There have been many talks about opportunity zones amongst government, corporations, and individual investors. So what are opportunity zones? And how can investors benefit from them? Opportunity zones are tax incentives to encourage those with capital to invest in low income and undercapitalized communities. Governors of the 50 states and 4 territories and the mayor of Washington, DC, nominated the zones, which were officially designated by the US Department of the Treasury. The statute contains no provision to change which communities are classified as Opportunity Zones.
But what are the pros and cons investing in these opportunity zones? Basically, the advantages for investing in opportunity zones is the tax benefits. Investors can avoid paying capital gains taxes on any type of capital gains such as stocks, bonds, real estate, etc. if they are willing to invest in these opportunity zones for a certain period of time. However in order to be able to avoid tax, companies, and individuals will have to invest the money within 90 days of realizing the capital gain. These gains cannot be directly invested in opportunity zones. Instead, the money needs to be put in a qualified opportunity fund. The longer an investor holds their money in this fund, the more taxes they avoid. After a period of about 10 years, the entire amount will be tax-free. Secondly, opportunity zones help replenish the affordable housing market that most cities lack. As a real estate investor, you can add value to opportunity zone areas.
Now there are a few disadvantages in investing in opportunity zones. One of the main disadvantages is that it can be misleading on the tax benefit issue. If an investor who is already a real estate investor wants to defer their capital gains, why not stick to a 1031 exchange where you can already defer capital gains. Another thing about opportunity zones is that it only benefits a very narrow group of investors, who have an appetite for high risk as well as illiquid investments. It needs to be understood that investors have to pool in their money via qualified investment funds, the track records of which are unknown since they never existed prior to this! Also, there are no active secondary markets where investors can sell their securities and move on. Hence, the funds are both risky as well as illiquid. Lastly, the fees on a lot of these opportunity zones can be costly. This is because a typical fund will charge an annual fee of about 2%. Also, there are several other types of fees and carried interests which almost negate the tax advantage that these funds provide.
Although investing in opportunity zones is a great idea for many investors who are looking to take advantage of the tax benefits, investors must be careful. Not all of the rules and regulations for opportunity zones are clear and is constantly changing. Nevertheless, the tax benefits can be misleading and mainly beneficial for investors who wants to get into real estate. Besides that, opportunity zones is great and provide value for people and building communities.