Opportunity Zones Could Trigger $100B in Investment

Opportunity Zones created by last December’s Tax Cuts and Jobs Act could cause up to $100 billion could be deployed over the next several years, analysts say.

Cushman & Wakefield, New York, noted the Opportunity Zone program enables any investor, foreign, domestic, retail or institutional, to defer and reduce capital gains taxes on an asset by reinvesting the gain in economically distressed areas of the country.

Opportunity Zone program tax benefits can add between 150 and 300 basis points to after-tax internal rate of returns, Cushman said.

“The program is widely viewed as favoring commercial real estate investments where eligible investments include ground-up development and asset renovations under some conditions,” Cushman’s In the Opportunity Zone report said. “While rules regulating opportunity zone investments will not be finalized until next spring, there is now sufficient clarity so that funds can begin taking capital from investors and deploying that capital in earnest.”

The Treasury Department released proposed Opportunity Zone rules on October 19 with more guidance expected by year-end. Up to one-quarter of any state’s census tracts can be designated an Opportunity Zone, but only if the tract’s poverty rate exceeds 20 percent and median income does not exceed 80 percent of the metro or state level.

But while all Opportunity Zones are located in economically distressed areas, not all distress is equal, Cushman noted. “Look for areas with strong job, income, population growth and commercial real estate market fundamentals and/or where economic revival is beginning to take place,” the report said.

Several fast-growing markets in the Sunbelt, California and the Mountain West as well as in Manhattan meet Opportunity Zone criteria, Cushman said. “Evaluation of individual deals should focus on the specifics of each investment,” the report said. “Tax benefits will differ for investors residing in different states, depending on the level of state capital gains taxes and whether an investor’s state tax law conforms.”

As always in real estate, timing is key, Cushman said. “The clock starts ticking once capital gains are realized and funds should be invested 180 days afterward,” the report said. “Investors should focus on shovel-ready projects, ideally with regulatory approval in place or where municipalities have a master plan in place, thus reducing regulatory risk.”

In a separate report, CBRE, Los Angeles, said if the Opportunity Zone concept succeeds, its effects could be “transformative” for certain areas. “More vibrant communities driving improved real estate fundamentals will create new investment opportunities,” the CBRE Qualified Opportunity Zone report said.

CBRE noted a qualified Opportunity Zone investment allows the developer to reduce or defer gains from prior investments. Investments maintained for at least five years by year-end 2026 will qualify for an additional reduction of deferred capital gains tax liability for the original capital gain. “If the gain has been invested in an opportunity fund for seven years by the end of 2026, the tax liability on the original gain is reduced by 15 percent,” the report said. “Consequently, in order to take advantage of at least some of these benefits, capital gains must be reinvested by the end of 2021.”