At the end of December 2017, the United States Congress added a new economic development tool called Opportunity Zones to the tax code through the Tax Cut and Jobs Act of 2017. Opportunity Zones provide federal tax benefits to investors who make equity investments from realized capital gains in qualifying development projects or businesses within low-income communities.
Under the new law, each state’s governor was allowed to nominate up to 25% of their state’s low-income census tracts to become certified Opportunity Zones, upon approval from the U.S. Treasury. Opportunity Funds are investment vehicles organized as a corporation or partnership for the purpose of investing in Opportunity Zones. Opportunity Funds can self-certify and must invest at least 90% of their capital in qualifying Opportunity Zone investments. Eligible investments in Opportunity Zones may include commercial real estate development and renovation, opening new businesses, and expansion of existing businesses.
Opportunity Funds may make direct investments in qualified Opportunity Zone business property or indirect investments through partnership interests or stock of a qualified Opportunity Zone business. Qualified Opportunity Zone business property is defined as tangible property used in a trade or business, which was acquired by purchase from an unrelated party after December 31, 2017. The original use of the property must commence with the taxpayer or the taxpayer must substantially improve the property over a 30 month period. Similarly, a qualified Opportunity Zone business is a trade or business in which substantially all of the tangible property owned, or leased, by the taxpayer is qualified Opportunity Zone business property.
Investing realized capital gains into Opportunity Zones has many benefits for individual or corporate taxpayers, including:
- Deferral of federal tax payment on initial capital gain until the earlier of the sale of the Opportunity Fund investment or December 31, 2026.
- Partial exclusion from federal tax of the original capital gain through a step up in basis if the Opportunity Fund investment is held for 5 years (10%) or 7 years (15%).
- Full exclusion from federal tax of any new capital gain if the Opportunity Fund investment is held for 10 years or more.
There are 82 designated Opportunity Zones in Philadelphia, which are part of the 300 census tracts in Pennsylvania designated by the Governor and approved by the U.S. Treasury this spring. Opportunity Zones, which qualify based on poverty rate and/or median family income criteria, are located across West Philadelphia, North Philadelphia, the Northeast, South and Southwest Philadelphia, and the Riverwards. The Zones include areas adjacent to the city’s major transit infrastructure to the west and the north along the Market-Frankford and Broad Street subway lines.
As Philadelphia’s economic development corporation for 60 years and a city-wide community development financial institution (CDFI), PIDC has a successful track record of attracting and deploying capital to support business growth and development throughout Philadelphia’s low-income communities. In the last five years, PIDC has invested hundreds of millions of dollars in low-income communities in Philadelphia through lending to businesses and development projects. Over the past 18 months, we have been working with a 100+ member Advisory Committee on Attracting Capital for Impact Development that includes for-profit and non-profit developers, community development organizations, bankers and investors, philanthropy, and city officials. This group has helped to guide and inform our efforts to maximize the positive impact of Opportunity Zones.
PIDC will focus on three immediate-term strategies:
1. ATTRACT: Philadelphia attracts its “fair market share” of national, regional, and local capital into Opportunity Zone equity investments.
Philadelphia’s Opportunity Zones make us just less than 1% of the 8,700 designated tracts across the U.S., and investors who want to take advantage of the tax benefits can invest their capital anywhere. As we saw during the Amazon competition, Philadelphia has many of the same attributes but lacks the market profile of our peer cities, so we must invest in positioning Philadelphia to attract investment for projects in our Opportunity Zones. PIDC is partnering with the City of Philadelphia to leverage the existing Philadelphia Delivers website and creative assets to market Opportunity Zones.
PIDC is also developing relationships with Opportunity Zone fund managers and prospective investors to attract local, regional, and national equity capital to Philadelphia. We are focusing in particular on impact investors, which are those seeking to achieve both a financial return and a positive social impact return on their capital investment.
2. CONNECT: Equity capital connects to projects and businesses located throughout all designated Opportunity Zones in Philadelphia
In order to succeed in attracting capital to Philadelphia’s Opportunity Zones, there must be investment-ready projects and businesses. PIDC is currently tracking a pipeline of projects in various stages of development across 65 of the designated Opportunity Zone census tracts within Philadelphia. There are 200 projects in the pipeline, ranging in scale from $1.5M to $3.5B. The list includes a wide variety of project types ranging from commercial to residential, affordable housing to grocery stores, and arts centers to industrial spaces – it’s a true reflection of the diverse and innovative development opportunities that Philadelphia has to offer. Through the relationships we develop with Opportunity Funds and investors, PIDC will connect investment-ready projects with sources of capital.
3. ALIGN: PIDC aligns its lending resources to provide gap-filling capital for high-impact projects and businesses in Opportunity Zones
The Opportunity Zone tax incentive has no restrictions on project type or on the community impact that investments must produce. In the absence of these requirements at the federal level, PIDC is developing a flexible, locally-driven impact screening to evaluate the economic and community impact of projects located in the Opportunity Zones. For projects that can demonstrate a positive community impact, PIDC will offer flexible, long-term debt capital that would complement Opportunity Fund equity investments to fill gaps in the capital stack.
In addition, PIDC is already piloting a commercial mortgage loan product that provides access to long-term financing for small businesses located in low- and moderate-income areas. This loan, targeted particularly to minority-, immigrant-, and women-owned enterprises, helps those who otherwise might not qualify for bank financing to acquire the properties in which they operate their businesses and build their wealth and assets in the local community.
PIDC will soon release an RFP for an Opportunity Zones manager. Stay tuned for more information. Also, save the date for December 11. PIDC will host an Opportunity Zones workshop that will focus on operating businesses, community development corporations (CDCs), and small real estate developers.