What are the five most impactful changes in the final IRS regulations on Opportunity Zones? And what’s the true story behind the Opportunity Zone designation in Storey County, NV?

Daniel Kowalski is counselor to Treasury Secretary Steven Mnuchin and led the Treasury Department’s efforts in issuing regulations on Qualified Opportunity Funds.

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

Episode Highlights

• Why the regulatory process took so long.
• The five most impactful changes made between the proposed regulations and the final rules that will make the incentive more usable to both communities and investors.
• Why there isn’t (yet) a clearly defined threshold for failing the 90% asset test at the Qualified Opportunity Fund level.
• Triple net leasing in the context of Opportunity Zone investments.
• How Storey County, NV was designated as an Opportunity Zone, even though it initially appeared to not meet the statutory criteria for nomination, per CDFI Fund nominating instructions.
• The pending investigation into the nomination process by Acting Treasury Inspector General Richard Delmar.
• How Treasury and the IRS will collect and report on investment data at the census tract level.
• Treasury’s $100 billion estimate for Opportunity Zone capital raising, and whether Qualified Opportunity Funds are on pace to hit this estimate.
• Opportunity Zone trends anticipated in the coming years.

Featured on This Episode

• Daniel Kowalski
• Dan’s first appearance on the Opportunity Zones Podcast
• IRS issues final regulations on Opportunity Zones
• IRS Rules in the Federal Register: Investing in Qualified Opportunity Funds
• Opportunity Zones in Nevada
• Reno Gazette Journal article on Storey County designation as an Opportunity Zone
• CDFI Fund Nomination Tool and Instructions
• The Hill: Treasury watchdog to investigate Trump opportunity zone program
• American Community Survey (ACS)
• Senator Wyden letter to Secretary Mnuchin
• Treasury’s response to Senator Wyden’s letter
• Letter enclosures to Treasury’s response
• IRS Form 8996
• Bisnow: Opportunity Zone Investment Soared in December
• Community Reinvestment Act proposed regulations
• White House Opportunity and Revitalization Council

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.

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Show Transcript

Jimmy: Welcome to the Opportunity Zones Podcast. I’m your host Jimmy Atkinson. Last week, IRS final regulations on Opportunity Zones were published in the Federal Register, and they officially go into effect in March of 2020. Today’s episode will focus mostly on the regulatory process. And there’s no better person to discuss this with than my guest today, senior Treasury official Daniel Kowalski.

Dan reports directly to Treasury Secretary Steven Mnuchin on a variety of domestic policy issues. Most importantly for our purposes today, Dan is the secretary’s lead on Opportunity Zones and has led the department’s regulatory efforts. Dan first joined me on the Opportunity Zones Podcast back in April of 2019 to discuss the proposed regulations. And today, he joins us again today from his office in Washington, D.C. to discuss the final regulations and the path that we took to get to this point. Dan, thank you for joining me again and welcome back.

Dan: Thank you, Jimmy. It’s a pleasure to be with you today.

Jimmy: Pleasure to be with you as always, Dan. Thank you. So, first of all, overall, Dan, I wanna commend you and your colleagues. I know this must have been an incredible amount of work and under a pretty good amount of scrutiny as well, a lot of eyeballs watching what these regulations were gonna turn out to be. But in the end, these regulations clarify a lot of uncertain issues and provide some much needed additional flexibility.

Overall, they’re very taxpayer-friendly, which is a good thing. I’m hopeful that these final rules, having them finally in place should help unlock a lot of capital and be good for the program overall moving forward. And pretty much everyone I’ve spoken with, almost everyone in the opportunity zone world seems very happy with these regulations. But, of course, there are maybe a few sticking points. And firstly, and forgive me, I do jest somewhat when I ask this, but Dan, what took so long?

Dan: Well, there was a lot of work to be done, and I feel that Treasury and the IRS have accomplished a lot in the last two years. When you think about what had to be done over that time period, I think we made great time in getting the regulations to final in the two-year period. When you think of it, we spent the first six months since Opportunity Zones was enacted on the nomination and certification of tract.

