How to Protect Your Capital Gains with Opportunity Zone Investing

How to Protect Your Capital Gains with Opportunity Zone Investments

If you sold your property within the last 180 days, you can reinvest that capital gain and defer and reduce the tax you’ll have to pay at filing time. If the income results from the sale of assets in a partnership filing K-1, the 180 days runs from the end of the calendar year.

In this article, we’ll give you a concise overview of what opportunity zones are, how to get started investing, and why and how you might want to create your own qualified opportunity zone investment fund (QOF).

What Are Opportunity Zones? How Do They Protect My Capital Gains?

If you’ve recently realized capital gains (made a profit) from the sale or transfer of personal or partnership assets and you’re facing the payment of a large tax liability to the IRS – current capital gains taxes range as high as 20% depending on your income– opportunity zones allow you to put off or defer paying taxes as long as the investment is held in the QOF.

The Tax Cuts and Jobs Act of 2017 (TCJA) created the opportunity zone program to provide a financial incentive to investors for allocating capital to economically disadvantaged communities. The Act created more than 8700 designated qualified opportunity zones (QOZs)

What exactly are the benefits of investing in opportunity zones?

  • You can earn strong returns and pay no more than the original deferred tax (reduced by incremental step-ups in basis).
  • 10% step-up in basis after 5 years. Pay tax on only 90% of original gain.
  • 15% step-up in basis after 7 years. Pay tax on only 85% of original gain.
  • Complete elimination of tax on post-investment capital gains after 10 years.
  • Pay tax on only 85% of original gain if held more than ten years. No tax on subsequent gain.
  • You can invest in business or real estate assets.

Investing in opportunity zones allows you to protect your retirement and heir’s inheritance from excessive taxation by the federal government.

If you’re willing to commit to a 10-year investment, you can reduce your tax basis by 15%, and pay no capital gains tax on any new gain.

How Do I Get Started Investing in Opportunity Zones?

The first consideration is finding a QOF. Per the TCJA, QOZ investments must be made through a QOF.

There are two ways to approach this: you can either invest with an existing QOF or create your own by self-certifying with the IRS using form 8996.

Working with an existing QOF is a good choice if you’re looking for professionally-managed investments that won’t require you to be personally involved in property or asset management.

If you want more control over your money and investments, it’s not too difficult to self-certify as a QOF.

Now, the list of qualifications/requirements is a bit intimidating, but here’s a brief summary­–consult an investment advisor and accountant:

  • 90% of the funds assets must be held in opportunity zones.
  • Eligible entities include corporations, partnerships, and LLCs (those treated as a partnership or corp for tax purposes).
  • Self-certify with form 8996. No application or approval requirement.
  • QOF assets must be placed into service in a QOZ for the first time by the QOF, or
  • Be ‘substantially’ improved within 30 months.

Tips For Aspiring and Professional Opportunity Zone Investors

If you have capital gains to reinvest and the tax benefits are something that fit your financial and tax needs, you’ll need to proceed with caution before making a pledge.

Take care in researching, interviewing, and reviewing the offering memorandums of the QOFs you consider. Select a fund that specializes in the types of assets in which you’re most interested and that has a track record in QOZ investments or business and real estate development.

Creating your own QOF sound most appealing? Do your homework, evaluate your relevant experience, skills, and enlist the counsel and aid of real estate, legal, finance and other associated professionals to lend capability and credibility to your team.

Finally, inclusion in an opportunity zone doesn’t mean a great investment. Evaluate the market based on population growth, rental rate trends, quality educational institutions, strength of industry, zoning policy, and numerous other economic, regulatory, and social considerations.

Once you find a property or investment, conduct the same due diligence in assessing its condition, cash flow, and functional utility (livability and usefulness for modern buyers). Depending on the QOF, you can invest in an individual property or portfolio of units.

Time is of the Essence

Take action now to research your options if you need capital gains tax relief. You have a limited period from when gains are realized until they must be contributed to qualify for the tax-deferral benefits.

Depending on your background and how involved you want to be in the investment, you can either invest in an existing QOF or start your own and self-certify with the IRS.

