Latest / The High Net Worth Podcast with Fexingo: Wealth Management, Tax Strategy, and Affluent Finance / How the Ultra-Wealthy Use Opportunity Zones for Tax-Free Gains
Transcript
- Lucas: Luna, I was looking at some IRS data from last month — the amount of capital gains rolled into Qualified Opportunity Zones in 2025 hit over $28 billion. That's up about 35 percent from the year before. Luna: That's a huge jump. And I think most people still don't really understand how these work. Like, is this just a tax deferral or actually a tax elimination? Lucas: It's both, which is why they're so popular with the ultra-wealthy. The structure comes from the Tax Cuts and Jobs Act of 2017. Basically, if you have a capital gain — say you sold a business or some stock — you can reinvest that gain into a Qualified Opportunity Fund within 180 days. Lucas: Then you defer that original gain until the end of 2026. And if you hold the fund investment for ten years, the appreciation on that QOZ investment is completely tax-free. So you defer the original tax and eliminate tax on the new gains. Luna: Right, so the original gain is just deferred, not forgiven. But the growth becomes a permanent zero. That's the real magic for someone with a big liquidity event. Lucas: Exactly. And there's a specific example I want to walk through. I spoke to a wealth manager who works with a tech founder in Seattle. The founder had a $45 million capital gain from selling shares in his company after its IPO. That's a massive federal tax bill — roughly 23.8 percent when you include the net investment income tax. Luna: So around $10.7 million in taxes if he just paid it outright. What did he do instead? Lucas: He rolled the entire $45 million into a QOZ fund that's building a mixed-use affordable housing project in a distressed census tract in Atlanta. The fund is structured as a partnership, and he's a limited partner. By doing that within the 180-day window, he deferred that $10.7 million tax bill until December 31, 2026. Luna: So he's betting that the Atlanta project appreciates significantly over ten years. And if it does, that appreciation is tax-free. But what about the deferred gain? He still owes that tax in 2026 unless something else happens. Lucas: That's the catch — the deferred gain is payable with your 2026 return. But there's a step-up in basis if you hold the QOZ investment for at least five years, which increases your basis by 10 percent. For seven years, it's 15 percent. So if he held it for seven years — which he has, since the fund started in 2019 — he effectively reduces the taxable gain by 15 percent. Luna: Meaning instead of paying tax on $45 million, he pays tax on about $38.25 million. Still a big check, but he's had seven years of that money working for him in the fund. That's a smart time value of money play. Lucas: Right. And the fund itself has been performing well. The Atlanta project is a 300-unit apartment complex with 20 percent of units reserved for households earning below 60 percent of area median income. The fund's internal rate of return so far is around 12 percent annually, driven by rent growth and property appreciation. Luna: That's a solid return for a real estate investment, especially one with a tax tailwind. But I have to ask — how real is the social impact? Opportunity zones were sold as a way to lift distressed communities. Has that happened? Lucas: It's mixed. A study from the Urban Institute found that about 70 percent of QOZ investments have gone into real estate development, and a lot of that is in neighborhoods that were already gentrifying. The Atlanta example is in an area that was low-income but is now seeing new transit and job growth. So some critics say it's just tax breaks for developers who would have built there anyway. Luna: But the rules require the fund to invest in designated opportunity zones, which are low-income census tracts. The question is whether the investment actually benefits the existing residents or just displaces them. Lucas: That's the tension. And the IRS has struggled with enforcement. There's no requirement that the fund report on job creation or affordability outcomes. So you have to trust the fund manager's intentions. Some funds are genuinely mission-driven, others are purely financial. Luna: And I imagine the 2026 deadline is creating a rush. If you don't trigger the gain by then, you lose the deferral benefit. Lucas: Yes, and that's driving a lot of the volume we're seeing now. Anyone with a large capital gain who wants to use an opportunity zone has to act before the end of 2026. After that, the deferred gain becomes taxable, and new investments after 2026 won't get the full ten-year tax-free appreciation benefit. Luna: If today was actually useful to you, the way these stay ad-free is listener support — you can go to buy me a coffee dot com slash fexingo. That's buy me a coffee dot com slash fexingo. Lucas: Yeah, it's a small gesture that lets us keep digging into topics like this without any sponsor interruptions. Appreciate you listening. Luna: So back to the mechanics — what about someone who doesn't have a single big gain but has accumulated gains over time? Can they still use QOZ? Lucas: They can, but only on gains that are reinvested within 180 days of being realized. So if you have a portfolio of stocks you've sold throughout the year, you could roll each gain into a QOZ fund within its own 180-day window. But it's administratively messy, and most people just do it with one large event. Luna: Family offices seem to love these. I've seen several that set up their own proprietary QOZ funds, so they control the investment entirely. Lucas: That's becoming more common. A family office can create a fund that invests directly in a project they're passionate about — say, a solar farm in a rural opportunity zone — and then invite other wealthy families to co-invest. That gets them the tax benefits plus the social impact they want. Luna: Are there any risks beyond the obvious real estate risk? Lucas: A big one is regulatory risk. The IRS has issued several rounds of guidance, but there are still grey areas. For example, the original statute said the fund must invest 90 percent of its assets in qualified opportunity zone property. If a fund fails that test, it faces penalties. So compliance is critical. Lucas: Also, if you die before the ten-year holding period, your heirs get a step-up in basis on the QOZ investment, which can wipe out the deferred gain entirely. That's an estate planning benefit that a lot of wealthy families exploit. Luna: So you can essentially pass the tax bill to the grave? That's pretty aggressive. Lucas: It's legal, though some tax policy experts argue it's a loophole. The Joint Committee on Taxation estimated that opportunity zones would cost the government about $1.6 billion in forgone revenue in 2025 alone. That's not a huge number relative to total tax expenditures, but it's growing. Luna: And the political landscape around it? Is there any chance Congress repeals or modifies the provision? Lucas: There's always that risk. The Biden administration proposed some changes, like requiring more reporting, but nothing major passed. With the 2026 sunset approaching, I think the focus will be on compliance rather than repeal. But if you're investing, you have to assume the rules could tighten. Luna: So for the ultra-wealthy listener, what's the takeaway? Is this something they should be looking at right now? Lucas: If you have a large unrealized capital gain and you're charitably inclined or interested in real estate, absolutely. But it's not a set-it-and-forget-it strategy. You need a good fund manager, a clear understanding of the timeline, and a plan for the 2026 tax bill. Lucas: I'd say the sweet spot is for someone who has a gain of at least a few million dollars, wants to invest in a tangible asset, and is okay with the liquidity constraints of a ten-year real estate hold. Luna: And do you think the opportunity zone program will be extended beyond 2026? Some people are hoping for a second round. Lucas: There's been talk in Congress of creating new opportunity zones or extending the deadline, but nothing concrete. The program has bipartisan support, but it's also controversial. My guess is we'll see some modification, but not an outright extension of the current structure. Luna: So for anyone listening who's considering this, the window is closing. Talk to your tax advisor soon. Lucas: Exactly. And make sure they understand the nuances of the 180-day rollover review, the fund certification, and the annual compliance. It's a powerful tool, but only if you use it correctly. Luna: Lucas, thanks for breaking that down. I feel like I actually get it now. Lucas: Happy to. Next time we'll look at how some families are using QOZ funds to invest in operating businesses, not just real estate — that's a whole different animal. Luna: Looking forward to it. That's it for this episode of The High Net Worth Podcast.