Invest in an Opportunity Zone and Avoid Capital Gain Tax

If you’ve read my content, you know I’m passionate about reframing how we think about the tax code.

It’s not an extractive “rule book”.

Rather, the tax code is a set of incentives intended to align private and public interests.

As high earners the goal should be to build an investment portfolio alongside the government.

Put your money where they tell you to.

One of the best ways to do just that is to invest in a Qualified Opportunity Zone Fund "QOZF".

In this article, we'll:

1. Define an Opportunity Zone Fund

2. Outline the Tax Benefits of Investing

3. Highlight Operators You Can Invest With

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What are Opportunity Zones?

Opportunity Zones are designated areas across the United States that have been identified as economically distressed. These zones are intended to encourage long-term investment and job creation in low-income communities.

There are 8,764 opportunity zones in the US, which represent 12% of all census tracts.

What are the benefits of investing in an Opportunity Zone?

• Tax Deferral: If you have capital gains from other investments you can invest those gains into an Opportunity Zone and defer paying taxes on those gains until 2026.

• Tax Exemption: If you hold your investment in that Opportunity Zone for at least 10 years, you can completely eliminate capital gains taxes on any appreciation in the investment. This is the game changer.

• Social Impact: Investing in an Opportunity Zone is not just a way to reduce taxes. It is also an opportunity to make a positive social impact by investing in economically distressed areas.

How can someone invest in an Opportunity Zone?

If you don’t know anything about investing in commercial real estate, start by reading my comprehensive guide on the topic.

The best way to invest in an Opportunity Zone is through a "Qualified Opportunity Zone Fund" or QOZF. 

There are hundreds of Sponsors that pool together capital gains from investors and form a "Fund" that invests in projects inside of Opportunity Zones.

Important Note: You must commit your money to a QOZF within 180 days of selling an appreciated asset and creating a capital gain.

Let’s unpack the numbers:

I want to illustrate your tax savings if you rolled a $100,000 capital gain into an QOZF rather than investing in a different non-OZ project.

The analysis below assumes a 12% compounded annual growth rate (CAGR) and 23.8% long-term capital gain tax rate.

The impact may be greater if you have a significant short-term capital gain, which is taxed at ordinary income rates.

Key Takeaway: By rolling a $100,000 long-term capital gain into an Qualified Opportunity Zone Fund, you would save $50,000+ in taxes over a 10-year hold period. The savings is even greater when you account for the time value of money.

Which OZ Sponsors should you invest with?

Last year, I invested in Caliber's First OZ Fund. They raised > $100 million to invest in projects across the southwest, with a heavy focus in Arizona.

Since joining Twitter, one of my favorite experts in the space is Barrett Linburg.

He is renovating / building over 750 units in an Opportunity Zone right outside of Dallas.

Check out his thread for a list of Sponsors with OZ projects in motion:

What are the downsides of Opportunity Zone Investing?

• Risk: Opportunity Zone Funds typically invest in real estate in economically distressed areas, which (in theory) can be riskier than investing in more established areas. I don't put a lot of weight into this category. As with any investment, diligence is key.

• Deferral: You will still pay tax on the capital gain you roll into the OZ Fund. It’s just deferred until 2026. Regardless, you are enjoying a 3-year interest free loan from the government. If you invest with the right Sponsor, they should look to refinance or in some way access liquidity in 2026 to help you cover the tax liability at that time.

• Hold Period: You need to hold your investment in an Opportunity Zone Fund for at least 10 years to take advantage of the tax exemption. That said, a Fund can trade in and out of assets during that hold period to boost returns. So again, it’s critical that you invest with an experienced operator who knows what they are doing.

When does it make sense to invest in an OZ Fund?

1. You’re overly concentrated in appreciated stocks/bonds and want to diversify into commercial real estate. Sell your securities and roll the capital gain into an OZ Fund.

2. You’re expecting a liquidity event (eg. selling a business) and anticipate a huge capital gain. Roll a portion of the proceeds into an OZ Fund.

3. You’re an experienced commercial real estate investor, but haven’t heard of OZ Funds and could use the tax diversification.

And just to reiterate, if you don't have at least $25,000 of capital to invest, or are not an Accredited Investor, then don't invest in commercial real estate. 

Start a business (or side hustle) instead.

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Here's the pitch:

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That’s it for today.

As always, I am not a CPA, CFA, attorney nor financial advisor. 

I’m just a sophisticated investor sharing my opinions.

If you have any questions on OZ investing, just hit reply and send me an email.

Lastly, how did you like today's issue? Your feedback goes a long way!

Until next week,

Danny