Then it took us four months from that to get the first tranche of regulations out, some basic information about how do you go about setting funds up and doing the things that, you would need to do to begin to revitalize these communities. Six months after that, we put out the second tranche, more guidance. And then seven months since the second tranche, we reviewed the 307 comment letters that we received and really listened to what stakeholders were asking for in the regulations and got it through IRS review, Treasury Department review, OIRA review, and published in seven months. So I feel that we did a pretty good job there, and I think… I’m proud of it.

Jimmy: No. I would agree with you. I think you guys did a good job too. I know that the regulations were not finalized until December 19th, and that was less than two weeks before the 2019 year-end deadline to achieve the program’s full tax benefit. And, I’m sure you know, there were a lot of opportunities on participants who were frustrated by the rule-making process taking as long as it did. But I think possibly by IRS regulatory timeline standards, maybe you actually did pretty quick work on this. Was there a lot of pressure on you to get the regulations out in a timely fashion, and what was it like having to work under a tight schedule and under so much scrutiny?

Dan: I think a lot of the pressure was our own, really. We were very interested in being able to put guidance out for people who wanted to see it before they pulled the trigger on something that they were thinking they might do in 2019. And I believe that while the 19th wasn’t as soon as I would have liked, I would have liked more towards the beginning of the month, right, I believe that there was enough time for people to… for the specific issue that they might be concerned about to be able to consult that, the final regs and then, get the answer that they needed or see whether it was there or not. So while it was late, I believe that it fit the needs of those people who were interested in specific issues.

I have to say, I found it to be a great experience, the process of putting these regulations together. There are a number of people here at Treasury and the IRS who are committed to seeing this incentive work and a lot of good conversations about what changes needed to be made from the proposed based on the comments and other things that we have heard in order to, make it a better package in the final. So, a lot of long hours, maybe less for me than some other people who work here at Treasury and IRS. But all in all, I think it was a good product in the end.

Jimmy: Yeah. I agree. And I’ve had a hard time finding anyone who disagrees with that. So I wanna dive into the weeds a little bit now and discuss some of those changes between the proposed regulations, the two tranches of proposed regulations, and this final set of rules. What do you view as being some of the most meaningful changes that were made between those proposed regs and these final regs?

Dan: Yeah. I’d say there were say the top five, six, or so that I think are most impactful. I think the first one has to be the ability for QOZBs, for the subsidiary entity to be able to sell property and still be able to pass that capital gain up to the investor while receiving that 10-year tax benefit, was I think an incredibly important change and one that’s going to make people a lot more comfortable using the opportunity zone incentive.

Another one that I think is going to be particularly helpful is the changes we’ve made to the treatment of section 1231 business property. In our draft regulations, in our proposed regulations, we had said that 1231 gains were netted at the end of the year. Your 180-day clock started at the end of the tax year. Well, we changed that to say that really, you can use the gross gains from each sale and start the 180-day clock when you made the sale.

What that means and what I have heard from market participants was that the old rules cause people to lose interest in OZ when they have to wait till the end of the year, say they sold something in March and they had to wait till December before they would be able to actually invest in the OZ. You don’t want the money sitting around, you wanna do something with it, right? You wanna reinvest. And they were excited to do something with it at the time of sale. Now they’re gonna have the ability to do that. I think that’s going to make it a lot easier for people who are selling the family business, or a building, or something like that where they only have one big business transaction per year say, and they’re able to then convert it into an OZ investment in their community that’s gonna be beneficial and that they’re excited about. So I think that’s another one that’s going to be huge.

Aggregation. As you’ll recall, our proposed regs said substantial improvement had to occur on an asset by asset basis. And we changed that in the final regulations to say that aggregation was okay. In particular, we said that original used assets that can enhance the utility of the asset that needed to be improved could be aggregated so that it makes it easier for you to meet your substantial improvement test. And we give the example and the regulations of a hotel. It needs improvement, but you can’t double the basis into building alone.

