The substantial improvement test requires that a QOF double the adjusted basis of the property it holds within 30 months. Adjusted basis is essentially what the fund paid for the asset, recorded on its books for tax purposes. On a ground lease, the fund typically holds a leasehold interest rather than the land itself, so the basis question becomes: what did the fund pay for that leasehold, and does the lessee's construction spending get attributed upward to the fund's asset?
The IRS's 2019 regulations confirmed that leased tangible property can qualify, and that the lessor does not have to satisfy original use or substantial improvement if the lessee does. That is the comfort most counsel point to. The wrinkle you are describing is real though: when the ground lease is structured so the lessee owns its improvements as a separate asset class, the lessee's spending may sit on the lessee's books rather than the fund's, which means it does not move the fund's basis needle. Whether attribution flows back to the QOF depends on how the lease is drafted and how the fund holds the leasehold interest.
I am not a tax attorney and I cannot tell you which way this resolves for your specific structure. This is genuinely a question for tax counsel with QOF transaction experience, ideally someone who has closed a ground-leased OZ asset and received a written opinion from a national firm that does this work regularly.
The one thing worth pressing your attorney on, if you have not already: ask specifically whether a PLR (private letter ruling, a formal written ruling from the IRS on your exact facts) is worth pursuing given the deal size. For a mill project the cost may be justified.
What is the leasehold term in the Greensboro structure, and does the fund hold the leasehold directly or through a subsidiary?
