Finding Opportunities in Opportunity Zone Real Estate Investments
Savvy commercial real estate investors are always looking for their next opportunity. The CrowdStreet Marketplace offers access to dozens of high-quality offerings: multi-family, retail, medical, office, industrial, storage. But a new type of commercial real estate investment, Opportunity Zones, a new federal program that holds a lot of promise, were recently introduced to the Marketplace.
In October 2018, the Treasury Department and the IRS released highly anticipated regulatory guidance related to the Opportunity Zone program. But as this is an entirely new program, both commercial real estate investors and developers need to understand exactly what an Opportunity Zone is, why it could be a good investment vehicle for them and how the general process works.
What Are Opportunity Zones?
Opportunity Zones are economically distressed communities where certain new investments are eligible for tax deferrals or preferential tax treatment. In order to qualify as an Opportunity Zone, communities must be nominated by their state’s governor (or mayor in the case of Washington DC). No more than 25% of eligible census tracts can be nominated, and the nomination has to be certified by the Internal Revenue Service. Surprisingly, a report from Brookings showed that 57% of communities are eligible for nomination..
Identifying areas that qualify as Opportunity Zones depends on their placement in low-income community census tracts. Low-income communities are those with a poverty rate of 20% and a median family income that is 80% of the area median. There are some exemptions for census tracts contiguous with low-income communities. In these cases, the median family income can’t be more than 125% of the median family income within the designated tract.
Opportunity Zones were originally devised by the Economic Innovation Group, a non-profit focused on empowering entrepreneurs and investors to “forge a more dynamic economy throughout America.” They present a mutually beneficial opportunity to both real estate investors and distressed communities in need of new investments. The program is meant to support existing businesses, grow new businesses, and finance needed real estate projects in low income communities impacted by the great recession.
The first set of Opportunity Zones, covering parts of 18 states, were designated on April 9, 2018. Opportunity Zones differ from New Markets Tax Credits, a program popular with real estate investors since the early 2000s. Opportunity Zones have no cap on the overall tax subsidy, however, they do have a 25% limit on census tracts that can be targeted.
What is the Benefit of Opportunity Zones?
Opportunity Zones were created to help low-income communities hit hardest by the housing crisis. By incentivizing private investments in these communities, the federal government hopes to spur economic growth and help these areas bounce back. The program has received bipartisan support, demonstrating the belief that making it easier to invest and build in distressed communities will ultimately help provide homes, and even jobs, for local residents.
Opportunity Zones can also spur economic development by providing several benefits to investors. Opportunity Zones are somewhat similar to 1031 exchanges, in that they are designed to reward long- term investment. Long-term investments in Opportunity Zones allow investors to defer taxes on prior gains, as long as the gain is reinvested in a qualified Opportunity Fund. For instance, If the investment is held in the fund for at least 10 years, the investor can increase the basis equal to the fair market value on the day it is sold or exchanged. These benefits allow investors to continue to pursue new investments and opportunities while maintaining long-term investments in Opportunity Zones.
When investors defer their capital gains taxes by investing in an Opportunity Fund, they are eligible to be taxed on just 85% of that investment, provided it is in the fund for seven years. At 10 years, they are responsible only for the taxes on the original investment.
Where Can I Find Opportunity Zones
As mentioned above, Opportunity Zones were determined by low-income census tracts and the areas around them. These are areas that have a median family income that is 80% of the area median. Before they became Opportunity Zones and eligible to provide a tax break for investors, they were nominated by the state’s governor and certified by the IRS.
As Opportunity Zones are a new program, with the first sites being designated in April of 2018, mapping of the areas is ongoing. However, if you are interested in seeing which census tracts are eligible to date, the Opportunity360 team produced a helpful interactive opportunity zones map. On it, you can see certified census tracts and Opportunity Zone designations in all states.
Developed to help states, investors and interested parties see which areas had been designated as Opportunity Zones, the tool is incredibly easy to navigate. Users can also filter tracts to understand more about the communities that live there, as well as explore tracts that were eligible but not designated an Opportunity Zones.
The Community Development Financial Institutions Fund has also put together a list of designated communities, as well as a wealth of resources to learn more about the benefits of long term investments in distressed communities. While not as eye catching as an Opportunity Zones map, it is still a great resource for interested investors.
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