QOZ Compliance Just Got Teeth: Treasury Proposes Daily Penalties and Mandatory Reporting for Qualified Opportunity Funds

On September 11, 2026, the Department of the Treasury (“Treasury”) and the Internal Revenue Service (“IRS”) published proposed regulations (REG‑116506‑25) (the “Proposed Regulations”) implementing the qualified opportunity zone (“QOZ”) information reporting regime enacted by the One Big Beautiful Bill Act of 2025 (the “OBBBA”) and revising the procedures by which an entity certifies—and decertifies—as a qualified opportunity fund (“QOF”). The Proposed Regulations would convert IRS Form 8996 (the certification form for QOFs) into a standalone annual information return backed by a daily penalty, require qualified opportunity zone businesses (“QOZBs”) to furnish detailed data to their QOF investors, and establish an exclusive procedure for voluntary decertification. The Proposed Regulations follow Notice 2026‑40, which provided transitional guidance under the OBBBA’s permanent QOZ regime. See our prior coverage on Notice 2026-40 here. If finalized, the Proposed Regulations would apply to taxpayers prospectively.

Background

The QOZ program, enacted as part of the Tax Cuts and Jobs Act of 2017, permits taxpayers to defer, and after a sufficient holding period, potentially exclude, U.S. federal income tax on capital gains reinvested through QOFs, which must hold as at least 90% of their assets certain qualifying assets used in a designated QOZ (“QOZ Property”). The OBBBA made the QOZ program permanent and, among other changes, replaced a fixed December 31, 2026 deferral cutoff with a rolling five‑year deferral measured from the date of each investment, capped the 10‑year fair market value basis adjustment, enhanced benefits for qualified rural opportunity funds, and provided for decennial QOZ designation cycles beginning July 1, 2026.

The OBBBA also added new information reporting architecture. Before the OBBBA, no provision of the Internal Revenue Code of 1986, as amended, required reporting by QOFs or QOZBs; Treasury required IRS Form 8996 by regulation, but no information reporting penalty applied to a QOF that failed to file it, and nothing obligated a QOZB to supply its QOF investors with the data needed to complete it. New Section 6039K requires each QOF to file an annual information return and to furnish statements to investors that dispose of their interests in the QOF, new Section 6039L requires each “applicable QOZB” to furnish a statement to the QOFs invested in it, and new Section 6726 imposes a daily penalty for reporting failures. The Proposed Regulations provide the mechanics for these recent statutory requirements.

The Proposed Regulations

Certification and Revocation of Inadvertent Elections

An entity would be treated as a QOF from the effective date of its self‑certification, which must be made on a timely filed IRS Form 8996 for the entity’s first taxable year, must identify the first taxable year and month for which it is effective, and must affirmatively state that the entity is organized to invest in QOZ Property. Investments made in the entity before the entity’s first month as a QOF are not eligible for gain deferral. Resolving a point of recurring uncertainty, no annual recertification is required; in later years IRS Form 8996 is an information return rather than a renewed election, so failure to file in subsequent years is not an election out of QOF status. An entity that inadvertently self‑certified may revoke that election, but only if no qualifying investment was ever made and only with the consent of the Commissioner of the IRS. Such a revocation is permanent, and the entity may never again self‑certify.

Voluntary Decertification

The Proposed Regulations establish the exclusive procedure for voluntary decertification and detail its consequences. A QOF may decertify only if it maintains contemporaneous written documentation, such as meeting minutes, memorializing both the intent to terminate certification and the last month of certification. A failure to do so invalidates the decertification entirely: the entity remains a QOF subject to Section 1400Z‑2, including the Section 1400Z‑2(f) penalty for failing to maintain the 90% investment standard. The QOF must also file a final IRS Form 8996 for the “voluntary decertification year” and, within 15 days after the decertification date (or earlier, if the QOF’s governing documents set a shorter notice period), furnish written notice to every investor—qualifying and non‑qualifying alike—stating that the Section 1400Z‑2(c) election to eliminate gain on appreciation after a 10-year holding period is no longer available and providing the information needed to report an inclusion event. That notice is separate from the Section 6039K(c) investor statement (discussed below) due the following March 1 (January 15 if being furnished to a broker).

Decertification is effective on the last day of the month identified in the documentation, and each QOF owner has an inclusion event as of that date with respect to its entire qualifying investment. The gain remains eligible for continued deferral if reinvested within the 180‑day window in a QOF with a different taxpayer identification number. Critically, no QOF owner may make a Section 1400Z‑2(c) election on or after the decertification date, so decertification permanently forecloses the 10‑year fair market value basis step‑up for investors who have not yet disposed of their interests.

QOF Annual Reporting Under Section 6039K

Under the Proposed Regulations, IRS Form 8996 would become a standalone annual information return on which a QOF reports three categories of information: fund‑level data (for example, the 90% investment standard calculation, valuation methodology, and, for each census tract, property values, employment, and residential unit counts); parallel data for each “applicable QOZB,” including whether the QOZB delivered its compliance attestation; and, for each investor disposition, the investor’s identifying information, acquisition and disposition dates, and the amount the QOF received when the interest was issued. Notably, a “disposition event” is defined by reference to any inclusion event—materially broader than a sale—and is reported on a calendar‑year basis. Investor statements are generally due March 1 following the calendar year of the disposition.

A QOF that fails to file a timely and correct IRS Form 8996 would incur a penalty under Section 6726 of $500 per day, capped at $10,000 per return, or $50,000 for a “large QOF” with gross assets exceeding $10 million.  This penalty rises to $2,500 per day, with caps of $50,000 or $250,000, respectively, for intentional disregard. In addition, investor and QOZB statements would become “payee statements” subject to the Section 6722 penalty for incorrect payee statements—a smaller penalty of $250 per statement, though a fund with many investors could face meaningful aggregate exposure.

QOZB Statements Under Section 6039L

In addition, each applicable QOZB would be required to furnish to each of its QOF investors a statement, signed under penalties of perjury, reporting census‑tract data paralleling the QOF‑level reporting and attesting that the QOZB satisfies each Section 1400Z‑2(d)(3) requirement or that it is invoking its one-time opportunity to correct a failure without the QOF losing qualifying treatment. Statements are due on or before the first day of the second month following the close of the QOZB’s taxable year, or February 1 for a calendar-year QOZB. The values reported are measured on the QOZB’s own semiannual testing dates, which the Proposed Regulations confirm are based on the QOZB’s taxable year rather than those of its QOF investors.

Implications

The Proposed Regulations shift the QOZ regime from a largely self‑policed incentive to an information reporting regime with meaningful enforcement. We expect the following consequences, among others:

• Compliance infrastructure must be built in advance. Much of the required compliance data may not be tracked by many sponsors today, and the daily penalty structure makes retroactive cleanup expensive.
• Fund and joint venture documents should account for these new rules. QOFs will depend on QOZB‑supplied information to file their own returns. Operating and joint venture agreements for QOZBs should add information covenants and delivery deadlines that precede the statutory dates, in addition to allocating penalty exposure.
• Decertification becomes a governance event with permanent investor consequences. Because documentation is a condition to a valid decertification, and because decertification triggers an inclusion event and eliminates the 10‑year step‑up for investors still holding, approvals should be documented when the decision is made and investor consequences understood before the decertification month is fixed.

Sponsors, investors, and managers of QOFs and QOZBs should consult with their tax advisors regarding the impact of the Proposed Regulations, if finalized, on their structures, fund documentation, and compliance processes.

This information is provided by Vinson & Elkins LLP for educational and informational purposes only and is not intended, nor should it be construed, as legal advice.