Whichever path you choose, do your due diligence and select an investment based on the factors that you would consider for any traditional opportunity. When you choose a QOZ investment in a market with strong rental demand, favorable local policy, and economic growth, you’ll have a stable-return asset that shelters your existing and long-term gain.

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How Will I Pay the Mortgage When I Retire?

How Will I Pay the Mortgage When I Retire?

Approaching retirement is an exciting time when we can look forward to an easier-going lifestyle, less stress, and more time to do the things you love. After all the years of hard work, you deserve to reap the benefits of your studious work ethic and determination to succeed.

Of course, it’s not all party. Giving up a long-term career and making a life transition creates concerns for all of us.

Those that have considerable passive income or that continue to plan on working, might not be as concerned, but even for the well-prepared, retirement brings financial challenges.

If we’ve been entrepreneurs, often our portfolio of businesses and rental properties is our retirement fund. After years of holding and letting tenants pay down the mortgage, the build-up of equity can be enough to fund a fulfilling retirement or start a new venture and spontaneously pursue unforeseen opportunities for adventure.

What’s your goal?

What is your goal in retirement? Do you just want to quit working and struggle to pay the mortgage? Or, do you want to make a change and explore skills and achievements in an entirely new endeavor?

If it’s the latter, you’re going to need funds for your dream (most cases…). Even if you’re not worried about not being able to pay the mortgage or service the debt on your rental properties, you’re not going to want to continue paying for maintenance, annual property taxes, insurance, and management on high-society properties that demand constant attention.

You’re going to want to save that money for helicopter sight-seeing tours over Hawaii, cruises across the Caribbean, Times Square taxi rides, and whatever else you imagine in your retirement-travel wishlist.

Considering Financing Options

Currently in the process of buying a home or rental, or refinancing? If so, watch out for adjustable rate mortgages (ARMs) and home equity lines of credit (HELOCs).

The disadvantage of both these loan types, while they offer the opportunity to pull out equity in the form of cash and the potential for low or no initial payments, is that after a predetermined amount of time, ARMs will adjust the rate and payment to match a predetermined market indices such as the one-year LIBOR. During periods of decreasing interest rate, this can be very favorable; however, when rates are steadily rising, such as now, adjustable rate loan instruments pose a significant threat to your future cashflow. HELOCs pose the potential to hit the borrower with payments that can double when the initial ‘draw’ period ends and the ‘repayment’ phase begins.

Whenever committing to new financing on real property, particularly with rates approaching 5%, seek loans that feature a fixed-rate and no balloon payment. Adjustable rates and cashflow don’t support each other well in fast-growth markets with rapidly increasing interest rates.

Building Your Cash Reserves

To pay the mortgage on-time every month without strain, deal with capital expenditures (major repairs), changing business structures, and potentially increasing payments and rates on your existing or future loan, be sure to retain 10-20% of your net operating income (NOI) as a contingency fund. This will also help if you experience personal cash flow issues entering retirement. Maintaining your property consistently over the long-term will also improve its value, appeal, and demand from tenants, contributing to strong cash flow for you personally and in your portfolio.

Generating Consistent Cashflow

In addition to having an ample cash reserve to deal with unexpected expenses and economic changes, it’s important to keep a strong positive cash flow from your rental properties if you’ll be losing a significant share of income from retiring from your long-term day job.

What if you could skip all the management and financial responsibilities associated with owning rental property, and pay less in capital gains taxes on the proceeds of the sale?

We have several viable options that can help you retain your passive investment income while only dealing with the management duties of holding and receiving payments on a well-performing note.

Pursuing New Opportunities & Freeing Up Your Time

If you’re done with the growth phase of your investment strategy, and it’s time to cash in your equity or convert your cash flow from rental income to debt income, they you may want to consider selling the property either for cash, under lease option, or with seller financing. You can structure your sale to provide tax-sheltering benefits, give you the cash you need now, and provide a consistent cash flow for years to come.

Call us at (617) 250-7100 or click here to learn more about ways to keep your cash flow golden through your golden years.

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