Sarbanes Oxley regulations

In April, the Department of Treasury released a second set of proposed regulations covering opportunity zones. For our first impressions of the recently issued guidance, please see our previous Tax Alert. The regulations resolved several issues that remained open after an initial tranche of proposed regulations was released in October 2018. This alert focuses on clarifications the new regulations provide to operating businesses on how to take advantage of the program’s benefits.  

Key takeaways

  • Three safe harbors and a facts-and-circumstances test are provided to assist businesses in determining whether income is sufficiently derived from a qualified opportunity zone (QOZ) business.
  • The “active conduct of a trade or business” requirement a QOZ business’s activities must meet is generally defined. Specifically, the ownership and operation (including leasing) of real property will meet this standard, however, “merely entering into a triple-net-lease” will not.
  • A working capital safe harbor introduced by the October 2018 round of regulations is expanded to allow taxpayers 31 months to deploy raised capital to develop a trade or business and avoid penalties.


In an effort to redirect capital from the stock market into economically distressed communities, the Tax Cuts and Jobs Act created the opportunity zones provisions, which offer taxpayers three tax benefits in exchange for reinvesting their capital gains into an investment vehicle called a qualified opportunity fund (QOF):

  1. Deferral of tax on the invested gains, generally until the earlier of the disposition of their QOF investment or 2026,
  2. Forgiveness of tax on 10% of the invested gains if the QOF interest is held for at least five years, an additional 5% (for a total of 15) if held at least seven years, and
  3. Potential permanent gain exclusion on any appreciation in the QOF investment if it’s held at least 10 years.

For more information on the fundamentals of the opportunity zones provisions, please see our December 2018 Tax Alert and our earlier Tax Reform Progress Report.  

Income sufficiently derived from a QOZ business

A business must receive at least 50 percent of its gross income from the active conduct of a trade or business within a QOZ in order to qualify as a QOZ business. The original legislation provides no means to determine the source of the income-producing activity for this purpose, and the previous set of regulations do not offer any guidance. As such, prospective ventures with designs to sell to customers or locate any of its operations outside the QOZ were left with a significant logistical uncertainty. The new proposed regulations feature three safe harbors for making this determination. A business will meet this requirement if:

  1. At least 50% of the business’s services based on employee and independent contractor hours are performed within the QOZ,
  2. At least 50% of the business’s services based on amounts paid for those services are performed within the QOZ, or
  3. The tangible property located in the QOZ and the management functions performed within the QOZ are each necessary to generate at least 50% of the business’s gross income.

If these safe harbors cannot be met, a business can demonstrate that it passes the gross income test based on facts and circumstances. In all, a business now has significantly more information and flexibility needed to determine whether it can participate in the program and still target customers and deploy its resources in manners and geographies that best suit its general operations’ needs.

Active conduct of a trade or business defined

The regulations rely on a large body of existing case law and administrative guidance in determining whether a trade or business exists for QOZ business purposes. In general, the business must engage in its activities with continuity and regularity, for the primary purpose of making a profit. The real estate industry is given helpful clarity, as the regulations specify that the ownership and operation (including leasing) of real property will be considered a trade or business under the opportunity zone program.

However, the regulations further state that “merely entering into” a triple net lease does not rise to the trade or business standard. It is important to note that triple net lease is undefined for these purposes. As such, while the presence of this language is unfavorable, it will be critical to examine all facts and circumstances, particularly the property owner’s level of activities under any arrangement resembling a triple net lease to determine whether a trade or business exists.

Expansion of working capital safe harbor

Among the many significant issues potential investors and practitioners faced in light of the original legislation was how a QOF could timely redirect its funding into qualifying assets to avoid onerous penalties. Broadly, 90% of a QOF’s assets, based on an annual test, must be in either:

  1. Tangible property the QOF: acquires by purchase, satisfies certain original use or substantial improvement requirements with respect to the property, and uses in a QOZ for the substantial duration of its holding period, or
  2. An equity investment in a QOZ business subsidiary.

For a QOZ business subsidiary to qualify as such, 70% of its assets must be in tangible property described above.

As the first testing date is no later than six months after the QOF receives its first investment, whether these asset tests could be satisfied as a practical matter was of great concern.

The construction and real estate industries were provided some relief when the first round of regulations provided a safe harbor to allow QOZ business subsidiaries only the use of working capital to acquire, construct or substantially improve tangible property within 31 months pursuant to a written plan without failing an asset test. However, this was of little help to commercial enterprises. The new regulations extend the safe harbor to cover working capital used to develop a trade or business over the same 31-month period. Examples in the regulations provide qualifying expenditures to include scouting favorable locations for the new business within the QOZ, leasing real property for the business, acquiring or leasing equipment or other furnishings for the space, making security deposits, obtaining franchises and permits, hiring and training staff, and research and development costs. The determination of whether other expenditures will qualify under the expanded safe harbor will likely be dependent on the taxpayer’s facts and circumstances as well as the aforementioned written plan that it must adhere to.

Separately, the safe harbor was also updated to provide that businesses:

  1. Will not be penalized for failing to meet the 31-month timing requirement on account of government delays in processing applications, and
  2. May apply the safe harbor to multiple instances of capital investments, so long as the above-mentioned requirements are met (for example, if during the 31-month window to reinvest capital received on date 1, a business received additional funds on date 2, it would have 31-months from date 2 to acquire, construct or substantially improve property or develop a trade or business pursuant to a written plan using the date 2 funds).


The clarifying provisions in these regulations took down several barriers of entry to operating businesses participating in the opportunity zones program. It remains critical to note that businesses should still heavily scrutinize the analysis of whether investing in an opportunity zone makes sense from an economic perspective, despite the clarity provided with respect to compliance.

Please reach out to your Baker Tilly advisor with questions on how you may benefit from the OZ program.

For more information on this topic, or to learn how Baker Tilly specialists can help, contact our team.


Tax graph
Next up

New Quebec sales tax obligations for foreign online sellers