Opportunity Zone Development Takes Off in Los Angeles
- Posted: May 16, 2019
- Posted by: Travis Lynk
- Last Reviewed: May 16, 2019
An ambitious redevelopment is underway in the neighborhood of Watts in South Los Angeles, California. Jordan Downs is a $500 million, 1,600-unit project that developers see as a perfect candidate for funding from the Opportunity Zone program, a new federal initiative that could potentially unlock $6 trillion in untapped capital gains.
A provision in the 2017 Tax Cuts and Jobs Act, called the Investing in Opportunity Act, grants capital gains tax incentives to taxpayers who redeploy those gains in the development of the country’s economically distressed neighborhoods. Individual taxpayers cannot invest directly in these development projects but can do so through Qualified Opportunity Funds. Some developers are calling the program the biggest advancement in real estate in over a generation.
The Watts development lies in one of Los Angeles’s roughly 270 Opportunity Zones in Los Angeles, Ventura, and Orange Counties. In the city of Los Angeles alone, some 25% of all planned residential developments lie in Opportunity Zones, along with nearly 50% of the city’s commercial space.
Under the Opportunity Zone program, taxpayers have 180 days to invest untaxed capital gains in a Qualified Opportunity Fund to defer capital gains taxes until December 31, 2026. The government is offering a 10% reduction in capital gains tax on investments held for five years; investors receive an additional 5% reduction, for a total of 15%, on investments held for at least seven years. Perhaps the most attractive incentive comes for investors who hold their Opportunity Fund assets for at least 10 years: those gains are excluded permanently from capital gains tax.
Qualified Opportunity Funds can make three types of investments in Opportunity Zone property: real property (either commercial or residential), partnership interest, or stock ownership in a qualified Opportunity Zone business. Funds are self-certifying entities, requiring no approval from the tax authorities, and are given a relatively free hand in development decisions, provided at least 90% of their assets are invested in Opportunity Zone property.
The Opportunity Zone program began with unlikely architects and a rare appeal to bipartisanship. Napster founder Sean Parker worked on the program with Senator Tim Scott, a Republican from South Carolina; they were later joined by Senator Cory Booker, New Jersey’s junior Democratic senator. Proponents of the program believe investors and private developers are better equipped to identify the type of projects that are likely to succeed. Transferring that decision-making ability from the federal government to professionals on the ground will make the program flexible and responsive to the needs of both communities and investors.
Critics of the program worry that the criteria for nominating Opportunity Zones actually favored affluent areas around prestigious universities such as Harvard, Georgetown, and Stanford, because students living in those areas drove down income figures. Additionally, the program relied on data up to only 2011, before the effects of the recovery registered. Some fear the program will lead to gentrification.
Real estate professionals and developers are pushing back against those characterizations. They insist that Opportunity Fund investors and developers, working in partnership with community leaders, will make investment decisions that will maximize benefits to the public. They argue that additional federal oversight would only lead to bottlenecks and delays in the type of economic investment that these marginalized communities desperately need.
In Los Angeles, the program is already well underway. Brokers and developers are creating packages to attract private equity from Qualified Opportunity Funds. As of September 2018, over a third of all commercial projects in Los Angeles with site-plan review applications are located in Opportunity Zones. One of the largest—the Hollywood Center project priced at $1 billion and including over 1,000 low-income residential units—has long been stalled, but it could be restarted with Opportunity Fund capital.
Some brokers are already marketing properties based on their potential for Opportunity Zone development. Major philanthropic organizations in the Los Angeles area, such as the Kresge Foundation and the Rockefeller Foundation, are offering grants and guarantees for funds focused on developing Opportunity Zones around Los Angeles.