Internal Revenue Bulletin No. 2026–28

Executive Summary: Key Updates in IRS Bulletin No. 2026-28

The Internal Revenue Bulletin No. 2026-28, issued July 6, 2026, delivers three pivotal updates reshaping pension funding calculations, federal rate applications, and Qualified Opportunity Zone (QOZ) compliance. The most consequential developments include Notice 2026-38, which updates corporate bond yield curves and segment rates for pension funding under § 417(e)(3)(D) and § 430(h)(2), and Notice 2026-40, which provides transitional guidance for QOZs following amendments introduced by the One, Big, Beautiful Bill Act (OBBBA). Complementing these is Revenue Ruling 2026-12, which establishes the federal rates for July 2026, affecting numerous tax code sections including § 382, § 1274, § 1288, and § 7872.

For pension administrators and plan sponsors, Notice 2026-38 is particularly significant. It finalizes the May 2026 corporate bond monthly yield curve and the corresponding spot segment rates, alongside the 24-month average segment rates for June 2026 and the 30-year Treasury rate. These rates, derived under § 430(h)(2)(C)(iv), directly influence minimum funding requirements and lump-sum distribution calculations for defined benefit pension plans. The updated segment rates reflect continued normalization of interest rates in the post-pandemic economy, with implications for contribution strategies and participant payouts. The 25-year average segment rates, a smoothing mechanism introduced to reduce volatility in funding requirements, now stand at 4.75% for the short-term segment, 5.26% for the mid-term segment, and 5.90% for the long-term segment, reflecting a sustained upward trend in corporate bond yields since 2022.

Notice 2026-40, in contrast, addresses the evolving landscape of QOZs under the OBBBA, which amended §§ 1400Z-1 and 1400Z-2 to extend incentives and modify qualification thresholds. The IRS signaled its intent to issue proposed regulations mirroring the transitional guidance in the notice, particularly concerning qualifying investments under the pre-OBBBA statutory framework. This guidance is critical for investors, Qualified Opportunity Funds (QOFs), and Qualified Opportunity Zone Businesses (QOZBs) navigating the shifting compliance terrain, especially as the OBBBA’s legislative fate remains uncertain. The transitional rules clarify the treatment of investments made under the pre-OBBBA regime, ensuring that such investments are not disadvantaged by the legislative changes, while also addressing the implications of the OBBBA’s amendments to the 25-percent limitation for QOZ designations and the applicable start date for qualifying investments.

Revenue Ruling 2026-12 rounds out the Bulletin’s impact by publishing the federal rates for July 2026. These rates—including the adjusted federal long-term rate and the long-term tax-exempt rate—are foundational to a wide array of tax planning strategies. They affect transactions governed by § 382 (NOL limitations), § 1274 (imputed interest on below-market loans), § 1288 (original issue discount), and § 7872 (gift and demand loans). Practitioners must integrate these updated rates into valuation models, loan structuring, and corporate restructuring analyses to ensure compliance and optimize tax outcomes. The blended annual rate for 2026 under § 7872(e)(2), which governs the imputed interest on below-market loans, now stands at 3.82%, reflecting the Federal Reserve’s continued monetary tightening to combat persistent inflationary pressures.

Collectively, these updates underscore the IRS’s ongoing efforts to align tax administration with evolving economic conditions and legislative changes. For tax practitioners, the Bulletin demands immediate attention to pension funding strategies, QOZ investment compliance, and federal rate-dependent transactions—each of which will be explored in greater depth in the subsequent sections.

Deep Dive: Revenue Ruling 2026-12 – Federal Rates for July 2026

The IRS’s Revenue Ruling 2026-12, issued on July 6, 2026, serves as a critical benchmark for tax practitioners, providing the prescribed federal rates for July 2026. These rates, derived from U.S. Treasury yields and corporate bond market data, underpin a wide array of tax planning and compliance strategies across multiple Internal Revenue Code sections. The ruling’s tables—ranging from Applicable Federal Rates (AFRs) to the § 7520 valuation rate—reflect the ongoing normalization of interest rates in the post-pandemic economy, with implications for debt instruments, pension funding, low-income housing credits, and below-market loans. For practitioners, the ruling demands immediate attention to recalibrate financial models, loan structuring, and corporate restructuring analyses to ensure compliance and optimize tax outcomes.

The Rule: What the IRS Updated

Revenue Ruling 2026-12 prescribes six distinct sets of federal rates for July 2026, each tailored to specific tax code applications. The ruling’s tables are structured to provide clarity on short-term, mid-term, and long-term rates, as well as adjusted variations and specialized rates for niche applications. The tables are as follows:

Table 1: Applicable Federal Rates (AFR) This table presents the AFRs for July 2026, segmented by maturity (short-term, mid-term, long-term) and compounding period (annual, semiannual, quarterly, monthly). The AFRs are the foundational rates used to determine imputed interest on below-market loans, installment sales, and other transactions under § 1274, which governs the treatment of debt instruments issued at below-market rates. For July 2026, the long-term AFR is 4.98% (annual compounding), with tiered rates for 110%, 120%, and 130% of the base AFR to accommodate varying risk premiums in debt instruments. The mid-term AFR stands at 4.35%, while the short-term AFR is 4.00%. These rates represent a modest increase from June 2026, reflecting the Federal Reserve’s continued monetary tightening to combat persistent inflationary pressures.

Table 2: Adjusted AFRs The adjusted AFRs, used for tax-exempt obligations under § 1288, are lower than the base AFRs due to the tax-exempt nature of the underlying obligations. Section 1288 applies to the original issue discount on tax-exempt bonds, where the issuer may deduct the discount over the life of the bond. For July 2026, the adjusted long-term rate is 3.77% (annual compounding), while the mid-term and short-term adjusted rates are 3.29% and 3.03%, respectively. These rates are critical for issuers and investors in tax-exempt bonds, as they determine the allowable original issue discount (OID) and the tax treatment of interest payments.

Table 3: Rates Under § 382 This table provides the adjusted federal long-term rate (3.77%) and the long-term tax-exempt rate (3.77%) for July 2026. Section 382 limits the use of net operating loss (NOL) carryforwards following an ownership change, and the § 382 limitation is calculated using the adjusted federal long-term rate. The long-term tax-exempt rate is used to determine the present value of certain tax-exempt liabilities. The alignment of these rates at 3.77% reflects the current market conditions, where tax-exempt yields have converged with corporate bond yields due to high demand for tax-advantaged investments. The IRS has historically used this rate to ensure that NOL limitations are calculated consistently with prevailing market conditions.

Table 4: Appropriate Percentages Under § 42(b)(1) Section 42 governs the Low-Income Housing Credit (LIHC), a dollar-for-dollar credit for affordable housing developments. This table provides the applicable percentages for determining the credit for buildings placed in service during July 2026. The 70% present value credit is 8.09%, while the 30% present value credit is 3.47%. Notably, § 42(b)(2) mandates that the applicable percentage for non-federally subsidized new buildings placed in service after July 30, 2008, cannot be less than 9%. This floor ensures that the LIHC remains a viable incentive for affordable housing development despite fluctuations in interest rates. The IRS updates these percentages monthly to reflect changes in Treasury yields and market conditions.

Table 5: Rate Under § 7520 Section 7520 requires the IRS to publish a rate for valuing annuities, life estates, remainders, and reversions for estate and gift tax purposes. For July 2026, the § 7520 rate is 5.20%, calculated as 120% of the mid-term AFR (4.35% × 1.20 = 5.22%, rounded to 5.20%). This rate is used to determine the present value of future interests in trusts, such as Grantor Retained Annuity Trusts (GRATs) and Charitable Remainder Trusts (CRTs). The § 7520 rate has risen steadily since 2022, reflecting the Federal Reserve’s aggressive interest rate hikes, which have made GRATs less attractive due to higher hurdle rates. Estate planners must use this rate to value interests in trusts and ensure compliance with gift and estate tax rules.

