IRS Final Regulations on Opportunity Zones, with Tony Nitti

Tony Nitti

Final regulations on Opportunity Zones have been issued by the IRS. What are the most meaningful changes and additions to be aware of?

Tony Nitti is an Aspen-based real estate tax law expert, CPA, and tax services partner at RubinBrown. He serves on the editorial advisory board for The Tax Adviser. He’s also a regular contributor at, where his latest article breaks down Opportunity Zones law and regulations.

Click the play button below to listen to my conversation with Tony.

Episode Highlights

  • Did the IRS get it right?
  • Why investor appetite in Opportunity Zones has been lacking so far, despite the hype.
  • A brief history of the Opportunity Zone tax incentive.
  • Analysis of the most meaningful changes and additions to the final regulations, including:
    • Treatment of 1231 gains.
    • Treatment of installment sale gains.
    • Death of the sell-in fund.
    • Best options for existing OZ property owners.
    • 180-day timing rule for passthrough entity partners/shareholders.
    • 62-month working capital safe harbor for certain businesses.
    • The lack of a failure limit for the 90% asset test.
    • Ambiguity regarding the treatment of triple-net leasing businesses.
    • Treatment of vacant property for the original use rule.
    • Clarifications to the substantial improvement test.
    • Treatment of gain arising from asset sales after 10 years.
  • The outlook for the OZ marketplace in 2020 and beyond.

Featured on This Episode

Industry Spotlight: RubinBrown


An independent member of Baker Tilly International, RubinBrown is one of the nation’s leading accounting and professional consulting firms with particular expertise in New Markets Tax Credits, Low Income Housing Tax Credits, and Opportunity Zones.

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About the Opportunity Zones Podcast

Hosted by founder Jimmy Atkinson, the Opportunity Zones Podcast features guest interviews from fund managers, advisors, policymakers, tax professionals, and other foremost experts in opportunity zones.

Show Transcript

Jimmy: Welcome to the Opportunity Zones Podcast. I’m your host Jimmy Atkinson. And nearly two years after the opportunity zones tax policy was enacted into law, the IRS has issued final regulations on qualified opportunity funds. The final regs merged the first two sets of proposed rules and provide additional clarity on a variety of issues. There are also a handful of changes made between the proposed regs and these final regs. Joining me to discuss the new regulations with me today is Tony Nitti. Tony is a CPA and tax services partner at RubinBrown, he serves on the Editorial Advisory Board for “The Tax Adviser,” and he is a regular contributor at Tony is traveling for the holidays, but he’s gracious enough to join us from his home away from home in New Jersey. Tony, welcome back. Always great to have you on the podcast.

Tony: Thanks, Jimmy. It’s good to be back. The IRS has given us no shortage of things to talk about since we first met.

Jimmy: Yeah, yeah, this is your third time on the show. You were previously interviewed on the inaugural episode of this podcast, episode number one. We discussed the basics of the OZ incentive and the first tranche of regulatory guidance. That was back in November of 2018, and you joined me again in episode number 23 back in April to help us break down the second tranche of proposed regulatory guidance. And now, you’re back with us again today to give your thoughts on the final regulations that IRS has issued on qualified opportunity funds, so thank you for your time once again. So, Tony, to start us off, what are your high-level thoughts on the final regulations before we drill down and get into the weeds? I just want to know, in your view, did the Treasury and the IRS get it right?

Tony: Yeah, that’s a great question. You know, my high-level thoughts are that we give the IRS, at least in my industry, a lot of heat sometimes for, you know, not giving us the guidance that we crave, but they’ve really done very well in general with the opportunity zone rules. I mean, these are incentive-based provisions where we needed guidance quickly. And I know some people may have been frustrated that it took almost two years to the day to get final regulations, but there was a lot to handle here. And one of the things a lot of people don’t appreciate about regulations is you can’t undo sloppy drafting in the code, the statute itself. And so, once the code is written, the people who write the regulations are, kind of, locked into adhering to that sloppy writing. And there’s a lot of that in the opportunity zone rules. And so, you know, aside from just addressing all the myriad of issues that people have posed about opportunity zone investing, the Treasury also had to deal with just, again, being, kind of, hamstrung by sloppy legislative text.

And given all those things, I think, with the final regs being published last week in the manner they have, I really think they’ve done a great job. I think the overwhelming majority of sticking points or hurdles towards investment have been addressed. There’s always going to be some lingering questions and these regulations are no different in that regard. But, you know, I think that the IRS did as much as they could given, you know, how much guidance they had to roll out under the Tax Cuts and Jobs Act, and given, you know, just how many questions there were about this. I think they’ve done about as good a job as they could have.

Jimmy: Yeah, I think you’re right. I know you’ve been pretty critical of the legislative text from day one with this OZ tax incentive. I remember the last time we spoke back in April, you indicated that getting that second set of proposed regs should open up an all-systems-go approach to moving forward with opportunity zone investing. But just reading through your latest article on from earlier this week, it’s clear that this hasn’t born out the way you had anticipated. Are you frustrated with the level of interest in opportunity zones or lack thereof?