But a hotel needs other things. It needs beds, it needs sheets, it needs towels, it needs televisions, it needs furniture. And all these things are new investment in the community and makes what might’ve been a threadbare property into something that’s inviting and that people will come to. Now you can count all of that for substantial improvement. And I think that will make a big difference for people who are concerned that it just takes too much cash to substantially improve a property in an opportunity zone. And now they have a way in which they can do other things to enhance the utility of the building and include that in the original use. So, I think that’ll be big.

We also did aggregation with respect to buildings on a single or adjacent plots of land. So think of the case of an office building complex. Say you had three buildings. One of them has been vacant for a while and there’s a need of a lot of improvement. One of them is in pretty good shape and ones in the middle. Well, now you can put more money into building where it’s needed, and less in the building where it’s not, and some across the three buildings in determining whether or not the substantial improvement standard has been met. And I think that’s gonna make it easier for people to do work in some of these zones as well. So I think that’s a big bang.

The changes we’ve made to vacancy I think are also going to be useful. In our proposed regs, we said a property had to be vacant for five years before it could qualify for original use treatment. We changed that in the final to say one year if it was vacant on the date when the zone was designated as an opportunity zone, generally July of 2018 for most properties or for most zones, and if it wasn’t vacant on the day that it was designated an opportunities zone three years down from five.

So this is going to encourage the recycling of properties that have been eyesores, have been underutilized, and encourage opportunity zone money to go in there and help revitalize those buildings. That’ll be big. I think the last one I’ll mention, we’ll be leasing. We said in our original regs that all leasing transactions have to be arm’s length and sort of certified as such. We’ve said, “Look, if it’s between unrelated parties, we’ll presume that it’s arm’s length.” That’ll make it a little easier to do the transaction.

And I think, more importantly, we’ve said that for state and local governments and Indian tribal government, if they want to do a below-market lease in order to encourage somebody to come in and do a development project on land that they own, that that’s okay. And so, this is gonna be a way for communities that have underutilized vacant property but no money can contribute their land through a lease and be able to essentially subsidize, say, low-income housing or workforce housing in these opportunities zones. And, I think that will over time become a very big thing too. So that’s a handful of the things that we did that I think are going to be really impactful in making the incentive usable and attractive to both communities and investors.

Jimmy: Yeah. That’s great, Dan. I agree with you.

So just to recap those five points that you brought up: One, allowing QOZB asset sales to qualify for the capital gain tax benefit for investors is big and will open up the ability or make investors more comfortable with forming multi-asset funds I think is one of the big implications there. Two, section 1231 gains, allowing the gross gains before it’s netted out to be invested in a more timely fashion. Three, you brought up aggregation of assets in terms of applying the substantial improvement test in certain cases, the hotel being a great example. Four, the vacancy rules were relaxed from five years to either one or three, depending on the circumstance. And then the fifth one was flexibility with respect to leasing.

So I think, yeah, all those points should help considerably make investors more comfortable with investing in qualified opportunity funds.

Dan: By the way, a good restatement there.

Jimmy: Oh, thank you, Dan. Thank you. I wanna ask you now about an issue that was brought up in the proposed regulations. Treasury kind of punted this issue to the final regs, but then it ended up not being addressed in the final regs either. And that that issue is that there doesn’t appear to be a clearly stated threshold for failing the 90% asset test at the qualified opportunity fund level. So I’ll ask you now, is there a failure limit, and at what point would a QOF that continuously fails the 90% test be decertified?

Dan: You’re right that we have not addressed the mechanics of what would happen in this case. We feel it’s very difficult to put a hard and fast rule down right now about at what point does failing the 90% investment standard cause you to lose your status as a QOF. The statute basically says as long as you say you’re a QOF, you’re a QOF and you pay a penalty. And what we need to consider further is, do we provide guidance?

At what point does the failure mean you’re no longer a QOF? And then, more importantly, what does that mean for the tax status of the investors’ dollars that the QOF has? And I think it’s that second part that’s particularly concerning because, well, say it’s four years into the QOF’s existence, you’ve been an investor from day one, do you have to go back and restate your income tax return from four years ago in order to say that you include the gain there?

