Opportunity Zone Fund Fees, with Jonathan Miller

Jonathan Miller

What are the different layers of fees that Opportunity Zone investors should be aware of? And how much can investors expect to pay in fees to Qualified Opportunity Funds?

Jonathan Miller is president and CEO of Parsonex Enterprises, a financial services firm, SEC registered investment adviser, and advisory group and asset manager that manages alternative assets in real estate, including in Opportunity Zones.

Click the play button below to listen to my conversation with Jonathan.

Episode Highlights

  • The typical fees that Opportunity Zone investors should expect to pay to Qualified Opportunity Fund managers, including product distribution fees, management fees, and development fees.
  • Why it’s essential to understand what you’re paying, who’s getting your fees, and how it affects the economics of the deal.
  • The amount of economic value that investors are deriving from the fund typically.
  • What investors should typically expect: 1) all of your money back; 2) a preferred return; and 3) a split of the excess beyond that.
  • The challenge of investing during the “gold rush” state of the Opportunity Zones space, and what investors should look for in developers and fund managers to avoid pitfalls.
  • Why investors should be aware of the “double promote” issue of an OZ fund paying a promote to developer, and the individual investor paying a promote to the fund manager.
  • For retail investors, why Qualified Opportunity Funds are typically limited to accredited and sophisticated investors. And the benefits of working with a financial professional when making private equity investments.
  • An estimate of how many of the Qualified Opportunity Funds that have launched so far would likely not make it through a due diligence process of a broker dealer or RIA.
  • The tension between taking the time to properly perform due diligence and beating the end-of-2019 deadline to maximize the tax benefit of Opportunity Zone investing.
  • What RIAs, broker dealers, and wire houses should be aware of when considering funds for their platforms.
  • An estimate of how much it costs to start a Qualified Opportunity Fund the right way.
  • The biggest challenge in launching a Qualified Opportunity Fund.

Featured on This Episode

Industry Spotlight: Parsonex Capital Partners


Headquartered in Englewood, CO, Parsonex Capital Partners is an alternatives asset management firm with a focus on real estate and business development in Opportunity Zones.

Learn more about Parsonex Capital Partners

About the Opportunity Zones Podcast

Hosted by OpportunityDb.com founder Jimmy Atkinson, the Opportunity Zones Podcast features guest interviews from fund managers, advisors, policymakers, tax professionals, and other foremost experts in opportunity zones.

Show Transcript

Jimmy: Welcome to the Opportunity Zones Podcast. I’m your host, Jimmy Atkinson. And, today, I’m joined by Jonathan Miller. Jonathan is founder and CEO of Parsonex Enterprises, a financial services firm that owns two retail broker-dealers, an SEC-registered investment advisor, and an advisory group and asset manager that manages alternative investment assets in real estate, including Opportunity Zones. Jonathan joins us today from his home office in Parker, Colorado. Jonathan, thanks for joining us, and welcome to the show.


Jonathan: Well, thank you so much for having me, Jimmy. It’s a pleasure. And I know that with everything going on in O Zones, you’re staying very busy on your website and on the podcast, and you’re doing a great job. So, thanks for having me.

Jimmy: I am. I’m doing my best, and you’re welcome. And thank you again for joining us. Today’s episode I want to focus largely on… Well, we’re gonna cover a wide range of issues, but first, let’s start by focusing on fees and fee structures that investors deal with when they invest in Qualified Opportunity Funds. So, Jonathan, what should investors expect to pay in fees to their Qualified Opportunity Fund managers?

Jonathan: That’s a really good question and, unfortunately, hasn’t been standardized yet, I think, in the Opportunity Zones space. But I can relate it and can tell you that we’re seeing things all over the board out there. But at least on the real estate side, almost all of the funds that are out there are development or redevelopment funds. And so there is, I would say, almost some industry-standard fund structures that exist in different variations of those for developers that have gone out and gotten financial partners in the past.

And then you also have maybe just normal private equity-type fund structures. And I think the interesting thing is that you have…sometimes, in some cases, those are overlayed in the…You have a financial fee structure, and you have a developer that has a fee structure, and those two are interacting to create a product for investors. And so it’s really important that investors pay attention to what they are being charged.

A couple of things I would point out is there are front-end and back-end fees for every investment that folks are going to do. And a lot of the development fee structures, because they’re developing real estate, has a lot of upfront fees. So, you’ll have a management fee that’s paid to a fund manager, you’ll have development fees, construction management fees. You’ll have just a variety of fees. And the thing that’s important for investors to understand is all of those things come off the top, right?