Tony: Yeah, Jimmy, I know I certainly, kind of, poked some fun at all the hyper opportunity zones in my article versus, kind of, what is actually happening. And, of course, I don’t speak, you know, for everybody. It’s just, my experience has been an interesting one, and it’s one that’s been echoed, kind of, to me as I’ve spoken on this topic around the country. But what I get at is look, there may be plenty of O-Zone investments happening around the country, and I actually know that they are. But from a tax accountant’s perspective, the frustration has just been that, you know, so much time and effort goes into learning all of these different rules, and so much communication with clients and prospects alike. But, you know, all it takes is, kind of, for one step in the process to not appeal to a client or a prospect and they shy away from an opportunity zone, whether it’s the location of the zones nearby, or whether it’s the 10-year holding period, or whether it’s the uncertainty of the rules. You know, and just, it’s one of those things where we’ve invested so much time as an industry getting our arms around these rules, and it’s not something we’re, you know… Accountants advising opportunity zone investors are not sitting around lighting cigars with hundred dollar bills. I mean, we didn’t get rich off of this type of work. You know, we’re just answering questions. And, again, a lot of times, it’s not going anywhere because it doesn’t take much for a client to, kind of, you know, have a reason to be reticent about doing this sort of thing.

And so, I will say that beyond my personal experience, it has been amazing how many people have come up to me at big conferences. You know, I’ve taught it around the country, big conferences, and just said, “Hey, you know, are any of your clients actually doing this stuff because mine aren’t?” And, again, small sample size, all that stuff taken into consideration, but, you know, there’s been some frustration there now. Again, I don’t point to the IRS and the lack of or maybe confusion about some of the guidances being the main reason there hasn’t been the explosion I thought there would be in my own personal life. I just think, again, it comes down to clients, and appetite for risk, and maybe not fully understanding the many benefits that, you know, you can enjoy through an opportunity zone investment.

But yeah, I will say for my personal perspective, I don’t have nearly as many clients embracing opportunity zones as I thought they would, certainly in April. And again, more interesting to me than my own personal experience is that it seems to be a very common experience around the country. But, like I said, small sample size, you never know, but that has definitely been something I sense, that this hasn’t been as big of an opportunity for clients, you know, tax clients as I would have envisioned.

Jimmy: Yeah, I think this topic has come up on several of the last few episodes of “The Opportunity Zones Podcast.” The response from a lot of individuals, a lot of potential investors has been somewhat more tepid than we would have anticipated. I think, you know, we may have gotten a little bit caught up in how great the tax benefit is on the back end. I mean, it’s an amazing provision in the tax code as we’ve covered ad nauseam here on this podcast. But, it’s not for everyone. There’s a lot of hoops you have to jump through. The regulations are somewhat murky. They’re are a lot less murky now that they’re finalized, but they were murky for a very long time, and the locations are restrictive. As I said, it’s definitely not for everyone. So, hopefully, with this new set of regulatory clarity, we’ll see the OZ marketplace expand in 2020 and beyond, but we’ll see.

But with that said, Tony, let’s go ahead and dive into the new opportunity zones regulations now. IRS issued final regs last week. And I just want to recap for our listening audience now how we got to this point, in case you’re unfamiliar with the brief history of opportunity zones. So the opportunity zones tax policy was passed as part of the Tax Cuts and Jobs Act back in December of 2017, roughly two years ago. The opportunity zones themselves are census tracts that were designated on the map officially in July of 2018. The first tranche of regulatory guidance or proposed rules was issued by IRS last October 2018, and a second tranche of proposed rules were issued in April of this year, April 2019. And now, this new release from the IRS, which occurred last week on December 19, 2019, is the final set of regulations. So 6 pages of OZ statute from the Tax Cuts and Jobs Act have now led, finally, to 544 pages of IRS regulations on qualified opportunity funds.

So now the rules are finalized, and we’ve spent quite a bit of time in our prior two conversations, you and I, Tony, going through the basics of the tax incentives created by that statute, and the initial sets of rules that were proposed by the IRS. So I want our conversation today to focus, really, just on these final rules, and particularly the changes from prior versions, and anything new that the IRS has introduced.

In your article, you cite more than a dozen changes or new items to these final rules. And we may not have time to hit all of those points, and some of them are very technical anyway, but I do want to hit all of the big points. Let’s start with section 1231 gains because that’s one that is pretty clear and was a pretty obvious change for the IRS to make. An investor can now immediately contribute a 1231 gain without having to wait until the net is calculated at year-end. So I’ll lobby a softball here to begin our conversation. What are the effects of that one particular change, Tony?

Tony: All right. Well, Jimmy, I’m going to table that for one second. I’ll get into that specific. But I do want to just, kind of, say to your listeners, you know, if they’ve been following along with the opportunity zone rules since their inception and at least up to this point, you know, have been adventurous enough to read the regulations themselves, you know, they might’ve noticed that those first 2 tranches of regs were 70, 80 pages, basically. And as you just said, now you’ve got final regs that are 544 pages. And lest any of your listeners say, “Well, you know, I’m not that brave. I’m not going to read those regs,” you’ve got to understand, right, that 544 pages of regulations, the way regulations work, what they do is they go through pretty much every meaningful comment they got on the proposed regulations and then say how they address it. And so, you know, in those 544 pages, you might really only have, as you alluded to, maybe 15, 20 meaningful changes. And the rest is just, “Yeah, we considered what you said here, but we did nothing. We just considered what you said here. We did nothing.” And so, it can be a little frustrating because no matter how you slice it up, there is still half a thousand pages you have to read, but please don’t interpret that to think that there’s been wholesale and huge changes made to opportunity zones. It’s much smaller than that.

Jimmy: No, that’s a very good point, a very good point.

