Six reasons investors need OZ ventures in their portfolios

Beyond uplifting underserved communities across the United States, the Opportunity Zones (OZ) Program boasts enticing financial benefits that should not be overlooked especially in regards to capital gains tax benefits– here are six key reasons why investors need OZ ventures in their portfolios.

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The benefits of the legislation compound to yield a greater rate of return than a traditional stock portfolio. The additional tax advantages further sweetens the pot, making this one of the farthest-reaching stimulus incentives addressing our economic progress as a nation.

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  1. Defer capital gains tax: Taxes on capital gains can be deferred for up to five years. This means that those who invest capital gains in an OZ fund by December 31, 2019 defer paying taxes on those gains until the end of 2026 – or the year the investment is sold or exchanged, if before 2026. Tax deferral increases the earning power of those dollars if invested for a potential return over the next seven years, without yet having to pay taxes on those gains.
  2. Capital gains tax reduction: In addition, capital gains taxes will be increasingly reduced depending on the length of OZ investment. For OZ investments held for 5-7 years, investors will enjoy a 10% tax reduction – for investments held for 7-10 years, investors reap an additional 5% tax reduction for a total of 15% tax reduction on the original gains invested. The longer the investment, the greater the tax reduction. This encourages patient capital, also known as long term capital, to encourage the growth and success of OZ projects for lasting community progress.
  3. Tax exclusion: What’s more, a permanent tax exclusion is granted on capital gains from an OZ investment that is held for 10 years or longer. According to analysis done by the Economic Innovation Group, a bipartisan research and policy organization and architect of the OZ legislation, the rate of return for OZ investments held for 10 years or longer would be 3.0% higher than traditional stock portfolio investments, 1.8% higher for 7 years, and 1.9% higher for 5 years. These figures are based on ventures with a 7% appreciation rate.
    In a scenario where an investor realizes capital gains, that investor could hypothetically invest those capital gains in either a traditional venture or an OZ venture. With a traditional venture, the investor would have to immediately pay tax on those capital gains, whereas an OZ venture would enable tax deferral for seven years.
    Let’s say the investor kept either of those investments for 10 years then sold the asset. With a traditional venture, the investor would pay capital gains tax on any gains from that investment, whereas the OZ venture would yield a 15% tax reduction on the original gains invested after seven years, and the gains from selling the OZ asset after 10 years would be permanently tax exempt. Clearly, the advantages of the rate of return for OZ investments are staggering.
  4. Local tax benefits: Beyond the Federal tax boon, states, cities, and other localities are developing their own OZ tax benefits to further incentivize local investment. Many OZ projects are being built with a capital stack comprised of both federal and local benefits. Without these compounding incentives, a proposed investment may not otherwise be profitable, and thus would not get built.
    We are at a juncture in our history with great prosperity in some areas and tremendous economic stagnation in other areas. According to the Martin Prosperity Institute, only five metropolitan areas accounted for our nation’s tech growth from 2010 to 2014. Further, according to an Axios analysis of Bureau of Economic Analysis data, out of a total 382 metro areas, the top 25 accounted for more than half of the nation’s $19.5 trillion GDP in 2017.
  5. Nationwide & local progress: The OZ Program creates the chance for ideas outside the top five tech centers to flourish and evolve for a more equally prosperous nation. By working to ensure that vital parts of our country do not get left behind by a lack of capital, we can work towards lasting progress and economic prosperity for more Americans. The program creates a means for investors to truly do well by doing good as their capital creates new jobs, industries, infrastructure, housing and more for struggling communities that have traditionally been overlooked by venture capital.
  6. Long-term equity: With increasing tax advantages the longer the OZ investment is held, the OZ Program encourages long-term equity capital. These long-term investments can serve as an additional source of equity for investors.

While still in its infancy, we can expect to see a wealth of projects flourish under the OZ Program. Investors will have an abundance of projects to choose from, ranging from commercial real estate and affordable housing to sustainable infrastructure and high-growth startups. Investors can build a unique OZ portfolio across target regions, industries, project types, and social goals – it’s a social good and financial opportunity not to be passed up!

Article By Marcia Kadanoff, President and COO at Lighthouse.one


About the Author

Marcia Kadanoff serves as President and COO at Lighthouse.one.  Additionally, she is a venture partner at the Catalyst Opportunity Zone Impact FundPreviously, she served as CEO and co-founder of the Maker City Project, a social impact consultancy creating new forms of civic innovation and economic opportunities within cities. As part of this work, she wrote the best selling book entitled: Maker City: A Practical Guide to Reinventing American Cities (2017). A serial entrepreneur Kadanoff built the largest direct/interactive marketing agency on the West Coast as well as the fastest-growing content-marketing agency.  After selling these concerns, she worked as CMO and CEO in various venture-backed companies ranging from Adtech (Flycast - sold for $2B) to mobile applications (Everypath, Firewhite, Mobio).