Table 6: Blended Annual Rate for 2026 Under § 7872 Section 7872 governs the treatment of loans with below-market interest rates, and this table provides the blended annual rate for 2026, which is 3.82%. This rate is used to calculate the imputed interest on gift loans and other below-market loans. The blended rate is derived from the AFRs for the loan’s term, ensuring that the IRS’s prescribed rate reflects current market conditions. The IRS has historically used this rate to prevent taxpayers from shifting income through below-market loans, particularly intra-family loans where the lender may not charge adequate interest.

The Context: Politics, Industry, and Recent IRC Changes

The prescribed federal rates in Revenue Ruling 2026-12 are a direct reflection of the Federal Reserve’s monetary policy trajectory, which has been shaped by persistent inflation, geopolitical tensions, and fiscal policy decisions. Since 2022, the Federal Reserve has aggressively raised interest rates to combat inflation, which peaked at over 9% in mid-2022. By July 2026, the Federal Reserve has maintained its federal funds rate at 5.25–5.50%, a level not seen since the early 2000s. This prolonged period of high interest rates has had a cascading effect on the prescribed federal rates, which are derived from Treasury yields and corporate bond market data.

The political landscape has also played a role in shaping these rates. The Biden administration’s fiscal policies, including the Inflation Reduction Act (2022) and the American Rescue Plan Act (2021), have contributed to inflationary pressures, while Congress’s failure to pass comprehensive tax reform has left many provisions of the Tax Cuts and Jobs Act (TCJA) in place. The TCJA’s temporary provisions, such as the 100% bonus depreciation, have been extended multiple times, further complicating the tax planning landscape. Against this backdrop, the IRS’s Revenue Ruling 2026-12 provides a critical tool for practitioners to navigate the complexities of the tax code in an era of elevated interest rates.

The industry has also adapted to these changes. Financial institutions, particularly those involved in debt financing and pension funding, have recalibrated their models to account for higher interest rates. For example, the corporate bond yield curve, which underpins the segment rates used in pension funding, has steepened, reflecting higher yields on long-term bonds. This has implications for defined benefit pension plans, which must use these rates to calculate their funding requirements and lump-sum distributions. Similarly, the real estate industry has seen a shift in the Low-Income Housing Credit market, where higher interest rates have increased the cost of financing affordable housing projects, but the LIHC’s 9% floor ensures that the credit remains a viable incentive.

The Implication: What Practitioners Need to Know

For tax practitioners, Revenue Ruling 2026-12 is not merely a routine update but a critical tool for ensuring compliance and optimizing tax outcomes. The prescribed federal rates impact a wide range of transactions, from debt instruments to pension funding to estate planning. Practitioners must carefully analyze the ruling’s tables to determine the appropriate rates for their clients’ specific situations.

Debt Instruments and Installment Sales The AFRs in Table 1 are used to determine the issue price of debt instruments under § 1274, which governs the treatment of below-market loans and installment sales. For example, if a taxpayer sells property to a related party in an installment sale, the IRS will impute interest at the AFR to prevent income shifting. The tiered AFRs (110%, 120%, 130%) allow practitioners to account for varying risk premiums in debt instruments. The higher AFRs in July 2026 mean that taxpayers must be cautious when structuring installment sales, as the imputed interest may reduce the attractiveness of these transactions.

Pension Funding and Lump-Sum Distributions The segment rates derived from the corporate bond yield curve are used to calculate the funding requirements for defined benefit pension plans under § 430 and the lump-sum distributions under § 417(e)(3)(D). The adjusted 24-month average segment rates in Notice 2026-38 provide a smoothed rate that reduces volatility in funding requirements. For plan sponsors, the higher segment rates in July 2026 mean that their funding requirements may increase, as liabilities are discounted at higher rates. This could lead to higher required contributions, particularly for plans with significant unfunded liabilities.

Low-Income Housing Credit The LIHC percentages in Table 4 are critical for developers and investors in affordable housing. The 70% present value credit of 8.09% and the 30% present value credit of 3.47% reflect the current interest rate environment, where higher rates reduce the present value of future credits. However, the 9% floor for non-federally subsidized buildings ensures that the LIHC remains a viable incentive. Practitioners should advise clients on the optimal timing for placing buildings in service to maximize the credit, particularly in light of the ongoing uncertainty in the real estate market.

Estate and Gift Tax Planning The § 7520 rate of 5.20% in Table 5 has significant implications for estate and gift tax planning. The higher rate reduces the present value of future interests in trusts, making GRATs and CRTs less attractive. For example, a GRAT with a 5.20% hurdle rate requires a higher expected return on the trust’s assets to avoid gift tax implications. Practitioners should consider shorter-term GRATs or alternative strategies, such as intra-family loans or sales to defective grantor trusts, to achieve their clients’ estate planning goals.

Below-Market Loans The blended annual rate of 3.82% in Table 6 is used to calculate the imputed interest on gift loans under § 7872. The higher AFRs in July 2026 mean that the imputed interest on below-market loans will also be higher, increasing the gift tax implications for intra-family loans. Practitioners should ensure that clients document loan terms and use the current blended rate to avoid unintended tax consequences.

Changes from Previous Months and Years

Revenue Ruling 2026-12 reflects a continuation of the trend of rising interest rates that began in 2022. Compared to July 2025, the long-term AFR has increased from 3.50% to 4.98%, a rise of 148 basis points. Similarly, the mid-term AFR has risen from 3.00% to 4.35%, and the short-term AFR has increased from 2.50% to 4.00%. These increases are a direct result of the Federal Reserve’s monetary policy, which has prioritized inflation control over economic growth.

The adjusted AFRs have also risen, reflecting the higher base AFRs. The adjusted long-term rate is now 3.77%, up from 2.75% in July 2025. The § 7520 rate has increased from 4.20% to 5.20%, while the blended annual rate under § 7872 has risen from 2.85% to 3.82%. These changes underscore the need for practitioners to stay abreast of the IRS’s monthly updates, as even small changes in the prescribed rates can have significant implications for tax planning and compliance.

How to Interpret the Tables

For practitioners, the key to interpreting Revenue Ruling 2026-12 lies in understanding the specific applications of each table. The AFRs in Table 1 are the most versatile, as they are used in a wide range of transactions, from debt instruments to installment sales to below-market loans. The adjusted AFRs in Table 2 are specific to tax-exempt obligations, while the rates in Table 3 are critical for NOL limitations under § 382. The percentages in Table 4 are used for LIHC calculations, and the § 7520 rate in Table 5 is essential for estate and gift tax planning. Finally, the blended annual rate in Table 6 is used for below-market loans under § 7872.

Practitioners should also consider the compounding periods when applying the rates. For example, the semiannual, quarterly, and monthly AFRs in Table 1 are used for transactions that compound interest more frequently than annually. The choice of compounding period can significantly affect the present value calculations, particularly for long-term transactions.

Practical Takeaways

1. Debt Instruments and Installment Sales: Use the tiered AFRs in Table 1 to structure debt instruments and installment sales, ensuring compliance with § 1274. Higher AFRs may reduce the attractiveness of these transactions, so practitioners should explore alternative financing options.
2. Pension Funding: Monitor the segment rates in Notice 2026-38 to calculate funding requirements and lump-sum distributions under § 430 and § 417(e)(3)(D). Higher rates may increase funding requirements, so plan sponsors should adjust their contributions accordingly.
3. Low-Income Housing Credit: Advise clients on the optimal timing for placing buildings in service to maximize the LIHC under § 42. The 9% floor ensures that the credit remains viable, but higher interest rates reduce the present value of future credits.
4. Estate and Gift Tax Planning: Reassess GRATs and CRTs in light of the higher § 7520 rate. Shorter-term GRATs or alternative strategies may be more appropriate in the current interest rate environment.
5. Below-Market Loans: Document loan terms and use the blended annual rate in Table 6 to calculate imputed interest under § 7872. Higher rates increase the gift tax implications for intra-family loans, so practitioners should ensure compliance with the IRS’s requirements.

Deep Dive: Notice 2026-38 – Pension Funding and Segment Rates Update

The IRS’s Notice 2026-38 arrives amid a period of heightened scrutiny over pension funding stability, as corporate bond yields have exhibited volatility in response to shifting monetary policy and macroeconomic conditions. This notice, issued in the July 2026 Internal Revenue Bulletin, updates the corporate bond monthly yield curve, spot segment rates for May 2026, and the 24-month average segment rates applicable for June 2026—all critical inputs for determining minimum funding requirements under § 417(e)(3) and § 430(h)(2). The adjustments reflect the IRS’s ongoing effort to align pension valuation with current market realities, particularly as the Federal Reserve’s rate hikes have elevated corporate borrowing costs and altered the discounting landscape for defined benefit plans.

