Opportunity Zone Funds

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cdaddio23
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Opportunity Zone Funds

Post by cdaddio23 » Sun Jun 16, 2019 11:08 am

Has anyone had experience with Opportunity Zone Funds? In a sentence, they are investments that are mainly invested in areas defined as qualified opportunity zones (QOZ) and allow some short term capital gain deferment with some elimination of tax on long term gains (if fund held for ten years).

The crowdfunding sites I've looked at (eg Origin Investments) still charge pretty hefty fees including 15% performance fee and 1.25% annual fee.

Any experience or thoughts?

Cdaddio23

quantAndHold
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Re: Opportunity Zone Funds

Post by quantAndHold » Sun Jun 16, 2019 12:58 pm

Opportunity zones have only been a thing for just over a year, so nobody is going to have much of a track record.

I discovered that I live in an opportunity zone. From what I’ve seen, I would strongly suspect that the tax advantages are priced in already.

bsteiner
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Re: Opportunity Zone Funds

Post by bsteiner » Sun Jun 16, 2019 1:26 pm

We looked at this for a real estate developer some of whose projects are in an opportunity zone, but it didn't seem practical to take advantage of it.

Wyodoc
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Re: Opportunity Zone Funds

Post by Wyodoc » Sun Jun 16, 2019 1:57 pm

I have looked into OZ. I believe they could make financial sense for someone with large capital gains from the sale of a business or funds and they want to avoid some LTCG taxes and defer the rest. This will come at a price of illiquidity and higher risk investment areas.

riverguy
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Re: Opportunity Zone Funds

Post by riverguy » Sun Jun 16, 2019 5:26 pm

Looked at them extensively and decided to pass. Cap gains rates are low now. Enormous exposure to the laws changing between now and ten years from now. The trend is going to be to eat the rich. Hard to see how cap gains rates get lower but super easy to see them going up.

The basis increase is rather minimal. You have no liquidity. You are entirely dependent on cap gains being realized from your OZ fund on an exit. Waterfalls and incentives to the sponsor taking a big chunk of the cap gains kills it as well. If you don’t have monster cap gains on exit, you basically wasted ten years.

Spencer
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Re: Opportunity Zone Funds

Post by Spencer » Sun Jun 16, 2019 7:37 pm

I have quite a bit of experience underwriting OZ funds (30+), and have committed to numerous funds from the sale of a business. It's an interesting tax play for certain investors in certain circumstances, but it's not for everyone.

If you are concerned about fees, this is not the space for you. 1.25/15 is par for the course, if not lower than average, for fund fees. On top of this, I suspect this is a ground-up development play (as 95+% of OZ projects are), you've got developer level fees that can double or triple total fees. The key is having a fee waterfall that rewards performance, and not just base management fees. Personally, I'm happy to pay incentive fees for good performance but not egregious management, or transaction based fees.

If you are serious about the space, you need to network with the sponsors directly. Generally speaking, the heavily marketed projects/funds online are garbage. Additionally, most require being an accredited investor, if not qualified purchaser, and require minimums of $250k-1m, so there are some hurdles to having decent diversification in the space.
riverguy wrote:
Sun Jun 16, 2019 5:26 pm
Looked at them extensively and decided to pass. Cap gains rates are low now. Enormous exposure to the laws changing between now and ten years from now. The trend is going to be to eat the rich. Hard to see how cap gains rates get lower but super easy to see them going up.

The basis increase is rather minimal. You have no liquidity. You are entirely dependent on cap gains being realized from your OZ fund on an exit. Waterfalls and incentives to the sponsor taking a big chunk of the cap gains kills it as well. If you don’t have monster cap gains on exit, you basically wasted ten years.
The biggest cap gain rate risk is through 2026 when the deferral is due. I would tend to agree with your assessment of rates going up but the risk is hedged by the 15% gain reduction and TVM of the 7 year deferral.

As you noted, the biggest incentive is the back end, but it is a step up in basis, and not just cap gain forgiveness. This means (but is not 100% set in stone due to regs not being 100% final), that you don't have to recapture depreciation on the back end either, which is another huge bonus, and for most projects, means you've got tax free income over the project life, plus many throw off more depreciation expense than distributions, so you can shield other sources of passive income as well.

