When it comes to real estate investing, what single factor takes the biggest bite out of your profit margin?
Capital gains taxes.
You can expect to lose up to 20% of your returns to Capital Gains when it’s time cash out an investment simply as a matter of course.
And if you’re like most investors, this “cost of doing business” is a bitter pill after working tirelessly to amass investment funds, only to have the government take a hefty chomp out of your hard-won returns.
Thanks to the Tax Cut and Jobs Act passed in late 2017, however, there is a new avenue for real estate investors with the potential to drastically reduce your capital gains taxes.
So, what is this amazing new investment vehicle? Meet Qualified Opportunity Zones + Opportunity Funds
How do Opportunity Zones + Opportunity Funds Work?
The federal government is looking to promote investment in low-income areas. To do so, the feds are allowing investors, under the qualified Opportunity Zone program, to defer and reduce capital gains taxes on principal investments. And in some cases, eliminate capital gains taxes on returns earned through investment sales.
The catch? These investments must be made in an area designated as a Qualified Opportunity Zone.
What Qualifies An Area As An “Opportunity Zone?”
Low-income areas, based on census tracts, are assigned by state governors, and in turn, certified by the U.S. Department of the Treasury.
How Can Investors Take Advantage of Opportunity Zones?
You place capital earned in an asset sale into an Opportunity Fund. This is a fund that that invests a minimum of 90% of its assets into partnership interests, businesses, or property, which includes real estate, factory equipment, and other physical goods in an Opportunity Zone.
What Tax Benefits Do Opportunity Zones Offer Investors?
Typically, when you sell an asset and realize a capital gain, that gain represents taxable income. An Opportunity Fund, however, enables you to shelter much of that income.
If you aim to take advantage of this sheltering opportunity, there are several important points to keep in mind…
First… You’re required to move any capital gains into a Qualified Opportunity Fund within 180 days of your asset’s sale.
Shifting this capital into an Opportunity Fund affords you two options:
(A) Defer paying taxes on that gain until December 31, 2026
(B) Defer paying until they sell their Opportunity Fund investment.
The only other qualify factor being which date arrives first.
Deferring your tax liability enables you to put much more of your investment funds to work for a far longer stretch. As such, you can invest capital that would typically go to pay taxes into a fund that earns returns for additional years. In essence, an Opportunity Fund extends the earning power of your investment monies.
Secondly… If you hold your Opportunity Fund investment for a minimum of five years before the December 31, 2026 disposition deadline, you can reduce your deferred capital gains tax liability by 10% through a step-up in basis.
And if you hold an Opportunity Fund investment for an additional two years, you can reduce your deferred capital gains liability by another 5%.
Thus, holding your Opportunity Fund investment for seven years before the December 31, 2026 deadline, you can slash your deferred capital gains taxes by 15%.
And thirdly… If you hold an Opportunity Fund investment for three more years (a full decade), you’ll pay zero capital gains taxes on any appreciation from your original Opportunity Fund investment.
The cherry on top, so to speak, of this investment vehicle, is that any gains earned from a ten-year investment in an Opportunity Fund qualify for a permanent capital gains deduction.
How do Opportunity Zones Compare to Other Traditional Investment Vehicles?
Let’s say you invest $100,000 in a typical stock portfolio and hold that capital in place for ten years. According to current forecasting, you’re likely to see roughly a 30% return on investment (ROI), netting an additional $30,000.
Due to the tax-savings involved, projections for Opportunity Funds are scaling at over a 70% return. Thus, you’re looking at a $70,000 gain on that same $100,000 investment over a ten-year horizon. That’s more than double the gain margin of a traditional stock portfolio investment.
Interested in Opportunity Funds? Seek Qualified Advice Before Diving…
As with any investment vehicle, Opportunity Funds carry potentially significant tax liabilities. So, as tantalizing as this investment may appear, it’s in your best interest to consult a qualified tax professional before taking any action.
Have Questions About Opportunity Zones?
Wondering how the Opportunity Zones and related Opportunity Funds can benefit your real estate investments?
Get in touch to discuss your options: email@example.com