Cash is OK if it is part of your 30 plan to deploy. No problem first six months. But make sure it qualifies for works capital exception.
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What is included in the NQFP limitation and how often is it tested?
How is cash considered? What is excluded in the NQFP?
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The NQFP limitation applies to QOZBs. The limitation states that 5% or less of the aggregate, unadjusted basis of QOZB property can be NQFP, but any NQFP in excess of this 5% limitation will disqualify the QOZB entirely. The exception to NQFP is working capital held in the form of cash, cash equivalents, or short-term debt instruments. "Working capital" implies you can look to the 31-month working capital safe harbor in the proposed regulations. Working capital will require a business plan for its deployment to stay in compliance with the applicable rules.
A QOZ business (which can be a partnership, LLC or corporation in which the QOF invests, subject to all the rules about OZ businesses) cannot have more than 5% of its assets attributable to non-qualified financial property. The code provision (Section 1397C(e)) defines this as debt, stock, partnership interests, options, futures contracts, forward contracts, warrants, notional principal contracts, annuities and other similar property specified in regulations, but not reasonable amounts of working capital held in cash, cash equivalents, or debt instruments with a term of 18 months or less, or accounts notes receivable acquired in the ordinary course of business for services rendered of the sale of stock in trade, inventory, or property held primarily for sale to customers in the ordinary course of business. There are no regulations under Section 1397C. I'll note that the reference to stock and partnership interests sometimes takes people by surprise, since they don't "feel" like "financial interests," but they are, and being in the actual Internal Revenue Code, it isn't really possible to argue with the IRS about whether they should really count. In general, this means that a QOZB shouldn't have more than 5% of its assets in cash, interests in other entities, and debt instruments (as well as all the other things in my list, but I'm highlighting the three most obvious items), provided that the OZ regulations allow an entity to have a written plan to deploy working capital to build a project or a business within 31 months, and if the plan is reasonable and the business substantially complies with the plan, then this working capital (i.e., cash, cash equivalents, or debt instruments with a term of 18 months or less) doesn't count toward failing the no more than 5% test. There is no time specified anywhere for doing the testing, but it makes sense to use the same 6-month testing dates that apply to QOFs, since the penalty for failure of the QOZ business to be a proper investment for the QOF is tested on those dates.
The definition of non qualified financial property can be found in Section 1396C(e). Mostly debt, stock, partnership interests, options and other similar property. There are some exceptions for reasonable amounts of cash and cash equivalents. The test should be done at least once a year or as often as agreed with the fund and investors and the business.
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