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Law Students’ Reg Comments Focus on Struggling Opportunity Zones

DEC. 27, 2018

Law Students’ Reg Comments Focus on Struggling Opportunity Zones

DATED DEC. 27, 2018
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[Editor's Note:

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December 27, 2018

CC:PA:LPD:PR (REG-115420-18)
Room 5203
Internal Revenue Service
P.O. Box 7604
Ben Franklin Station
Washington, D.C. 20044

RE: Ensuring That Prop. Treas. Reg. §§ 1.1400Z-2(a)-1 et seq. Work to Benefit Community Members, Particularly Residents of Rural and Highly-Distressed Opportunity Zones

To Whom It May Concern:

We respectfully submit this letter in response to the request for comments on proposed regulations under section 1400Z-2, published by the Department of Treasury ("Treasury") and the Internal Revenue Service (the "Service") in the Federal Register on October 29, 2018 (the "Proposed Regulations"),1 as well as forthcoming proposed regulations expected to address the requirements for qualified opportunity zone property.

These comments were conceived in connection with the Tax Practicum course at the University of South Carolina School of Law. Over the past several months, we have analyzed the mechanics and underlying policy of section 1400Z-2 and the Proposed Regulations. We have particularly focused on technical and policy issues that may affect parties who will not participate in this notice and comment process due to lack of information and/or lack of resources.

One purpose of the statute is to improve "distressed communities"2 to ensure that "all Americans [can] have access to economic opportunity regardless of their zip code," including "job growth, and prosperity for those who need it most."3 Thus, we offer these comments on behalf of residents and potential workers in Opportunity Zone communities, and particularly those people who live in rural and highly-distressed Opportunity Zone communities. Across all designated Opportunity Zones, the poverty rate is 31%, more than double the national average, and the unemployment rate is high (recently over 14%, compared to around 4% nationally).4 The suggestions and proposals that follow are focused on promoting meaningful investments and job creation in the designated Opportunity Zones that are currently struggling the most.5 The success of the Opportunity Zone initiative over the next decade requires safeguards and a concerted effort to ensure that investments improve the communities around those investments and benefit the residents of those communities.

We fear that absent clear guidance, including further regulations, these important stakeholders, who were often a focal point in congressional debates concerning the Opportunity Zone legislation, may not receive the intended benefits of the Opportunity Zone provisions. This would render the Opportunity Zone provisions merely a tax break for people with capital gains, weakening the fisc and shifting the tax burden to other taxpayers without any benefit to society.

This letter provides a brief overview of the key issues we identified and proposals we developed. These issues are explained and developed more comprehensively in several separate letters (attached here for your convenience, and submitted electronically under separate cover).

1. Potential Abuses — We identified various potential maneuvers that could allow investors to receive the benefits of tax deferral on existing gains while making zero or negligible real investments in Opportunity Zones, including abusing the intent of the proposed working capital safe harbor rule, and using transfers of qualified opportunity zone business property between multiple Qualified Opportunity Funds (“QOFs”) to satisfy the 90% asset test. These potentially abusive arrangements can be prevented through more specific guidance and disclosure requirements.

2. Administration — The reporting requirements for QOFs should, for larger funds, include more detailed annual submissions that allow the Service to confirm that these QOFs are satisfying legislative intent. We propose specific additions to proposed Form 8996. Additionally, we propose regulatory language to define reasonable cause for penalty purposes so as to minimize administrative burdens in most cases, but also allowing for special flexibility in rural and highly distressed areas.

3. Effective Job Creation — We provide suggestions for how the substantial improvement requirement can be used to encourage job opportunities for Opportunity Zone residents specifically, which we argue is faithful to the intent behind section 1400Z-2.

4. Facilitating Investments in Rural and Highly-Distressed Communities — We provide suggestions to encourage investments in rural and highly-distressed Opportunity Zones, including that the term substantially all should include special flexibility in certain areas in which successful investments will be particularly risky and/or challenging to initiate, recognizing that these areas may benefit if investors are provided a longer period of time to meet some of the statutory requirements.

