Making an opportunity of Opportunity Zones

The New York City neighborhood where Amazon plans to open one of its two new headquarters is a federal Opportunity Zone where luxury condos rise just a short distance from the largest public housing project in the U.S.

The development site in the Long Island City neighborhood of Queens, N.Y., is one of nearly 9,000 such zones across the country—communities that in most cases have high poverty and unemployment, or contain or are near pockets in desperate need of development.

Under the Opportunity Zone program, part of the 2017 federal tax overhaul, investors can receive varying levels of preferential tax treatment if they invest capital gains in investment vehicles called Qualified Opportunity Funds designed to spur economic activity in these lower-income areas. The longer investors keep their investments in these funds, the greater the tax benefits they're eligible to receive.

Amazon's planned development in Long Island City—dubbed HQ2—highlights both the opportunities and potential risks of this program. Since it was announced in November, the Amazon project has garnered global media attention and praise from local officials for bringing a projected $2.5 billion of investment and 25,000 jobs to the waterfront area across the East River from Midtown Manhattan. But the project has also drawn some criticism for using tax breaks for development in a neighborhood that is already experiencing rapid gentrification alongside sections of poverty.

Another high-profile zone is an area near a low-income community in Las Vegas that will be the future stadium site of the NFL’s Oakland Raiders when they move to their new home city in Nevada.

In a new report on Opportunity Zones from the UBS Chief Investment Office (CIO) , UBS Head of Sustainable and Impact Investing Andrew Lee says, "Opportunity Zones represent a powerful incentive that, if guided and implemented properly, has the potential to result in meaningful societal and economic benefit." For investors, the program offers a compelling opportunity to defer, reduce or even eliminate a part of their taxes—especially if they can find projects that deliver attractive returns, ideally in the spirit of the original legislation. 

Since the 1970s, income and wealth gaps have widened sharply, causing economic disparities as many low-income communities have significantly lagged behind the rest of the US, according to the CIO report. The federal Opportunity Zone program aims to help address these inequalities. By providing tax benefits for investors and involving private fund sponsors, the initiative has the potential to mobilize capital for social good at a scale exceeding past economic development programs, Lee writes. 

However, there are potential risks that investors should be aware of. One is that there is no certainty the capital will flow to those areas most in need, nor that projects will consider local stakeholder needs. Additionally, without government-mandated requirements that investments provide impact reporting, it may be challenging to measure the efficacy of both individual projects and the overall initiative. Also, investing in property or businesses in distressed areas is not without financial risk.

Still, Lee sees great potential in the program. Key for investors will be finding credible fund sponsors to work with and projects that can deliver attractive returns independent of the tax benefits.

"Policymakers, investors and other stakeholders should work together to address these challenges proactively and ensure the long-term success of the program for both investors and communities," Lee writes.

Learn more: Read the full CIO report, "Opportunity Zones: Great potential, potential challenges" .

Disclosures

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