Those are the fees that are being paid, whether it is a successful project or not a successful project. And then you have the back-end fees, which are referred to as carried interest or promote where a developer or a fund manager wants to take a portion of the profits if they perform at a certain level. So, typically, if they exceed a benchmark, then they’re gonna get a share of the profits. And I think as we’ve discussed getting ready for this show when we met in Las Vegas at the Opportunity Zone Conference is the fact that most people I think don’t fully understand the fee structures that are inside of these funds.

And it’s extremely important because I have no problem with fees, and I think most people understand that paying good fees for good service or good value should happen in our economy and in Opportunity Zone Funds. But understanding how much of the profits are going to ultimately make their way through to the investors in these types of funds, that’s very important. And, there are a lot of layers that make it sometimes difficult to easily discern that for investors.

Jimmy: Yeah, I absolutely agree with you there. And I want to dive deeper into this discussion of fees in just a minute. But before we do that, I want to back up for a second and get your background, Jonathan. Can you tell us a little bit more about yourself and how you got to where you are today?


Jonathan: Sure. So, I’ve been an entrepreneur my whole life, and I’ve been a registered representative with a couple of different broker-dealers. In 2006, 2007, we actually started what is now Parsonex. We have a couple of different broker-dealers, an SEC-registered investment advisor, about 50 reps across the country, 10 offices, and I’ve also been a 1/6 partner in an asset management firm for what you would call a small family office, a multi-family office, and I’m a 1/6 partner there.

And we’ve invested in commercial real estate, in oil and gas projects, but as ourselves, as principals, not through a fund structure. And so, we have some alternative asset management expertise in real estate, and then that has led us to become more involved as Opportunity Zones and the opportunities that exist within those zones. That became very apparent, so we’re actively advising a lot of people and players in that space.

Jimmy: Good. And getting back to the fees now, do you have a range of numbers you can give me in terms of what investors can pay, both on the front-end fees that come off the top and the back-end fees, the promote and the carried interest fees? What typical percentages, a range of percentages are you seeing?

Jonathan: Wow, that’s a hard question because they are all over the board, but I can just tell you in general. I’ll give you a few different categories of fees. So, first of all, if you look at just the distribution of the investment product itself, I would tell you that institutional investors typically are not paying commissions or any fees when they’re going into products, right? Because they’re buying…institutional investors are typically direct sourcing through managers deals in the space.

So, they’re not typically paying upfront fees, maybe a 2%, what’s called O&O, organization and offering expense. But then you would have the products that are sold through broker-dealers, and the fees there would probably range between 7% to 12% upfront off the top just for distribution fees. Now, let’s just take 10% as a number. That means that if you are investing in a product that pays a commission, 90 cents of every dollar is actually going to the fund.

Now, before people think, “Oh, my gosh, this is the worst thing ever,” that’s just the distribution model that exists. They might not have heard of that opportunity if it wasn’t for the broker or the investment advisor that recommended that product to them. So, that’s really a cost of distribution to the funds, but it’s a significant cost.

Then you would have typically a management fee, and the industry-standard typically is 2% management fee, but that management fee can be charged in a variety of ways. You can have it on the invested dollars. That can be gross or net invested dollars. It could be off of the assets managed, but does not include the debt that was taken, you know. So, the point is there’s lots of complexities around every fee that’s charged, and all those would be disclosed in offering documents. But understanding those, it is very pertinent to someone making a decision to invest in a fund, in my opinion.

So, you have your distribution costs, then you have your asset management fees, which, like we said, is around 2% annually. But then in a development fund, you have another set of fees. And what is typical, I’m not saying it’s right or wrong, it’s just typical is you’ll see an acquisition fee to purchase projects. You’ll see a disposition fee, you’ll see loan arrangement fees, you’ll see development fees, construction management fees, all of those add up.

And at the end of the day, it’s just making sure there’s a clear understanding of what those fees are, who’s getting those fees, and the economics of the deal have to make sense in spite of all those fees. To reference another industry, if you look at mutual funds and ETFs, there’s a reason that ETFs and index funds like Vanguard are so popular these days. And that’s because they have said, “Hey, we don’t think that most active managers can outperform, so why have all those extra fees? We’re just gonna offer a very low-cost product to the marketplace.”

And, again, I’m not saying that that’s the way people should or shouldn’t go, but it is…The economics of how much flows those types of funds have received proves that people do value paying less in fees because it ultimately comes out of their investment dollars. So, no problem with fees, it’s just you have to understand what you’re paying, who’s getting it, and, at the end of the day, how that affects your economics of investing into a particular deal.

Jimmy: Right. What is the average…? Or maybe you can go through the average and the best-case scenario and the worst-case scenario. What percentage of the economic gain of the fund are investors typically getting back after they pay into the fees?

