Created in the 2017 Tax Cuts and Jobs Act to drive money to distressed areas by offering potentially large tax breaks, opportunity zones offer a few obvious tax benefits. All capital gains reinvested in opportunity zones receive special treatment, allowing investors to defer inclusion in their taxable income. The real benefits, however, come from long-term investment. Specifically, investors can permanently exclude their earnings from opportunity zone investments from their taxable income, provided they hold their investments for at least 10 years.
Yet, while many opportunity zones will be gold mines for investors, others may prove less rewarding. Not all opportunity zones are created equal.
It’s still a real estate deal
While the potential tax breaks from an investment may be enticing, they cannot make up for a bad property investment. Property development comes with considerable risks at the best of times. Investors need to remember that opportunity zones are, by definition, in areas where development hasn’t occurred on its own. Investments in many opportunity zones can carry heightened risk profiles, according to National Real Estate Investor.
Opportunity zone investors have to remember these are still real estate deals first and foremost. As such, real estate developers and investors must evaluate every deal based on the property’s fundamentals.
Confronting the competition
Competition is also creating its own challenges for opportunity zone investors. Good deals are hard to find thanks to both intense competition among qualified opportunity funds and a relatively small number of truly high-quality properties in the economically stressed areas covered by opportunity zones. Coupled with a clear fear of missing out, this has resulted in investors and developers buying now and planning later, as recently noted by The Wall Street Journal.
Rushing headlong into an expensive, long-term real estate investment is rarely a good idea.
Targeting the right opportunity zones
While there are thousands of designated opportunity zones throughout the country, few can truly be called great opportunities for investment. The real gems are those zones with both valuable economic development opportunities and relatively straightforward paths to broader community revival. Downtown Los Angeles offers a textbook example of such an opportunity. Several neighborhoods have been designated as opportunity zones, many of which are already experiencing an urban revival. The Inglewood neighborhood is soon to be home to a multibillion-dollar football stadium, which is already expected to boost local development. Investing in the surrounding opportunity zones may offer investors the chance to harness secular growth, in addition to property-specific profits.
The Illinois Medical District in Chicago offers an example of a different kind of attractive opportunity zone. Home to several teaching hospitals and leading medical schools, it has a number of active developments already underway, while others are in the works. Investors may find opportunities in positioning themselves for a forthcoming revival as the IMD seeks to attract life sciences business to its campus.
Finding the true gems
There are a few criteria all smart investors should follow as they assess opportunity zone options. Strong fundamentals that can demonstrate speed to market is a clear prerequisite. Furthermore, the existing infrastructural, economic and social conditions prevailing in an opportunity zone are every bit as important as the properties themselves. Investors must pay attention to the property, its environment and the geographic region’s long-term development prospects before committing.
Throwing money at any random opportunity is a recipe for trouble. At the same time, investors must be cognizant of the economic situation on the ground and the reason the opportunity zone exists in the first place.
Verdict
Opportunity zones present a tremendous opportunity for value-oriented real estae investors, but they are not without their challenges. To really pay off, investors must be extremely diligent in their due diligence There are many opportunities still out there. Approach with caution.
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