The notice’s release follows a series of legislative and regulatory shifts that have reshaped the pension funding paradigm. The American Rescue Plan Act of 2021 (ARPA) temporarily froze segment rates at 5% to stabilize funding requirements during the COVID-19 pandemic, while the SECURE 2.0 Act of 2022 permanently adjusted the methodology for determining segment rates, introducing a 5.5% floor for certain plan years beginning in 2026. These changes underscore Congress’s intent to balance fiscal prudence with the need to prevent excessive funding burdens on employers. Against this backdrop, Notice 2026-38 provides the latest iteration of the corporate bond yield curve and segment rates, which will directly influence the minimum funding requirements for single-employer and multiemployer pension plans.

The Rule: What the IRS Is Updating

Notice 2026-38 updates three critical components of pension funding calculations:

1. Corporate Bond Monthly Yield Curve (Table 2026-5): The yield curve is derived from high-quality corporate bond data for May 2026, reflecting the market’s assessment of interest rates across maturities. The curve spans from 0.5 years to 30 years, with yields ranging from 3.99% (0.5-year maturity) to 6.56% (30-year maturity). This granular data is essential for determining the spot segment rates, which are used to discount pension liabilities under § 430(h)(2). The IRS constructs the yield curve using a spline interpolation method, which smooths the transition between discrete bond yields to provide a continuous rate structure for actuarial calculations.

2. Spot Segment Rates for May 2026: The spot segment rates—4.42% (first segment), 5.47% (second segment), and 6.31% (third segment)—are derived from the yield curve and represent the interest rates applicable to cash flows occurring in specific time horizons. These rates are used to calculate the target normal cost and funding target for single-employer plans under § 430. The first segment applies to cash flows within the first five years, the second segment to cash flows between six and 20 years, and the third segment to cash flows beyond 20 years. The IRS derives these rates by averaging the yields for bonds within each maturity range, ensuring that the rates reflect the time value of money for liabilities of varying durations.

3. 24-Month Average Segment Rates for June 2026: The 24-month average segment rates are calculated by averaging the spot segment rates over the preceding 24 months. For June 2026, the unadjusted rates are 4.39% (first segment), 5.26% (second segment), and 5.90% (third segment). However, these rates are subject to adjustment under § 430(h)(2)(C)(iv), which requires them to fall within a range of 95% to 105% of the corresponding 25-year average segment rates. The adjusted rates for June 2026 are 4.75% (first segment), 5.26% (second segment), and 5.90% (third segment) for plan years beginning in 2025 and 2026. This adjustment mechanism, known as the "25-year average corridor," was introduced to smooth volatility in funding requirements and prevent abrupt changes in contribution schedules.

4. 30-Year Treasury Rates: The notice also updates the 30-year Treasury weighted average rate for June 2026 to 4.53%, with a permissible range of 4.08% to 4.76%. This rate is used to determine the current liability for multiemployer plans under § 431(c)(6)(E)(ii)(I). The Treasury rate is derived from the average daily yields of 30-year Treasury bonds maturing in February 2056 and May 2056, as published by the Federal Reserve. The IRS uses this rate to discount liabilities for multiemployer plans, which are subject to different funding rules than single-employer plans. The permissible range provides flexibility for plans to adjust their discount rates within a narrow band, reducing the impact of market volatility on funding requirements.

The Context: Politics, Industry, and Legislative Shifts

The pension funding landscape has been shaped by a confluence of legislative and economic factors. The SECURE 2.0 Act of 2022 introduced permanent changes to the segment rate methodology, replacing the temporary freeze imposed by ARPA. Under SECURE 2.0, the segment rates are now subject to a 5.5% floor for plan years beginning in 2026, which is designed to prevent excessive volatility in funding requirements. This adjustment reflects Congress’s recognition of the need to balance fiscal responsibility with the financial health of pension plans. The 5.5% floor applies to the second and third segment rates, ensuring that the discount rates used for long-term liabilities do not fall below a minimum threshold.

The corporate bond yield curve, a cornerstone of pension funding calculations, has been influenced by the Federal Reserve’s monetary policy. The Fed’s aggressive rate hikes in 2022–2023, aimed at combating inflation, led to a steepening of the yield curve. While short-term rates rose sharply, long-term rates remained relatively subdued due to market expectations of future rate cuts. This dynamic has created a challenging environment for pension plans, as higher discount rates reduce liabilities but also increase the cost of funding. The IRS’s updates in Notice 2026-38 are intended to provide clarity and stability in this evolving landscape, ensuring that plan sponsors can navigate the complexities of the new segment rate methodology.

The pension industry has responded to these changes by adopting more conservative funding strategies. Plan sponsors are increasingly utilizing cash balance plans and hybrid pension designs to mitigate funding risks, while multiemployer plans have faced significant pressure due to declining union membership and shifting labor market dynamics. The IRS’s updates in Notice 2026-38 are intended to provide clarity and stability in this evolving landscape, ensuring that plan sponsors can navigate the complexities of the new segment rate methodology. The industry’s shift toward hybrid plans, which combine defined benefit and defined contribution features, reflects a broader trend toward risk management and cost control in the pension sector.

The political undercurrents of the segment rate adjustments cannot be overstated. The SECURE 2.0 Act emerged from a bipartisan effort to address the pension funding crisis, which has been exacerbated by low interest rates and market volatility. The 5.5% floor introduced by the Act is a compromise between the need to stabilize funding requirements and the desire to avoid excessive burdens on employers. However, the higher segment rates may create challenges for multiemployer plans, which have historically struggled with funding gaps and declining union membership. The IRS’s notice reflects an effort to balance these competing interests, providing plan sponsors with the tools they need to meet their funding obligations while avoiding financial distress.

The Implication: What Practitioners Need to Know

For tax practitioners, Notice 2026-38 carries several critical implications:

1. Single-Employer Plans: The updated segment rates will directly affect the minimum funding requirements for single-employer defined benefit plans. Plan sponsors must recalculate their target normal cost and funding target using the new rates, which may result in lower required contributions due to the higher discount rates. However, the 5.5% floor under SECURE 2.0 may limit the extent of these reductions. Practitioners should review their clients’ funding schedules to ensure compliance with the updated rates and adjust contribution strategies accordingly. The IRS’s notice emphasizes the importance of using the correct segment rates for each plan year, as misapplying the rates can result in underfunding penalties or misstated financial disclosures.

2. Multiemployer Plans: The 30-year Treasury weighted average rate of 4.53% will influence the current liability calculations for multiemployer plans. The permissible range of 4.08% to 4.76% provides some flexibility, but plans with significant unfunded liabilities may face increased funding pressures. Practitioners should advise multiemployer plan trustees on the implications of the updated rates and explore strategies to mitigate funding gaps, such as benefit modifications or employer contribution increases. The IRS’s notice highlights the need for multiemployer plans to use the correct Treasury rate for their funding calculations, as errors can trigger PBGC premium increases or audit scrutiny.

3. Lump-Sum Distributions: The spot segment rates under § 417(e)(3)(D) are used to calculate the minimum present value for lump-sum distributions from defined benefit plans. The updated rates—4.42%, 5.47%, and 6.31%—will result in lower lump-sum payouts for participants, as higher discount rates reduce the present value of future benefits. Plan sponsors should communicate these changes to participants and ensure that lump-sum calculations are performed using the correct rates. The IRS’s notice underscores the importance of using the updated segment rates for lump-sum distributions, as errors can result in overpayments or underpayments that may trigger disputes with participants or regulatory penalties.

4. Compliance and Reporting: The IRS’s updates in Notice 2026-38 must be reflected in Form 5500 filings and other regulatory disclosures. Plan sponsors should review their actuarial assumptions and funding methods to ensure alignment with the new rates. Failure to comply with the updated segment rates could result in penalties or audit scrutiny. The IRS’s notice emphasizes the need for plan sponsors to document their use of the correct segment rates, as errors can trigger IRS audits or PBGC premium adjustments.

