As potentially one of the biggest federal-tax-saving opportunities in decades, Opportunity Zone funds are popping up left and right. Designed to spur investment in neglected areas, Opportunity Zones provide investors with federal tax breaks when they reinvest the capital gain from one investment into a property or businesses in certain low-income areas designated as Opportunity Zones. However, in order to receive any tax breaks from Opportunity Zone fund investments, the investor has to follow certain regulations on how, when and where they reinvest their money. Additionally, the fund itself must also follow its own set of complicated rules and deadlines.
In order to better understand how Opportunity Zone funds can follow the rules while investors can maximize the potential benefits, the San Francisco Chronicle recently spoke with Delegate Advisors Chief Executive Officer Andy Hart.
One big rule surrounding Opportunity Zone funds is that if the fund buys a property with an existing structure, it has a specific time frame to “substantially improve” it. To accomplish this, the fund generally needs to spend at least the amount it paid for the property, subtracting the land value, on new construction or renovations.
Fortunately, there is another way for a fund to improve a zone: they could start or expand a business. As a result, Hart says that venture capitalists are setting up incubators in Opportunity Zones in areas such as Austin, Texas.
While Hart says he gets at least one email a day from companies pitching these funds, his clients “aren’t pounding the table” to invest. This is largely because Opportunity Zone funds have no track record of investing in Opportunity Zones. To combat this, Hart recommends making sure the promoter has “deep experience” developing real estate or running successful incubators. He also suggests examining the fees because they can be steep.
As with other private-equity funds, the market rate for fees on Opportunity Zone funds appears to be settling at 2% of assets per year plus 20% of profits, sometimes over a certain hurdle rate such as 7% or 8% a year, to manage an Opportunity Zone fund. Some funds even charge additional fees for property acquisition, financing, management liquidation and more.
“Make sure you do your math: How many dollars are you going to get paid after they’ve gotten paid six different ways,” Hart explains.
If everything falls perfectly in place, Hart says, investors seeking to enhance their after-tax return may stand to benefit.