The Future of Opportunity Zone Investing

Recent legislation has permanently extended the Qualified Opportunity Zone program while reshaping several of its core rules. The IRS has now issued transitional guidance to help investors, fund managers, and businesses move from the original program into its new, permanent form. Here is what has changed and what it means for anyone with capital gains, real estate holdings, or a business operating in a designated zone.

The Opportunity Zone program began under the Tax Cuts and Jobs Act as a way to steer private capital into economically distressed communities. A taxpayer with a capital gain, whether from selling stock, a business, or real estate, can defer tax on that gain by reinvesting it into a Qualified Opportunity Fund within 180 days.

To qualify, a Fund must keep at least 90 percent of its assets in Opportunity Zone property, held either as an interest in a Qualified Opportunity Zone business or as a direct investment in new or substantially renovated commercial real estate located within a zone.

Under the original rules, deferred gains came due at the earlier of an inclusion event, such as a sale of the investment, or December 31, 2026. Holding the investment for five years earned investors a 10 percent reduction in the taxable portion of the original gain, and holding it for seven years pushed that reduction to 15 percent. Any appreciation on the Fund investment itself became entirely tax free once the investment was held for ten years.

The One Big Beautiful Bill Act (OBBBA) converted the temporary Opportunity Zone program into a permanent one, built around rolling ten-year zone designations. New zones under this permanent structure become eligible for investment starting January 1, 2027, with roughly 6,500 new zones expected to be named. Zones designated under the original program generally sunset on December 31, 2028.

The permanent program keeps the basic deferral mechanism in place, and investors can still earn a 10 percent basis increase after five years. But the entire remaining deferred gain, net of that step-up, becomes taxable at the five-year mark itself, with no further deferral past that point, and the additional benefit previously available at year seven has been removed entirely. The ten-year benefit, full exclusion of gain on the Fund investment itself, survives and can now be elected any time between years ten and thirty. After thirty years, basis is automatically stepped up to fair market value, so investors who hold past that point lose the ability to shelter any further appreciation.

The law also introduces a separate category for rural Opportunity Zones, generally tracts outside of and not adjacent to a town or city with a population of more than 50,000, which carries a more generous 30 percent basis increase at the five-year mark and cuts the substantial improvement test in half, a meaningful change for construction and development projects in qualifying rural areas.

The OBBBA also adds new annual reporting requirements for Funds and zone businesses, covering asset composition, census tract location, and employee counts, backed by penalties that can reach $10,000 per return, or $50,000 for larger funds, for noncompliance. These filings apply for tax years beginning after July 4, 2025, and should be built into every Fund sponsor's and zone business's compliance calendar now.

To bridge the gap between the two versions of the program, the IRS released Notice 2026-40, which addresses several practical questions facing current investors and zone businesses.

Anyone still holding a qualifying Fund investment on December 31, 2026 must recognize the remaining deferred gain as income for that tax year. Unlike an ordinary inclusion event, this mandatory recognition cannot be offset by rolling the gain into a fresh Fund investment.

Investors are not required to exit their Fund positions at that point. Those who keep their investment in place and eventually satisfy the ten-year holding requirement can still elect to step up their basis to fair market value at the time of sale or disposition, wiping out gain that accrued after the original investment was made.

There is an important distinction for investors who trigger an inclusion event, such as a sale, before the end of 2026. Gains recognized in that scenario may still be eligible for deferral through a new qualifying investment made within 180 days, but the ten-year clock resets and begins running from the date of the new investment rather than the original one.

Under the OBBBA, tangible property acquired by a Fund or zone business after December 31, 2026 generally will not count as qualifying property unless it is located in one of the new zones taking effect under the permanent program on January 1, 2027. In practical terms, this cuts off most new property acquisitions in the original zones once the calendar turns to 2027.

The Notice carves out two exceptions that let businesses in original zones keep qualifying property acquired after that date.

A working capital safe harbor. This protects property acquired under a written working capital plan that was formally adopted on or before December 31, 2026. To use it, the business must have already received at least 10 percent of the working capital called for in the plan, and spent at least 5 percent of it, by that same date.

An ordinary course of business exception. This covers property that replaces or modernizes existing business assets in an original zone, so long as the acquisition happens in the normal course of operations and meets other applicable requirements. It does not extend to property bought to grow into new markets or pivot into a different line of business.

Any zone business currently operating in an original Opportunity Zone should confirm well before the end of 2026 that it can meet one of these two tests.

The Notice also lays out a narrower transition safe harbor for Funds and zone businesses that already hold qualifying property or operate a qualifying business in an original zone before its designation lapses. For that existing property or business, they can keep meeting the substantial-use and active-conduct-of-business tests through the end of 2047, even after the zone's designation expires. It is not a blanket extension for new activity in an expired zone.

This transition creates real deadlines. Investors sitting on legacy Fund investments need a plan for the income they will recognize at the end of 2026. Zone businesses need to lock in working capital plans or confirm their replacement property qualifies before the rules tighten. And anyone with a capital gain on the horizon needs to know how the new rural and standard zone rules compare before deciding where to reinvest.

CSH has been tracking the Opportunity Zone program since its creation and understands both the mechanics of the original rules and how they are shifting under this new guidance. If you hold a Fund investment, operate a zone business, or are weighing whether an upcoming capital gain belongs in an Opportunity Zone, talk to our team before year-end. We can walk through your specific situation, flag the deadlines that matter most to you, and help you make the most of what is left of this window.