As far as the 10 year horizon, personally, I like it. Too many private RE deals tend to be 2-5 year horizons that incentivize huge IRRs with mediocre multiples that benefit the sponsors and not long term equity investors. As far as wasting 10 years, that can happen in any market if you have a long horizon, but the cash flows in these deals are not all after 10 years. Most have a large liquidity event around year 4-5 when the projects are stabilized, which returns a large sum of capital, plus you've got tax-advantaged distributions over the life of the project.

There are pros/cons to the program, but again, I think it works well for certain investors in certain circumstances. I would not be selling gains in an index fund to invest in QOF's.

renue74
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Re: Opportunity Zone Funds

Post by renue74 » Sun Jun 16, 2019 8:14 pm

bsteiner wrote:
Sun Jun 16, 2019 1:26 pm
We looked at this for a real estate developer some of whose projects are in an opportunity zone, but it didn't seem practical to take advantage of it.
+1 . We looked at it in real estate as well. I'm not remembering the exact details, but basically if you bought properties for rehab, you had to match the purchase price with updates. Buy a $75K property, you had to put in $75K in upgrades/rehabs to participate.

Not an option for small time folks like me.

I would also be interested in hearing success stories.

Spencer
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Re: Opportunity Zone Funds

Post by Spencer » Sun Jun 16, 2019 8:22 pm

renue74 wrote:
Sun Jun 16, 2019 8:14 pm
bsteiner wrote:
Sun Jun 16, 2019 1:26 pm
We looked at this for a real estate developer some of whose projects are in an opportunity zone, but it didn't seem practical to take advantage of it.
+1 . We looked at it in real estate as well. I'm not remembering the exact details, but basically if you bought properties for rehab, you had to match the purchase price with updates. Buy a $75K property, you had to put in $75K in upgrades/rehabs to participate.

Not an option for small time folks like me.

I would also be interested in hearing success stories.
You have to double the improvement value, so for that $75k property, if the split between land/improvements is 50/50, then you'd need to invest another $32.5k into the property to qualify.

For value add deals, the OZ qualification works best in markets (and properties) with a high land value ratio (ie, land value is 75%+ of acquisition price), which tends to be older buildings in HCOL markets.

renue74
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Re: Opportunity Zone Funds

Post by renue74 » Sun Jun 16, 2019 8:26 pm

Spencer wrote:
Sun Jun 16, 2019 8:22 pm
renue74 wrote:
Sun Jun 16, 2019 8:14 pm
bsteiner wrote:
Sun Jun 16, 2019 1:26 pm
We looked at this for a real estate developer some of whose projects are in an opportunity zone, but it didn't seem practical to take advantage of it.
+1 . We looked at it in real estate as well. I'm not remembering the exact details, but basically if you bought properties for rehab, you had to match the purchase price with updates. Buy a $75K property, you had to put in $75K in upgrades/rehabs to participate.

Not an option for small time folks like me.

I would also be interested in hearing success stories.
You have to double the improvement value, so for that $75k property, if the split between land/improvements is 50/50, then you'd need to invest another $32.5k into the property to qualify.

For value add deals, the OZ qualification works best in markets (and properties) with a high land value ratio (ie, land value is 75%+ of acquisition price), which tends to be older buildings in HCOL markets.
Thanks for clarifying! I think it's been about a year since I looked at it. Large parts of my town are OZ areas, but not HCOL. I don't think I've seen any deals made here.

Topic Author
cdaddio23
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Re: Opportunity Zone Funds

Post by cdaddio23 » Sun Jun 16, 2019 10:41 pm

Spencer wrote:
Sun Jun 16, 2019 7:37 pm
.

If you are concerned about fees, this is not the space for you. 1.25/15 is par for the course, if not lower than average, for fund fees. On top of this, I suspect this is a ground-up development play (as 95+% of OZ projects are), you've got developer level fees that can double or triple total fees.
Good to know, because much as there is a 0.5% acquisition fee of asset purchase price, it is hard to quantify what that means.
Spencer wrote:
Sun Jun 16, 2019 7:37 pm
Additionally, most require being an accredited investor, if not qualified purchaser, and require minimums of $250k-1m
This particular fund has an entry level of 50k, hence my interest. I'm not sure I would want to risk a larger amount at this time.
Spencer wrote:
Sun Jun 16, 2019 7:37 pm
I would not be selling gains in an index fund to invest in QOF's.
Another good point, but I am a Boglehead, so all of my free capital goes rapidly into index funds. Now what?