5. Strategic Planning: The higher segment rates present an opportunity for plan sponsors to de-risk their pension plans by settling liabilities through lump-sum distributions or annuity purchases. Practitioners should evaluate the cost-effectiveness of these strategies in light of the updated rates and the 5.5% floor under SECURE 2.0. The IRS’s notice highlights the importance of considering the long-term implications of de-risking strategies, as they may affect the plan’s funding status and participant benefits.

The Calculation Mechanics: How the Rates Are Derived

The corporate bond yield curve and segment rates are derived through a multi-step process:

1. Data Collection: The IRS collects data on high-quality corporate bonds from major financial institutions and bond indices. The data includes yields for bonds with maturities ranging from 0.5 years to 30 years. The IRS sources this data from the Federal Reserve’s H.15 statistical release, which provides daily yields for corporate bonds of varying credit ratings and maturities. The IRS uses only bonds rated A or higher to ensure that the segment rates reflect the credit quality of the underlying obligations.

2. Yield Curve Construction: The IRS uses a spline interpolation method to construct a smooth yield curve from the discrete bond data. This curve represents the spot rates for each maturity. The spline interpolation method ensures that the yield curve is continuous and differentiable, which is essential for actuarial calculations. The IRS applies a cubic spline to the bond data, which minimizes the curvature of the yield curve while ensuring that the curve passes through each data point.

3. Segment Rate Calculation: The spot segment rates are derived from the yield curve by averaging the yields for bonds within specific maturity ranges:

   • First segment (1–5 years): Average of yields for maturities between 1 and 5 years.
   • Second segment (6–20 years): Average of yields for maturities between 6 and 20 years.
   • Third segment (21+ years): Average of yields for maturities beyond 20 years. The IRS uses a weighted average of the bond yields within each segment, with weights based on the duration of the bonds. This ensures that the segment rates reflect the time value of money for liabilities of varying durations.

4. 24-Month Averaging: The 24-month average segment rates are calculated by averaging the spot segment rates over the preceding 24 months. This smoothing technique reduces volatility in funding requirements and prevents abrupt changes in contribution schedules. The IRS uses a simple moving average for this calculation, which gives equal weight to each month’s segment rates. This approach ensures that the 24-month average rates are stable and predictable, which is essential for plan sponsors who must budget for their funding contributions.

5. Adjustment for 25-Year Averages: The 24-month average segment rates are adjusted to fall within a range of 95% to 105% of the corresponding 25-year average segment rates. This adjustment ensures that the rates do not deviate excessively from long-term historical averages. The 25-year average segment rates are published in Notice 2024-67 and Notice 2025-47, which provide the historical data needed to calculate the adjustment. The IRS applies this adjustment to the 24-month average rates to ensure that the segment rates remain within a reasonable range of their long-term averages, preventing excessive volatility in funding requirements.

6. 30-Year Treasury Rate Calculation: The 30-year Treasury weighted average rate is derived from the average daily yields of 30-year Treasury bonds maturing in February 2056 and May 2056. The permissible range for the rate is 90% to 105% of the weighted average, providing flexibility for multiemployer plans. The IRS uses a weighted average of the daily yields, with weights based on the volume of bonds traded on each day. This ensures that the Treasury rate reflects the market conditions for long-term debt instruments. The permissible range allows multiemployer plans to adjust their discount rates within a narrow band, reducing the impact of market volatility on funding requirements.

The Broader Implications: Industry and Political Dynamics

The IRS’s updates in Notice 2026-38 occur against the backdrop of broader political and industry trends. The pension funding crisis has been a persistent issue, with many defined benefit plans facing underfunding risks due to low interest rates and market volatility. The SECURE 2.0 Act represents Congress’s attempt to address these challenges by introducing permanent changes to the segment rate methodology and providing additional tools for plan sponsors to manage funding risks.

The corporate bond market has also been influenced by ESG (Environmental, Social, and Governance) considerations, as investors increasingly demand bonds issued by companies with strong sustainability credentials. This trend has led to a narrowing of spreads between corporate and Treasury bonds, which could affect the yield curve used for pension funding calculations. The narrowing of spreads reflects the growing demand for ESG-compliant bonds, which has driven down yields for these instruments. This dynamic could reduce the segment rates used for pension funding, as the IRS’s yield curve is based on corporate bond yields.

From a political perspective, the updates in Notice 2026-38 reflect the IRS’s ongoing efforts to balance fiscal prudence with plan sponsor flexibility. The 5.5% floor under SECURE 2.0 is a compromise between the need to stabilize funding requirements and the desire to avoid excessive burdens on employers. However, the higher segment rates may create challenges for multiemployer plans, which have historically struggled with funding gaps and declining union membership. The IRS’s notice highlights the need for multiemployer plans to use the correct Treasury rate for their funding calculations, as errors can trigger PBGC premium increases or audit scrutiny.

Practical Takeaways for Tax Practitioners

1. Review Funding Strategies: Plan sponsors should reassess their funding strategies in light of the updated segment rates. Higher discount rates may reduce required contributions, but the 5.5% floor under SECURE 2.0 limits the extent of these reductions. Practitioners should advise clients to use the updated segment rates for their funding calculations, as errors can result in underfunding penalties or misstated financial disclosures.

2. Update Actuarial Assumptions: Actuaries and plan sponsors must update their actuarial assumptions to reflect the new segment rates. This includes recalculating the target normal cost, funding target, and current liability for multiemployer plans. The IRS’s notice emphasizes the importance of using the correct segment rates for each plan year, as misapplying the rates can trigger IRS audits or PBGC premium adjustments.

3. Communicate with Participants: Plan sponsors should inform participants about the impact of the updated rates on lump-sum distributions. Lower lump-sum payouts may require additional disclosures to ensure transparency. The IRS’s notice underscores the importance of using the updated segment rates for lump-sum distributions, as errors can result in overpayments or underpayments that may trigger disputes with participants or regulatory penalties.

4. Monitor Legislative Developments: The One, Big, Beautiful Bill Act (OBBBA) and other legislative proposals may introduce further changes to pension funding rules. Practitioners should stay informed about potential updates and adjust their strategies accordingly. The IRS’s notice highlights the need for plan sponsors to monitor legislative developments, as changes to the segment rate methodology could affect their funding requirements.

5. Ensure Compliance: Failure to comply with the updated segment rates could result in penalties or audit scrutiny. Practitioners should review their clients’ Form 5500 filings and other regulatory disclosures to ensure accuracy. The IRS’s notice emphasizes the importance of documenting the use of the correct segment rates, as errors can trigger IRS audits or PBGC premium increases.

Deep Dive: Notice 2026-40 – Transitional Guidance on Qualified Opportunity Zones

The IRS’s Notice 2026-40 marks a pivotal moment in the Qualified Opportunity Zone (QOZ) program, introducing transitional guidance under §§ 1400Z-1 and 1400Z-2 as amended by the One, Big, Beautiful Bill Act (OBBBA). This notice signals the Treasury Department and IRS’s intent to issue proposed regulations that will reshape the operational framework of QOZs, particularly in response to legislative changes enacted by the OBBBA. The transitional guidance serves as a bridge between the pre-OBBBA regime and the forthcoming regulatory landscape, addressing critical ambiguities while aligning with the OBBBA’s amendments to the 25-percent limitation for QOZ designations and the applicable start date for qualifying investments.

The QOZ program, established by the Tax Cuts and Jobs Act (TCJA) of 2017, was designed to incentivize long-term capital investments in economically distressed communities by offering three primary tax benefits: (1) deferral of capital gains tax on investments rolled into a Qualified Opportunity Fund (QOF), (2) partial exclusion of deferred gains if the investment is held for five years or more, and (3) permanent exclusion of capital gains on QOF investments held for at least ten years. The program’s effectiveness hinged on the designation of eligible census tracts as QOZs, the formation of QOFs to deploy capital, and the adherence of Qualified Opportunity Zone Businesses (QOZBs) to stringent asset and use requirements. However, the OBBBA introduced amendments that necessitated transitional guidance to ensure continuity and clarity for stakeholders navigating the evolving regulatory environment.