Tony: Yeah. And we can knock off a lot of the big changes here. So the first one, like you said, 1231 gains, I mean, this is probably going to frustrate people just because we kind of ended up back where we thought we were at the beginning. But 1231 assets are a unique asset in tax parlance. Usually, the simplest way to think about is depreciable property held in trade or business. So call it a rental building, or a piece of machinery, whatever it may be. And to determine the character of 1231 gains or losses during the year, you’ve got to net all your gains and losses together from those types of assets because the result is a chameleon. If you end up with a net gain, it’s capital. If you end up with a net loss, it’s ordinary. And that became important in the opportunity zone world because we know that only gain treated as capital gain can be contributed into a qualified opportunity fund. And so, with the proposed regulations, they came out and said, “Well, hey, you know, these 1231 assets like a rental building, we don’t know for sure how much of it is capital gain until the netting process is complete.” And the netting process isn’t complete until the last day of the year, and so you’re on hold even if you sell an asset on January 5th for a million dollars of gain, the 1231 asset, even if you know darn well you’re not going to have any 1231 losses for the year, you’ve got to just sit on the sidelines and wait until 12/31 of the year, you know, when the netting process is complete, and only then can you invest it into a fund. And people said, “Well, you know, I know I got nothing else going on and I want to get my investment going today. Why should I have to wait?”

Well, there’s people are going to be happy because the final regulations basically say, “Look, we just take a gross approach to 1231 gains and losses.” So if you have a gain on January 5th, we don’t care if you had a loss on January 4th and a loss on January 6th. That gain can stand on its own.” And, more importantly, the 180-day period begins immediately, so you can invest those funds right away. So it really is a great result for investors because as I said, you could have a million dollars of gain on January 5th, and even though you might have $600,000 of a 1231 loss in March, it doesn’t matter. As soon as that gain happens on January 5th, you could drop that whole million dollars into a qualified opportunity fund, and defer that gain, and start your investment. And even better for the tax dorks that are listening and are interested in this sort of thing, you know, now your 1231 loss that otherwise would have offset capital gain is now going to be an ordinary loss that stands on its own, so it’s an even better consequence. So this is a change a lot of people were angling for, and they got it in the final regulations.

Jimmy: Yeah, that little cherry on top with the recapture being able to count against ordinary income is a nice repercussion of that change as well. So we’ve got a laundry list of changes and new items that I want to go through, so let’s just, kind of, go through them one at a time. What about installment sale gains? That was another change that occurred in the final regs. Can you go through that a little bit?

Tony: Yeah. Here’s what I liked about this change because I’ve been asked this question 700 times, probably, since the O-Zone rules came out. And listen, what do I know? You know, what do I know about the way IRS is interpreting things that they’ve never formally answered? And so, I would give what I thought was a logical response, and it’s always refreshing to find out that that logical response was correct. But, people would ask over and over again, “Okay, what if I sell an asset on installment sale and under special tax rules I get to recognize gain? You know, if I’m going to get paid over 5 years, I get to recognize gain over 5 years instead of one year. You know, do I have 5 different gains that can be deferred into an opportunity zone with 5 different 180-day periods, or are they somehow treated as one gain?” And the IRS answered the question, you know, in the way we wanted it answered, which is “Hey, if you’ve got five different years’ worth of gains under the special tax method of reporting gains, then you’ve got five different gains eligible to be pumped into an opportunity zone.”

And so, that, you know, was interesting, but the more interesting aspect was, people said, “Okay, but riddle me this, right? What if the original sale happened prior to 2018, but now I’m receiving payments post-2017, and I want to defer that gain, right? We know that it has to be a gain derived from a sale after ’17, so am I barred from contributing those amounts to a QOF?” And again, I’m happy that I was getting this right because I was telling people, “Well, listen, you know, even if you sold something in 2016, if you’re recognizing gain under the installment method in ’18, ’19, 2020, under tax rules, it’s treated as if the gain was recognized in that year and not the year of sale. And so, I don’t see why you wouldn’t be able to defer that gain even though the underlying sale happened pre-’18.” I don’t know why they didn’t address it in the proposed regs, but the final regs, they finally just came out and said, “Oh yeah, absolutely, installment sale that was post… I’m sorry, pre-’18 that you’re receiving payments on post-’17, you can go ahead and defer those gains by investing them into an opportunity zone, even though the sale happened before the effective date of the legislation.” So that was another bit of great news for everybody.

Jimmy: Yeah, that was some good news. A bit of bad news now with this next item on the big laundry list here. The concept of a sell-in fund is essentially dead now. And by that, I mean a tax payer cannot sell an asset to a qualified opportunity fund and then reinvest those proceeds into that same qualified opportunity fund. Can you talk a little bit more about that rule-making?

Tony: Yeah. When the opportunity zone rules first came out, people thought this was going to be like the greatest tax planning idea ever. And what we’re going to do is take property that we held, like, inside a zone historically, for example, that wouldn’t qualify for any of these incentives because it had been acquired prior to ’18, but we’d be able to, like, for example, sell that property into a fund, recognize the gain. But then, defer that gain by dropping that cash into that same fund and, you know, have your cake and eat it too where, you got the property into the fund. So now, you’re going to enjoy the back-end 10-year benefits, but you also got to defer the immediate gain by putting it into the fund. And everyone was excited, and then everyone realized, “Wait a minute. Number one, there’s a related party rule.” And the related party rule says, “If you sell the property to a fund, unless, you know, you don’t care about having eligible gain, you’re going to need to keep your ownership of that fund under 20% because if you get over 20%, you’re related to the fund and you cannot invest gain generated from the sale to a related party.” So that was painful enough, but at least people thought, “Okay, fine. But, you know, I could sell to a fund and take back 10% or 15%, and put that money right back into the fund and defer the gain.”

