Significant Interest, Variety of Issues Raised During IRS OZ Hearing

Published by Michael Novogradac on Tuesday, February 19, 2019 - 12:00am

Any question about the level of interest in proposed Internal Revenue Service (IRS) regulations concerning the opportunity zones (OZ) incentive was answered last Thursday.

More than 200 people crowded into the IRS auditorium in Washington, D.C., to hear the scheduled 23 speakers address proposed regulations issued in October 2018.  The IRS auditorium where the hearing was held reached its capacity of about 200, which meant many who showed up to attend had to be turned away. The hearing came after the IRS received about 150 letters commenting on the regulations during the public comment period.

The public hearing on OZs was delayed about five weeks due to the partial government shutdown, but the response showed the level of interest from a variety of stakeholders in an incentive that could unlock trillions of dollars for investment in low-income communities across the nation.

While most of the comments were focused on the first tranche of guidance, the hearing was conducted in the shadow of a second tranche, which could to go to the Office of Information and Regulatory Affairs–the final step before its release–in the next few weeks.

One of the key issues during Thursday’s hearing was the methodology for applying the 90 percent asset test and the 70 percent asset test. My partner John Sciarretti and I, representing the Novogradac Opportunity Zones Working Group (OZWG), addressed that issue, as well as the substantial improvement test and the time to become a qualified opportunity zone business.

We proposed that qualified opportunity funds (QOFs) and OZ businesses should have the option to use the unadjusted cost basis method in determining compliance with the 90 percent and 70 percent property tests, even if they have an applicable financial statement.

We weren’t alone in that approach. The Texas State Bar, represented by Adam Harden and Chris Goodrich, also supported a proposal to use the unadjusted cost basis for the 70 percent and 90 percent tests.

Lori Chatman, senior vice president of Enterprise Community Investment and president of Enterprise Community Loan Fund, called for a threshold of more than 70 percent for a partnership or corporation’s tangible property that is owned or leased to be qualified OZ business property when applied to real estate investments. (The OZWG generally supports a 90 percent tangible property in an OZ rule for real estate, but also believes the stricter qualified opportunity zones business property rule should remain at 70 percent for real estate.)

John Lettieri, president and CEO of the Economic Innovation Group, shared issues that he said are limiting investment in OZs. He cited a need for a safe harbor to ensure flexibility in timing for QOFs, sought reconsideration of the requirement that 50 percent of gross income of a business be derived from the active conduct of trade or business in the OZ and asked the IRS to make it clear that an investment in a QOF won’t be compromised when a fund sells an asset and reinvests the proceeds in another qualifying investment.

There also was testimony about the desire for reporting requirements for OZ investments, including from Fran Seegull of the U.S. Impact Investing Alliance for “basic, transparent data on opportunity funds and their investments” in order for an efficient marketplace to develop.

Steve Glickman, the co-founder and former CEO of the Economic Innovation Group and head of advisory firm Develop LLC, made a series of significant points, calling for a ramp-up time for QOFs, reasonable exits from funds, substantial improvements guidance and more.

Javelin 19 Investments’ Jill Homan ought some flexibility in the 180-day rule, the reasonable cause exception, time to become an active business and sought a 12-month safe harbor for cash at the QOF level, which parallels Novogradac’s OZWG view.

Stockton Williams, the executive director of National Council of State Housing Agencies, highlighted the need for additional guidance on the use of OZs with other tax incentives, including the low-income housing tax credit, new markets tax credit and historic tax credit. Chatman echoed those sentiments.

Frank Altman, the CEO Community Reinvestment Fund USA, emphasized the role of certified Community Development Financial Institutions in lending for community development and how the OZ incentive could be instrumental in developing an equity tool. Altman stressed that QOFs could be used as a “rich uncle” or “rich aunt” for low-wealth and minority entrepreneurs whose businesses are in OZs.

Scott Dacey of PACE Government Relations called for flexibility in measuring compliance with the 90 percent asset test, citing the difficulty in doing so in land owned by tribal, municipal or state governments.

Support wasn’t universal. Kevin Kimble of the Financial Services Innovation Coalition spoke in opposition to the OZ incentive, and then pushed the IRS to implement changes that emphasize smaller transactions–requiring deals in the $1 million to $10 million range.

Thursday’s hearing is another in the series of steps for the IRS’s regulations, following the release of the proposed regulations and the public comment period. The next step will be final regulations, although as mentioned earlier, there will be a second tranche of proposed regulations coming soon.

Presumably, the second tranche may include guidance on such things as the federal income tax treatment of interim gains, what’s considered a “reasonable period to reinvest” proceeds from the sale of qualifying assets, measurement rules for leased property, application of the 50 percent gross income in the OZ rule, whether unimproved land needs to be substantially improved and the tax consequences of the distribution of refinance proceeds.