Yesterday, in Part I, we reviewed the like-kind exchange rules.

Now we turn to the new kid on the block.

Qualified Opportunity Zones

The Act added Section 1400Z-2 to the Code, which allows a taxpayer to elect to temporarily defer the recognition of gain from the disposition of property which is reinvested in a QOF.[i] This includes gain from the disposition of real property.


In general, a QOF is an investment vehicle organized as a corporation or as a partnership for the purpose of investing in qualified opportunity zone property,[ii] and that holds at least 90-percent of its assets in such property.[iii]

In contrast to the like-kind exchange rules, the property that generated the gain that a taxpayer invests in a QOF need not be like-kind to the property held by the QOF. This may afford a taxpayer the opportunity to diversify on a tax-deferred basis.

That is not to say that diversification is not possible in the context of a like-kind exchange – though such diversification must occur within the universe of real property; for example, a taxpayer may acquire property in a different geographic area, they may acquire commercial property rather than residential, and vice versa, or they may acquire multiple replacement properties for a single relinquished property – but they must acquire real property.

Eligible Gain

Only capital gain is eligible for deferral under Section 1400Z-2.[iv]

Thus, capital gain from the sale of land held by the taxpayer for investment is eligible,[v] as is gain from the sale of real property that is used in the taxpayer’s trade or business and that is held for more than one year.[vi]

In addition, the capital gain from the sale of a taxpayer’s interest in a real property partnership, or their shares of stock in a real property corporation, will be eligible for deferral.

The proposed regulations expand upon the foregoing by providing that a gain is eligible for deferral if it is treated as a capital gain for Federal income tax purposes. Eligible gains, therefore, generally include capital gain from an actual, or from a deemed, sale or exchange, or any other gain that is required to be included in a taxpayer’s computation of capital gain.[vii]

The gain to be deferred must be gain that would otherwise be recognized[viii] not later than December 31, 2026, the final date under Section 1400Z-2 for the deferral of gain through a QOF. Thus, the window for utilizing the QOF deferral rules is fairly limited.[ix]

It should be noted that, in order to be eligible for the QOF deferral, the gain must not arise from a sale of real property to, or an exchange of real property with, a person related to the taxpayer.[x]

Eligible Taxpayer

In general, any taxpayer that recognizes gain is eligible to elect deferral under the QOF rules. These taxpayers include individuals, C corporations, and certain other taxpayers.

In addition, any time a partnership would otherwise recognize gain, the partnership may elect to defer all or part of such gain to the extent that it makes an eligible investment in a QOF. To the extent that the partnership does not elect deferral, each partner may elect to do so.[xi]

Eligible Investment

The proposed regulations clarify that, to qualify under Section 1400Z-2, an investment in a QOF must be an equity interest in the QOF; this may include preferred stock in a corporation, or an interest in a partnership with special allocations.

A debt instrument issued by a QOF is not an eligible investment.

Provided that the eligible taxpayer is the owner of the equity interest in the QOF for Federal income tax purposes, status as an eligible interest is not impaired by the taxpayer’s use of the interest as collateral for a loan, whether a purchase-money borrowing or otherwise.[xii]

Time for Deferring Gain

To be able to elect to defer gain, a taxpayer must generally invest in a QOF during the 180-day period beginning on the date of the sale or exchange giving rise to the gain.

Some capital gains, however, arise as the result of Federal tax rules that treat an amount as gain from the sale or exchange of a capital asset where no so event occurred. In those cases, as a general rule, the proposed regulations provide that the first day of the 180-day rollover period is the date on which the gain would be recognized for Federal income tax purposes, without regard to the deferral available under Section 1400Z-2.


If the election to defer the recognition of gain is made by the partnership that sold or exchanged the property at issue, no part of the deferred gain is required to be included in the distributive shares of its partners. To the extent that the partnership does not elect to defer the capital gain, the gain is included in the distributive shares of the partners.

If all or any portion of a partner’s distributive share of the partnership’s gain satisfies all of the rules for eligibility under Section 1400Z-2 (including that the gain not arise from a sale or exchange with a person that is related either to the partnership or to the partner), then the partner may elect its own deferral with respect to the partner’s distributive share – to the extent that the partner makes an eligible investment in a QOF – without regard to what the other partners decide to do. [xiii]

In other words, some partners may decide to defer gain recognition by investing in a QOF, while others will choose to recognize their share of the gain.[xiv]

Similarly, if a partner a realizes capital gain from the sale of their interest in a partnership that owns real property,[xv] the partner may defer recognition of the gain by making an eligible investment in a QOF.