Well, now, and again, this is something they probably should have addressed earlier, the final reg said, “Well, hold on. Let’s stop and think about this. If Jimmy Atkinson sells property to a fund for a million dollars of gain and takes back 10% of the fund, and then takes that million dollars of proceeds and immediately puts it back into the fund, well, what really happened here? The cash started at the fund, ended up right back at the fund, and Jimmy put in property into a fund in exchange for an ownership interest because the cash ended up right back where it started. And so, effectively what you’ve done is contributed that property to the fund rather than sell it to the fund since the cash didn’t stay in your hands. And we know that contributing property to a fund, right, is not going to give rise to eligible gain for you, nor is it going to be QOZBP to the fund because it wasn’t acquired via purchase. And so, yeah, what the final regs did is just say, “Hey, look at it logically. If you sell property to a fund, take those proceeds and put them right back into the fund, then under some tax principles like the step transaction doctrine and just, kind of, a circular cash concept, we’re going to merge all those transactions together.” And what we’re left with is, you put property in and got an ownership interest. But no sale happened, and so you can’t do it anymore.

Jimmy: So yeah, in that example I’m busted, and it, kind of, blows up the deal there. And so, the net effect of this rule is that an existing owner in an opportunity zone cannot get the benefit of 1400Z for the deal on their own properties. Is that correct or, I guess, at least not beyond that 20% related party limit. Is that right?

Tony: Well, even with the 20% limit, like you said, you can’t sell to that fund and then put that cash back into that fund. Like you said, it’s really makes it hard to benefit from your own property because, you know, if you sell the property to a fund, you’re going to have to put your money into another fund.

Jimmy: What is an option then for an existing owner in opportunity zone? I’m asking you this now because I get this question all the time, and I’m sure you’ve gotten it all the time as well, “Hey, I own this piece of property. I just found out it’s in an opportunity zone. How can I benefit?” What’s your best answer for people?

Tony: Man, you know, my best answer for people might be, unless you really want to engage in some proactive planning or doing a lease arrangement that has its own traps for the unwary, you might just want to take advantage of what should be elevated values for your property right now and wash your hands of it. Sell it to another fund, and, you know, just capitalize on the inflated values and not worry about being the one who actually develops it. You know, if you want to take your cash and defer it, then find yourself another fund or another project that you want to engage in,. That might be my best advice because right now, they’re clearly between this rule, and some of the lease arrangement rules, and just the broad anti-abuse provisions in 1400Z-2. They’re clearly making it very difficult for you to take property you own prior to 2018, get it into a fund, and still enjoy the top-end benefits. And so, sometimes it’s better to just not fight it.

Jimmy: Right. It’s doable but it requires jumping through a lot of hoops, and they officially closed one potential loophole here as we just discussed.

Tony: You bet.

Jimmy: The next item on the laundry list is the 180-day re-investment window or gain rollover window, so to speak. In particular for partners or shareholders in a pass-through entity, that 180 day window has been extended. Can you tell us a little more about that?

Tony: Yeah. This is another one that, you know, maybe should have been flushed out a little earlier just because of common sense. But, you know, think about this. If a partnership sells property for a gain, we know that the partnership has the right to defer that gain and contribute it directly or alternatively. The partnership can just pass out the gain to all the partners and let them do their things. But let’s say that partnership sold its asset on January 5th, again, my example. If it was January 5th, 2019, those partners might not even get a K1 or know they have gain until March of 2020. And so, we needed a special timing rule, and we got it in the proposed regs, and I said proposed. And the proposed regs said, “Look, the general rule would be, if you get allocated gain from a partnership or an S corp, the 180-day window begins on the last day of the partnership, or S corp’s tax year, so December 31st. However, if you’re really itching to get this investment going, you could elect to start the 180-day period on the date of the sale.” So if I’m a partner who got allocated a gain from that partnership that sold the asset on January 5th, the default setting would be, the 180-day period starts on December 31st, 2019, but I could elect to start it on January 5th. That’s all well and good, but in the real world, you know, sometimes these partnership tax returns, they don’t get squared away by the unextended due date of March 15th. I mean, these returns often get extended, and so, it could be April, May, June before a partner necessarily even knows what the amount of their gain is that they have to invest.

And so, the final regulations provide another option where now you could elect to start the 180-day period on the unextended due date of the partnership’s tax return. And so, the unextended due date would be, you know, for example, for a calendar year, a March 15th year-end. And so, you’ve now got three options when a partnership passes out gain to a partner or an S corp to a shareholder. The default setting is 180-day period starts in the last day of the partnership or S corp’s tax year, or by election, you could accelerate it to the day the partnership or S corp actually sold the asset, or you could elect to defer the start of the 180-day period to the unextended due date of the partnership or S corp’s tax return.

Jimmy: Which is currently March 15 for pass-through entities, as you point out. So, that actually pushes back the final deadline to invest in a qualified opportunity fund. I’ve long been telling people that, you know, your last possible date to invest in a qualified opportunity fund and be able to receive that 10-year exclusion benefit is, well, the gain has to be recognized by December 31, 2026. Add 180 days to that. That’s roughly end of June or a few days before the end of June 2027. But this actually pushes that deadline out a little bit farther now to early to mid-September of 2027, 180 days beyond March 15, assuming that, that March 15 date is still the deadline for the 2026 tax year. So, and I suppose that’s subject to change as well. But, right now, I guess that’s the final deadline at the moment subject to change. The next item on our list is a new item in the regulations. It wasn’t part of the proposed regs. It’s a working capital safe harbor of 31 months has been extended to 62 months for certain types of businesses, I think primarily for startup businesses. Is that correct? Could you tell us a little more about that?

