Downtown Opportunity Zones Create Win-Win for Investors, City
If the idea of not paying tax on a capital gain for seven years and then receiving a 15 percent tax discount on that gain sounds appealing to you, then Augusta has an opportunity for you in 2019.
Much of downtown Augusta has been labeled as an Opportunity Zone, a designation that comes from the tax reform package passed in December 2017. Each state is allowed to designate areas that are considered economically distressed. The goal is to give people an incentive to reinvest their capital gains, helping both the investors and the city.
“When you have a downtown like Augusta that’s depressed, people don’t want to invest in it because their customers are in suburbia,” said Ryan Martin, sales associate for Meybohm Commercial Properties. “Opportunity Zones try to incentivize investments in those areas.”
While parts of downtown Augusta, particularly upper Broad Street, have recently been bustling with activity, there are still plenty of areas that could use a helping hand.
Part of Augusta’s Opportunity Zone extends from the Savannah River to Walton Way and from Lake Olmstead to 13th Street. Another section is more irregular, roughly from Telfair Street south between 15th Street and Fifth Street for part of it and extending south into the Laney-Walker and Bethlehem districts.
The area from the river to Telfair Street, from 13th Street to Gordon Highway, is not included. The medical district is also not included.
How Opportunity Zones work
(The following is a basic idea of how Opportunity Zones can benefit investors. For specific details, consult tax and investment professionals.)
Before the tax reform bill, there were limited options to avoid paying taxes on capital gains. Investors sometimes rolled gains over into a like-kind 1031 Exchange, but that also limited options.
For example, if you bought something for $100,000 and sold it for $1.1 million, you would have a capital gain of $1 million. You could defer paying the tax on the gain by rolling it over in a 1031 Exchange, but that had to be an exchange of a like character or nature: If you sold property, the investment had to be in property; if stocks, in stocks.
“It is limited,” Martin said. “An Opportunity Zone is similar to a 1031, but there is no limit in the exchange.”
That means that even if the $1 million gain came from selling collectibles, it could now be used to buy commercial property within an Opportunity Zone. There is one significant difference, though: The tax will eventually come due. With a 1031 Exchange, the gains could be rolled over indefinitely without any tax payment. Another difference is that a qualified intermediary does not have to be used for an Opportunity Zone investment.
With an Opportunity Zone investment, the tax on a capital gain of $1 million would eventually have to be paid (the rate varies depending on filing status, length of time the asset was held before selling, and taxable income). But how much of that gain will be taxed depends on the length of the investment. If you used the $1 million to buy a building in the Opportunity Zone and owned the building for five years, the gain will be reduced by 10 percent, so only $900,000 would be taxed. Keep the property for seven years and it is reduced by 15 percent, so only $850,000 would be taxed.
Currently, the law reads that the tax has to be paid by Dec. 31, 2026, so to get the full 15 percent discount, someone would have to invest in 2019. There is a possibility that the law will be revised to take away the hard deadline and change it to seven years after the investment.
“That’s where it gets fuzzy,” Martin admitted.
But there is one more incentive for investors, one that is designed to have them hold the property for 10 years. Although the tax on the initial investment will have to be paid after seven years, if it is sold after 10 years, any gain on the amount invested in the Opportunity Zone will not be taxed (although other assets could be taxed).
Martin said an Opportunity Zone can benefit many investors, not just those with deep pockets.
“You don’t have to be ultra-rich, but the gains are exponentially better if you’re investing lots of money,” he said.
The money invested into the Opportunity Zone has to be through a Qualified Opportunity Fund, although those are relatively simple to set up.
How Opportunity Zones benefit the city
An Opportunity Zone benefits a city because at least half of the investment has to be used to fix up the property. So, if you paid $500,000 for a building, you’d have to spend at least $500,000 on improving it. Naturally, in order to realize a profit after 10 years, the investor has an incentive to keep the property in peak condition.
While Opportunity Zones are likely to attract investors, Martin said part of the goal is also to try to bring businesses back into that area. A business that sells its store in an outlying area can use the money realized from the sale to invest in a new store in the Opportunity Zone.
Martin believes that the trend among the Millennial generation of wanting to live in downtown areas makes this an ideal opportunity for Augusta and for investors.
“There’s a lot of exciting stuff for downtown Augusta,” he said. “It’s driven by the medical district and cyber.”
Martin doesn’t see any disadvantages to Opportunity Zone investing, except for a potential pushback on the issue of gentrification.
“When this type of thing happens, ‘gentrification’ becomes a naughty word,” he said. “But a rising tide raises all ships. It’s a huge opportunity for the people who live in those areas.”