So these are tough issues that need to be the thought through. I think there are concerns about, well, if you tell people what’s the line, then they’ll go to the line, sort of… Most people believe that, “Yeah, you can go 10 miles over the speed limit and you won’t get a ticket.” And so, you go eight or nine miles over the speed limit and feel that you’re okay. And we don’t really necessarily want to encourage that kind of behavior either, right? I mean, what we want is a QOF to make a good faith effort to meet its marks and be into the 90% test.

I think when you look at… We provided this cure period in the regulations for QOZB that may have failed to meet their 70% mark, that as long as they cure it within six months, it’ll be okay. So we’re trying to make it possible for people to not have purely technical problems with reaching their mark. And so, you know, you wanna kind of be able to separate out the bad-faith actors from the good-faith actors. And that oftentimes affects and circumstances kind of examination rather than a bright-line test.

Jimmy: I got you. So I would probably advise anyone listening to not challenge the IRS and the Treasury Department, not clearly run afoul of the 90% test for too long because your department does have a broad anti-abuse rule that can kick in, and you can go to any of these funds and decertify them at any point in time if it’s clear that they’re not adhering to the intent of the law. Is that correct?

Dan: That’s correct. And I think to state as the outset, we really haven’t seen what the variety of marketplace activity will look like to try and declare in advance what an abusive situation is may just be inviting more of it, right?

Jimmy: No. I understand you. Yeah. So that omission of a bright-line test was done purposefully, and perhaps at some point down the road, you will clarify with some additional guidance.

Dan: I think that’s right. I think there is no schedule for addressing that because it’s not something that somebody operating within the spirit of the OZ incentive really needs to know, right? But as we get more experience with QOFs and what QOFs are doing and how they’re structuring it and as examinations do take place, you know, years into the future, then you’ll have an idea of, at what point does it look like people are going farther than the spirit might suggest, and how do we provide guidance on where that is? But it’s not time for that yet.

Jimmy: Okay. I think that’s fair. This is a brand new investment vehicle after all. It’s a brand new investment vehicle, not just to the investors and to the fund sponsors and to the businesses, but also for the regulatory body. You guys have to kind of see what actually transpires in the real world. I get that. That makes sense.

Dan: And I think that’s right.

Jimmy: A couple of questions now regarding triple-net leasing businesses. I get asked these questions every once in a while by some of my followers, some of my listeners. I’ve got two different questions for you. I’ll ask one at a time. First question regarding triple-net leasing business is, why did the regulations disallow triple-net leasing from being eligible as a qualified opportunity zone business in the first place? If I’m bringing a pharmacy or a grocery store into an opportunity zone, why does it matter if I do it through a triple-net lease structure?

Dan: Well, remember that the QOZB has to be in the conduct of an active trader business. And generally, rental real estate has not been considered to be an active trader business, and so we felt it would be too far to say something that is clearly passive. Triple-net lease is a pretty passive activity, right, to say that that’s an active trader business. And so, I think that’s the first thing here, is that, ultimately, part of what opportunities zone should promote is engagement with the community.

And that’s where the triple-net lease doesn’t really kind of fit with that engagement of the QOF investor into the community. Now, we have said that, but we understand that what’s important is that the QOZB be a QOZB, be an active trader business. So if part of your business is doing triple-net leases but not all of your business is doing triple-net leases, that’s something to take into consideration. And this gets into the example of the three-story office building that we had in the regulations.

Jimmy: Yeah. So that was actually the second question I wanna ask you. At what point does a triple-net leasing business rise to the level of being an active trader business? I thought the example provided in the regulations opened up some ambiguity. Okay. So it’s clearly stated that, you know, if you’re just doing triple-net leasing, if you have one tenant in one building, that’s clearly not an active trader business. Okay, I can get behind that. But then what if you have… I forget the exact example in the regs, but what if you have 100 tenants and 99 of them are triple-net lease, but only one of them is, you know, doing some management on and is not a triple-net lease. Is that sufficient, or is there no clearly-defined line there?

