunity Zones.