Jonathan: It’s so hard to say averages. And, in fact, I would refer you to, like, the due diligence firms like Buttonwood, or FactRight, or Mick Law. Because in the broker-dealer in RIA space, those guys probably see a lot more deals and know what the range of fees should be. I would tell you a lot of development deals that are out there typically would have a structure where, and this is outside of Opportunity Zones, just you’d have a development structure where the developer is, you know, having delivery guarantees, signing off on a lot of the risks, and performance guarantees saying, “We will complete this project.”

And then the financial investors, in a development deal, would typically get some sort of a preferred return, all their money back, and then there would be a split beyond that with the developers, and it’s probably a 60/40, 60% to investors, 40% to developers, maybe 50/50. Again, these are all negotiated, and there’s not a pure standard structure, but it would be 50/50, 60/40. I’m sure there’s plenty that are outside of those ranges after paying all the investors’ money back, and a preferred return would be somewhat typical. Does that answer the question?

Jimmy: Yes, it does. So, what I was trying to get at is, you know, investors are providing all of the equity, all of the capital into these private equity funds. And specifically, I want to kind of focus on Opportunity Zone Funds here, but they’re only getting maybe 50% of the economic gain, whereas the fund manager is taking quite a bit in fees, you know, and possibly rightfully. So, I’m not saying that’s problematic, and he’s taking on a lot of risk to himself as well, but just wanted to drive that point home that investors should just be aware of what they’re paying in fees, obviously, and what percentage of the economic value they’re actually deriving from the fund. Is that correct?

Jonathan: Yes. So, a couple of things that brings up is, first of all, the investor should always…outside of the fees to operate, which would be like a management fee and the project construction and development costs. But all those fees are top-line fees, meaning that the developer gets paid those fees, the asset manager gets paid those fees, whether or not the fund is successful. And, there is a reasonable amount that needs to be paid in order for people to successfully operate.

But beyond that, the investor should be expecting, in my opinion, all of their money back, a preferred return, and then a split of the excess beyond that, in general terms. One of the things you brought up is I think a lot of people are entering this space and saying, “Well, developers…” We had an example of this where we came across this, and somebody had come to us and said, “Hey, well, I have this land I own, and I would like to develop it. It happens to be in an Opportunity Zone. I’ve heard the developers should get a 60/40 split.”

And the answer then comes back, “But you’re not a developer.” And they say, “Well, I could be a developer.” And that I think is part of the challenge with the rush into the Opportunity Zones is that everybody all of a sudden is a developer. And if you’re working with… You want to make sure that you’re working with good fund managers, good developers with a track record that have had success in developing the types of assets they’re attempting to develop doesn’t mean that someone with less experience can’t be successful. It does mean that if you’re an investor, you’re taking on a significant more risk by working with someone who is unproven and doesn’t have a track record in the space.

Jimmy: Right. And I will ask you about that a little later on in the program. I’ll ask you about the gold rush into Opportunity Zones and any problems that you’ve seen come about as a result of such a rush. Jonathan, when you and I met at the Opportunity Zone Expo in Las Vegas a couple of months ago, one of the first things we talked about was you introduced a new concept to me, which was the double promote issue in Qualified Opportunity Funds. Can you explain for our listeners what you mean by double promote, and what do investors need to be aware of?

Jonathan: Yeah. So, double promote would be one way to refer to the fact that there’s two structures on top of it potentially in a Qualified Opportunity Fund. So, we talked about how developers would have a split. So, a developer, let’s say as a shovel ready project, and they would like to get investors and maybe pay an 8% preferred return all the money back and then split everything after that 50/50. That would be, I think, a fairly typical ask from a developer.

What happens is you then sometimes have funds which are the financial structure saying, “We will invest in Opportunity Zone projects,” and they want to go and become the limited partner for that developer. So, they say, “Oh, you’ll pay us 8% and then give us all our money back plus 8% plus 50% of the profits.” They underwrite it, they say, “This is a good deal.” The challenge for the end investor can be that that fund itself might have its own fee structure.

So, in addition to what the developer has as part of the deal, you can have the fund structure saying, “Well, we’re gonna do, in private equity, a 2 and 20 deal where we’re gonna pay a 2% management fee in the fund. And then after we pay our investors in the fund, the financial side of it at 8% return, then we’re gonna take 20% of the profits on top of that.”

Well, in that case, you have the developer creating a structure for the deal, then you have the financial structure that’s investing in that deal, but the end investor can sometimes be getting hit with layered fees. And so, that’s what I meant when I think we were talking about the double promote is that the promote would be a carried interest. The developer gets a carried interest, the fund manager gets a carried interest. And, again, I’m not saying yay or nay, I am saying I don’t think that’s abundantly clear to all investors, and it should be.

