As the Trump Administration prepares to take office, policymakers will again face important decisions around tax policy and housing development initiatives. In this Research Corner piece, we’ll provide a primer on one such program—the Opportunity Zones program—outlining its design, as well as the utilization and impact it has had thus far.
What are Opportunity Zones, and how do they incentivize investment?
Opportunity Zones were established by the Tax Cuts and Jobs Act (TCJA) of 2017 with the aim of stimulating investment in underserved communities across the country. TCJA allowed governors to nominate individual census tracts representing economically distressed communities. The U.S. Treasury Department then ultimately certified over 8,700 of those census tracts, officially designating them as Opportunity Zones.
Real estate developers and others may establish Qualified Opportunity Funds (QOFs) to construct and rehabilitate property (including multifamily), in Opportunity Zones that will be eligible for the following tax incentives:
1. Temporary Tax Deferral: Investors can defer taxes on capital gains invested in a QOF until December 31, 2026, or until the investment is sold, whichever comes first.
2. Step-Up in Basis: Capital gains deferred into a QOF for five years are eligible for a 10-percent basis step up, while gains deferred for seven years are eligible for an additional 5-percent basis step up. A step up in basis effectively lowers the amount of capital gains tax owed when the asset is eventually sold.
3. Permanent Exclusion of Gains: If an investment in a QOF is held for at least ten years, any gains from that investment are fully exempt from taxation.
Rent burdens in Opportunity Zones
“Underserved communities” can have a variety of definitions, and one such metric for that is the number of rent-burdened households. Examining 2015 American Community Survey (ACS) 5-year estimates —the data source used for the large majority of tract designations—we can see that households in the census tracts chosen as OZs faced considerable rent burdens. As a whole, the median share of an OZ’s renter households paying 30 percent or more of their income on housing was 49.4%, compared to 41.1% for non-OZ tracts.
Looking at the figure above, states whose OZs had the highest median share of renter households burdened were California (58.8%), Florida (58.3%) and Nevada (57.3%).
The states with the largest disparity in the share of rent-burdened households between the OZ tracts and non-OZ tracts were Nevada (16.0 percentage point spread), Wisconsin (15.8 percentage points) and Wyoming (15.0 percentage points).
What we know about the impact of investments in Qualified Opportunity Funds
Of the QOFs identified by Novogradac , $39.54 billion has been raised as of September 30, 2024, $29.58 billion of which Novogradac can directly track the actual investment of. Of that smaller amount, $23.65 billion (79.9%) includes investment with a residential component, and of that, the overwhelming majority ($21.57 billion; 91.2%) is investment in multifamily properties.
An analysis by the Urban Institute compiles much of the work that’s been done around OZ investment and its effects thus far:
- While a paper from the Office of Tax Analysis (U.S. Treasury) finds that roughly half of designated OZs have received some investment between 2018 and 2020, the lion’s share of OZ investment has been concentrated amongst just 5% of tracts and largely in urban areas.
- The impact of being designated as an OZ was shown to be mixed, with some analyses finding no effect on job postings or employment, while others did find a positive effect on employment. This analysis did not include the effects of actual investment, however, simply the result of the designation itself.
- Similarly, while some research did find a positive effect of designation on land values and residential property values, others concluded the program had no significant effect.
Significantly, judging the effect of OZs is made difficult by the fact that the exact location of QOF investment is not publicly available and, therefore, not reflected in the literature at present. Additionally, the COVID19 pandemic, resulting in an economy-wide shock just two years after OZ designations, complicates drawing conclusions about the program’s efficacy given the economic disruption observed.
Even as the program’s short-term impacts are clarified, and the long-term effects become more concretely quantified, it is undeniable that Novogradac can account for over 192,000 units financed through QOF residential investment thus far (the split between multifamily and other residential types is unknown). While the nation’s housing shortage is millions-deep, the Opportunity Zones program is clearly one of many tools that could be used to help build and preserve additional housing units.
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The Future of Opportunity Zones – NMHC’s Government Affairs Team Looks for an Extension and Improvements |
The ability of investors to use Opportunity Zones is coming to an end. Although tax on capital gains invested into QOFs can still be deferred through 2026, newly invested capital gains will be ineligible for a basis step up. Furthermore, the ability to invest capital gains in QOFs sunsets June 28, 2027.
The expiration of these incentives removes both a tool to address the housing affordability crisis and an option to attract investors for projects that may extend beyond the program’s expiration date. The looming sunset provides an opportunity, however, to extend and improve upon the expiring TCJA provisions in legislation expected to be considered in 2025. Such improvements include:
- Enabling states to recertify and/or redesignate Opportunity Zones to account for current economic realities and changes since Zones were originally designated; and
- Establishing new investment deadlines so that taxpayers are incentivized to receive both a longer deferral period and the potential for a 10% or 15% basis increase with respect to reinvested capital gains.
Finally, while Opportunity Zones are beneficial for new multifamily development, developers may find it difficult to use Opportunity Zone benefits to rehabilitate existing properties. To qualify for Opportunity Zone benefits for renovations, the basis of an existing asset must be doubled excluding land. Although property that is added to and improves an asset can count toward this threshold, doubling the basis can still be a high hurdle. Accordingly, Congress should reduce the basis increase necessary to qualify a multifamily rehabilitation project for Opportunity Zone purposes.
i 2015 American Community Survey: 5-Year Data [2011-2015, Tracts & Larger Areas]. Accessed through IPUMS NHGIS, University of Minnesota, www.nhgis.org.
ii QOF Fundraising Sees Largest Quarterly Jump Since Early 2023; Total Nears $40 Billion | Novogradac
iii What We Do and Don’t Know about Opportunity Zones | Urban Institute
iv Coyne, David and Johnson, Craig E., Use of the Opportunity Zone Tax Incentive: What the Tax Data Tell Us (November 22, 2022). Available at SSRN: https://ssrn.com/abstract=4308263
v Kennedy, Patrick and Wheeler, Harrison, Neighborhood-Level Investment from the U.S. Opportunity Zone Program: Early Evidence (April 15, 2021). Available at SSRN: https://ssrn.com/abstract=4024514
vi Coyne and Johnson (2022).
vii QOF Fundraising... | Novogradac
About Ian Georgiev
Ian Georgiev is a Legislative and Regulatory Analyst with a primary focus on housing policy. Previously, Ian served as a Legislative Intern for Rep. Warren Davidson and led a team of analysts as the Labor Legislative Manager at Stateside Associates. He holds a B.A. in Law from the University at Buffalo School of Law and a specialization in Financial Crisis Management from Yale University School of Management. Ian is fluent in multiple languages, including English, Bulgarian, Turkish and Macedonian.
He can be reached at igeorgiev@nmhc.org.
About Ryan Hecker
Ryan Hecker is the team's Research Analyst, providing support for NMHC's research in housing and apartment industry trends. He graduated from the University of Rochester with a bachelor's degree in Economics and Political Science. Ryan's internship experience includes work on the Committee for a Responsible Federal Budget (CRFB)'s policy team and on FGS Global's government affairs team, where he aided in research on debt solutions and macroeconomic projections as well as covering of congressional hearings.
He can be reached at rhecker@nmhc.org.