Opportunity Zones

By: J. David Chapman/October 25, 2018

The federal Opportunity Zones program is part of the Tax Cuts and Jobs Act signed by President Trump last December.

The program gives substantive tax breaks to investors who place capital gains into funds that invest in low-income areas across the country. The goal of this administration is to incentivize much-needed investments into housing, small businesses, and infrastructure in economically depressed areas. Local governments nominated their Opportunity Zone census tracts in April, and in recent months, several funds have been set up specifically targeting Opportunity Zones.

These funds have drawn interest from real estate investors around the country, and policy experts and fund managers predict $100 billion of capital will be invested into these areas as the specific regulations on the program are released from the Treasury Department and Internal Revenue Service. Depending on the details to be released, fund managers think the program could increase returns by 50 percent or more. The risks are typical for new development in emerging or distressed neighborhoods and should not be ignored.

The creation of Opportunity Zones allows U.S. investors to defer all 2018 capital gains for eight years if the profits are reinvested in an Opportunity Zone and also provides an exemption from capital gains tax on all future capital gains on the invested funds if an investment is held for 10 years, starting in 2018. Real estate professionals have enjoyed similar capital gain treatment, known as a 1031 tax-deferral, when buying and selling like-kind real estate investments. This program allows taxpayers to defer gains from a sale of any asset, such as gains from the sale of stock, and has much more far-reaching benefits.

This program allows real estate fund managers the potential to deliver significant financial returns to investors, but maybe just as important to some, deliver investments with social impact. The social impact is becoming more important to high-net-worth families and investors. The program is also likely to increase transactions in areas that have simply sat dormant for long periods of time. This policy can be coupled with other programs such as historic tax credit and affordable housing programs. So, this program has the potential for real estate investors to defer some capital gains, but could revitalize destressed areas, save historic assets, and provide affordable housing.

J. David Chapman is an associate professor of finance and real estate at the University of Central Oklahoma (jchapman7@uco.edu).