And it’s something that when you’re investing in Opportunity Zone Funds, it’s critical that folks are understanding, “Okay, if this is a great project, and I want to invest in it, or a multi-asset fund, what percentage of the dollars, if it’s successful, go to me?” Because you don’t want to say, “Hey, if it gets 20 times, if it has a 20X on the project, then I make money?” That’s probably not a good deal, right? It needs to make sense in what would be realistic for that real estate market.

Jimmy: Right. And if you’re paying a promote kind of twice, right? It’s layered because the fund is paying a promote to the developer, but then the limited partner, the investor, the retail investor, individual investor is paying a promote to the fund manager. Yeah. Those fees start adding up. And we’re not saying this is definitely right or wrong, but we’re just advising that investors be aware of this and thoroughly read those PPMs, right? Is that where they can find out more information?

Jonathan: Yes. Or talk to their investment advisor or whoever is representing the product to them. Jimmy, I think, in talking about this, I’m gonna have to steal what you just said because that probably is the clearest way to say it, is that the fund is paying a promote to the developer, but then the limited partners in the fund are paying a promote to the fund manager, and thus it can dilute the returns to the ultimate investor.

Jimmy: Right. Right. Absolutely. So, what is in different fund structures and fee structures that you’re seeing? What does a typical Qualified Opportunity Fund actually look like? How is it structured?

Jonathan: Whoa, that is a loaded question because it really has been all over the place. In fact, when we were advising on this and having to make some decisions and recommendations on this, it was very difficult to benchmark the market because we really are seeing structures all over the place, especially because you have a lot of non-sophisticated entrants into the market who are saying, “Hey, I’ve never done a fund before. I’ve never managed assets. I’ve never been a fiduciary before, but this fund thing sounds great.” So, I think it really is all over the place on how it’s structured, which makes it that much harder for investors to evaluate.

Jimmy: Right. Right. And that kind of brings me to my next question then. For an individual investor, he has a few different options, just individual retail investor. Should he buy through his broker-dealer or his RIA, or should he invest directly into these funds? Some funds have set up websites or phone numbers you can call, where you can invest directly. Other funds are only available through the broker-dealer channel. At the investor level, though, at the individual investor level, what should he do, and what difference does it make, whether he invest directly or through his advisors, broker-dealers, RIAs?

Jonathan: That is a really good question. As the CEO of Parsonex Enterprises, the parent company, we own two broker-dealers and a registered investment advisor. I definitely believe that people should work with a financial professional who’s advising them, but let me give you a little more context to that answer. It’s not just a self-serving answer in this case because, first of all, I want people to participate and invest whatever works for them. And I think there’s these new rules that came out several years ago that allow broader distribution of private investments.

I am opinionated. I believe that, for most people, really, they should be accredited investors and sophisticated investors that are looking at investing in a private Opportunity Fund. I know people are gonna probably say, “Oh my gosh. What if I’m not that, and I want to invest?” I’m not saying you can’t, but I’m saying there’s reasons that it traditionally has been accredited and sophisticated folks that are going into these programs. The first thing is there is a complete lack of liquidity.

In a real estate or any sort of investment, in order to get the biggest tax break, which is the 10-year step up, the tax-free gain, which is arguably one of the greatest tax breaks we’ve seen in a generation, if it’s done properly, somebody has to hold for 10 plus years, so let’s just say 12 years. That’s a long time to hold any sort of an investment, even if you are an accredited and sophisticated investor. So, someone would have to have enough liquidity. They would have to have then also the sophistication, the ability to underwrite the assets.

So, what happens in, like, the family office space or with institutional investors is you’ll typically have a family office that maybe, let’s say, has a half a billion or $1 billion. They are running their own RIA. They have a president that manages or executive team, and they have CFAs that are managing their wealth, and they can go look at individual deals very easily because they have the sophistication to do that.

I think your normal retail-accredited investor, I would argue that unless they have a real estate or an investment banking background, they probably aren’t gonna underrate the asset, or the fund, or the fund managers with the level of due diligence that you would really need to in order to, one, understand the risks, and two, understand the economic upside that is achievable, and all those sorts of things.

So, I think that in this space, broker-dealers and RIAs can and should play a very significant role, unfortunately, because the RIA industry moves slow. I think a lot of broker-dealers and RIAs have been very slow to enter the space, and they’re really behind a lot of them right now because we’re entering the second half of 2019 with, you know, the 15% tax incentive or reduction of capital gains on the investment used to put into the fund will be expiring at the end of this year.