Tony: Yeah. This is actually, kind of, a little bit of a quirk because you’d think it’s because, you know, why does the working capital safe harbor exist, the 31 month, right? It exists because this whole idea of qualifying as an opportunity zone investment is predicated on doing business inside a zone, and doing business is ultimately measured by the assets that we hold. But, you know, if you’re constructing assets or starting a business, it’s tricky to convert the assets quickly from, you know, invested capital into whatever, bricks and mortar, or hard assets, or whatever it may be. And so, we got this 31-month safe harbor to bail us out. But what they did is, they realized, “Well, you know, some startup businesses, the problem is, by definition, none of your assets can be qualified opportunity zone business property unless they’re being used in a Section 162, what it’s called in the tax world, trade or business.” And, you know, what trips people up sometimes is they may think because they opened up a corporation and they slapped a name on some marketing material, that they’re operating a trade or business.

But that’s not how the tax law works. We have a period of time where we’re in what’s called a startup mode. Startup businesses generally can’t deduct their expenses. They have to be capitalized, but the bigger point is, during that startup time, they’re not treated as being engaged in a trade or business. And so, think about it. By definition, if you’re not engaged in a trader business, none of your assets can qualify as opportunity zone business property because you’re not in trade or business. And so, here they’re giving us an expanded 62-month safe harbor rather than a simple 31-month safe harbor, as long as certain requirements are met as far as cash coming in the door and things like that. But it really does expand the ability and prolong the ability for assets to qualify as business property even though there’s no actual underlying operating business at that time.

Jimmy: Yeah. To me that’s really interesting. I almost feel like that may be too much flexibility. I don’t know. Certainly, the IRS has thought longer and harder about this than I have, but five-plus years seems like an awfully long time. I suppose it’s good. It’s good for investors. But I’m wondering if it might be gained at some point down the road by somebody just to get that tax deferral for five years and then say, “Well, never mind.” I don’t know.

Tony: I think it speaks to what they’re trying to do with these regs, which is, you know, leniency, leniency, leniency, making this as easy as possible on people to meet the spirit of the incentive, which is, to, you know, add value to these opportunity zones by bringing in jobs or improving the aesthetics or the value of the underlying real estate. And, they want to give people every opportunity to get that done, which is why, we’ll probably touch on this later, but it befuddles me that they’re still drawing a hard line with triple net leases. But it is what it is.

Jimmy:Yeah. We will get to triple net leases. That’s a little bit further down my laundry list. I want to talk a little bit now with you about a point you made about the 90% asset test at the fund level, and how there’s no limit to the number of times that a fund can fail that test before the deal blowing up, essentially, and the fund being deemed ineligible. What’s the consequence of there not being a limit to the number of times the fund can fail that test?

Tony: Well, you’ve given me a couple of chances so far, Jimmy, to kind of vent and say where I’m annoyed, and I, so far, have been pretty accommodating to the IRS and I haven’t taken any cheap shots. But I just do not get this. I do not get how I just had to parse through, you know, half a thousand pages of regulations and I still can’t answer what seemingly should be a very simple important question. Okay, we know if you don’t meet the spirit of the law, if you don’t invest 90% of your assets in qualified opportunity zone property, you know, that you’re going to pay a penalty for your shortage every month, basically, if you fail on a twice-annual basis. Okay, great. We’ve got all these rules that tell us what does qualify, what doesn’t qualify, how the penalty works, but yet the IRS addressed this multiple times in the regs, but, you know, just refrained from ever providing guidance. When is enough, enough?

Like, what happens if you just continuously fail? At what point does it all blow up? And we still don’t know. I just don’t see how it’s possible because what it does is it just makes it feel like an empty gesture to read 544 pages and understand all these rules because I’m not sure any of it matters. I mean, right now you can just fail the test every six months, pay the penalty, and still just carry on business as usual. Now, obviously, you don’t want to tempt fate by doing that. But it is very strange to me that we don’t know at this point when enough is enough, and when failure to satisfy the 90% test will jeopardize everything. And don’t get me wrong, it’s not like the IRS hasn’t talked about it. If you dig through the regs, you’ll see people are asking them that question, and they say, “Basically, we’ll get to it. We’ll get to it.” So, at some point we’ll find out.

Jimmy: Right. The IRS has a broad end anti-abuse provision that can shut down any of these funds that don’t adhere to the spirit of the incentive, but there’s nothing in writing, at least at this moment, as to when that threshold is crossed. So, but as you said, you know, you don’t want to tempt fate. I wouldn’t open up a qualified opportunity fund or invest in a qualified opportunity fund that it has no intention of ever meeting that 90% asset test. I think you’re just asking for trouble there. But it is interesting, as you point out, that they haven’t defined exactly what that limit is.

Tony: Well, I mean, they are, again, yeah, they cast a wide net, you know, with their anti-abuse provisions. They can put in a lot of different things. And so, maybe that’s their backstop to not having a specific, kind of, you know, fall-off-the-cliff level of violation.

