When opportunity knocks: investing in Illinois' Opportunity Zone

Real estate investors and financial professionals are constantly searching for a potential property that will result in the perfect blend of income and appreciation for new development or continued operation. For varying reasons, traditional developers often overlook particular areas within Illinois’ economically disadvantaged communities. With the federal government offering enticements such as Opportunity Zones, investors and developers are increasing their focus on investments in these communities. Given that Chicago is home to a significant number of qualifying Opportunity Zones, there is a large market interest in this program.

As with any question of taxation, it is vitally important that a qualified tax lawyer review the tax consequences and implications of a contemplated investment. This article is not intended to provide any investment guidance, advice about your income tax liability or specific opinions regarding your tax situation. As discussed below, prudence has its virtues.

Considerations before investing in an Opportunity Zone

With all of the rush and excitement over the Opportunity Zone program, it is easy to forget that structuring investments, recruiting investors and launching a qualifying project requires careful attention to both real estate and tax details. Much of this enthusiasm is due to the tax advantages of an Opportunity Zone investment: investors are allowed to defer paying capital gains on qualifying investments if they reinvest in an Opportunity Zone. As any investor will agree, sheltering gains is one of their primary goals. The Opportunity Zone program and investment into a Qualified Opportunity Zone Fund offer that chance.

Investors can reduce the capital gains tax on a reinvested amount based on how much time it remains in a Qualified Opportunity Zone Fund: 10 percent after five years, 15 percent after seven years and tax-free after its 10-year anniversary. These enticing numbers explain why recent offerings even through “crowdfunding” models are prime pickings for eager investors. Recent changes have extended the timeline for reinvesting from six months to a more generous 30 months. Depending on a particular investor’s status, he or she may be able to invest in these funds as could that investor’s trust, if allowable.

Investment firms are primarily structuring these funds to target high net worth individuals and privately or family-owned businesses that seek to leverage tax benefits where possible. The potential benefits can be significant and will likely be sources of realized financial advantages for the right investor in the right project.  When excitement rushes into the commercial real estate sector, there is often pause for thought and a redoubled awareness of the importance of due diligence. Investment in a Qualified Opportunity Fund requires carefully drafted offering documents, thorough and complete investment contracts and adherence to commercial real estate best practices in the formation and operation of the development.

Compliance is key to a successful project

We anticipate that many projects will go from concept to punch list as investors flood funds with the capital to improve properties in these zones but it would not be surprising to find that a number of projects do not materialize or become riddled with significant problems. While losses may have utility in some circumstances, they are not the investor’s goal. 

Ultimately, this is still an investment that improves a parcel of real estate; therefore, all of the customary legal issues that apply to similar projects remain woven into Opportunity Zone investing. The challenge is ensuring that the investment and the fund’s operation comply with applicable tax provisions which require adherence to key timelines, fund investment content limitations and other legal hurdles.

For investors, there is no time like the present to consider these vehicles but they should dive in with careful consideration of the underlying project and its tax consequences. Accordingly, it is best to seek guidance from qualified commercial real estate, tax and trusts attorneys.  

This Chuhak & Tecson, P.C. communication is intended only to provide information regarding developments in the law and information of general interest. It is not intended to constitute advice regarding legal problems and should not be relied upon as such.

Client alert authored by James R. Stevens, Principal