Thanks for the advice, I will likely hold off.

lcsma
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Re: Opportunity Zone Funds

Post by lcsma » Tue Jul 23, 2019 2:40 pm

How do one go about finding a list of good OZ funds? Is there any resources you can recommend? Or if you can recommend some specific funds, that would also be really helpful. Thanks!
Spencer wrote:
Sun Jun 16, 2019 7:37 pm
If you are serious about the space, you need to network with the sponsors directly. Generally speaking, the heavily marketed projects/funds online are garbage. Additionally, most require being an accredited investor, if not qualified purchaser, and require minimums of $250k-1m, so there are some hurdles to having decent diversification in the space.

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Re: Opportunity Zone Funds

Post by LadyGeek » Tue Jul 23, 2019 3:16 pm

This thread is now in the Investing - Theory, News & General forum (general discussion).

lcsma, Welcome!
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Spencer
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Re: Opportunity Zone Funds

Post by Spencer » Tue Jul 23, 2019 3:50 pm

lcsma wrote:
Tue Jul 23, 2019 2:40 pm
How do one go about finding a list of good OZ funds? Is there any resources you can recommend? Or if you can recommend some specific funds, that would also be really helpful. Thanks!
Spencer wrote:
Sun Jun 16, 2019 7:37 pm
If you are serious about the space, you need to network with the sponsors directly. Generally speaking, the heavily marketed projects/funds online are garbage. Additionally, most require being an accredited investor, if not qualified purchaser, and require minimums of $250k-1m, so there are some hurdles to having decent diversification in the space.
Here are a few databases to start with,

https://www.ncsha.org/resource/opportun ... directory/
https://opportunitydb.com/funds/
https://www.novoco.com/resource-centers ... ds-listing

I can't recommend anything publically since "it depends" on individual circumstances, just like ETF/Mutual Fund/Bond recommendations.

lcsma
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Re: Opportunity Zone Funds

Post by lcsma » Thu Jul 25, 2019 1:15 pm

Thanks for the pointers. I also found those lists independently by googling, but it is hard to tell good funds from bad funds, especially given all QOZ funds are pretty much new with no track record to speak of. Some of those sponsors have done other projects before, but finding reviews in the private equity world seems next to impossible for people outside the industry.

The reason I am researching this is that I have about 100k of realized capital gain that I'd like to defer on, and this seems like one way of doing it (plus I also want to increase my real estate exposure). Doing a QOZ project on my own is out of the question due to the original use requirement. I've never invested in private equity fund before, I would qualify as accredited investor, but not qualified purchaser. And I don't want to put in much more than 100k in this. Is this something worth pursuing at all or should I just pay the capital gain tax and put the money in a total stock fund?

Thanks

Spencer wrote:
Tue Jul 23, 2019 3:50 pm
lcsma wrote:
Tue Jul 23, 2019 2:40 pm
How do one go about finding a list of good OZ funds? Is there any resources you can recommend? Or if you can recommend some specific funds, that would also be really helpful. Thanks!
Spencer wrote:
Sun Jun 16, 2019 7:37 pm
If you are serious about the space, you need to network with the sponsors directly. Generally speaking, the heavily marketed projects/funds online are garbage. Additionally, most require being an accredited investor, if not qualified purchaser, and require minimums of $250k-1m, so there are some hurdles to having decent diversification in the space.
Here are a few databases to start with,

https://www.ncsha.org/resource/opportun ... directory/
https://opportunitydb.com/funds/
https://www.novoco.com/resource-centers ... ds-listing

I can't recommend anything publically since "it depends" on individual circumstances, just like ETF/Mutual Fund/Bond recommendations.

MikeG62
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Location: New Jersey

Re: Opportunity Zone Funds

Post by MikeG62 » Fri Jul 26, 2019 6:24 am

cdaddio23 wrote:
Sun Jun 16, 2019 11:08 am
Has anyone had experience with Opportunity Zone Funds? In a sentence, they are investments that are mainly invested in areas defined as qualified opportunity zones (QOZ) and allow some short term capital gain deferment with some elimination of tax on long term gains (if fund held for ten years).