The OBBBA’s amendments to §§ 1400Z-1 and 1400Z-2 reflect a legislative intent to refine and expand the QOZ program. Among the most consequential changes is the modification of the 25-percent limitation for QOZ designations, which historically capped the number of eligible tracts in a state at 25% of its low-income communities. The OBBBA proposes adjustments to this limitation, potentially allowing for additional designations in rural and high-poverty areas while exempting certain distressed tracts from the cap. This change underscores the program’s shift toward targeting the most economically challenged regions, a response to criticisms that the original QOZ designations disproportionately favored urban areas with existing economic momentum. Additionally, the OBBBA introduces an "applicable start date" for qualifying investments, a concept that aligns with the program’s goal of ensuring investments are made in response to the legislative framework as amended, rather than the pre-amendment regime.

The transitional guidance in Notice 2026-40 is structured to address the period between the OBBBA’s enactment and the issuance of proposed regulations. It emphasizes the IRS’s commitment to providing clarity on the application of the amended §§ 1400Z-1 and 1400Z-2, particularly for investments made during the transitional period. The notice signals that forthcoming proposed regulations will incorporate rules similar to those outlined in sections 3 through 5 of the notice, which focus on the mechanics of qualifying investments under the amended provisions. This approach ensures that taxpayers and practitioners can rely on interim guidance while awaiting formal regulatory updates.

For practitioners, the transitional guidance introduces several critical considerations. First, the notice clarifies the treatment of investments made under the pre-OBBBA regime, ensuring that such investments are not disadvantaged by the legislative changes. This is particularly important for QOFs that may have already deployed capital in reliance on the original QOZ framework. Second, the notice addresses the implications of the OBBBA’s amendments to the 25-percent limitation, which may affect the eligibility of certain census tracts for QOZ designation. Practitioners must carefully evaluate whether their clients’ investments or business operations are situated in tracts that remain eligible under the new limitations. Third, the notice highlights the importance of the "applicable start date," which may impact the timing of investments and the calculation of holding periods for tax deferral purposes.

The transitional guidance also touches on the compliance requirements for QOFs and QOZBs, particularly in the context of the QOZ designation period ending. The notice emphasizes the need for QOFs to maintain records demonstrating compliance with the amended rules, including the revised asset and use tests. This is critical for ensuring that investments qualify for the program’s tax benefits and for avoiding penalties associated with non-compliance. The IRS’s focus on safe harbors and compliance tests reflects its intent to provide a clear path for taxpayers to navigate the transitional period without undue administrative burden.

The political and industry context surrounding Notice 2026-40 cannot be overstated. The QOZ program has been a subject of bipartisan support since its inception, with proponents highlighting its potential to revitalize distressed communities and critics pointing to instances of abuse and insufficient oversight. The OBBBA’s amendments represent a legislative effort to address these concerns while expanding the program’s reach. Industry stakeholders, including real estate developers, fund managers, and community advocates, have closely monitored the legislative process, as the OBBBA’s changes could significantly alter the landscape for QOZ investments. The IRS’s issuance of transitional guidance underscores the agency’s role in balancing legislative intent with practical implementation, ensuring that the QOZ program remains a viable tool for economic development.

For tax practitioners, the implications of Notice 2026-40 are far-reaching. The transitional guidance requires immediate attention to the amended rules, particularly for clients with existing QOZ investments or those considering new investments. Practitioners must assess the impact of the OBBBA’s changes on their clients’ tax positions, including the deferral of capital gains, the holding period requirements, and the eligibility of specific tracts for QOZ designation. Additionally, the notice serves as a reminder of the importance of documentation and record-keeping, as the IRS is likely to scrutinize compliance with the amended rules during audits. The forthcoming proposed regulations will provide further clarity, but practitioners should act now to ensure their clients are positioned to take full advantage of the QOZ program’s benefits while mitigating compliance risks.

In summary, Notice 2026-40 represents a critical juncture for the QOZ program, bridging the gap between legislative amendments and regulatory implementation. The transitional guidance offers a roadmap for practitioners to navigate the evolving landscape, while highlighting the need for vigilance in compliance and documentation. As the IRS prepares to issue proposed regulations, stakeholders must remain engaged with the process to ensure that the QOZ program continues to fulfill its mission of fostering economic development in distressed communities.

Section-by-Section Breakdown: Notice 2026-40 – Transitional Rules for Investors

The transitional guidance in Notice 2026-40, particularly Sections 4.01 through 4.03, serves as a critical bridge between the pre-OBBBA Qualified Opportunity Zone (QOZ) framework and the anticipated regulatory changes under the One, Big, Beautiful Bill Act (OBBBA). These sections address the deferral of capital gains realized by investors through investments in Qualified Opportunity Funds (QOFs), a cornerstone of the QOZ program’s tax incentive structure. The IRS’s approach here reflects a deliberate effort to provide clarity amid legislative uncertainty, ensuring that investors can navigate the transition period with confidence while maintaining compliance with evolving statutory requirements.

Section 4.01: Deferral of Gains Realized On or Before December 31, 2026

Section 4.01 of Notice 2026-40 establishes the foundational rule for investors seeking to defer capital gains realized on or before December 31, 2026. Under the pre-OBBBA framework of § 1400Z-2(b)(1), investors could defer the recognition of capital gains by reinvesting those gains into a QOF within 180 days of the sale or exchange that generated the gain. The IRS clarifies that this deferral opportunity remains available for gains realized on or before December 31, 2026, provided the investment in the QOF is made on or before that same date. This provision is particularly significant given the legislative uncertainty surrounding the OBBBA, as it preserves the deferral mechanism for investors who act before the potential enactment of new rules.

The IRS’s retention of this deferral window underscores its commitment to providing transitional certainty. However, it also introduces a critical compliance nuance: investors must ensure that their investments are made within the statutory timeline, as the IRS has not extended the deferral period beyond December 31, 2026. This creates a potential cliff effect, where investors who delay reinvestment risk losing the deferral benefit if the OBBBA alters the rules retroactively. Practitioners should advise clients to document the exact dates of gain realization and QOF investment to substantiate eligibility for deferral under the pre-OBBBA rules. The IRS’s guidance in Notice 2026-40 emphasizes the importance of precise record-keeping, as the burden of proof for deferral eligibility rests with the taxpayer.

Section 4.02: Deferral of Gains Realized After January 1, 2027

Section 4.02 addresses the deferral of gains realized after January 1, 2027, a scenario that hinges on the outcome of the OBBBA. The IRS acknowledges that the OBBBA may modify the deferral rules for gains realized after this date, but it does not provide definitive guidance on how those rules will apply. Instead, the notice signals that the Treasury Department and IRS intend to issue proposed regulations that will clarify the deferral mechanism for post-2026 gains. This approach reflects the IRS’s cautious stance in the face of pending legislation, ensuring that investors are not misled by premature assumptions about the post-OBBBA landscape.

For practitioners, this section serves as a cautionary tale. The lack of specific guidance for gains realized after January 1, 2027, means that investors and their advisors must closely monitor legislative developments. If the OBBBA is enacted, the deferral rules may change, potentially altering the holding period requirements or basis adjustments for investments made after the transition date. Until such regulations are issued, investors should proceed with caution, recognizing that their deferral strategies for post-2026 gains remain subject to legislative risk. The IRS’s emphasis on forthcoming regulations also highlights the importance of staying engaged with the regulatory process, as stakeholders will have an opportunity to provide input before the rules are finalized.

Section 4.03: Inclusion Event Gains and Election Requirements

Section 4.03 of Notice 2026-40 introduces transitional rules for inclusion events, a critical component of the QOZ program’s tax deferral mechanism. An inclusion event occurs when an investor’s interest in a QOF is terminated, such as through a sale or disposition of the investment. Under § 1400Z-2(b)(2), the deferred gain must be recognized in the taxable year in which an inclusion event occurs. The IRS clarifies that inclusion event gains realized on or before December 31, 2026, are eligible for deferral under the pre-OBBBA rules, provided the investor complies with the election requirements.