5. Investor Requirements — While the focus of Opportunity Zone investments is encouraging new investment of existing capital gains, residents of Opportunity Zones could benefit significantly as “sweat-equity” partners in new Opportunity Zone ventures. We show that a special rule for local investors without capital gains to receive some tax benefits from Opportunity Zone investments is permissible under the statute, and we develop how a rule to facilitate such investments could be implemented effectively.

6. Food Infrastructure — The lack of stores providing fresh food is a particularly acute need in some Opportunity Zone communities. We propose that the rules provide some additional flexibility for investments in “food deserts” and certain other low-income rural communities.

Our research also led us to several other areas of concern that we urge the Service to consider and address in subsequent guidance, including: the lack of specific guidance addressing loss recognition for investors, the possibility of the Service promoting coordination between Opportunity Zone investors and state and local economic development authorities, and the potential illiquidity trap that awaits some investors as of December 31, 2026.

It is important that the rules be constructed so as to maximize real benefits to Opportunity Zone communities. We urge the regulation writers to consider these issues when finalizing the Proposed Regulations and when drafting additional Opportunity Zone regulations and other guidance. If we can provide further assistance, please do not hesitate to contact us via Prof. Clint Wallace at 803-777-6594 or wallace1@law.sc.edu.

Very Truly Yours,

Maura J. Ashton
Third Year J.D. Student
Durham, NC

Jeffrey M. Blaylock
Third Year J.D. Student
Roxboro, NC

Eleanor M. Bleecker
J.D., M.B.A.
Greenville, SC

Creston W. Brown
Third Year J.D. Student
Columbia, SC

Axton D. Crolley
Third Year J.D. Student
Leesville, SC

T. Brian Gavigan II
Third Year J.D. Student
Charlotte, NC

Chandler J. Hill
Third Year J.D. Student
Columbia, SC

Michelle Huggins King
Third Year J.D. Student
Florence, SC

William J. Lollini
J.D.
Mount Pleasant, OH

Ashley A. Manning
Third Year J.D. Student
Fort Mill, SC

Kathryn V. McCann Slaughter
Third Year J.D. Student
Columbia, SC

William A. Moore
Third Year J.D. Student
Charlotte, NC

Patterson Perrin
Third Year J.D. Student
Dallas, TX

Kelsey Poorman
Third Year J.D. Student
Columbia, SC

Evan M. Sobocinski
Third Year J.D. Student
Lexington, SC

J. Gabe Strenk
Third Year J.D. Student
Columbia, SC

Michael R. Teigen
J.D., M. Acc.
Charleston, SC

Clint Wallace
Assistant Professor of Law
Columbia, SC

cc:
Sen. Tim Scott
Asst. Sec. David J. Kautter
Comm'r Charles P. Rettig

Attachments:
1. Blaylock Letter
2. Bleecker, Brown, Crolley Letter
3. Poorman, Slaughter, Strenk Letter
4. Gavigan, Moore, Sobocinski Letter
5. Ashton Letter

FOOTNOTES

183 Fed. Reg. 54279 (Oct. 29, 2018); Internal Revenue Service, Prop. Reg. § 1.1400Z-2(a)-1 et seq. (Oct. 19, 2018), https://www.irs.gov/pub/irs-drop/reg-115420-18.pdf.

2Statement of Sen. Scott, 163 Cong. Rec. S8205 (Dec. 21, 2017).

3Statement of Sens. Scott, Booker, Tiberi, and Kind, Introducing the Bipartisan Investing in Opportunity Act (Feb. 2, 2017), https://www.scott.senate.gov/media-center/press-releases/senator-scott-introduces-the-bipartisan-investing-in-opportunity-act.

4Economic Innovation Group, Opportunity Zones: The Map Comes Into Focus, https://eig.org/news/opportunity-zones-map-comes-focus; U.S. Census Bureau, Income and Poverty in the United States: 2017 (Sep. 12, 2018), https://www.census.gov/library/publications/2018/demo/p60-263.html.

5Our work focused on rural Opportunity Zones with poverty rates in excess of 40%, and particularly not on those designated Opportunity Zones with poverty rates at or below 20%, or those that have artificially high official poverty rates due to a high number of residents enrolled in college. See Hilary Gelfond & Adam Looney, Brookings Institution, Learning from Opportunity Zones: How to improve place-based policies 9 (Oct. 2018).

END FOOTNOTES

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