IRS Weighing New Guidance, Effect of Census on Opportunity Zones

The IRS and Treasury Department are wrestling with lingering questions about the 2017 tax law’s opportunity zone breaks.

Investors got clarity on many aspects of the opportunity zones perk in the IRS’s December final rules. But an agency official this week indicated that the agency still has more to do to fully implement the provisions. The law established capital gains perks in an attempt to drive investment to historically underdeveloped areas.

“We have to think about the 2020 Census and how that’s going to affect our zones,” IRS attorney Julie Hanlon-Bolton said Thursday at an American Bar Association event in Boca Raton, Fla.

The census could result in changes to some of the nearly 9,000 tracts designated as opportunity zones. Some states told Bloomberg Tax last year that they would consider expanding the areas eligible for tax breaks, if the Treasury Department were to allow it.

But Samantha Jacoby, a senior tax legal analyst at the Center on Budget and Policy Priorities, said the government should hold off on expanding the tracts until there is evidence that the policy is working as intended.

“This is still a new program,” she added.

Opportunity zones have drawn increased scrutiny from Democratic lawmakers following a series of media reports showing that politically-connected investors have benefited from the process of selecting which areas qualify for the breaks. That hasn’t scared away investors: An early January survey showed that funds set up to invest in opportunity zones raised more than $2 billion in a month.

Penalties, Decertification

No additional regulations for opportunity zones are in the works, but the agency is considering guidance on the loss of opportunity fund status and clarification of how penalties will work, Hanlon-Bolton said.

“We’ve started a conversation, and maybe we need to clarify penalties more in the instructions,” she said at the Boca Raton event.

IRS and Treasury spokespeople didn’t immediately respond to questions about the 2020 Census and future guidance.

Billy Morrow, a partner at BDO USA LLP in Jacksonville, Fla., who advises fund managers, said he expects “a lot of back-and-forth” between the IRS and investors who wind up with automatic, erroneous penalties based on whether or not they meet certain deadlines to raise and deploy their capital. They might be stalled by a local-government permitting process, for instance, a circumstance for which the December final rules provide relief.

“The IRS, they can assess you for being blue instead of green, and you have to prove, ‘no, I’m green,’” he said. “Precedent always helps, and there really just isn’t any right now.”

In the final rules, officials acknowledged concerns regarding the frequency with which violations are assessed, whether the penalties should be tied to a much broader anti-abuse rule, and whether consistently failing to meet requirements would result in a total loss of tax benefits.

The IRS and Treasury will consider those concerns in future guidance, according to the December rules.

It is an open question whether the IRS will eliminate opportunity fund status for well-intentioned managers who make repeated mistakes, or solely do so for funds structured or planned in an abusive way, said Derek Kershaw, counsel in Shearman & Sterling LLP’s tax practice.

“Is the IRS going to take a three-strikes-and-you’re-out kind of mentality?” he said.

—With assistance from Sam McQuillan