Three Opportunity Zone Investing Examples
$100,000 capital gain invested in opportunity fund doubles in value after 10-year holding period
In this first example, assume that the investor realizes a $100,000 capital gain on his/her original investment. This could be from sale of any asset (stock, mutual fund, real estate). It doesn’t matter where the gain came from.
On December 31, 2018, the investor invests the $100,000 capital gain in a qualified opportunity fund. Note: this investment must occur within 180 days of the cap gains realization. By April 15, 2019, the investor simply needs to make an election on his tax filing, showing that this $100,000 capital gain has been rolled over into an opportunity fund. So long as the investor does not sell or exchange their share in the opportunity fund, his/her original $100,000 gain is tax deferred until December 31, 2026.
In the meantime, the basis in the original investment effectively “steps up” twice. The first step-up in basis is 10 percent on the 5-year anniversary of the opportunity fund investment. In this example, this occurs on December 31, 2023.
The second step-up in basis is an additional 5 percent (bringing the total step-up in basis to 15 percent) on the 7-year anniversary. In this example, this occurs on December 31, 2025. Remember, the tax on the original $100,000 gain was deferred until December 31, 2026. Therefore, on April 15, 2027, the investor finally owes capital gains tax on the original gain. But because the investor has received the full 15 percent step-up in basis from the original investment, instead of paying capital gains tax on the full $100,000 amount, he/she is now only obligated to pay capital gains tax on $85,000.
Assuming a capital gains tax rate of 20%, the investor would have a tax bill of $17,000 due on April 15, 2027. Without the opportunity fund investment, the investor would otherwise have owed $20,000 in capital gains tax on April 15, 2019.
Furthermore, let’s assume that after a 10-year holding period, the investment in the opportunity fund has doubled. The investor’s $100,000 share in the opportunity fund is worth $200,000 when he/she sells it on December 31, 2028. Having held the opportunity fund for at least 10 years, The investor is now able to waive his entire gain for tax purposes. He/she owes 0 on the subsequent $100,000 gain.
In this example, the investor effectively paid only $17,000 in capital gains tax on $200,000 in total gains. Without the opportunity zones tax rules, an investor would normally owe $40,000 in taxes on $200,000 in capital gains (assuming a 20% rate). Thus, the investor has saved $23,000 in taxes.