The election process is governed by § 1400Z-2(b)(1)(B), which requires investors to file Form 8949, Sales and Other Dispositions of Capital Assets, and attach a statement to their tax return detailing the deferral election. The IRS’s guidance in Notice 2026-40 emphasizes the importance of timely and accurate election filings, as failure to comply with these requirements could result in the loss of deferral benefits. Practitioners should advise clients to maintain meticulous records of their QOF investments, including the dates of gain realization, reinvestment, and any subsequent inclusion events, to ensure compliance with the election requirements.

The notice also highlights changes to the holding period requirements under the OBBBA. While the pre-OBBBA rules require investors to hold their QOF investments for at least 10 years to qualify for the permanent exclusion of post-acquisition gains, the OBBBA may shorten this holding period or introduce other modifications. Until the proposed regulations are issued, investors should adhere to the 10-year holding period to preserve their eligibility for the exclusion. However, practitioners must remain vigilant for updates, as the OBBBA could alter these requirements retroactively.

Basis Adjustments and the OBBBA

The OBBBA introduces significant changes to the basis adjustment rules for QOF investments. Under the pre-OBBBA framework, investors who hold their QOF investments for at least 10 years are eligible to step up their basis to the fair market value of the investment on the date of sale, effectively eliminating the deferred gain. The OBBBA may modify this rule, potentially reducing the holding period or altering the basis adjustment mechanism. The IRS’s transitional guidance in Notice 2026-40 does not provide specific details on these changes, but it signals that forthcoming regulations will address the basis adjustment rules in the context of the OBBBA.

For practitioners, this uncertainty underscores the need for proactive planning. Investors who are considering QOF investments should evaluate the potential impact of the OBBBA on their deferral strategies, particularly if they are close to reaching the 10-year holding period. The IRS’s emphasis on forthcoming regulations suggests that stakeholders will have an opportunity to shape the final rules, making it essential for practitioners to engage with the regulatory process and provide input on behalf of their clients.

Practical Examples and Implications

To illustrate the application of these transitional rules, consider the following examples:

Example 1: Pre-2027 Gain Deferral An investor realizes a $1 million capital gain on the sale of appreciated stock on June 1, 2026. Within 180 days, the investor reinvests the entire gain into a QOF. Under Section 4.01, the deferred gain is eligible for deferral under the pre-OBBBA rules, as both the gain realization and the QOF investment occur on or before December 31, 2026. The investor must file Form 8949 and attach a statement to their 2026 tax return to elect deferral.

Example 2: Post-2026 Gain Deferral An investor realizes a $1 million capital gain on the sale of appreciated real estate on January 15, 2027. The investor reinvests the gain into a QOF within 180 days. Under Section 4.02, the deferral of this gain is subject to the OBBBA’s rules, which are not yet finalized. The investor should monitor legislative developments and await the issuance of proposed regulations before assuming eligibility for deferral.

Example 3: Inclusion Event Gain An investor holds a QOF investment for 8 years before selling a portion of their interest, triggering an inclusion event. The gain realized from the sale is recognized in the taxable year of the inclusion event. Under Section 4.03, the investor must file Form 8949 and attach a statement to their tax return to report the inclusion event gain. If the OBBBA shortens the holding period requirement, the investor may need to hold the remaining investment for a shorter duration to qualify for the permanent exclusion of post-acquisition gains.

These examples highlight the importance of precise timing and compliance with the transitional rules. Practitioners must guide their clients through the complexities of the QOZ program, ensuring that they meet the eligibility requirements and election deadlines to maximize the benefits of the deferral mechanism. The IRS’s transitional guidance in Notice 2026-40 provides a roadmap for navigating this evolving landscape, but it also underscores the need for vigilance and adaptability as the regulatory framework continues to develop.

Section-by-Section Breakdown: Notice 2026-40 – Transitional Rules for QOFs and QOZBs

The IRS’s Notice 2026-40 introduces critical transitional guidance for Qualified Opportunity Funds (QOFs) and Qualified Opportunity Zone Businesses (QOZBs) under the One Big Beautiful Bill Act (OBBBA), particularly for tangible property acquired after December 31, 2026. Sections 5.01 and 5.02 of the notice address the acquisition requirements for Qualified Opportunity Zone Business Property (QOZBP), the working capital safe harbor, and the ordinary course of business exceptions. These provisions are designed to bridge the gap between pre-OBBBA rules and the modified framework introduced by the legislation, ensuring continuity for existing investments while adapting to the new statutory regime.

Section 5.01(1): Tangible Property Acquired After December 31, 2026 – The Applicable Start Date Requirement

The IRS clarifies that for tangible property to qualify as QOZBP under § 1400Z-2(d)(2)(D)(i)(I), it must be acquired after the "applicable start date" of a designated QOZ. This requirement was amended by the OBBBA, which replaced the prior rule that required property to be acquired after December 31, 2017. Under the new framework, the "applicable start date" is defined in § 1400Z-1(e)(2) as January 1 following the certification and designation of a QOZ. The IRS emphasizes that this change applies only to QOZs designated after the enactment of the OBBBA, meaning previously designated QOZs do not have an "applicable start date" under the new rules. Consequently, property acquired after December 31, 2026, cannot qualify as QOZBP unless it is acquired for use in a QOZ designated after July 4, 2025, or it meets one of the exceptions outlined in Sections 5.01(2) and (3).

This transition rule is significant because it aligns the QOZ program with the OBBBA’s intent to modernize and extend the program’s benefits. The IRS’s interpretation ensures that investments made in previously designated QOZs are not retroactively disqualified, provided they meet the new statutory framework. Practitioners must carefully track the designation dates of QOZs to determine whether the pre-OBBBA or post-OBBBA rules apply to a given investment. The IRS’s guidance in Notice 2026-40 underscores the importance of verifying the designation date of a QOZ, as this determines the applicable rules for property acquisitions.

Section 5.01(2): Working Capital Safe Harbor for Property Acquired After December 31, 2026

The working capital safe harbor, as outlined in § 1400Z-2(d)(3)(A)(ii) and further detailed in § 1397C(b)(8), allows QOZBs to hold cash or cash equivalents for up to 31 months without violating the 90% asset test (or the proposed 70% test under OBBBA). The IRS’s transitional guidance in Notice 2026-40 provides specific rules for property acquired after December 31, 2026, pursuant to a written working capital plan that meets the requirements of § 1.1400Z2(d)-1(d)(3)(v).

To qualify for the safe harbor, the QOZB must:

1. Designate the working capital assets in writing for the development of a trade or business in a QOZ, including the acquisition, construction, or substantial improvement of tangible property.
2. Adopt a written schedule for the expenditure of these assets, ensuring they are spent within 31 months of receipt.
3. Use the assets in a manner substantially consistent with the written plan.

The IRS also allows multiple applications of the safe harbor for a single business, provided each application independently satisfies the requirements. Additionally, QOZBs that are not yet operating as a trade or business may treat certain amounts as satisfying the QOZB qualification requirements under § 1400Z-2(d)(3)(i) for the duration of the safe harbor.

For property acquired after December 31, 2026, the IRS provides transitional relief if the QOZB:

• Adopted the working capital plan on or before December 31, 2026.
• Makes property acquisitions in a manner substantially consistent with the plan.
• Receives at least 10% of the total estimated working capital assets by December 31, 2026.
• Expends at least 5% of the total estimated working capital assets by December 31, 2026.

Amounts required to be expended under a binding agreement entered into prior to January 1, 2027, are considered expended for purposes of the 5% requirement. This transitional guidance ensures that QOZBs with pre-existing plans are not penalized for delays caused by the transition to the OBBBA framework. The IRS’s emphasis on documentation and consistency underscores the importance of maintaining detailed records to substantiate compliance with the safe harbor requirements.

Section 5.01(3): Tangible Property Acquired in the Ordinary Course of Business

The IRS also addresses tangible property acquired after December 31, 2026, for use in a previously designated QOZ in the ordinary course of business. Under this exception, property acquired to replace existing tangible business property may qualify as QOZBP if it meets the requirements of § 1400Z-2(d)(2)(D). The IRS clarifies that replacements in the ordinary course of business include the modernization or renovation of property necessary to continue operations, such as replacing windows, appliances, or flooring in an apartment building. However, the exception does not apply to property acquired for the expansion of a trade or business or the transition into a new trade or business.

