What are some risks and advantages of this scenario? When does the tax deferral time start if I take over another investor’s stake in a QOF?
The new regulations allow a secondary investor to purchase a QOF interest directly off an original QOF investor. The regulations indicate that the new owner will step into the original investor's shoes for measuring the 10-year holding period. Somewhat surprisingly, it does not appear that the secondary investor needs to roll a qualified gain into the purchase.
The newest proposed regulations do in fact allow you to be an eligible QOF investor by purchasing another investor's interest in a QOF. When purchasing that interest, the clock starts fresh as it would in the acquisition of an original interest. (Meaning you would still need a 10-year holding period from the date of purchase to be eligible to elect the step up to FMV on exit.)
The new investor who purchases an existing investment from another investor will start the 10-year clock and basis step-up clock on date of transfer from existing investor. The funds invested must be from a capital gain in order to get a deferral or the 10-year step-up in basis. In addition, the fund operator has a primary duty to the original investors over the secondary investors. Therefore, the fund manager may elect to liquidate the fund after 10 years, but prior to the secondary investor holding for 10 years. These considerations should be evaluated prior to considering purchase of an OZ interest on the secondary market.
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