So, I guess what I’m saying is I think that they need to get on board fast because it is a tremendous benefit for the right clients in the right proportion. You don’t put all your portfolio into a non-liquid investment no matter how good the tax breaks are. So, I just think that there’s a level of sophistication when people are investing in Qualified Opportunity Funds that is needed that an educated financial advisor, or registered representative, or registered investment advisor can provide to clients that more than likely, unless they’re just totally into it, they wouldn’t be able to, from a time or expertise standpoint, provide for themselves.

So, hopefully, that’s not too long of an answer. So, I believe, yes. If you have the ability to go through a qualified financial representative, investment representative, that retail-accredited investors will be well-served because they’ll be making better investment choices, hopefully, than going direct to a lot of funds. Because remember, a fund, if you go direct, they have an incentive to sell you that particular investment, whereas a registered representative, hopefully, has access to a lot of investments, and RIA is a fiduciary saying, “This is what I think the best investment is for you.” So, I am a huge advocate for financial advisors in the industry who care about their clients and want to do a great job.

Jimmy: No, absolutely. That sounds great. That answer makes perfect sense to me, especially with complex financial instruments such as Qualified Opportunity Funds, the level of due diligence that is needed. I mean, this is kind of a different beast than publicly traded ETFs, or mutual funds, or stocks, or bonds. This is something that requires a pretty good amount of sophistication and expertise to invest in. But, at the same time, you admitted that some of these financial advisers, these broker-dealers, RIAs, are kind of a little bit behind the curve, and the clock is ticking here.

We’re less than six months away from the 15% step-up expiring at the end of 2019, and there’s a little bit of a rush to get on board. What’s been the biggest challenge for these RIAs and broker-dealers in getting onboard? Has it been regulatory, or risk, or how they’ve…? Are they struggling to figure out how to earn a commission and wrap these into their investment management portfolios effectively, or what exactly is the issue there?

Jonathan: Well, I think the real issue… No, I think all of those mechanisms exist. I’ll make a side comment on that. Most of the products would never make it through due diligence. So, if you look at the…I hate to generalize. But if you look at all of the different “Opportunity Funds” that have been launched, I would venture to guess that 90-plus percent of those funds, I could be totally off on that number, would not stand up to the scrutiny and due diligence that a broker-dealer or a registered investment advisor would go through with that product or that sponsor.

So, therefore, you would not have those folks selling through broker-dealers and sponsors, but rather direct sourcing capital and selling it themselves. I think the real holdup in the financial advisor side is that due diligence is something that with all of the good in large firms especially is taking very seriously. And they’re not just doing due diligence on the product structure, they’re doing due diligence…I know you had a guest a couple of weeks ago that was talking about this, doing due diligence on the sponsor, who are the people that are managing it?

What’s their experience? What’s their track record? Of course, nobody has a track record in Opportunity Zones, but maybe with previous real estate track record. So, due diligence is something that takes a long time, especially with new sponsors in most broker-dealers and registered investment advisors. And we don’t have a long time obviously til the end of the year, so it’s tougher because due diligence and compliance departments want to make sure that they’re doing their job, and they should be very cautious about what they approve for their reps to sell to clients.

And there’s a little bit of time pressure now because the regs, in my opinion, really just got a lot clearer in April, right? And we have the hearing coming up soon, but it has gotten clearer and clearer exactly how these things are gonna work. But then that leaves us with, as we’re getting clarity, we’re already mid-year and funds are just starting to launch, and there’s a whole process you go through with broker-dealers, from a due diligence review standpoint, that just takes time.

So, I do believe there’ll be a lot of firms that will expedite that due diligence process, not in terms of cutting corners, just in terms of having to dedicate more personnel hours, or time, or money to conducting due diligence and to find some really good funds that their clients can then utilize in their portfolios. Because done properly, done with a company that can manage the assets well, so strong investments are the underlying…they have to have good investments in Opportunity Zones, but secondly, they have to be able to qualify as an Opportunity Fund over a 12-year period.

They’re gonna have to meet all the asset tests. They’re gonna have to distribute according to all the right rules. They’re gonna have to make sure that they don’t disqualify from some of the benchmark tests. There is a sophistication to running and managing a Qualified Opportunity Fund that just somebody has to have. So, very important that it’s not just…it’s the two together that need to exist in order to create this great tax benefit for investors in the end.

Jimmy: Right. I got you. I got you. Yeah, it’s a difficult balance between doing the proper amount of due diligence and beating this ticking clock and making sure that your clients, the investors’ dollars get in before some of these benefits expire.

Jonathan: And the one general advice I would just give everybody, as awesome of a tax break as this is, don’t over-allocate to Qualified Opportunity Funds. Let’s say somebody bought a house for $1 million, and they sold it for $5 million, okay? They’ve owned it for a long time. That’s a $4 million gain. I would never, in my opinion, recommend that someone take $4 million just to avoid paying a capital gain and put it all into a Qualified Opportunity Fund if that was all of their net worth, right? It would be very, very risky to do that.