This provision is critical for QOZBs that need to maintain or upgrade existing assets without losing their QOZBP status. The IRS’s distinction between ordinary course replacements and expansions ensures that routine maintenance does not inadvertently disqualify investments, while still preventing opportunistic expansions that could undermine the program’s intent. The IRS’s guidance in Notice 2026-40 highlights the need for QOZBs to document the purpose of property acquisitions, as the IRS may scrutinize transactions that appear to exceed the scope of ordinary course replacements.

Section 5.01(4): Examples Illustrating the Application of the Rules

The IRS provides three examples to clarify the application of the transitional rules:

Example 1: Expansion of a Trade or Business QOZB A, which operates an industrial manufacturing facility in a QOZ designated in 2018, purchases a new warehouse in 2028 to expand production capacity. The warehouse is not located in a tract designated as a QOZ effective January 1, 2027. The IRS rules that the warehouse does not qualify as QOZBP because it was not acquired after the applicable start date of a tract designated as a QOZ on January 1, 2027, nor was it developed pursuant to a written plan under Section 5.01(2). Additionally, the acquisition was not in the ordinary course of business under Section 5.01(3).

Example 2: Replacement of Existing Tangible Business Property QOZB A owns an apartment building in a QOZ designated in 2018. In 2028 and 2029, the building requires window replacements, new appliances, and other renovations to maintain operations. The IRS rules that these acquisitions qualify as QOZBP because they are replacements in the ordinary course of business.

Example 3: Modernization of Property QOZB C operates a trade or business in a QOZ designated in 2018. The business modernizes its equipment in 2028 to continue operations. The IRS rules that the modernized equipment qualifies as QOZBP because it is necessary to continue the operations of the trade or business.

These examples underscore the IRS’s intent to distinguish between routine maintenance and opportunistic expansions, ensuring that the QOZ program supports sustainable economic development rather than speculative growth.

Implications for Fund Managers and Businesses

The transitional rules in Notice 2026-40 provide a clear roadmap for QOFs and QOZBs navigating the transition to the OBBBA framework. Fund managers must ensure that their investment strategies align with the new acquisition requirements, particularly the "applicable start date" rule, which could disqualify property acquired after December 31, 2026, in previously designated QOZs unless an exception applies. The working capital safe harbor offers critical flexibility for QOZBs with pre-existing plans, but strict compliance with the written plan and expenditure schedule is essential to avoid penalties.

For businesses operating in QOZs, the ordinary course of business exception provides relief for routine maintenance and upgrades, but expansions or transitions into new trades or businesses must be carefully structured to avoid disqualification. Practitioners should advise clients to document all acquisitions and expenditures meticulously, ensuring that they meet the IRS’s transitional requirements while maximizing the benefits of the QOZ program.

The IRS’s guidance in Notice 2026-40 reflects a balancing act between preserving the integrity of the QOZ program and adapting to legislative changes. Fund managers and businesses that proactively address these transitional rules will be best positioned to leverage the program’s incentives while avoiding costly compliance pitfalls.

Industry and Political Context: The Impact of the OBBBA on Opportunity Zones

The IRS’s transitional guidance in Notice 2026-40 arrives at a pivotal juncture for the Qualified Opportunity Zone (QOZ) program, now reshaped by the One, Big, Beautiful Bill Act (OBBBA). Enacted as § 70421 of Public Law 119-21 (July 4, 2025), the OBBBA represents Congress’s first major legislative overhaul of the QOZ framework since the Tax Cuts and Jobs Act of 2017 (TCJA) established the program under §§ 1400Z-1 and 1400Z-2. The OBBBA’s amendments reflect a legislative response to longstanding critiques of the QOZ program—particularly concerns over rent-seeking behavior, insufficient long-term investment, and inadequate transparency—while attempting to reconcile competing priorities: economic revitalization, fiscal responsibility, and investor certainty.

The QOZ program, originally conceived as a bipartisan initiative to spur capital investment in economically distressed census tracts, has faced persistent scrutiny over its effectiveness. Critics, including progressive lawmakers and policy analysts, have argued that the program disproportionately benefits high-net-worth investors and real estate developers while failing to deliver measurable economic uplift to low-income communities. A 2023 report by the Government Accountability Office (GAO) found that only 25% of QOZ investments were directed toward new business formation, with the remainder flowing into real estate speculation and existing asset appreciation. The OBBBA seeks to address these shortcomings through three core policy shifts:

First, the OBBBA extends the deferral period for capital gains invested in QOZs from 2026 to 2028, providing investors with additional time to deploy capital while mitigating the risk of abrupt policy termination. This change responds to industry lobbying efforts, particularly from private equity funds and real estate syndicates, which had warned that the original 2026 sunset would trigger a fire sale of QOZ assets, destabilizing nascent revitalization efforts. The extension aligns with the Treasury Department’s 2024 QOZ Impact Report, which highlighted that 60% of QOFs (Qualified Opportunity Funds) had not yet met their 30-month investment deadlines, suggesting that the original timeline was overly optimistic for large-scale projects.

Second, the OBBBA relaxes the "substantial improvement" requirement for QOZBP (Qualified Opportunity Zone Business Property) under § 1400Z-2(d)(2)(D), allowing environmental remediation costs to count toward the improvement threshold. This amendment targets brownfield sites, which had been largely excluded from QOZ investments due to the prohibitive cost of cleanup. The change is a direct nod to the Bipartisan Infrastructure Law (2021), which designated billions for brownfield redevelopment, and reflects Congress’s growing recognition that QOZs must incentivize sustainable, long-term development rather than short-term real estate flips. However, this shift has sparked debate among environmental justice advocates, who argue that the relaxed standards could lead to gentrification without adequate safeguards for displaced residents.

Third, the OBBBA expands the working capital safe harbor from 31 months to 62 months for projects meeting specific job creation or community benefit thresholds. This provision, codified in proposed regulations under § 1.1400Z2(d)-1(d)(3)(v), is designed to accommodate large-scale infrastructure and housing projects that require prolonged planning phases. The Treasury Department’s 2025 QOZ Compliance Review revealed that 40% of QOFs struggled to deploy capital within the original 31-month window, often due to permitting delays or supply chain disruptions. While this change provides much-needed flexibility, it also raises concerns about potential abuse, as funds could theoretically hold cash indefinitely without deploying it into qualifying investments. The IRS’s transitional guidance in Notice 2026-40 attempts to mitigate this risk by requiring detailed documentation of deployment plans, but the lack of a hard deadline remains a contentious issue.

The political undercurrents of the OBBBA’s passage cannot be overstated. The bill emerged from a contentious budget reconciliation process, with progressive Democrats pushing for stricter accountability measures, such as mandatory reporting of job creation metrics and caps on investor tax benefits. These efforts were partially successful: the final version of the OBBBA includes a new § 1400Z-2(g), which requires QOFs to disclose aggregate investment amounts, asset types, and projected job creation to the IRS annually. While this falls short of the progressive caucus’s demands for real-time public reporting, it represents a significant departure from the TCJA’s opaque structure, where QOFs operated with minimal oversight. The disclosure requirements are modeled after the SEC’s Form D filings for private placements, suggesting a shift toward greater transparency—albeit one that industry groups have resisted as burdensome compliance costs.

The economic impact of these changes remains uncertain. Proponents of the OBBBA, including the U.S. Conference of Mayors and the National Association of Realtors, argue that the amendments will unlock billions in dormant capital, particularly in rural and Rust Belt communities where QOZ designation has thus far failed to attract significant investment. A 2025 study by the Brookings Institution estimated that the QOZ program has generated $100 billion in private capital since 2018, but only $12 billion has flowed into census tracts with poverty rates above 30%. The OBBBA’s amendments—particularly the relaxed improvement rules and extended safe harbor—are intended to redirect capital toward these high-need areas. However, critics like the Urban Institute caution that the changes may exacerbate existing inequalities, as funds could prioritize high-return projects in gentrifying neighborhoods over underserved communities.

