Private Investors Can Invest In Opportunity Zones To Assist Fed’s Infrastructure Renewal

Many are complaining that the Biden Infrastructure Plan doesn’t involve enough private investment opportunities. Although that is true, private investors can take advantage of the economic boom resulting from infrastructure investment by investing in Opportunity Zones.

What Is An Opportunity Zone?

In 2017, the Congress of the United States established the concept of Opportunity Zones when it passed the Tax Cuts and Jobs Act. The purpose of these zones is to promote long-term investments in low-income urban and rural areas throughout the U.S. to boost the economy.

Actual Opportunity Zones have been identified as such by local, state, and federal governments. The U.S. Department of Housing and Urban Development website has a page where there is a map that identifies Qualified Opportunity Zones.

Tax And Investment Benefits Of Opportunity Zones

To encourage private investment in Opportunity Zones, the legislation provides a number of tax incentives. They include:

• Temporary Capital Gains Tax Deferrals
• Step-Up in Basis for Capital Gains
• Permanent Exclusion

Temporary Capital Gains Tax Deferral

One benefit involves the temporary deferral of inclusion in taxable income. It is only appropriate for capital gains that are reinvested in an Opportunity Fund.

Step-Up In Basis For Capital Gains

Another benefit identified in the legislation is a step-up of 10 percent in basis for capital gains that are reinvested in an Opportunity Fund. The investor must hold the fund for at least five years. If the investment is under the control of the investor for seven years, then the basis increased another five percent. This benefit can help you eliminate up to 15 percent of the original gain from taxation.Permanent Exclusion

Investors who invest in Opportunity Zones also receive a permanent exclusion from taxable income on capital gains from the sale or exchange of an investment in another Opportunity Fund as long as that investment was in control of the investor for at least 10 years. This only qualifies to investments that have been made in Qualified Opportunity Zones.

You may not be aware that U.S. investors control $2.5 trillion in unrealized capital gains, an untapped resource that can be used for economic development and investment possibilities. Opportunity Zones permit investors to invest these funds in Opportunity Zones. The purpose of this benefit is to encourage long-term real estate ventures. However, the investment must follow certain specifications that require that:

• The investor holds the property for less than five years.
• 10 percent tax on existing capital gain is canceled for property that the investor has held for five to seven years.
• 15 percent of tax on existing capital gain is canceled and deferred payment for existing capital gains is allowed until December 31, 2026 for property owned for seven to 10 years.
• Investors pay no capital gains tax on Opportunity Funds for property owned for longer than 10 years.
• Investors can apply the benefits to other types of investments including existing operating businesses, startups, infrastructure improvements and alternative energy projects.

How Opportunity Zone Investments Work

To qualify as an Opportunity Zone investment, the venture must be involved with property that is located in a Qualified Opportunity Zone. Above there is a link to the HUD website pages that features a map that identifies these zones.

The original purpose for Opportunity Zone investment was to encourage private and commercial investors to provide funds for low income, distressed locations. However, since the COVID pandemic there are demands for properties that are affordable in both urban and rural areas. So such an investment has become more valuable.

To qualify as an Opportunity Zone investment, the property being invested in must create a qualified opportunity fund. This can be achieved by creating an entity that will own the property. The entity or business should be established as an LLC that has the authority to file a tax return. This can be achieved as long as the property is designated as a partnership or an S Corporation. A form 8949 must be included in the tax return of the entity. This form is the way for you to self-determine that the investment qualifies as a Qualified Opportunity Fund. Be aware that this is a long-term investment. So the investor is advised to focus his investment on high return ventures.

For more information and to create a Qualified Opportunity Fund, consult with an investment advisor.

Why Opportunity Zone Investing Has Risen In Popularity

As mentioned above, to make an Opportunity Zone investment worthwhile the venture should have a potential for a high yield. Businesses in Opportunity Zones including startups and other high-growth companies have become a target of Opportunity Zone investors. These investors are expecting at least a tenfold return on their investment.

If an investor invests the funds he’s earned from the sale of another investment into a Qualified Opportunity Zone business and holds that investment for 10 years or more, there are no federal capital gains taxes on appreciation that accumulates from that investment. In addition, as previously mentioned there is a 15 percent or 10 percent reduction on the capital gain taxes an investor must pay on a previous investment. You also get to defer capital gains taxes to a later date.

Although it is a risk to invest in a Qualified Opportunity Zone ventures, some have reduced that risk by investing in more than one business. For example, The Pearl Fund, a Qualified Opportunity Zone and venture capital fund located in New York City, is focused on building a portfolio of Qualified Opportunity Fund businesses. By involving several companies any risk is mitigated and there is more of a chance that one of the companies will spark.

Moreover, in Los Angeles there are plans to create incubators specifically for high-growth potential businesses in Qualified Opportunity Zones. One such venture called the Beehive plans to assist Qualified Opportunity Zone businesses on its own campus located in South Los Angeles.

Also in Los Angeles property located in Opportunity Zones are now selling a quality prices because Netflix, the entertainment streaming company, has opened up shop on Vine Street in Hollywood. The move has caused a rise in prices for other properties inside an Opportunity Zone. Buildings in Hollywood, South Bay and San Pedro have established themselves as Opportunity Zone ventures.

Many investors are using the Opportunity Zone investment prospect to invest in vacant land located in Qualified Opportunity Zones. Focusing on vacant properties allows an investor to get involved in a venture that does not required an “original use” or “substantial improvement” tests to qualify as a Qualified Opportunity Zone Business property. A vacant land qualifies as an Opportunity Zone business property as long as it is used for a business. Therefore, there is more chance for long-term tax benefits as well as considerable returns without making large capital improvements.

Leasing a Qualified Opportunity Zone business to a separate business would also be allowed, thus minimizing operating overhead expenses to the Opportunity Zone investors. However, the Qualified Opportunity Zone business renting the property must improve the property for a specific approved business use.

Just like any major investment, an Opportunity Zone venture is a risk. However, there are plenty of benefits involved for people that make large investments and provides private investors with the opportunity to participate in the infrastructure enhancement boom resulting from the Biden Infrastructure plan.