By Jack Robinson, Ph.D.
A new tool for disrupting the cycle of poverty in America, the Opportunity Zone legislation, creates a framework for investing in distressed communities across the country. With the passage of the Tax Cuts and Jobs Act of 2017, the process of implementing the “Investing in Opportunity Act” became a reality. Years of bipartisan work went into the development of the Investing in Opportunity Act with broad support in both Chambers of Congress. The Act creates a set of incentives designed to motivate individuals with unrealized capital gains to invest patient capital in our nation's most distressed communities.
How does this work? Consider this opportunity: it’s estimated that over $6 Trillion in unrealized capital gains are at rest – an otherwise untapped resource. This capital could be mobilized to spur growth in rural and urban areas across the nation where economic prosperity and opportunities for advancement are stymied by a lack of capital to fuel growth and development.
To incentivize this investment, the legislation uses a combination of preferential tax treatments ranging from a deferral of a capital gains through 2026, a step up in basis at 5- and 7- years, to the complete exclusion of capital gains to investment proceeds for funds invested in Opportunity Zones over 10-years. In concept, this creates a set of incentives that weather business and political cycles and instead focus on the reality of community revitalization: real change takes time.
Where are Opportunity Zones? By design, the Act empowers states and local governments to identify places where the greatest needs exist. Opportunity Zones were selected by the Governors of each state to localize the benefits of this Federal program. Governors picked from eligible areas: low-income census tracts under the New Markets Tax Credits program (Section 45D of the Internal Revenue Code). In general, these are areas with poverty rates over 20 percent or median family incomes less than 80 percent of the surrounding area. As of June 14, 2018, the U.S. Department of Treasury and Internal Revenue Service issued final certifications of Opportunity Zones across the United States, and now over 8,700 places are Qualified Opportunity Zones (QOZ).
The QOZs are effectively “locked in” for the next 10 years, and with that comes certainty over where investments can occur. What is also certain is that these areas are in dire need of investment: the average poverty rate of these areas is 31 percent (compared to the 20 percent threshold) and average median family income is 59 percent (below the 80 percent threshold). These areas represent over 24 million jobs and 1.6 million businesses, and three-quarters of QOZs experienced some post-recession employment growth (see a detailed breakdown on the Economic Innovation Group’s website). Behind these figures is a stark realization that much has to be done to help communities in need, and thoughtful strategies for how investments can have measurable impact are the next stage of development.
What needs to be done to do good? There is tremendous opportunity to do good. Some preliminary questions have been answered, and more clarity is on the way. Ultimately, if these efforts can demonstrate success – where success is a measurable set of goods experienced by communities and funds alike – the opportunity to do good should have a lasting effect. Strategies that deliver not only on a generational benefit, but a multigenerational benefit, will demonstrate that combining local knowledge with patient capital is something worth continuing.
At Sorenson Impact, we realize that not all things can be solved with money, and capital alone does not represent a strategy for improving the well-being of individuals and economic health of distressed communities. We’re working with communities, investors, and policy advocates to develop the strategies that align meaning with need. These strategies will underpin the formation of Qualified Opportunity Funds (QOF), which are investment vehicles developed for this purpose and this purpose only. At the same time, we recognize that QOFs can work alongside existing programs and fill gaps where patient capital is missing. Programs like the Low Income Housing Tax Credit, Historic Preservation Tax Credit, Native American Housing Assistance and Self Determination Act – these are just a few significant opportunities where QOFs can work towards measurable positive outcomes. And to achieve success in communities, QOF managers should engage community stakeholders to identify the opportunities that will create pathways to prosperity. Likewise, communities can and should come together to highlight the barriers to achieving these pathways.
Ultimately, we’re beginning to hear questions shift from “how does this work” to “how will funds be designed to achieve success in distressed communities?” That is our collective challenge and an exciting opportunity to get this right. Let’s work together to ensure that the promise of success meets the reality of implementation.