The crowdfunding sites I've looked at (eg Origin Investments) still charge pretty hefty fees including 15% performance fee and 1.25% annual fee.

Any experience or thoughts?

Cdaddio23
My broker (where I source my muni bonds) sent me an e-mail on this several months ago. If I were inclined to invest in something like this, I would be very comfortable buying into anything he recommends (he almost always is personally investing in anything like this he sends my way - which is not all that often, by the way). However, these are (at least his was) a very long term investment. Ideally the money should remain in the investment for 10 years or more. One upside is ability to defer tax on capital gain (for up to 7 years) on investment sold to free up cash for investment in these opportunity funds. Second, is ability to shield some of the capital gain from ever being taxed (10% shield if held for 5 years and 15% shield if held for 7 years or more). Third, you get basis step up on opportunity fund investment if you hold for I think it was 10 years. I'm not looking to tie up funds that long and I prefer simple over complex. This felt complex. So I passed.

That's all I know about them.
Real Knowledge Comes Only From Experience

Spencer
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Joined: Wed Mar 19, 2014 10:20 am

Re: Opportunity Zone Funds

Post by Spencer » Fri Jul 26, 2019 8:18 am

lcsma wrote:
Thu Jul 25, 2019 1:15 pm
Thanks for the pointers. I also found those lists independently by googling, but it is hard to tell good funds from bad funds, especially given all QOZ funds are pretty much new with no track record to speak of. Some of those sponsors have done other projects before, but finding reviews in the private equity world seems next to impossible for people outside the industry.

The reason I am researching this is that I have about 100k of realized capital gain that I'd like to defer on, and this seems like one way of doing it (plus I also want to increase my real estate exposure). Doing a QOZ project on my own is out of the question due to the original use requirement. I've never invested in private equity fund before, I would qualify as accredited investor, but not qualified purchaser. And I don't want to put in much more than 100k in this. Is this something worth pursuing at all or should I just pay the capital gain tax and put the money in a total stock fund?

Thanks

Spencer wrote:
Tue Jul 23, 2019 3:50 pm
lcsma wrote:
Tue Jul 23, 2019 2:40 pm
How do one go about finding a list of good OZ funds? Is there any resources you can recommend? Or if you can recommend some specific funds, that would also be really helpful. Thanks!
Spencer wrote:
Sun Jun 16, 2019 7:37 pm
If you are serious about the space, you need to network with the sponsors directly. Generally speaking, the heavily marketed projects/funds online are garbage. Additionally, most require being an accredited investor, if not qualified purchaser, and require minimums of $250k-1m, so there are some hurdles to having decent diversification in the space.
Here are a few databases to start with,

https://www.ncsha.org/resource/opportun ... directory/
https://opportunitydb.com/funds/
https://www.novoco.com/resource-centers ... ds-listing

I can't recommend anything publically since "it depends" on individual circumstances, just like ETF/Mutual Fund/Bond recommendations.
As you noted, the OZ regs are new, so there is not going to be any direct QOF track records available, but there are plenty of RE sponsors that have played in OZ markets previously, so at the end of the day, you're investing in the Sponsor and their overall track record. Personally, I was looking for reputable sponsors where the OZ program fit into their existing investment model.

For $100k of gains, I'd probably just pay the tax, especially if you're in the 15% cap gain bracket with no/low state taxes. The potential benefit is probably not worth the amount of work it takes to underwrite these funds, plus you won't have enough capital to commit to most of the funds, or obtain much diversification across sponsors. I'd probably want $750k-1m in gains at a minimum, which would get 3-4 $250k commitments (generally the minimum for larger/experienced multi-asset OZ funds), with exposure to 20-30+ underlying assets. This is enough Sponsor/Asset diversification to get a broader OZ/RE exposure, which tends to be the idea, unless you've got an edge, in which case, you're probably running your own OZ deal rather than investing in a fund as an LP.

It would be nice if there was a low cost "fund of funds" for QOF's to get broad exposure in a single vehicle but unfortunately, it's not allowed by the regulations.

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