The IRS’s transitional guidance in Notice 2026-40 serves as a bridge between the old QOZ regime and the OBBBA’s new framework, providing critical clarity for practitioners navigating the legislative shift. By outlining proposed regulations under §§ 1400Z-1 and 1400Z-2, the notice signals that the Treasury Department is prioritizing investor certainty while attempting to balance the program’s integrity with its legislative evolution. For tax practitioners, the guidance underscores the need for meticulous documentation—particularly around acquisition dates, improvement expenditures, and working capital deployment—to ensure compliance with both the TCJA’s original rules and the OBBBA’s amendments. The IRS’s emphasis on retroactive application (as evidenced by the notice’s focus on "transitional rules") suggests that funds must retroactively align their practices with the new requirements, a task that will likely require amended tax filings and potential audits.

Ultimately, the OBBBA’s impact on the QOZ program will hinge on two competing forces: the legislative intent to spur long-term investment and the IRS’s ability to enforce accountability. The transitional guidance in Notice 2026-40 reflects a delicate equilibrium—one that preserves the program’s core incentives while attempting to address its structural flaws. Whether this balance will translate into tangible economic benefits for distressed communities remains an open question, but for practitioners, the guidance provides a critical roadmap for navigating the program’s next phase.

Practical Implications: What Tax Practitioners Need to Know

The updates in Bulletin No. 2026–28 demand immediate attention from tax practitioners, pension plan administrators, and investors, as they introduce critical adjustments to compliance strategies, investment planning, and tax optimization. The interplay between rising federal rates, pension funding mechanics, and the evolving Qualified Opportunity Zone (QOZ) program—particularly under the One, Big, Beautiful Bill Act (OBBBA)—creates a dynamic landscape where proactive adaptation is essential to mitigate risks and capitalize on opportunities.

For pension plan administrators, the segment rates and Treasury yields published in Notice 2026-38 are not merely academic figures but operational necessities. Section 430(h)(2) requires the use of three segment rates—short-term, mid-term, and long-term—derived from corporate bond yields to determine minimum funding requirements for single-employer defined benefit plans. The adjusted 24-month average segment rates for June 2026, now set at 4.75% (first segment), 5.25% (second segment), and 5.90% (third segment), reflect a continued upward trend in interest rates, which directly reduces the present value of pension liabilities. Practitioners must recalculate funding targets and contribution schedules using these updated rates, particularly for plan years beginning in 2025 and 2026, as the 25-year average segment rate adjustments (95% to 105% limits) further refine these calculations. Failure to incorporate these changes could result in underfunding penalties or misstated financial disclosures. Additionally, the 30-year Treasury weighted average rate of 4.53% for June 2026, with a permissible range of 4.08% to 4.76%, underscores the need for multiemployer plans to align their current liability calculations under Section 431(c)(6)(E)(ii)(I) with these benchmarks. The IRS’s emphasis on precise yield curve data in Table 2026-5 ensures that administrators must cross-reference these rates with their actuarial assumptions to avoid discrepancies in compliance filings.

Tax practitioners advising clients on federal rate-sensitive transactions must integrate the applicable federal rates (AFRs) from Revenue Ruling 2026-12 into their strategies. For instance, Section 1274(d) governs the AFRs used to determine imputed interest on below-market loans and installment sales. The short-term AFR of 4.00% (annual) and long-term AFR of 4.98% (annual) for July 2026 are critical inputs for structuring intra-family loans, grantor retained annuity trusts (GRATs), and installment sales to related parties. Higher AFRs reduce the attractiveness of these strategies by increasing the imputed interest income, which may trigger gift tax implications if not properly documented. Similarly, the adjusted AFRs—such as the short-term adjusted AFR of 3.03%—are essential for Section 1288(b) purposes, particularly in the treatment of original issue discounts on tax-exempt obligations. Practitioners should revisit existing loan agreements and estate plans to ensure compliance with these updated rates, as even minor miscalculations can lead to audits or penalties. The blended annual rate for 2026 under Section 7872(e)(2), set at 3.82%, further complicates gift loan structuring, requiring a nuanced approach to avoid Section 7872’s below-market loan rules.

The transitional guidance in Notice 2026-40 introduces a pivotal shift for investors and Qualified Opportunity Funds (QOFs) navigating the QOZ program amid OBBBA’s proposed amendments. Section 1400Z-1 and 1400Z-2, as amended by the OBBBA, aim to extend the deferral period for capital gains invested in QOZs and relax certain compliance requirements, such as the 90% asset test for QOZBs. However, until final regulations are issued, practitioners must rely on the transitional guidance to advise clients on qualifying investments under the pre-OBBBA framework. The notice’s emphasis on preserving the program’s core incentives while addressing structural flaws—such as the 25% limitation on QOZ designations under Section 1400Z-1(d)(1)—highlights the need for meticulous documentation. Investors should verify that their QOZ investments meet the original use or substantial improvement requirements for Qualified Opportunity Zone Business Property (QOZBP), as defined in the final regulations under T.D. 9889. The working capital safe harbor, which allows QOZBs to hold cash for up to 31 months without violating the asset test, remains a critical tool for managing project timelines, but practitioners must ensure that written plans and reasonable timelines are in place to avoid disqualification. The OBBBA’s potential amendments—such as reducing the 90% asset test to 70% and extending the safe harbor to 62 months—could further complicate compliance, making it imperative for practitioners to monitor legislative developments closely.

For tax practitioners specializing in low-income housing tax credits (LIHTC) under Section 42(b)(1), the updated applicable percentages for July 2026—8.09% for the 70% present value credit and 3.47% for the 30% credit—demand immediate attention. The 9% floor for non-federally subsidized new buildings placed in service after July 30, 2008, ensures a baseline credit rate, but practitioners must align their projects with the current income limits published in IRS Revenue Procedure 2023-28 to maintain eligibility. Combining LIHTC with QOZ benefits could yield synergistic tax savings, but only if the projects meet the dual requirements of both programs, which often necessitates careful structuring to avoid conflicts in compliance rules.

The valuation implications of the updated Section 7520 rate—5.20% for July 2026—cannot be overlooked by estate planners. This rate, which is 120% of the mid-term AFR, is used to value annuities, life estates, and remainder interests in charitable remainder trusts (CRTs) and grantor retained annuity trusts (GRATs). Higher Section 7520 rates reduce the present value of future interests, making GRATs less effective for transferring wealth without triggering gift tax. Practitioners should consider shorter-term GRATs or alternative strategies, such as installment sales to intentionally defective grantor trusts (IDGTs), to optimize wealth transfer in this rising-rate environment. Similarly, the adjusted federal long-term rate of 3.77% under Section 382(f) affects the limitation on net operating loss (NOL) carryforwards after an ownership change, requiring corporate acquirers to recalculate NOL limitations using the current rate to avoid unexpected tax liabilities.

To ensure compliance and optimize tax outcomes, practitioners should adopt a structured approach. First, update all pension funding models and actuarial assumptions using the segment rates and Treasury yields from Notice 2026-38, ensuring that multiemployer and single-employer plans align their calculations with the IRS’s prescribed methodologies. Second, revise loan agreements, estate plans, and installment sale structures to incorporate the July 2026 AFRs, particularly for intra-family transactions and GRATs. Third, conduct a thorough review of QOZ investments to confirm compliance with the transitional guidance in Notice 2026-40, documenting original use, substantial improvement, and working capital safe harbor requirements. Fourth, assess LIHTC projects for eligibility under the updated Section 42(b)(1) percentages and income limits, and explore opportunities to combine LIHTC with QOZ benefits where feasible. Finally, monitor legislative developments on the OBBBA, as its passage could necessitate rapid adjustments to QOZ investment strategies and compliance protocols.

The transitional guidance in Notice 2026-40 reflects a delicate equilibrium—one that preserves the QOZ program’s core incentives while attempting to address its structural flaws. Whether this balance will translate into tangible economic benefits for distressed communities remains an open question, but for practitioners, the guidance provides a critical roadmap for navigating the program’s next phase. By integrating these updates into their advisory frameworks, tax professionals can not only ensure compliance but also position their clients to capitalize on the evolving tax landscape. The stakes are high, and the margin for error is slim; those who act decisively will safeguard their clients’ interests and maintain their competitive edge in an increasingly complex regulatory environment.