Opportunity Zone Magazine Opportunity Zone Magazine Volume 1, Issue 1 | Page 59

1031 EXCHANGE VS. OPPORTUNITY ZONES
asset, they are sometimes hesitant to sell due to the tax liability
the will have to pay. A 1031 exchange allows those clients
to defer those taxes with the requirement that they reinvest
into a new property at equal or greater in value. As it relates
to business interest, many investors have been discouraged to
even sell their business due to the lack of tax benefits for the
sale of their company. QOZ’s now provide taxpayers looking to
sell their business and real estate a new incentive to continually
invest into the economy. QOZ’s provide a further benefit that
the tax-payer, unlike 1031 exchanges, only has to reinvest the
amount of capitals gains into a QOZ.
QOZ’s now provide
taxpayers looking to sell
their business and real estate
a new incentive to continually
invest into the economy.
Many traditionally do not view their capital gains in the
itemized manner their CPA’s understand gains, but they
view their tax liability in a broader sense as it relates to their
business and the real estate owned by the business. With
QOZ’s, they can now keep that view and invest the gains from
the sale of their business, and the sale of their real estate into
a single QOF and defer their capital gains tax and even gain
eligibility for an exemption.
QOZ’s are a great tax benefit but they are not without possible
concerns. When a taxpayer is conducting a 1031 exchange,
the taxpayer has 180 days to reinvest their funds into their
replacement property(s). During this 180 days period, the funds
must be held with a qualified intermediary. This requirement
is in strict relation to the rule that a client can never be in
constructive receipt of funds. Misinformed clients often request
to begin the process of a 1031 exchange after they have sold
their relinquished property, closed escrow and received a check.
Many receive unfortunate news that they are now disqualified
from conducting a 1031 exchange because they are in
direct receipted of the funds. Further exploration of the
rule regarding constructive receipt has created a bit of a
controversy in the 1031 exchange industry. Courts have
argued whether or not a client, contacting the accommodator
and directing the accommodator to distribute funds to the
client or to areas that are not related to reinvesting of funds
into the replacement property. The issue surrounding this
particular scenario amplifies the word “constructive.” If
a client directs a qualified intermediary to take action
with the funds outside of the exchange and the qualified
intermediary complies, does that reflect the client’s control
over the qualified intermediary, and given the fact the
qualified intermediary has control of the funds, is the client
in constructive receipt of those funds? This entire example is
meant to display the great lengths the rules are structured to
keep the funds out of the client’s hands.
With QOZ’s, these restrictions are nonexistent. Under the
rules of the QOZ, similar to the 180 day rules of a 1031
exchange, a client is required to reinvest funds into the
replacement property, however, unlike a 1031 exchange, a
client can receive those funds during the 180 day period.
This issue raises concern because some people want to execute
a number of actions to disburse funds for reasons such as to
pay off credit cards, pay off family members, or old debts that
have absolutely nothing to do with the properties involved
in the 1031 exchange. Due to the lack of regulations, clients
within QOZ now have that ability to access funds during the
180-day period. A concern with this flexibility provided by
QOZ might be that people spend funds recklessly with the
intent that they regain funds before their 180 period and find
themselves unable to reinvest funds needed to defer all of
their capital gains tax they originally hoped to defer.
Another issue with QOZ’s is the ability for anyone to self-
certify and create their own QOF. Though the rules clearly
advise anyone setting up a fund to make sure they have an
experience financial advisor, CPA, and expert in the field
they plan to invest in such as real estate or business, this
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