Last year, Kristin Lawrence was on the hunt for a place to give her pop-up science experiences a real home. She found it in Boulder, smack dab in the middle of what would soon be designated an Opportunity Zone.
“I didn’t even know what Opportunity Zones were at the time,” said Lawrence, founder of The Hopper, a future hangout for families to have fun with science and then eat a tasty meal with a glass of wine. “Six months of negotiations later, we were about to go under contract in late August. And at that point, my Realtor said, ‘Oh by the way, this is an Opportunity Zone.’”
The federal designation, which was part of the massive tax plan in December 2017, encourages investment in distressed communities nationwide, which includes 126 census tracts in Colorado. Investors can take their profits from other investments and put it into an opportunity fund. If they commit to a community for 10 years, they can defer taxes while the communities benefit from the new investment in properties, businesses and neighborhoods. It seemed like a good fit for The Hopper, which promises high impact, not high profit.
But investors haven’t lined up and Lawrence feels the process is confusing — and still changing. Interest is high but actual activity is unclear. Only a handful of other projects in Colorado are publicly known, including apartments in Lakewood and warehouses in Aurora. Some folks are still trying to figure how to structure their funds based on rules first released in October by the Internal Revenue Service. There is no model for investors or interested businesses to follow. After some confusion, the IRS updated guidance on April 17.
“It’s not the magical solution to fundraising that everyone was throwing around in November,” said Lawrence, a Stanford University-educated scientist who studied the magnetic fields of other planets. “Finding investors is like dating. I lead with (the value of) my company. The Opportunity Zone is the icing on the cake.”
The investor community is still buzzing about the potential of what it means to put money in an Opportunity Zone. Here’s how it could work: If an investor sells off Apple stock and makes $10 million, he must pay taxes on the profit. But if he puts the $10 million in an Opportunity Zone fund and keeps it there, taxes on the $10 million gain are deferred until 2026. If the investor decides to keep the money in the same place for a decade and if the property’s value also increases to, let’s say $30 million, the additional $20 million growth is tax free.
But this tax incentive isn’t for everyone, even if they are working in an Opportunity Zone. It doesn’t help lower the cost of a project. Profits aren’t guaranteed. A business could go under or shrink over the years, diminishing potential financial benefits. An investor also must pay taxes if they pull out too early.
Despite the complexity, state officials say that Opportunity Zones have brought new interest in properties overlooked for years, said Jana Persky, Opportunity Zone Program Director in the state’s Office of Economic Development and International Trade.
“Obviously, the goal is to attract projects that will help communities and residents get the capital they need. But beyond that, we’re seeing places that aren’t used to getting investor attention are now getting it by virtue of being in an Opportunity Zone. They are on the map now,” Persky said. “That helps people scan the entire state and not just the Denver and Boulder corridor. People are finding them even if it doesn’t end up being an opportunity project. It’s good that those conversations are starting.”
East Coast developer picks Aurora
Say hello to Dan Green, who heads his family’s East Coast real estate firm J.A. Green Development Corp. Long before he’d heard the term Opportunity Zone — and long before he stepped out of a pickup truck and plopped his black dress shoes in the muddy field south of Denver International Airport — the Greenwich, Connecticut, developer was eyeing property near the airport.
His interest in Denver grew after learning of the new federal designation. Last year he petitioned the state to include land near the airport for an Opportunity Zone. The tract made the cut and Green put together his opportunity fund and acquired the property.
“It really helped take the onus off of state and local governments with the federal government saying, ‘We’ll help you.’ This incentive will give you the use of the money from capital gains that you ordinarily had to spend to pay taxes,” said Green, visiting the site last week with his teenage daughter. The family is moving to Colorado in the summer so Maya was checking out schools.
“And then you have, of course, the tax-free sale in 10 years,” he said. “So it really helped in our case. The infrastructure was the big issue. And the federal government is saying ‘We’ll help by lending you the money until 2026. Get your project going.’”
The 250-acre industrial park, dubbed JAG Logistics Center at DIA, started construction on a 1-million-square-foot facility in March. It’s a columnless warehouse being built on speculation. It’s also similar to lots of other projects going into this part of Aurora. Not too far away is an Amazon facility. Walmart is developing another. There are also other incentive zones, including the Aurora Enterprise Zone and the Foreign Trade Zone.
But Green said he can’t take advantage of those perks. Those help companies that operate there and want to, for example, bypass paying foreign tariffs. The problem with vacant land is that someone must spend the money to build roads, add sewage and other infrastructure. Developers tend to pay for all of that, unless the city chips in (Aurora did not, in this case, he said).
“Those are the types of hurdles that greenfield developments have. You have land, and that’s great. But it still takes a lot to get it going, the pipes, the roads,” said Yuriy Gorlov, vice president for the Aurora Economic Development Council. “This is ultimately millions of investment from the developer to get it all in the ground. It’s probably $20 million to add the infrastructure.”
Green, who is using profits from other company deals to fund the Aurora development, said it’s difficult to determine what the savings or potential return could be for the overall project. He’s heard some reports that put internal rate of return at 50% over 10 years, but he feels that’s on the high end.
“It’s a bit tough to calculate what the savings would be because the project still needs to be successful. If you invest in a (project) and it fails, then there is no benefit — and worse — you might not get to deduct the loss,” Green said. “…Remember, Opportunity Zones are, by definition, low-income and/or distressed areas, so there are challenges to these sites. You need to have a vision and then execute that vision. The OZ program is not a gift nor is it a guarantee. It’s a chance for distressed areas to be reimagined.”