So, I think using common sense, using the advantages, the tax advantages, and the investment opportunities that exist in the space as part of an overall financial strategy is extremely smart and extremely advantageous. And if people who are listening to your podcast haven’t looked at that, they should talk to their advisors or find an advisor who can consult them in this area.

Jimmy: Absolutely. Getting back to broker-dealers and RIAs now, what should broker-dealers, and wirehouses, and RIAs, independent advisors, what should they be aware of when considering funds for their platforms or when considering funds for their clients? And I think you’ve gotten into some of these issues already a little bit, but if you can just further expound.

Jonathan: So, to me, there’s two, maybe even three, but two critically important things. The first thing is, can the person or the people that are behind the entity, the entity or the people behind the entity, can they successfully run a business for 12 years that is heavily compliance-centric in a dynamic environment? Is the rules are still getting clear? Do they have experience in running a compliant organization in a federally-regulated environment as a fiduciary for 10 years plus? I guess you could say, “Well, maybe they can. We think they can.”

So, I think looking at the person or the company that’s bringing the funds to market, the fund sponsor, I guess, I would say, can they do those things? Because if you can’t do those things, the tax breaks are relevant because you’re gonna blow the tax break for the investors. And so, it’s critical that those things happen from a compliance and operation standpoints over, not a 1 year, or 2 year or 5-year period, but over a 10, 12-plus-year period. That by itself needs to be underwritten, in my opinion.

The second thing then, of course, is the investments themselves, right? Or let’s say it’s a diversified fund where they’re gonna be buying several investments. You might not know what the assets are. What’s the history and experience of the investment managers? At Parsonex, that’s one thing we look at through our investment advisor that advises Opportunity Funds. We have a couple of guys who’ve done about $11.5 billion dollars of commercial transactions that are part of the underwriting team there.

So, it’s really important I think that people are looking at that, and not just saying, “I think I can be successful because this looks awesome and it looks like a new space,” but rather they have demonstrated that they’ve been successful on the investing side in real estate and commercial transactions. And then, of course, the third thing we’ve already talked about, it would be the fund structure.

So, I think if you have due diligence on the sponsor and their ability to successfully run a Qualified Opportunity Fund as a fiduciary, the second thing then the investments themselves, or the experience and track record of the investment manager. And then the third, of course, is then the fund structure. And part of the investment evaluation, of course, is the developers they’re working with. Because, in a development fund, development is the big risk factor. So, having proven developers in a particular market with particular expertise in that asset class, very important.

Jimmy: Right. So, who is on the team? What type of experience do they have? Are they capable of handling all of the compliance issues and running a business successfully over a long timeframe? Now, I think those are all good things to look at, and it kind of brings me to my next question. You know, Jonathan, you’ve been traveling a lot over the past few months, going to many different conferences and other events. How would you characterize the gold rush in the Opportunity Zones? What have you been seeing?

Jonathan: There definitely is… A gold rush is a good… A good way to say, it depends which conference you go to. I was at the IMN conference in New York last week, which is the Information Management Network. It was an alternative investment conference. I was on a panel there. Then the week before, I was at the Institute for Portfolio Alternatives in Chicago. It was like a registered investment advisor conference.

Those are usually buttoned-down events. You got folks in suits, you know. They’ve invested in alternatives. They have affluent or family office money that they’re representing. And then you have some of the other conferences where it’s like it’s generated such interest, which can be a great thing where everybody is just learning about Opportunity Zones, and either they own property, or they have the ability to get property, and they’re just excited about it.

They’re like, “Wow, this seems like a great thing,” and that’s good, by the way. But I would say that just because someone owns property in Opportunity Zone or has a “deal,” it doesn’t mean it’s a good deal. But then people who then want to be successful and maybe they’re already doing a property, you know, work with the professionals that out there, work with, you know, the folks that bring the necessary expertise and experience in order to distribute funds, in order to manage funds, all those sorts of things.

I think that there’s so much excitement about it, which is why your show has been so successful and why people are just a buzz around the industry. And, I actually think that’s a great thing. But I think that it just then adds to the caution that we’ve already given on here, that make sure you’re asking the right questions, you’re getting to know the people behind it.

And I think what happens in a gold rush scenario is people tend to say, “Oh, my gosh. It’s an Opportunity Fund,” or, “It’s an Opportunity Zone project.” Of course, it’s gonna make money, and it’s like, “Well, it might,” but it might not, which is why you need underwriting, and due diligence, and all those, sort of, things.