Jimmy: I wanted to drill down into the asset test now at the QOZB level, Tony, at the qualified opportunities own business level because there the acid test is a 70% investment threshold. What happens if a QOZB fails to achieve that 70% test? Does that blow up the whole deal necessarily or is there a penalty there? And if there is a penalty, is it just for that period? Do you know how that works? Is that stated anywhere in the regs?

Tony: Again, unless I’m missing it, Jimmy, it’s just, kind of, an extension of what we just talked about. If you fail to qualify as a QOZB because you failed to meet the 70% test, then by extension, the QOF will fail the 90% test because it can’t count the value of your stock, and that means you pay a penalty. Okay, so what? We just talked about it. You’re paying a penalty, but we don’t know when that’s going to be a big problem or not. And so, not only do I not seem to care right now, when a QOF fails the 90% test, I don’t know that I care if a QOZB fails a 70% test, at least not yet.

Jimmy: Right. But suffice it to say, if your fund fails the 90% test, you’re going to pay a penalty, and if your QOZB fails the 70% test, you’re going to have a lot of bad assets in your QOF. And, potentially, your entire QOF is a bad asset if it just holds the one QOZB. You will pay penalties. And at some point down the road, if you have to pay enough penalties, the penalties themselves may not be enough to deter you. But at some point, the IRS could step in with an anti-abuse provision that completely knocks out your fund from the tax benefits. So be careful. Tread lightly, I guess. Try to stay in the good graces of the IRS. Tony, I’m going to give you some more chances to vent here because I know you’ve got some strong thoughts about what the IRS did with triple net leasing businesses. Can you tell us a little bit about what they did there in the final regs?

Tony: Yeah. And this frustration extends far beyond opportunity zones. For me, there’s other areas of the tax law where we’re, kind of, really desperate to understand an answer to this question. And the question is, as we alluded to before, none of this stuff matters unless you’re conducting a business inside a zone. And a business has a specific meaning under the tax law. It’s got to be a Section 162 trader business, which requires that you be engaged in the activity, one, for profit, and, two, with continuity and regularity. That’s all pretty easy to satisfy except certain types of rental properties, property rented on a triple net basis where the tenant is on the hook for the real estate taxes, the maintenance, and the insurance. The IRS has typically looked at and said, “Hey, you’re not that engaged in this whole thing because the tenant is the one bearing all the costs, and so, this is more akin to an investment than a trade or business.”

So my frustration with triple net leases extends far beyond opportunity zones, right? There’s a number of areas of the new law where we need to know if we are conducting a trade or a business. And clearly, with opportunity zones, it’s extremely important, right? I mean, you can’t have opportunity zone business property without a business, as we talked about before. And the idea of a trade or business and tax parlance is, kind of, nebulous, but the case law says, “Hey, to be a trade or business, you’ve got to be, one, entered into an activity for profit, and, two, be engaged in it with continuity and regularity. And that’s pretty easy to satisfy in a lot of situations. But we have some problems with rental properties, particularly property rented on a triple net basis because the IRS historically has said, “Well, if a tenant is bearing all the costs of operating the building, then for the landlord it’s more of an investment than a trade or business.”

And so, these triple net leases, often, have not been treated as trades or businesses, which would mean if we rented property in a triple net lease in an opportunity zone, we could lose all the benefits because it’s not a business. And so, in the final regulations, they acknowledge that, “Hey, people want to know. You know, what is truly a triple net lease or why can’t a triple net lease be a trade or business?” And I really believed they were going to be very flexible and forgiving in this context because, honestly, who cares how a good pharmacy or grocery store ends up in a zone? If it’s leased on a triple net basis, I’m not sure why we care if we’re meeting the spirit of the incentive and bringing that value into the zone. But, you know, what they did in the final regs is just, kind of, say, “Here’s two examples for you,” right? “Number one, triple net leases are not going to just categorically be treated as a trade or business, okay?”

And so, here’s two examples for you. Our first example, you’ve got one building, one tenant, triple net lease, Sorry, it’s not a trade or business, which is, kind of, what we always assumed. But then the second example, one building, three tenants. One is a triple net lease, two are not, “We’ll give you a trade or business status in that situation because you’re actively engaged.” And it’s like, “Okay great, but it doesn’t tell us anything of value. It doesn’t tell us, you know, what tweaks we can make to a triple net lease so that it wouldn’t be a triple net lease anymore.” Like, what if the tenant is on the hook for the interior repairs, and the landlord is on the hook for the exterior repairs or what if you had 10 tenants in one building and they’re constantly changing over. You know, is that enough to make it not a triple net lease? And so, I think a lot of people around the industry… And I was interviewed by a tax website on this the other day. A lot of people were disappointed in the way that guidance flushed out.

Jimmy: Yeah. It seems like they introduced more ambiguity than a clarification there in that one particular regard. So, it left a little bit to be desired there. I agree with you. Tony, we’re getting toward the end here of our laundry list here. I think we just got a couple of more points to go over here. You know, one other thing that the IRS ruled on was the treatment of vacant property for the original use test. What changed there, exactly?

Tony: So, the original use test, right? A lot of people get confused about this. But, hey, it’s not enough to just go buy a piece of, a rental property that’s in a zone and maintain the status quo because what have you really brought to the zone? I mean, the rental property was there yesterday and now it’s there under new ownership. And so, what they want is new property in a zone, and so that’s why we have the rule that everything has to meet either the original use test or the substantial improvement test. And original use generally means no one else has placed this property in service for depreciation purposes at any point. And that’s easy enough to, kind of, conceptualize, but what if a building has sat vacant for a while? You know, couldn’t you reach a point where you just, kind of, buy it, put it back into service, and have a new fresh start? And the proposed regulations said, “Yeah, but you’re going to have to have property that’s sat vacant for five years before we’ll give you that benefit of being able to just ramp it back up and be treated as original use.”