The maximum amount of gain that may be deferred by a taxpayer is equal to the amount of cash invested in a QOF by the taxpayer during the 180-day period beginning on the date of the sale of the asset to which the deferral pertains.

Thus, if a taxpayer timely invests an amount of cash in a QOF equal to the entire gain from the sale, the gain will be deferred; the taxpayer does not need to invest the entire sale proceeds (i.e., the amount representing a return of basis[xvi]). Any capital gain that is not deferred in accordance with this rule must be recognized.

It should be noted that the cash invested by a taxpayer in a QOF does not have to be traced to the transaction that generated the capital gain that is being deferred. The amount invested by the taxpayer may come from another source; it may even be borrowed by the taxpayer.[xvii]

Recognition of Deferred Gain

Some or all of the gain deferred by virtue of the investment in a QOF will be recognized by the taxpayer on the earlier of: (1) the date on which the QOF investment is disposed of, or (2) December 31, 2026.[xviii]

In other words, the gain that was deferred from the original sale or exchange must be recognized by the taxpayer no later than the taxpayer’s taxable year that includes December 31, 2026, notwithstanding that the taxpayer may not yet have disposed of its equity interest in the QOF.[xix]

Death of Electing Taxpayer

If an electing individual taxpayer should pass away before the deferred gain has been recognized, then the deferred gain will be treated as income in respect of a decedent, and shall be included in income in accordance with the applicable rules.[xx]

In other words, the decedent’s estate will not enjoy a basis step-up for the deferred-gain investment in the QOF at the decedent’s death that would eliminate the deferred gain.[xxi]

Gain Reduction

A taxpayer’s basis for an investment in a QOF immediately after its acquisition is deemed to be zero.

If the investment is held by the taxpayer for at least five years, their basis in the investment is increased by 10-percent of the deferred gain. If the investment is held by the taxpayer for at least seven years, their basis is increased by an additional 5-percent of the deferred gain.[xxii]

If the investment is held by the taxpayer until at least December 31, 2026 – the year in which the remaining 85-percent of the taxpayer’s deferred gain will be recognized – the basis in the investment will be increased by the amount of such deferred gain.

The deferred gain is recognized on the earlier of the date on which the investment in the QOF is disposed of or December 31, 2026.[xxiii]

Elimination of Gain

In the case of the sale or exchange of an investment in a QOF held for more than 10 years, at the election of the taxpayer, the basis of such investment in the hands of the taxpayer will be adjusted to the fair market value of the investment at the date of such sale or exchange.

In other words, any appreciation in the taxpayer’s investment in a QOF will be excluded from their gross income, and will escape taxation, if the taxpayer holds the investment for more than 10 years. The taxpayer’s ability to make this election is preserved until December 31, 2047.[xxiv]

This basis step-up is available only for gains realized upon investments that were made in connection with a proper deferral election under section 1400Z-2.[xxv]

Because there is no gain deferral available with respect to any sale or exchange made after December 31, 2026, there is no exclusion available for investments in QOFs made after December 31, 2026.

Are we Talking Apples and Oranges? Or McIntosh and Red Delicious?

Probably the former.[xxvi] Although both the like-kind exchange and the QOF investment allow a taxpayer to defer the recognition of capital gain from the disposition of an interest in real property, they are founded on different principles,[xxvii] seek to achieve different goals and, consequently, require the satisfaction of different criteria.

At the most basic level, the like-kind exchange will probably continue to be the option chosen by an active investor in real property – one who wants to defer their gain, wants to retain an interest in real property that they will manage, but does not want to be limited by the requirements for a QOF, including their geographic restrictions.

A taxpayer who is withdrawing from the real property business, and who otherwise may have settled upon a Delaware Statutory Trust as their replacement property in a like-kind exchange, may find an investment in a QOF attractive, especially because they are already committed to becoming a passive investor, and they will need to invest only an amount equal to their gain from the sale, thereby allowing them to keep that portion of the sale proceeds equal to their basis in the disposed-of property.

In the case of a minority investor who is withdrawing from a real property partnership or corporation, an investment in a QOF may be the only game in town, and a fairly attractive one at that. This may especially be the case for a partner in a partnership who would realize a very large gain on their withdrawal from the partnership thanks to the deemed distribution of cash under Section 752 of the Code.[xxviii]

Finally, a taxpayer engaging in a deferred like-kind exchange, where none of the identified replacement properties can be acquired, may find that the only alternative to gain recognition is an investment in a QOF. However, query whether any qualified intermediary will release the sale proceeds before the expiration of the 180-day replacement period.[xxix]

Time will tell.


