The Advantages of Investing in Opportunity Zones

The Advantages of Investing in Opportunity Zones

Investing in Our Communities

Opportunity zones have significant tax advantages for investors and were designed to revitalize parts of the country left behind during the decade-long economic recovery in the US. Some of them are in old industrial areas and inner cities. However, there are also opportunity zones in rural regions and near some of the most prosperous parts of America.

In total, there are over 8,700 certified opportunity zones in the United States. They exist in all 50 states. There are no capital gains taxes on new gains from Qualified Opportunity Funds that are held for ten years or more. Investing in opportunity zones can offer high returns but is important to focus on asset quality and sustainability since the asset must be owned for at least ten years to achieve the full tax benefit. We like investments related to healthcare, medical offices, and student housing.

Immediate Tax Savings with Deferred Capital Gains

The tax advantages of investing in opportunity zones begin immediately. It is often necessary for investors to sell assets before they can commit funds to new business ventures. In most cases, selling investments creates a federal capital gains tax liability. Those capital gains taxes can be deferred by investing in opportunity zones under certain conditions. Capital gains taxes can be deferred until the end of 2026 if funds are transferred to a Qualified Opportunity Fund within 180 days of the sale. If the investment in the opportunity fund is sold before then, capital gains taxes on the original investment are also due.

Reduction in Deferred Capital Gains Taxes

Secondly, capital gains taxes owed on previous investments are reduced for longer holding periods. If the investment in the opportunity fund lasts five years, the tax on past capital gains falls 10%. After two more years (seven years total), the tax on previous capital gains falls another 5% for an overall reduction of 15%. An example will help to show how this works. Suppose an investor had the wisdom to invest $500,000 in stocks in 2009 and sold them for $1,500,000 in 2019. By investing in a Qualified Opportunity Fund, the taxable capital gain would fall from $1,000,000 to $900,000 after five years and decline to $850,000 after seven years.

No Capital Gains Taxes: A Unique Advantage

There are no capital gains taxes at all on new gains from Qualified Opportunity Funds that are held for ten years or more. The ten-year minimum for this benefit encourages a basic amount of long-term holding. However, the tax advantage increases over time. The amount of inflation and economic growth that can occur in several decades is considerable. Long-term investments are often worth many times their original purchase prices. Avoiding capital gains taxes can add over 100 basis points to after-tax annual returns.

The Diversity of Investment Options

Opportunity zones also offer a wide array of potential investments. Qualified Opportunity Funds can invest in restoring properties and benefit from the tax advantages and historically high returns of US real estate. They can also support local businesses by investing in small partnerships. Finally, Qualified Opportunity Funds can buy stock in companies that do most or all their business in opportunity zones and meet several other criteria.

Asset Quality and Manager Selection are Key Considerations

While opportunity zones offer significant advantages for investors, gaining access to these benefits requires a focus on asset quality, prudent investment management, and a long-time horizon. The tax advantages of opportunity zones can be accessed by investing in a Qualified Opportunity Fund like our Baltimore-focused real estate fund. These funds make it easier for institutional investors and individuals outside opportunity zones to provide funding to economically distressed areas in America.