Jimmy: Right. Absolutely. No, a lot of excitement here in this space, especially early on a lot of people rushing into it. And like you say, I think that’s a good thing. But if you’re a potential investor, just make sure you do your proper due diligence, and know who you’re writing those checks to, and make sure that they have the expertise and the experience that’s necessary to run one of these funds properly.

Jonathan: I’ll give you a great analogy. It’s like the Amazon effect, right? So, you know, when Amazon announced that they were gonna be having, you know, their corporate headquarters outside of New York, and I didn’t follow this, but I’m sure this is what happened. Of course, everything would have spiked in that area. Every property owner in that area would have said, “Oh, my gosh, Amazon is moving here.

No. The deal we were talking about doing the last week, that’s off the table. I need to double the price to sell.” Of course, then things changed, and then Amazon said, “Yeah, you know what? We’re not gonna open up our headquarters in New York.” And so, probably within a week of that, there was a fire sale of assets that now no longer had what they were asking a week prior.

And so, you have a little bit of that in the Opportunity Zone space, and I will say it will normalize itself here in that you’ll have…If somebody wants…Developers are looking for sophisticated capital that can provide them, you know, the support and the relationship to do what they do, which is development property owners. Yeah, they’re gonna probably get a premium right now for the properties they own in some of these areas that are attracting a lot of dollars.

But at the end of the day, I would just caution people to go out and do a good job, right? If people get too greedy in this space, and so they’re trying to…You know, it just doesn’t work. People need to use common sense and proper due diligence if they want to succeed and build good long-term relationships, they want to succeed I think in this space.

Jimmy: Right. No, I agree completely, and I think that’s what it’s all about. We’ve been speaking largely about fees that investors can expect to pay so far throughout the course of our conversation today, and, a little bit, we got into due diligence too. I want to shift to the fund side now just so investors are aware of how expensive it is to start a fund, and so possibly any potential fund managers or real estate developers who are considering starting a fund might get a better idea of what it takes. On the fund side, how much can a fund expect to pay in starting costs, and how much does it cost basically to get a Qualified Opportunity Fund off the ground the right way, and what is needed exactly?

Jonathan: It’s a great question. If you look at a typical investment structure, let’s say it’s a $50 million raise, you’re gonna have one-and-a-half to two-and-a-half, let’s just say 2% organization and offering expenses on a $50 million fund. That means it’s $1 million to start a $50 million fund. So, if it’s $100 million fund, it could be the same thing. And some people say, “Well, I only have 1% of organization and offering expenses.”

Okay, 1% of organization and operating expenses on $100 million offering is $1 million that it would cost to start a fund. And people say, “Well, how can it be so expensive?” Well, the first thing is if you’re gonna get great legal work done, it’s not about just drafting up a PPM. I mean, there’s complicated tax regs that need to be addressed. You know, doing a good offering document is gonna cost $75,000, $100,000 just to get the legal side of it done properly, in my opinion.

You would then gonna probably spend another $50,000 on due diligence reviews. You’re gonna have initial capital necessary for investing or tying up deals, not to mention making sure that you have your team in place for your investment managers, your development partners. There’s the marketing side, you know, that can get very, very expensive for new folks or new sponsors to enter the space because, ultimately, people want to work with people that they like and trust, but they have to know them before they like and trust them.

So, it’s not like you just go out and say, “I want to start a fund, and please give me money.” At least not in my experience. You never know when you have these gold rushes like you said. But that’s not the way it works. You have to build relationships, get to know people, be known in a particular segment or space, and that just takes time. It doesn’t happen overnight. So, bottom line is I would say that 1% to 2% of the offering amount people want to raise is probably your startup costs.

And we’ve had a couple of experiences where we referred some folks who were talking to us, they said, “Hey, can we start our own Qualified Opportunity Fund?” And we referred them to a law firm that we work with, and that they’re a very well-known law firm and expensive and…or appropriately priced, I would say, but they said, “Well, I thought you could start a fund for $20,000.” And we said, “No, that’s probably not the number that it’s gonna cost you to start.” I think our actual response was, “Well, good luck with that if you think you can start a fund for $20,000.”

And so, the answer is it just costs some money upfront, and you do need to make sure that you do things right. Because, again, if you don’t structure it right up front, if you don’t run it right throughout the 10, 12-year period, and then if you don’t exit right, all of those things done improperly can blow what is otherwise this amazing tax benefit for investors. And so, there needs to be a certain level of sophistication to the operation, and that does start with launching it from at least some sort of a position of financial strength.

