Opportunity Zones have been a hot topic in commercial real estate recently. You may be asking, “what exactly are opportunity zones?” If you are a savvy real estate investor, here are four things you should know about opportunity zones, beginning with the textbook definition for what they are.
What are Opportunity Zones?
An Opportunity Zone is an economically-distressed community where investors can earn preferential tax treatment for pouring capital into it. Post-recession, some communities simply did not recover, and these particular communities have become opportunity zones. These zones are approved by the federal government and remain opportunity zones 10 years after they have been designated as so. During this time, investors have the option to defer taxes on their capital gains as long as they invest those gains into an opportunity zone fund. These funds must put at least 90% of the pooled capital toward developing these opportunity zones.
This has intrigued interest from commercial real estate clients because of the increased investment opportunities and the guarantee that if the investment is in place for 10 years, the appreciation on the opportunity zone investment is excluded from future taxation.
Why Should you Invest in an Opportunity Zones?
Investors are attracted to new opportunity zone investments because of the tax deferment and exclusion factor. Although, the tax reduction benefits are dependent on how long the investment is kept. If the opportunity zone fund is maintained for 5 years, there is a 10% exclusion for this deferred gain and in 7 years 10% turns into 15%.
An investor will become eligible for an increase in the basis of the fund’s investment equal to its fair market value if the investment is maintained for 10 years or more on the day that the fund investment is either exchanged or sold. This is why it is important for investors to understand that the sooner they choose to invest in opportunity zones, the faster this investment begins generating ROI.
Opportunity Zones allow for any capital gains to be deferred, provided those gains are invested in one or more Qualified Opportunity Funds within 180 days. Qualified Opportunity Funds are required to have at least 90 percent of its capital invested in qualifying investments in Opportunity Zones.
The Opportunity Zone Program offers investors three incentives for putting their capital to work rebuilding economically distressed communities:
- Temporary Deferral: An investor can defer capital gains taxes until 2026 by putting and keeping unrealized gains in an Opportunity Fund.
- Step Up Basis:
- A reduction: The original amount of capital gains on which an investor has to pay deferred taxes is reduced by 10% if the Opportunity Fund investment is held for 5 years and another 5% if held for 7 years.
- Permanent Exclusion
- An exemption: Any capital gains on investments made through the Opportunity Fund accrue tax-free as long as the investment as long as the investor holds them for at least 10 years.
Where Should You Invest?
More than 8,700 opportunity zones have already been identified in the United States. A total of 427 Qualified Opportunity Zones are designated in Florida and located in every county in the state, stretching from the Panhandle through the Keys, including 34 in Northeast Florida.
How Can You Invest in Opportunity Zones?
When investing in an opportunity zone, you should consider expanding upon your traditional ideas and putting your capital gains to work. You may not initially think that diversifying your portfolio with assets that may yield a lower potential return is a wise choice, but opportunity zones will mix things up. The tax benefits you receive will let you as an investor take a lower pre-tax return on this diverse asset and you will end up achieving a higher post-tax return. This can help promote new projects in these areas that need the work, attention, and expansion.
For more information on investing in Opportunity Zones in Northeast Florida, contact our Investment team.