Well, the final regs are much more friendly. The final regs, kind of, have two different tests. If on the day that zone that the property was in was designated as a zone, if it was vacant on that day and had been vacant for a year up to that day, then as long as it remained vacant until you placed it back into service, you could buy a property that had been vacant for a year and a couple of days, place it into service, and satisfy the original use test. Now, if you have property that went vacant after the day the zone the property was in became designated as a zone, it has to sit vacant for three years before you can place it back into service. But, of course, three years is better than five. And so, a five-year rule has now become a three-year rule, and that three-year rule in certain situations, will become a one-year rule if the property were vacant for one year as of the date that the zone was designated as, you know, a qualified opportunity zone.

Jimmy: So, much friendlier there. A little bit more flexibility granted there for vacant property. The IRS also granted a little bit more flexibility when it comes to the substantial improvement test and the rules surrounding that, including the ability to include personal property in certain cases. Can you summarize some of the changes that they made to these substantial improvement rules?

Tony: Yeah. I mean, this is a big one because as I said, the idea is new investments. You can’t just buy an old property, keep the status quo, and qualify unless you’re willing to buy that old property and then renovate the heck out of it. And so, we have a general rule of substantial improvement where if you spend $500,000 on a building that doesn’t satisfy the original use test, you need to spend another $500,000 over a 30-month period to make that building qualify as qualified opportunity zone business property. And they really liberalized the rules here for substantial improvement in a couple of ways. Number one, they said that, “Look, let’s say it’s a hotel you’re renovating, and you bought it for $500,000.” And as I said, you’ve got to put another $500,000 into it. Originally, you had to simply add to the basis of that hotel. Like, you had to come up with half a million dollars of improvements to that hotel to substantially improve it.

Well, now they’re saying, you can count other assets that you purchase as meeting the substantial improvement rule, as long as those assets help, kind of, facilitate the use of that hotel. So, you know, gym equipment, and mattresses, and whatever else that goes into the hotel can now count towards that half a million that you need to spend over a 30-month period. And so, that is a huge rule that’s going to make people very, very happy because some assets that needed to be improved, people were saying, “How am I going to come up with, you know, a need for doubling the basis through improvements? Like, it doesn’t need that much work.” Well, now we know we can go out and buy other assets, and as long as those other assets help the asset you’re trying to improve do its thing, you’re going to be able to count those other assets as well.

And then, the other big, good bit of news there was a lot of confusion about, as we are now told, at least this is my read on it, is that, during the substantial improvement process, the assets that we’re improving will count as QOZB for purposes of the 90% or the 70% test. And I know there was a lot of confusion about that in the marketplace. “Well, how do I pass my tests while I’m renovating? Do the assets count or do they don’t count, you know?” And then, we did get a bit of bad news in the substantial improvement rules where, if we are improving nine qualified properties, so say Jimmy contributes property to a fund instead of selling it to it, well, we know from the funds perspective, that can never be QOZBP because it wasn’t acquired via purchase. Well, if you make improvements to that property, those improvements will also be non-qualified even though they may in their own right be qualified. But because you’re improving non-qualified property, the improvements will also be non-qualified.

Jimmy: Got you. No, that makes sense. There’s some good news there, some bad news there. I like the good news with the personal property now being able to be included. I think that makes sense if you purchase a hotel that’s, kind of, rundown, you might not need to make that many improvements to the building structure itself, but get some new beds. Get new bed linens. Get some new gym equipment. Get some new towels in there. Freshen up the carpets. I mean, that all counts. Maybe you have a restaurant. You know, get a new oven for the restaurant. Get new tables and chairs instead of having to, you know, redo the building or put a lot of money into the building itself. I think that makes a lot of sense to improve the economic condition of the business and the neighborhood as a result. I think this is our final laundry list item here. Let’s talk about the gain from asset sales after 10 years. That was a little bit unclear after the proposed regs came out. Can you talk a little bit about what they clarified there, exactly?

Tony: Yeah. And more importantly than clarify it, they expanded it, right? So, we started with the statute, and the statute said, “Hey, we’re investing in a QOF. That’s why we’re doing all this because, after 10 years, we can get, you know, tax-free growth.” But the statute required that you sell your interest in the QOF. Okay, fine, but that means you have to find a buyer interested in acquiring your interest in the QOF. And what if they don’t want to do that? What if they want to buy the real estate held in the QOF or real estate held in a subsidiary QOZB? And so, then, the proposed reg said, “Well, if a QOF or…” Well, it actually just said a QOF. “If a QOF sells its assets, then you as the owner of the QOF can elect to exclude that gain as well.” But it wasn’t quite as encompassing. If you sold your interest in the QOF, you could exclude everything. If the QOF sold its assets, you can only elect to exclude capital gain from the sale of QOZBP. So, if you had non-qualified opportunity zone business property, you couldn’t exclude that gain. If you had ordinary income depreciation recapture, for example, you couldn’t exclude that income. And so, it wasn’t quite as good a result.

