Key Takeaways

• Treasury and IRS initially struggled regarding how to deal with IRC Section 1231 gains and losses in the context of the OZ program; however, the final OZ Regulations ended up being extremely taxpayer-friendly.
• Understanding how and why Treasury arrived at its decision unlocks a remarkable, yet brief, planning opportunity for taxpayers and their advisors.
• With the right planning, taxpayers can isolate gross 1231 gains for OZ reinvestment eligibility but still claim gross 1231 losses in the same year at ordinary income rates – resulting in permanent tax savings.
• Taxpayers who already reported net 1231 gains in tax years 2019 and 2020 can still likely make tax-advantaged QOF investments for those years—but the window is closing fast – especially for 2019 1231 gains.
• This ability to defer 1231 gain and recognize 1231 losses can further benefit certain taxpayers who would have otherwise been forced to pay ordinary rates on net 1231 gains in a given year as a result of the five-year “look-back” period under 1231(c).

The following discussion is arguably the most powerful planning opportunity for OZ investors with the right fact pattern.  This planning opportunity recently became available as a result of very taxpayer-friendly rules for IRC 1231 gains and losses contained in the final OZ regulations, as well as the issuance of IRS Notice 2021-10 – a secondary COVID-19 extension for OZ investors.

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