The Qualified Opportunity Zone (QOZ) program provides tax incentives for investing in designated low-income communities across the United States. Tax law changes enacted last year made the program permanent and introduced significant updates that affect investors under both the original and renewed programs.
While proposed and final regulations are still forthcoming, the IRS has released transactional guidance for investors, Qualified Opportunity Funds (QOFs) and Qualified Opportunity Zone businesses (QOZBs) to help clarify how the changes will be implemented.
Key Takeaways: IRS Qualified Opportunity Zone Guidance
- The IRS issued Notice 2026-40 to provide transactional guidance for the Qualified Opportunity Zone program.
- Existing QOF investments held through December 31, 2026, generally must recognize any remaining deferred gain.
- Investors cannot defer the recognized gain by rolling it into a new QOF after December 31, 2026.
- The permanent QOZ program begins January 1, 2027, with approximately 6,500 newly designated Opportunity Zones expected.
- New rules affect tangible property acquired after 2026, with limited exceptions for existing Opportunity Zones.
Qualified Opportunity Zone Program Basics
The Qualified Opportunity Zone Program was created by the Tax Cuts and Jobs Act (TCJA). It generally allows taxpayers to defer, and potentially reduce or eliminate, short- or long-term capital gains from the sale of investments by reinvesting those gains in a Qualified Opportunity Fund (QOF) within 180 days.
QOFs must maintain at least 90% of their assets in Qualified Opportunity Zone property. Qualifying investments include interests in QOZBs and investments in new or substantially improved commercial buildings located within Qualified Opportunity Zones.
Tax Benefits Under the Original QOZ Program
Under the TCJA, investing in a QOF offers several tax advantages.
Taxes on rolled-over capital gains are deferred until the earlier of:
- The sale or exchange of the taxpayer’s investment (an “inclusion event”), or
- December 31, 2026.
Investors receive:
- A 10% step-up in basis after five years, reducing the taxable rollover gain to 90%.
- A 15% step-up in basis after seven years.
- A full exclusion of gains on QOF investments held for at least 10 years.
How the One Big Beautiful Bill Act Changes the QOZ Program
The One Big Beautiful Bill Act (OBBBA) established a permanent Qualified Opportunity Zone program featuring rolling 10-year Opportunity Zone designations.
The first round of newly designated zones eligible for investment begins January 1, 2027. Approximately 6,500 new Opportunity Zones are expected, while the original QOZ designations generally expire on December 31, 2028.
Under the permanent program:
- Rollover gains can still be deferred.
- Investors receive a 10% basis step-up after five years.
- The deferred rollover gain must be recognized at the time.
- The additional 15% basis step-up after seven years has been eliminated.
- The permanent exclusion of gains on the QOF investment itself after 10 years remains available for up to 30 years after investment.
The OBBBA also created a new category of rural Qualified Opportunity Zones that provides a 30% step-up in basis on the rollover gains after five years.
What IRS Notice 2026-40 Means for Investors
IRS Notice 2026-40 addresses several important transition issues for investors, Qualified Opportunity Funds and Qualified Opportunity Zone businesses.
Treatment of Existing Qualified Opportunity Fund Investments
Investors who hold a qualifying investment through December 31, 2026, must include any remaining deferred rollover gain in income for the tax year that include that date.
Importantly, those gains cannot be deferred by rolling them into a new Qualified Opportunity Fund.
However, existing QOF investors may continue holding their investments. If they satisfy the applicable requirements and reach the 10-year holding period, they may elect to adjust the basis upon sale or disposition to the investment’s fair market value, eliminating taxable appreciation occurring after the original investment date.
If an inclusion event occurs before December 31, 2026, the treatment differs. In that case, recognized gains may still qualify for deferral if invested in a new Qualified Opportunity Fund within 180 days. However, the new investment begins a new 10-year holding period for purposes of the basis adjustment.
New Rules for Tangible Property Acquired After 2026
The OBBBA also changes how tangible property acquired after December 31, 2026, is treated.
Generally, property acquired by a QOF or QOZB after that date cannot qualify as Qualified Opportunity Zone business property unless it is acquired for use in a QOZ designated after July 4, 2025. As a result, tangible property acquired after 2026 generally will not qualify if located within one of the original Opportunity Zones.
Exception 1: Working Capital Safe Harbor
The first exception applies when:
- The entity acquires the property under a written working capital plan adopted before December 31, 2026.
- The QOZB received at least 10% of the estimated working capital assets designated under the plan before that date.
- The business expanded as least 5% of those assets before December 31, 2026.
Exception 2: Ordinary Course of Business
The second exception applies when a QOF or QOZB acquires tangible property in an existing Qualified Opportunity Zone during the ordinary course of business to replace existing business property, provided other requirements are met.
Covered replacements include modernizations or replacement of property necessary to operate the business. Property acquired to expand operations or transition into a new business does not qualify.
Prepare for Transition
In addition to these changes, IRS Notice 2026-40 provides transitional rules, including safe harbors that allow Qualified Opportunity Funds and Qualified Opportunity Zone businesses to continue treating certain locations as if they remain within a Qualified Opportunity Zone after an original designation expires.
If you have questions about the new IRS guidance or how the Qualified Opportunity Zone program changes may affect your investments or tax planning strategy, Boulay can help explain the rules and identify planning opportunities.