[i] Taxpayers will make deferral elections on Form 8949, which will be attached to their Federal income tax returns for the taxable year in which the gain would have been recognized if it had not been deferred.

[ii] In the case of real property, this means property located in the zone that is “substantially improved” by the QOF.


[iv] In general, the gain may be either short-term or long-term capital gain. Other than in the case of land that is a capital asset in the hands of the taxpayer, the disposition of real property will generate capital gain only if it has been held for more than one year.

[v] IRC Sec. 1221. A capital asset.

[vi] IRC Sec. 1231. Gain from the sale of real property that represents the taxpayer’s stock-in-trade does not qualify; nor does ordinary income arising from the recapture of depreciation.

[vii] For example, a distribution of cash by a partnership to a partner, that is treated as a sale or exchange of the partner’s partnership interest, and that generates capital gain, may be eligible for deferral. IRC Sec. 731, 741.

[viii] But for the deferral permitted under Section 1400Z-2.

[ix] That being said, who knows whether a future administration will allow the like-kind exchange of real property. The Obama administration tried to eliminate Section 1031 in its entirety.

[x] Similarly, the sale of a partnership interest or of shares of stock in a corporation may not be made to a related person if the gain therefrom is to qualify. IRC Sec. 1400Z-2 incorporates the related person definition in sections 267(b) and 707(b)(1) of the Code, but substitutes “20 percent” in place of “50 percent” each place it occurs in section 267(b) or section 707(b)(1).

[xi] Similar rules apply for S corporations and their shareholders.

[xii] The proposed regulations also clarify that deemed contributions of money under section 752(a) – e.g., when a partner’s allocable share of a partnership debt is increased – do not result in the creation of an investment in a QOF.

Compare this to a post-like-kind exchange refinancing, which may be viewed as separate from the exchange (if planned properly) and, so, does not generate boot.

[xiii] The partner’s 180-day period generally begins on the last day of the partnership’s taxable year, because that is the day on which the partner would be required to recognize the gain if the gain is not deferred.

[xiv] Many taxpayers long for such flexibility in the context of a partnership in which some partners want to engage in a like-kind exchange while other partners want to monetize their partnership interest.

[xv] Notwithstanding that the partnership remains subject to the partnership tax rules under subchapter K.

[xvi] Compare this to the requirements for a like-kind exchange, where the taxpayer must acquire a property with at least the same fair market value and equity as the relinquished property if they want to defer the entire gain.

[xvii] For example, if partnership sells an asset that generates capital gain, and a partner elects to defer their share of such gain, they may have to borrow the proceeds to be invested in a QOF if the partnership does not make a distribution.

[xviii] A like-kind exchange allows an indefinite deferral of gain.

[xix] As to the nature of the capital gain – i.e., long-term or short-term – the deferred gain’s tax attribute will be preserved through the deferral period, and will be taken into account when the gain is recognized. Thus, if the deferred gain was short-term capital gain, the same treatment will apply when that gain is included in the taxpayer’s gross income in 2026.

The gain deferred in a like-kind exchange, in contrast, may be deferred indefinitely – i.e., until the replacement property is sold.

[xx] IRC Sec. 691.

[xxi] Compare this to the gain deferred in a like-kind exchange, where a basis step-up at the death of a taxpayer may eliminate the gain.

[xxii] 15-percent, in total. Because of the December 31, 2026 “deadline” described above, a taxpayer will have to sell and reinvest their gain by December 31, 2019 in order to enjoy the full 15-percent basis adjustment (7 years). Like-kind exchanges have no such holding period requirements.

[xxiii] Only taxpayers who rollover qualifying capital gains before December 31, 2026, will be able to take advantage of the special treatment of capital gains under Section 1400Z-2.

[xxiv] That’s many years of potential appreciation.

[xxv] It is possible for a taxpayer to invest in a QOF in part with gains for which a deferral election under section 1400Z-2 is made and in part with other funds (for which no section 1400Z-2 deferral election is made or for which no such election is available). Section 1400Z-2 requires that these two types of QOF investments be treated as separate investments, which receive different treatment for Federal income tax purposes.

[xxvi] I’ll take an apple over an orange any day.


[xxviii] This is basically a recapture of tax benefits – previously received by the taxpayer in the form of deductions or tax-free distributions of cash – attributable to funds borrowed by the partnership.

[xxix] See the safe harbor under Reg. Sec. 1.1031(k)-1(g)(6).