Opportunity Zone Magazine Opportunity Zone Magazine Volume 1, Issue 1 | Page 73

POTENTIAL STATE PITFALLS: WHY CHOOSING YOUR INVESTMENT LOCATION IS IMPERATIVE
state and local tax ramifications associated with operating
and disposing of the QOF. Otherwise there can be some
significant state-level tax surprises in the future, which
can reduce investors’ overall after-tax returns – and their
satisfaction with the QOF investment.
QOF will start out at the full $1 million invested. However,
no California basis adjustments will occur in years five, seven,
and 10. Also, no deferred gain will be reportable in California
in 2026. Upon disposition of the QOF; however, the $700,000
gain ($1,7 million less $1 million basis) will be fully reportable
in California.
Due to the potential additional state-level taxes that
individuals, estates, trusts, and business taxpayers might incur
as a result of residing or investing into a state that has not
adopted the OZ program at the state level, taxpayers will need
to fully evaluate the future federal and state tax exposures
from such investments. Limiting QOZ investments to an
investor’s home state, other OZ conforming states or states
that have no state income tax9 is generally recommended.
For real estate projects in states that have not adopted the
OZ program, and especially in higher-rate states (such as
California), an IRC Section 1031 “Like-Kind Exchanges”
should generally be considered over a QOF if the asset being
disposed of is primarily real estate . To the extent the taxpayer
cannot meet the Like Kind Exchange 180-day reinvestment
period, the OZ program can offer a potential safety valve for
federal purposes by timely rolling the un-reinvested funds into
a QOF, which can give the taxpayer more time to reinvest.
Due to the varying state OZ conformity and other tax
complexities associated with potentially having projects and
investors from different states involved in a QOF, the QOF
advisors as well as the investors must carefully evaluate the
B lake C hristian brings over 38 years of CPA experience in
providing tax consulting and compliance services to clients
that include multinational, large, closely held, owner-managed
businesses and high net worth individuals. Throughout his career,
Christian has specialized in federal, state and local tax incentive
programs. He currently focuses on the new federal Opportunity
Zone program. A thought leader, Christian is a sought-after media
source for providing insights into this powerful, yet complex, tax
incentive program. He has authored numerous articles and tax
alerts on Opportunity Zones, addressing the program’s use for
both real estate and operating businesses.
Sources:
1
OZ Conforming States - Alabama, Colorado, Connecticut, Delaware, District of Columbia,
Georgia, Idaho, Illinois, Indiana, Iowa, Kansas, Kentucky, Louisiana, Maine, Maryland, Michigan,
Mississippi, Missouri, Montana, Nebraska, New Mexico, New York, North Dakota, Oklahoma,
Oregon, Rhode Island, South Carolina, Utah, Vermont, Virginia, West Virginia, and Wisconsin.
2
IRS Rev. Rul. 2018-29 provides guidance that investors must only double their investment in
the building portion (not land) of a real estate purchase to qualify it as “original use.”
3
I.R.C. §1400Z-2(a)(2)(B)
4
Prop. Reg. §1.1400Z2(a)-1(b)(4) and (c)(2)(iii)
5
Prop. Reg. §1.1400Z2(d)-1(d)(5)(iv)(B)
6
I.R.C. §1400Z-2(b)(2)(B)(iii)
7
I.R.C. §1400Z-2(b)(2)(B)(iv)
8
States with no state income tax: Alaska, Florida, Nevada, South Dakota, Texas, Washington
and Wyoming. 
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