LISC Houston Opportunity Zone Briefing January 18, 2019
What are Opportunity Zones? The Opportunity Zone tax incentive is a bipartisan initiative to spur long-term private investment in low-income urban and rural communities, established by Congress in the 2017 Investing in Opportunities Act . U.S. investors currently hold $2.3 trillion in unrealized capital gains, representing a significant untapped resource for economic development.
OPPORTUNITY O P P O R T U N I T Y Z O N E S Why now? More than half of America’s most economically distressed communities contained both fewer jobs and businesses in 2015 than they did in 2000. New business formation is near a record low. The average distressed community saw a 6 percent decline in local businesses during the prime years of the national economic recovery. The U.S. economy is increasingly dependent on a handful of places for growth. Five metro areas produced as many new businesses as the rest of the country combined from 2010 – 2014. Data from the Economic Innovation Group. Read more at eig.org/opportunityzones ZONES
What are Opportunity Zones? Opportunity Zone: A low-income census tract (LIC) , as determined within New Markets Tax Credits legislation, is designated as an Opportunity Zone (OZ) by the governor of the of the state or territory in which it is located. Designations will stay in place for 10 years. Up to 5% of census tracts contiguous to LICs States or territories may be designated as Up to 25% of LICs in which there are OZs, if the median family in a U.S. state or income of the census fewer than 100 LICs territory may be tract does not exceed may designate up to designated as OZs. 125% of the median 25 LICs as OZs. family income of the LIC to which the tract is contiguous.
Designated Opportunity Zones – National Stats 8,762 census tracts designated 31% Average poverty rate 24 million 14.4% Average unemployment rate current jobs in designated tracts Average family income in OZ 60% census tracts relative to area median income (AMI) 1.6 million businesses in designated tracts
O P P O R T U N I T Y Z O N E S Houston Designations 92 census tracts designated 33.5% Average poverty rate Average 13.3% unemployment rate Average family income in OZ census 56.4% tracts relative to area median income (AMI)
Opportunity Funds Opportunity Fund: An investment vehicle organized as a corporation or partnership for the purpose of investing in Opportunity Zone property. Opportunity Funds will be self-certified per IRS guidelines. They must be organized for the purpose of investing in Opportunity Zones Opportunity Funds are required to invest 90% or more of their capital as EQUITY in Opportunity Zone property Investors receive a return on their investment through a seven-year stream of tax credits ( totaling 39% ). Opportunity Zone property includes stock, partnership interest, or business property in an Opportunity Zone
O P P O R T U N I T Y Z O N E S Investor Incentives Cancellation of taxes Reduction of taxes On new gains made through Qualified Deferral of taxes Opportunity Zone Fund investments held 10+ years On investments held in Qualified Opportunity Zone Funds 5+ years On capital gains invested in Qualified Opportunity Zone Funds
Timeline for Opportunity Zone Investments Investment Year Year 5 Year 7 Year 8 Year 10 2018 2023 2025 2026 2028 Gain realized and All taxes due on Tax on Capital invested in 10% reduction of 15% reduction of 12/31/26. Investor Gain Invested Opportunity Fund capital gains tax capital gains tax pays tax on 85% of wit ithin in 180 180 da days* original gain * Tax is deferred until the earlier of investment liquidation (return of capital) or 12/31/26 Any gain realized on Any gain realized on Any gain realized on Any gain realized on Tax on Opportunity Opportunity Fund Opportunity Fund Opportunity Fund Opportunity Fund Fund Investment investment is fully investment is investment is fully investment is fully taxable if liquidated tax free** taxable if liquidated taxable if liquidated ** Any appreciation on Opportunity Fund investment is tax free if held > 10 years
Ex. 10 Year Investment: Fully Taxable vs. Opportunity Zone Fund Assumptions: • 10% annual investment appreciation • 24% capital gains tax (federal only) Fully Taxed Investment Opportunity Zone Investment Capital Gain $100,000 Capital Gain $100,000 - Tax payable (24%) $24,000 - Tax payable $0 Total Capital to Invest $76,000 Total Capital to Invest $100,000 Sales Price after 10 years $197,000 Sales Price after 10 years $259,374 - Tax on Appreciation $0 - Tax on Appreciation (24%) $29,070 Deferred Capital Gain Tax $20,480 (24%) paid in 2026 After Tax Funds Available $168,054 After Tax Funds Available $238,974
