P.L. 119-21 (the new law), which was enacted July 4, 2025, reinvents the Opportunity Zone regime enacted under the Tax Cuts and Jobs Act (TCJA) as a new, permanent program, effective for investments made after December 31, 2026. The new program largely mirrors the proposal released by the Senate Finance Committee on June 16, 2025, with some key changes to the rules around capital gain deferral and basis step-up.

Current law

Opportunity Zones are designed to spur investment in distressed communities throughout the country by granting investors preferential tax treatment. These investments must be made through qualified Opportunity Funds, which are specially created investment vehicles that invest at least 90% of their assets in Opportunity Zone Property. Opportunity Zone Property includes Opportunity Zone Business Property, which is tangible property that is:

• Used in a qualified Opportunity Fund's trade or business
• Purchased after December 31, 2017
• Originally used or substantially improved by the qualified Opportunity Fund
• Substantially used in an Opportunity Zone during substantially all of the qualified Opportunity Fund's holding period

Tangible property used in a qualified Opportunity Fund's trade or business is considered substantially improved if investments are made in the property during the 30 months following the property's acquisition, and those investments exceed the property's adjusted basis at the beginning of the 30-month period (i.e., the investments equal at least 100% of the property's basis after 30 months).

The preferential tax treatment offered under the Opportunity Zone program is threefold. First, investors can defer tax on capital gains invested into Opportunity Zones until no later than December 31, 2026. Second, investors that hold the Opportunity Fund investment for five or seven years as of December 31, 2026, receive a 10% or 15% reduction, respectively, on their deferred capital gains tax bill by increasing the basis of the original deferred gain. Finally, investors that hold the Opportunity Fund investment for at least 10 years can receive the added benefit of paying no tax on any realized appreciation in the Opportunity Fund investment.

Investments in qualified Opportunity Funds may consist of partially of deferred gains and partially of basis or ordinary income, but the tax benefits under the Opportunity Zone Program accrue only on the eligible capital gains.

To date, the IRS has designated Opportunity Zones in all 50 states, the District of Columbia, American Samoa, Guam, Northern Marianas Islands, Puerto Rico and the Virgin Islands. (See Tax Alerts 2018-0806, 2018-0865, 2018-1050, 2018-1070, and 2018-1261). Those designations will expire after December 31, 2028.

New law

Opportunity Zone designations

The new law creates rolling, 10-year Opportunity Zone designations, with the first determination period beginning on July 1, 2026, and the new census tracts designations going into effect on January 1, 2027.

The criteria for qualifying as a low-income community, and therefore an eligible census tract that can be designated as a qualified Opportunity Zone, is generally narrowed so that areas with a median income of 70% or less of statewide median income (rather than 80% or less under the TCJA OZ program) are eligible for designation. Under the new law, communities that are contiguous to a qualified Opportunity Zone but themselves are not low-income communities are no longer eligible for designation.

The new law also creates a new "qualified rural opportunity fund," with certain benefits unique to funds holding at least 90% of their assets in qualified opportunity zone property (directly or via other ownership interest) that is located in a rural area.

Opportunity Zone benefits

Investors may defer tax on eligible capital gains from new investments made after December 31, 2026, for up to five years by investing in qualified opportunity funds. Upon reaching the five-year mark, investors investing in qualified opportunity funds receive a 10% step-up in basis on the capital gains deferred.

Investors in a qualified rural opportunity fund may similarly defer eligible capital gains for five years and get a 30% step-up in basis on the capital gains deferred upon reaching the five-year mark. To demonstrate substantial improvement of property in a qualified opportunity zone comprised entirely of a rural area, the qualified rural opportunity fund only needs to make new substantial improvements up to 50% of the property's adjusted basis (rather than 100% for non-rural funds).

The new law preserves the election allowing investors to elect to step up the basis of investments held for at least 10 years to fair market value on the date that the investment is sold or exchanged. Additionally, the new law allows investors to elect to step up the basis of investments held for 30 years or more to fair market value without disposing of the investment.

Reporting requirements

The new law introduces statutory reporting requirements for qualified opportunity funds, qualified rural opportunity funds and qualified opportunity zone businesses. Funds must file information returns containing information listed in the new law, including:

• The North American Industry Classification System (NAICS) code that applies to the trade or business
• The approximate number of residential units for any real property
• The approximate average monthly number of full-time equivalent employees

Failure to satisfy these requirements triggers penalties of $500 per day, up to a maximum of $10,000 per return for small qualified opportunity funds (i.e., funds with $10 million or less in gross assets) and $50,000 for large qualified opportunity funds (i.e., funds with more than $10 million in gross assets). For funds that intentionally disregard the reporting requirement, the penalty increases to $2,500 per day, up to a maximum of $50,000 for small funds and businesses, and $250,000 for large funds and businesses.

Under the law, qualified opportunity zone businesses and qualified rural opportunity zone businesses must furnish qualified opportunity funds with a written statement enabling the qualified opportunity fund to meet these information reporting requirements. Qualified opportunity zone businesses and qualified rural opportunity zone businesses are also subject to penalties for failing to provide these written statements.

In conjunction with the new information reporting requirements, the Secretary of the Treasury, or the Secretary's delegate , must compile annual reports on qualified opportunity funds, which would track the investments made in each census tract and the impact measured by economic indicators, such as job creation, poverty reduction, new business starts and other metrics as determined by the Secretary.

Effective date

The new law generally applies to investments made after December 31, 2026. The new reporting requirements apply to tax years beginning after July 4, 2025, while the first decennial determination process will begin on July 1, 2026, with new census tracts designations going into effect on January 1, 2027.

Implications

The new Opportunity Zone program retains some of the key benefits of the prior program, including deferral of gains, an exclusion of gains and a step-up in basis to fair market value for investments held for 10 years or more. The ability to receive a 10% basis step-up after five years, regardless of when that investment was initially made, is a new feature, presumably designed to make the program more attractive. The program's permanency is also attractive, as it gives investors more certainty.

These benefits, however, also come with new restrictions and requirements. Criticism of the TCJA Opportunity program led to a tightening of eligibility for the program, such as stricter low-income-community qualifications and limiting the program to new investments only. Beginning with 2026 returns, new reporting requirements also apply, which will likely increase compliance burdens for businesses and funds.

The introduction of rural opportunity zones expands the areas eligible for investment. The statute's definition of rural area, however, is a bit unclear. It excludes an "urbanized area" contiguous and adjacent to a city or town with a population of more than 50,000 but does not define what an "urbanized area" is. As such, it is unclear whether suburbs in the greater area of a major city could be considered rural areas if (1) their population is less than 50,000; and (2) they are adjacent and contiguous to another city or town that is in the greater area of the same city and also has a population of 50,000 or less. Guidance will likely be needed to resolve this issue.

As the new program is effective for investments made after December 31, 2026, gains that are otherwise eligible for deferral and realized in 2026 may not be eligible for deferral under the new program unless they are invested within the 180-day investment period on or after January 1, 2027. The inability to defer capital gains generated in 2026 likely means investors will want to wait until 2027 to trigger gains.

The July 1, 2026 new census tract determination date gives low-income communities time to review the new requirements and petition to become eligible through their state governor's office. As each state can only designate 25% of low-income communities, early action should be considered. We expect fierce lobbying for which low-income communities get designated.