The final regulations, number one, made clear that it could be a QOF or QOZB that sells its assets and it can be protected, And number two, it says, “Now, we can exclude all gain except for ordinary income from the sale of, basically, inventory, assets held for sale to customers in the ordinary course of business.” So the way I read that, you know, your depreciation recapture, your non-QOZBP assets, the gain from them will now be excludable. And so, you’re shrinking the universe of gain that you would still have to recognize even if you elect to exclude gain on the assets.

Jimmy: So, some more good news there, essentially. Overall, it sounds like the IRS made the rules more lenient. If they did make changes, in many cases, the new rules are more lenient compared to the proposed rules with the exception of a couple of the points that we’ve discussed today. Tony, were there any surprises or other major changes in this final set of regs that you feel is worth discussing right now?

Tony: No. I mean, there’s some small tweaks here and there that you and I didn’t get to. The ability to aggregate certain buildings for measuring substantial improvement is going to matter a lot to a handful of qualified opportunity funds. You know, some ability to have a small level of SIN business, so if you’re a hotel, you don’t have to worry that your spa business is going to disqualify you. There’s some small things here and there. To me, the biggest thing is, it blows… I know we touched on this, I’m sorry, but it blows my mind that we’ve been through over 750 pages of total regulations now in two years, and we still can’t advise a client when repeated failure to satisfy the test will blow up everything. I just don’t understand how we don’t have that guidance. But, other than that, I think we can be pretty happy with the changes that were made and the guidance that we have, and I think, you know, people have all, certainly, they need to keep moving forward.

Jimmy: Overall, it seems like the OZ world has widely accepted this final set of regulations. I think it’s made a lot of people happy. I know there’s a few people unhappy about a few points, but, by and large, on the aggregate, I think it’s some good changes that were made in the final regs here. And, I think, on the whole, people are happy. And then, as you said, you know, we should have enough now to proceed moving forward. I’ve actually said that since we got the second set of regs, but now it’s certainly true with these final set of regs. So, now that we do have the final set of regs here, Tony, what do you anticipate for the OZ marketplace in 2020 and beyond? And do you feel as though these final regs have done enough to put guardrails on this new investment vehicle such that investors, taxpayers will adhere to the spirit of the incentive?

Tony: Yeah. I mean, it’s interesting you said, you know, what do I expect in 2020 and beyond? Because, obviously I think the next 10 days are going to be anarchy because 5% of the benefit here, you know, the seven-year holding period can’t possibly be achieved if we invest after 2019. So, I think, in the next seven, eight days, the end of December… I’m not sure when this will publish. But the end of December is going to be a mad rush to get investment in so that people can get the seven-year holding period before 12/31/26. But as far as 2020 goes, what I’m starting to accept is, coming full circle to our opening conversations, you know, the clients that don’t like this, nothing is going to make them like it, not these regs, not anything else. But the people who like opportunity zones, that are excited about opportunity zones, these regs, they should do nothing to discourage the investment in the opportunity zone. Pretty much universally, the rules you and I discussed today are favorable, as you mentioned. So I would think, at this point, there’s no reason for anyone to delay investment into a zone because of guidance they’re waiting on. If there’s some other reason, fine, but as far as waiting for the IRS to bless a certain transaction, I think we’ve gotten all the good news we’re going to get.

Jimmy: No, I agree with you there. I think this is it. These are the final regs. Yeah, as we mentioned, there are a couple of loose ends that are still a little bit unclear, and maybe we’ll get some clarifications down the road. But if you’re adhering to the spirit and intent of the law, then you’re going to be just fine and this is it. These are the regs we’ve got, and they are very favorable, I agree, as you just mentioned. Well, Tony, this has been incredible. Round three, I think, was a success with you. Thanks for chatting with me today. Thanks for taking the time to educate me and our listeners a little more about the final regs here today. Before we go, can you tell our listeners where they can go to learn more about you and RubinBrown?

Tony: Yeah, sure. So again, probably the easiest way to gather all the information that I have to share about opportunity zones is either following me on Twitter @nittiaj, N-I-T-T-I-A-J, or, again, I have my own page and contributor section at, Anthony Nitti. But, yeah, I love coming out with you. Again, I apologize if there was some background noise today, but these are the perils of doing a podcast over the holidays, right? No school, everybody is home, so everybody is running around the house. But, always good to be back on with you, and I’m sure it won’t be the last time we talk. But thanks again for having me, Jimmy.

Jimmy: Yeah, absolutely. Well, thank you again, Tony, and happy holidays to you out there. It’s an early Christmas gift we got from IRS last week receiving this final set of regulations. Before we go, for our listeners out there, I will have show notes on the opportunity zones database website for this episode. You can find those show notes at And on that show notes page for this episode, you’ll find links to all of the resources that Tony and I discussed on today’s show. I’ll have links to the full text of the final IRS regulations on qualified opportunity funds if anyone’s brave enough to read them, as well as Tony’s newest article on And I’ll also link to his Twitter account, as well, where you can get in touch and follow along with my favorite coat head, Tony Nitti. Thanks again, Tony. I appreciate it.

Tony: You got it, Jimmy.

Jimmy Atkinson

Jimmy Atkinson

Hi, I'm Jimmy Atkinson... I founded OpportunityDb in August 2018. I'm a veteran Internet entrepreneur with a background in economics and Web marketing. I previously founded These days, I am passionate about impact investing and tax-advantaged investment opportunities. At the crossroads of these two ideals is the opportunity zones program, a place-based tax policy intended to economically transform some of the poorest areas of the United States with new real estate and business development.

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