Key Points Funds Eligible Investments Investors • Must be equity investments • • Tax incentive is most valuable All capital must flow through an • Real estate investments must for 10 year investments in Opportunity Fund to be eligible include substantial appreciating assets for the tax incentive rehabilitation – doubling basis • • Six months to invest after Funds are self-certified via an (excluding land) within 30 realizing a capital gain IRS tax form months • • Another 6-31 months to deploy Fund must be established for • “Sin businesses” are not 90% of capital in Zones the purpose of investing in eligible • Capital is required to be an Opportunity Zones • Other requirements include • equity investment – loans from 90% of fund assets must be property use in “active conduct investors are not eligible for the invested in Zones to maximize of business” and limits on tax incentive the tax incentive assets held in cash
Eligible Investments Only equity investments are eligible for the Opportunity Zone tax incentive . Bus Busin iness investm tments In Investments s in rea eal l es estate New eq equip ipment an and ot other asse assets 1 2 3 can include must include an ownership are also eligible investments. investments in new interest of new construction stock issuance for or assets that will be corporations and "sub substantially improved" ownership interests in within 30 months of partnerships and LLCs. acquisition by the Opportunity Fund.
Strengths New Local Flexible Potential Straightforward Investor Class Designations are The incentive has The tool is relatively made by states and The flexibility of the the ability to attract The incentive could straightforward localities, rather investment tool high net worth attract hundreds of from an investment and compliance than Federal can support individual investors billions of private sector agencies, ensuring investments in any to community capital into low-income standpoint, in more local buy in type of asset class development communities comparison to and coordination finance LIHTC and NMTC
Concerns Lack of Gentrification Future of Other Lack of Oversight Impact Incentives and Displacement Tax Incentives The new incentive The tool might aid in Incentives focus on might be used as an the gentrification Lack of oversight back-end returns, excuse to diminish or and displacement of from government rather than eliminate other residents and entities could lead to investments that will community businesses in program abuses result in community development tax Opportunity Zone impacts incentives, such as communities the NMTC program
Economic Development Examples Bu Busin ines ess in infr frastructu ture Ven entu ture capital Oper erati ting g busin ines ess Enhancement for 1 2 3 4 rea eal l es estate fu funds: fu funds: priv rivate eq equity ity: other federal tax • • • credit transactions: Industrial Seed stage Businesses investments moving or • Retail • NMTCs expanding into an • Series A • Mixed use Opportunity Zone investments • Historic Tax Credits • • TOD Equipment financing
O P P O R T U N I T Y Z O N E S Economic Development: Issues to consider • The “substantial rehabilitation” rule requires all OZ investments to double the basis of the property that the QOF invests in • Works for new development and significant improvement of real estate assets • Scope of business investments expected to be limited to early stage business investment and established businesses relocating or expanding to Zones • 50% of the QOZB’s gross income must be derived from the active conduct of a trade or business in the Opportunity Zone • 70% of the QOZB’s tangible assets must be located in the Opportunity Zone • Guidance regarding ability to recycle investments within a QOF expected by year end
Affordable Housing Examples Lease-to-own Housing Workforce Rental Housing Pair airing with th LI LIHTC C or or the HTC 1 2 3 • • Single family or multi-family • Providing housing for families at Yield boost for tax credit 80 – 120% AMI investments providing housing • New construction or rehab for families at or under 60% AMI • 10 year investment period • Investors = social impact focus • 10-15 year investment period • Investors = individuals or • corporations Investors = corporate investors with capital gains to invest and tax credit appetite 17
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