As far as I’ve been told, it’s a bright line. You must meet the test to comply.
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How do we make sure we meet the intangible property requirement?
Is there any flexibility on the 40% rule of the intangible property? What is it when we only have 30%?
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The rule on intangibles is that at least 40% of a QOZB's intangibles must be used in a trade or business. If a QOZB doesn't meet this requirement, the intangibles do not count toward the 70% requirement stating a QOZB must hold at least 70% QOZBP to qualify as a valid QOZB. I have generally advised clients not to hold intangibles in a QOZB if these intangibles are not used in the QOZB's trade or business.
The intangible property rule is derived from Section 1397C of the Code.
Less is good.
The intangible property rule is derived from Section 1397C of the code. That code section uses the word "substantial," and the proposed OZ regulations defined that to be 40%. As of today, these are still "proposed regulations," so a court would not be bound to follow them. Once they become "final," I expect that a court would consider them the law. Regardless, I'd be very surprised if any counsel would write an opinion that said "Even though the IRS says we must meet a 40% test with respect to the use of intangible property, our firm thinks that 30 percent is enough!" So, if you only went with 30%, and the IRS later disagreed with you, then your subsidiary entity that didn't comply with the rule would fail, and therefore the Fund that was presumably counting on its investment in this entity to pass the 90% test would also fail. Of course, there's a relatively modest penalty for failing, although I wonder if the IRS reaction might be more server if you knowingly failed to comply with a published test. Bottom line: It's always hard to predict what the result will be if you willfully don't comply with the law. The result could be a slap on the wrist, and it could be that your fund is disqualified.
The regulations do not provide exceptions to the 40% rule for intangibles or how this use percentage is computed.
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