Investing Section 1231 Gain in Qualified Opportunity Zones

Abstract

This article critiques the net section 1231 gain provision in the latest round of proposed regulations issued under the qualified opportunity fund statute. That net section 1231 gain provision provides that taxpayers can only invest net section 1231 gain for a taxable year in a QOF beginning on December 31 of the taxable year during which the section 1231 gain is realized. The article shows how the net section 1231 gain provision is unfair, of questionable validity, and inconsistent with other nonrecognition provisions. These problems stem largely from Treasury’s definition of eligible gain, which includes only capital gains.

The article suggests that Treasury should retain the net section 1231 gain provision in the final regulations for the sole purpose of protecting taxpayers who have relied upon it in 2019 to make investment decisions. Otherwise the final regulations should allow taxpayers to invest section 1231 gain in qualified opportunity funds within 180 days after the gain is realized, regardless of any section 1231 losses recognized or to be recognized during the taxable year. The final regulations could accomplish this objective by simply defining eligible gain with reference to the section 64 definition of ordinary income. That definition excludes from ordinary income any gain from the sale of capital assets and section 1231 property. Such gains, which do not come within the definition of ordinary income, should be eligible for investment in qualified opportunity funds.

Keywords: QOF, opportunity zone, opportunity fund, section 1231 gain, section 1231 loss