The Opportunity Zone extravaganza is flooding the real estate industry with speculation and appetite for alternative funding. It is timely: as interest rates rise and bank loans are less attractive, real estate development may find alternative funding. This reminds me of the EB-5 spectacle shortly after the Great Recession, which allowed developers to trade investments in real estate projects for green cards, as long as jobs were created in the process. The investments were risky and projected to yield between three to five percent return. No bank was remotely close to those rates.
Today, we have a fresh path to funding with Opportunity Zones funds that allocate deferred capital gain tax to real estate development projects in designated areas. Capital gain taxes apply when you make a profit in a sale of a stock, bond, or real estate property. Instead of paying the tax, you can defer payment for a period of time and invest it in an Opportunity Zone Fund, which in turn invests in a real estate development project. Profits from the capital gain tax invested are not taxed, but you will have to pay back the original tax amount by 2026. It will be discounted by five, 10, or 15 percent, depending on how long it remains in the fund.
There are many challenges with Opportunity Zones. One is in the lack of clarity and information regarding the rules of investment, coupled with pressure to invest in 2019 in order to receive the 15 percent discount. This rush makes it very difficult to undergo proper due diligence on which fund and projects to speculate. Developing within the zones will have challenges as well, such as unfavorable market or zoning conditions, socioeconomic factors and the risk of gentrification. It may be challenging for funds to ensure a profit and even secure the return of the capital by 2026.
Success is contingent on the prosperity of the development projects the funds are investing in. We believe optimizing each investment to best fit the communities they serve will make all the difference. At Deepblocks, we are focused on streamlining the real estate analysis process in order to find the best possible project in the least possible time.