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What does it take to spur private capital to invest in areas that are struggling to create jobs and develop their communities? Would a tax break on capital gains realized by investors be enough to inspire them to reinvest those gains in low-income urban and rural communities across the country? Congress has decided to give that theory a try by creating something called Opportunity Zones: designated areas of the country that are crying out for long-term investments but which, until now, have offered little incentive for such speculation.

The idea, established by Congress in the Tax Cut and Jobs Act of 2017 (TCJA), offers a mechanism that enables investors with capital gains tax liabilities across the country to receive favorable tax treatment for investing in Opportunity Funds that are certified by the U.S. Treasury Department. These funds will then use the capital invested to make equity investments in businesses and real estate in Opportunity Zones designated by each state.

What are Opportunity Zones?

At first blush, the potential for the Opportunity Zones program is staggering. According to an article from the Economic Innovation Group, a bipartisan economic public policy organization, the pot of potential capital eligible for reinvestment in Opportunity Zones may exceed something on the order of $6 trillion. (Yes, trillion.)

“Whether it’s new and expanding businesses, affordable housing, infrastructure, energy, commercial developments, or just about anything else that creates productive economic activity, the Opportunity Zones program is flexible enough to support the diversity of needs and opportunities in urban, suburban, and rural zones across the country.”

To qualify for this potential windfall, each state will be required to designate areas of economic development, making them eligible to receive the tax-advantaged investment as outlined in the program.

Under the statute, each governor was allowed nominate up to 25% of their state’s low-income community census tracts to be designated as areas where the federal tax incentive will apply.

Benefits of Opportunity Fund Investments

While it’s good to know that all capital gains realized by an investor in the 180 days before an Opportunity Fund investment are eligible for the tax benefits of investment in the Funds, investors also need to know the actual tax benefit to be realized by making such an investment.

The chart below illustrates the tax benefit received with each class of investment in an Opportunity Fund:


By putting these incentives in place to cut capital gains liability by investing in distressed and low income urban and rural areas across the country, they have placed the responsibility for future development on the free market, right where it belongs – and where it can do the most good.

Beyond the gains deferral, there’s another benefit to opportunity zone investing.  Since most opportunity fund investments will be ground up construction, depreciation could be large enough to offset cash flow to investors once the properties are stabilized.  Typically, depreciation is recaptured once the property is sold, however, with opportunity zone investments held for 10 years, the basis is stepped up and no tax is owed.  This provides an additional benefit to investors as well.

Here’s an example which shows the math.

How entrepreneurs and everyone can benefit

There a few simple examples of how entrepreneurs and traditional investors can take advantage:

  • if part of the sale of a company doesn’t qualify for qualified small business stock, roll a portion into an opportunity fund
  • if you had options which would normally be taxed as ordinary income, roll a portion into an opportunity fund
  • if you sold any asset which generated a long term or short term gain, roll a portion into an opportunity fund

Have you explored the potential benefits of investing in Opportunity Zones Yet?

While I’m not a CPA (and do not claim to be a tax expert) my hope is that by sharing this article, you now have enough information to at least ask informed questions about your own tax strategies for any capital gains you may have realized recently (or which you may soon realize).  There’s been a large push into the category so operator selection is paramount.  Furthermore, these are long term investments and you need to be prepared to have funds tied up for 10 years or longer to get the full benefits.  Please make sure you consult with your CPA and financial advisor as it relates to these investments.

 

 

Best Regards,

Jared Toren
CEO & Founder

 
Proper Wealth Management’s (“Proper”) blog is not an offering for any investment. It represents only the opinions of Jared Toren and Proper . Any views expressed are provided for information purposes only and should not be construed in any way as an offer, an endorsement, or inducement to invest. Jared Toren is the CEO of Proper, a Texas based Registered Investment Advisor.   All material presented herein is believed to be reliable but we cannot attest to its accuracy. Opinions expressed in these reports may change without prior notice. Information contained herein is believed to be accurate, but cannot be guaranteed. This material is based on information that is considered to be reliable, but Proper and its related entities make this information available on an “as is” basis and make no warranties, express or implied regarding the accuracy or completeness of the information contained herein, for any particular purpose. Proper will not be liable to you or anyone else for any loss or injury resulting directly or indirectly from the use of the information contained in this newsletter caused in whole or in part by its negligence in compiling, interpreting, reporting or delivering the content in this newsletter.  Opinions represented are not intended as an offer or solicitation with respect to the purchase or sale of any security or financial instrument, nor is it advice or a recommendation to enter into any transaction. The material contained herein is subject to change without notice. Statements in this material should not be considered investment advice. Employees and/or clients of Proper may have a position in the securities mentioned. This publication has been prepared without taking into account your objectives, financial situation or needs. Before acting on this information, you should consider its appropriateness having regard to your objectives, financial situation or needs. Proper Wealth Management is not responsible for any errors or omissions or for results obtained from the use of this information. Nothing contained in this material is intended to constitute legal, tax, securities, financial or investment advice, nor an opinion regarding the appropriateness of any investment. The general information contained in this material should not be acted upon without obtaining specific legal, tax or investment advice from a licensed professional.

Author: Jared Toren

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