Jimmy: Right. Yeah. So, well, thank you for providing the specifics on those numbers there. That’s not for the fainthearted then if you want to start a Qualified Opportunity Fund that’s gonna be raising some serious capital from outside investors. There’s a lot of personnel costs, a lot of legal costs, a lot of marketing costs that you need to consider.

Jonathan: And can I give one caveat to that if it’s okay, Jimmy? One caveat to that is that, per the legislation, it defined, like, individual deals. Like, if you a project in an Opportunity Zone, the structure being used is, they’re calling them Qualified Opportunity Funds, but it might not be what we think of as a typical fund structure. It could just be a deal that is called a Qualified Opportunity Fund. And, in that case, maybe that’s different financial metrics, but it’s still probably a fair amount of money, but it might not be, like, on the high-end of what we were just talking about.

Jimmy: Oh, yeah. No, I think you’re right. I think if you’re doing maybe just a one-off deal and maybe you’re not raising outside capital, maybe you’re just doing a friends and family type of deal, then you can probably get away with much lower costs to start. So, maybe, in that case, $20,000 would get you off the ground just fine.

Jonathan: Make sure your listeners know that if they’re doing friends and family, they got to live with this decision for at least 12 years or so. It could make for awkward family barbecues if it doesn’t work out.

Jimmy: Yeah, that’s a very good consideration to keep in mind. Absolutely, Jonathan. So, with all these costs that we’ve discussed, are there any other challenges in launching a Qualified Opportunity Fund? Or what would you say is…or what do you think may be the biggest challenge in launching a Qualified Opportunity Fund?

Jonathan: It’s creating a team, either through direct employees, independent contractors, developers, or partners. It can be law firm partners. I think you had some fund administrators on your program. It’s putting together a team that has the necessary sophistication and knowledge to be successful in this space. I think that’s the real challenge because, even for folks who know it really well, there are a lot of different complexities that it exist in…that I don’t think people are always aware of.

I’m not a tax expert, but even if you look at the tax implications on the real estate side where normally, in a real estate fund, you have depreciation recapture. So, if people are getting tax deductions throughout, you know, owning, they’re getting depreciation passed through as an investor in real estate fund, normally, when it’s sold, that is recaptured and taxed as ordinary income. But my understanding of it is, and talk to tax professionals on this, is that depreciation recapture is part of the capital gain that is then tax-free if it’s for 10 years.

So, I mean, there’s a lot of intricacies to some of these things that done properly can be enormously advantageous for investors, but then improperly could blow it up. So, I think it’s just putting together a team that knows the space, knows all the different areas that you have to be successful in, and, again, that are people that you want to be in business with, that have a track record, and that can deliver on what they’re talking about doing.

Because the strange thing in this entire market is given as such a long timeframe, people are gonna be long and gone before the verdict is in on all of this, right? I mean, 12 years, there’ll be people that’ll have retired or moved on to different careers. It’s going to be a…12 years is a long time. So, just putting together a team that can execute in all the different areas we’ve been talking about.

Jimmy: Yeah. It is a long time. Definitely, a long timeframe holding these Qualified Opportunity Funds, and there are so many different intricacies to be aware of and so many different expertise is needed. So many different areas of expertise are needed. At the end of the day, it is all about the people, right? And making sure you’ve got the right team in place. I agree. Jonathan, this has been a pleasure speaking with you today.

I think we’ve covered a lot of good ground here. I think this has been a good episode for our listeners. You know, we covered some of the different fees in a way that we haven’t previously on this program, so I hope the listeners out there appreciate the efforts that you’ve gone to divulge some of the fees here on our podcast day. So, thank you. Before we go, where can our listeners go to learn more about you and Parsonex?

Jonathan: Well, I’m the CEO of Parsonex Enterprises, but I would say that if they’re interested in what we’ve been talking about, pxcapgroup.com is probably the website that they want to go to because that’s our alternative investment group that advises in this area. The main website is parsonex.com, but that kind of links to a few of the different companies that we own.

But I would say, yeah, we’d love to chat, and we love networking with great people, so whether it’s people that are looking for advice on what funds are out there, or whether it’s people with great real estate projects that they want to talk through. We love being active and connected in the space. And I think you’ve done a really good job, Jimmy, with your podcast and the website of just really bringing relevant and important information to what is a new area and a very important area in the real estate market.

Jimmy: Thank you for the kind words, Jonathan. I’m doing my best and having fun at the same time. So, it’s my pleasure to do it. For our listeners out there, I’ll have show notes for this episode on the Opportunity Zone’s Database website. You’ll find links to all of the resources that Jonathan and I discussed on today’s show, and you can find those show notes at opportunitydb.com/podcast.

Jonathan, again, thank you for joining me today. It’s been a pleasure.

Jonathan: Thank you so much for having me.

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