Not just the Front Range
Interest in Colorado’s Opportunity Zones is high. But it’s difficult for state officials to know which projects, if any, are getting funded or are actively moving forward.
Participants have no obligation to tell local officials.
“I’m tracking about 10 projects right now,” said Robin Brown, executive director of the Grand Junction Economic Partnership. “But the thing is, there’s no way to track them. I don’t know if some of these projects even want to be tracked.”
Still, it makes sense for developers to tip off the local community. That could help them get a better sense of where to invest, plus advice from the local agencies. And the local agencies need to make sure they have shared their potential with investors, said Rachel Reilly, Director of Impact Strategy for Economic Innovation Group, a bipartisan public policy organization firm with expertise on Opportunity Zones.
“They (cities) may have insight into the types of financing coming into their communities,” Reilly said. “A prospectus document (by local governments) signals to investors that the community has been thoughtful about where it needs investment and the local government has identified where it would also offer support. It provides skin in the game and a friendly investor environment.”
Much interest in Grand Junction and Mesa County is coming from Denver-based developers, Brown said. The Front Range must be hearing about Grand Junction’s renaissance. It’s been attracting younger residents and a diverse mix of businesses.
“We have the perfect combination of affordable real estate and an improving economy and we have seven designated Opportunity Zones,” Brown said. She said she’s been meeting with interested developers and investors at least once a week. “… I know that other parts of the state are limiting development, but we need it. All of our office space is old. It was built in the ‘80s. We need new construction and are happy to see it.”
She’s referring to the City of Boulder, which placed a moratorium on development in its lone Opportunity Zone last December. That, of course, added more frustration for The Hopper’s Kristin Lawrence. She closed on the property at 2525 Frontier Ave. on the same day as the Boulder City Council meeting.
“We literally closed at two in the afternoon and City Council met that night,” she said. “We pleaded our case and the city was very supportive. They loved the project. They made an exemption for nonprofits.”
However, the investor who helped Lawrence buy the property wasn’t a nonprofit. “We had to go back and renegotiate with City Council, ‘Wait, you didn’t understand,’” she said. The property got exempted, along with a hospital.
Lawrence ended up creating an opportunity fund, with one major donor, to buy the property. But for now, she’s decided to hold off on setting up a separate fund for The Hopper.
“Most (investors) have not panned out because my project is not market rate,” she said. “I can’t give them market-rate returns. My business is about impact.”
Opportunity Zone rule updates
The updated IRS guidance released last month has helped answer questions, said Persky, with the state’s economic development office. A good portion of business operations must take place in the Opportunity Zone, but not all of it. That allows a software developer to qualify for the tax incentive but also sell products around the globe.
Another change allows one fund to invest in multiple zones nationwide. Previously, a fund focused on one project in one location.
But even Persky said it seems like progress is slow.
“I think if you had told pretty much anyone that this program would be launched in December 2017 and that as of April 2019, people would still be waiting on guidance, I think everyone involved would have been shocked and disappointed,” she said. “That’s a little bit of where we are. But the things that are in our control, we’ve done pretty well.”
The state created Co-invest.co to highlight businesses seeking capital, funds seeking investors and real estate opportunities.
Indeed. Colorado is known for being one of the most active states in promoting Opportunity Zones and making sure communities are connecting with potential investors, identifying areas ripe for investment, and educating communities on how to work with development.
“It’s definitely complex, but at a high level it’s relatively simple. It’s getting investment in a project,” Persky said. “But there’s not a model on how to do this. You have to be prepared to spend time with a lawyer to get something to happen, which is true of any sort of investment.”
Colorado’s 126 Opportunity Zones
Why investors are taking a chance
Next to the new West Line Village neighborhood of for-sale homes in Lakewood, the same developers acquired an adjacent property in late 2018. The plan is to build a 280-unit apartment building that will rent at market rates. The land is also in an Opportunity Zone that happens to have a lot of other things going for it — it’s within walking distance to the Sheridan rail station (the W line) and it’s not too far from the redeveloping West Colfax neighborhood, where an Alamo Drafthouse theater opened two years ago.
“We had always wanted to do some for-rent homes in the area. But we hadn’t moved forward to apartments prior to the designation. It’s fortuitous timing,” said Doug Elenowitz, cofounder of Trailbreak Partners, which has also worked on projects near Sloan’s Lake.
Often, developers enter a community, build something, sell it and then leave. This is a different business model and timeline, which is why there probably haven’t been too many publicly announced projects in Colorado or even nationwide. But if investors already know the local community or are part of it, they become familiar with how things operate and how locals respond, which is why Elenowitz feels Trailbreak is a good fit.
“In this case, we’ll be invested in this community for at least a decade or more,” he said. “It’s more of a marriage than dating and this bodes well for the community.”
He didn’t place a dollar value on what it means to be part of an Opportunity Zone. The designation, he said, doesn’t lower the cost of the project. But having to commit for 10 years also takes some worry out about an unstable market. He spelled it out by describing the potential rate of return, in terms of basis points.
“We’ve calculated a 400 to 500 basis point improvement to investors on an after-tax basis. That is really the power of it,” he said. “If you stay with it through the long haul, which by the way, in the current real estate environment is good, we have a decade to be right. I don’t have to be right next year, but it’s structured so that we can weather the ebbs and flows.”
His investors were motivated by the taxes but, he added, he also invited them all out to tour the site and learn more about the community.
“It was a point of conversation about the benefits of bringing new capital into an area experiencing disinvestment,” Elenowitz said. “It made them feel good.”