IRS Releases Rev. Proc. 2026-12 – A New Roadmap for ‘OZ 2.0’ Designations

The Designation Guidance prescribes the rules under which the governor of each state, and the chief executive officers (CEOs) of the District of Columbia and the US territories, may nominate population census tracts for designation as OZs and for the Department of the Treasury to formally designate such OZ nominations. The period for states to submit nominations to the Department of the Treasury will begin on July 1, 2026 and end on September 28, 2026 (subject to a potential 30-day extension, if requested), and the new OZ map will take effect on January 1, 2027.

Permanent OZ 2.0 Regime 

The OZ regime was originally enacted as part of the Tax Cuts and Jobs Act of 2017 (TCJA) (OZ 1.0) and was scheduled to expire on December 31, 2026. Qualifying investments made in a Qualified Opportunity Fund (QOF) under the OZ 1.0 regime carried certain tax benefits, including (1) deferral of gain invested in the QOF until the earlier of an inclusion event or December 31, 2026; (2) reduction in the amount of the deferred gain recognized at that time, via a 10% basis step-up if the QOF investment is held for at least five years or 15% if held for at least seven years; and (3) if the QOF investment is held for at least 10 years, gain on the post-investment appreciation may be excluded from tax. Under the OBBBA, OZ 1.0 was modified, and most critically, the OZ program is now a permanent feature of the Internal Revenue Code (OZ 2.0). The OBBBA, in effect, established a “second tranche” of the OZ program that goes into effect on January 1, 2027.

Qualifying investments made in a QOF under the OZ 2.0 regime after December 31, 2026, will be eligible for each of the tax benefits described below.

5-Year Deferral

Eligible capital gains invested in a QOF will be eligible to be deferred until the fifth anniversary of the investment date, unless there is an earlier sale or exchange, including a deemed sale or exchange. The OZ 2.0 regime therefore replaces the prior fixed December 31, 2026, recognition date under the OZ 1.0 regime (to apply, as was the case under the OZ 1.0 regime, in the absence of an earlier disposition of a QOF interest). 

5-Year Gain Exclusion

If a qualifying investment in a QOF is held for at least five years, and gains are not otherwise prematurely recognized, the taxpayer may exclude 10% of the initial capital gain invested in the QOF from US federal income tax by way of an increase in tax basis. If a qualifying investment is held for at least five years and made in a Qualified Rural Opportunity Fund (QROF) that makes qualifying investments in rural OZs, the gain exclusion is increased to 30%. A QROF is an opportunity fund holding at least 90% of its assets in qualified OZ property that is located entirely within rural-designated OZs. A “rural area” for QROF purposes is defined to mean any area other than (1) a city or town that has a population of greater than 50,000 inhabitants and (2) any urbanized area contiguous and adjacent to a city or town that has a population greater than 50,000 inhabitants. 

10-Year Gain Exclusion

If a QOF or QROF interest is held for at least 10 years, generally, any post-investment appreciation may be excluded from federal income tax upon the disposition of the investment; provided that, if the QOF or QROF interest is held for more than 30 years, appreciation in excess of the fair market value of such investment as of the 30-year anniversary of the investment date will be subject to US federal income tax.

The OZ Map is Changing: Old OZs Sunset, New OZs Begin

Under the now-permanent OZ 2.0 regime, new OZs will be redesignated on a recurring 10-year cycle. The existing OZ designations made under the OZ 1.0 regime will sunset on December 31, 2028 (with Puerto Rico’s deemed designations sunsetting two years earlier, on December 31, 2026), and new OZs will be designated as described below and remain in effect from January 1, 2027, through December 31, 2036. Further, OZs under the OZ 1.0 regime do not automatically retain their OZ status under the OZ 2.0 regime. Each census tract must independently qualify as a low-income community (LIC) under the OBBBA’s tightened criteria and receive a new OZ nomination and designation pursuant to the process outlined below to be eligible for the tax benefits described above under the OZ 2.0 regime.

The Designation Process: A Chronological Roadmap

Rev. Proc. 2026-12 establishes the following nomination and certification timeline.

1. 90-Day Nomination Period: Beginning on July 1, 2026, a 90-day nomination period begins, whereby state CEOs may submit and modify OZ nominations to the Department of the Treasury through September 28, 2026. The Department of the Treasury will deem all submissions to have been received at the close of the 90-day period, permitting iterative submissions and revisions throughout the 90-day nomination period.
2. 30-Day Deadline Extension to Nomination Period: State CEOs may request a 30-day deadline extension to the 90-day period, thereby extending the outside submission deadline to October 28, 2026, at the absolute latest. The Designation Guidance suggests that such 30-day deadline extension requests will be automatically accepted by the Department of the Treasury.
3. Department of the Treasury’s 30-Day Consideration Period: After the Department of the Treasury receives the OZ nominations and the 90-day nomination period, as extended by a 30-day deadline request (if applicable), ends, the Department of the Treasury will have a 30-day consideration period.
4. 30-Day Deadline Extension to Consideration Period: State CEOs may request a 30-day extension to the Department of the Treasury’s 30-day consideration period. For example, if a 30-day extension to the 90-day nomination period is requested, and a 30-day extension to the 30-day consideration period is requested, the OZ nomination period would end on October 28, 2026, and the Department of the Treasury’s consideration period would end on December 28, 2026. 
5. OZ Effective Date Under OZ 2.0: On January 1, 2027, OZs that have been nominated, considered, and designated in accordance with the process above will take effect under the OZ 2.0 regime for a 10-year designation period ending on December 31, 2036 (at which time a new 10-year OZ cycle will begin).

The Designation Guidance indicates that 25,332 eligible tracts have been identified by the Department of the Treasury (8,334 of which are entirely rural) and are listed in an Appendix to the Designation Guidance and in a public online information resource with detailed mapping features. An online nomination tool will be made available by the Department of the Treasury as well to help facilitate the OZ 2.0 nomination process. The OZ 2.0 regime caps the number of OZs in a state to 25% of the eligible census tracts in that state (with a floor of 25 census tracts for states having fewer than 100 and more than 24 eligible census tracts, and for states with less than 25 eligible census tracts, permitting all such census tracts to be designated). In addition, under OZ 2.0, Puerto Rico will be subject to the same 25% limitation, whereby previously all LICs in Puerto Rico were deemed certified and designated as OZs. Finally, the Designation Guidance resolved an important open question by confirming that the 25% cap applies separately to each OZ designation period such that the existing OZ tracts under the OZ 1.0 regime do not dilute or count against a state’s OZ 2.0 regime allocation cap.

How AFS Can Help

Over the next nine months, the designation process described above will determine which census tracts are included on the OZ 2.0 regime map and whether existing or pipeline projects fall within a designated OZ and are eligible for tax benefits under the OZ 2.0 regime. There are several technical issues in connection with the transition from the OZ 1.0 regime to the OZ 2.0 regime that still need to be resolved to ensure the policy goals of the OZ program are achieved. It is expected that the Department of the Treasury and the IRS will publish additional guidance this year to help taxpayers navigate these technical transition issues. Developers, investors, and stakeholders with OZ projects in the pipeline, or potential projects at sites either in an OZ 1.0 tract or that may be eligible for inclusion in an OZ 2.0 tract, should work with their tax advisors to understand how to navigate the transition to the OZ 2.0 regime and best position projects for OZ eligibility.

If you have any questions about the OZ 2.0 nomination process or developing or investing in OZ projects, please do not hesitate to contact our AFS team.