Dan: Well, there is no clearly-defined line. Ultimately, I think that’s a good thing. The example of the two floors with the traditional rental situation and the third floor of being a triple-net suggest you’ve got a two-thirds, one-third kind of split, right? I think one can think, you know, back to a lot of the language that we use in Opportunity Zones about substantially, right? I think if you’re substantially in the triple-net business issue, you will not be an active trader business, right?

If it’s the other way around that, you know, substantially, you’re actively managing the real property that you own in the zone, but you have some clients for whom a triple-net just makes sense, that’s going to be okay. But, again, the better course for us we thought was to enable the taxpayer to make the argument that, in fact, what they’re doing here is active rather than drawing the bright-line test.

Jimmy: Okay. I think that makes a little more sense. Now, if I’m hearing you correctly, it sounds like, you know, if you keep at least two thirds or 70%, you know, applying that substantially all definition, if you keep to that ratio of active management versus, you know, 30% or a third being triple-net leasing, then you should be in good shape.

Dan: I think you can confidently argue that you were not primarily engaged in the business of triple-net lease, that you were not that 99-to-1 example, right?

Jimmy: Right, right. Okay. Fair enough. Yeah. I didn’t wanna harp on that issue for too long, but that’s come up a few times with me, and I wanted to make sure I understood. And I think I do understand a little better now, so thank you for providing some of that clarity there.

Dan, I wanna shift gears here for a minute and ask you a couple of tough questions now about the designation of the opportunity zone in Storey County, Nevada that’s been in the news recently.

The Treasury Department has been criticized in “The New York Times” and elsewhere in past weeks for allowing opportunity zone designation of this one particular census tract in Storey County, Nevada that did not appear to meet the original eligibility criteria, at least according to CDFI Fund instructions to the states. Very recently, Richard Delmar, the acting Treasury Inspector General announced that he is opening an investigation into the opportunity zone selection process. So, firstly, can you clarify for me and my listeners, how was it that Storey County was designated in the first place?

Dan: Well, ultimately, the state of Nevada asked us to reconsider the instructions that were provided by the CDFI for designating contingent tract or contiguous tract. Generally speaking on opportunities zones, we said, use the 2010 to 2015 data, which will provide us a safe harbor or use the 2011 to 2016 data. But you have to prove to us that, in that case, they meet the statutory criteria for being nominated to be an opportunity zone. And in the CDFI instructions, that was clear for the regular tract but not for the contiguous tract.

Jimmy: Clear for the low-income community tracts but not clear for the non-LIC contiguous tracts.

Dan: Precisely. And we also issued a revenue ruling regarding how the nomination process would work, in which case we said without any distinction between LIC and non-LIC contiguous tract, that a state could use the newer ACS data. And Nevada pointed out this discrepancy in the nomination instructions versus the revenue ruling, and then it really became, for us, a legal determination of, which was the controlling authority here, right? And the revenue ruling has precedence over the instructions. Nevada was the last state to get settled, okay?

But we issued a policy memo internal to IRS saying that we made a mistake here. The nominating instruction should be modified in the future to reflect that a non-LIC contiguous tract could be nominated on the newer data, and that, in fact, Nevada’s petition was correct and that they should be designated. So that’s really what happened here, was a distinction between two sets of conflicting guidance and which one controlled. And so, that’s really…you know, it was really a simple as that. It all came from the state officials rather than anything that we hear within Treasury initiated.

Jimmy: Okay. I think that makes sense to me. So, officially, according to the CDFI Fund who issued the instructions, there were three ways that a tract could be eligible for opportunities on designation. One, it could be a low-income community tract according to the 2015 ACS data, two, it could be a low-end community tract according to 2016 ACS data, or three, it could be a non-LIC contiguous tract according to 2015 ACS data, and Storey County is not eligible by any of those three metrics. But it sounds like the CDFI Fund left out a fourth way to become eligible and that is to be a non-LIC continuous tract according to 2016 ACS data. And by that metric, Storey County is, in fact, eligible. Did I recap that accurately?

Dan: You did. And essentially, our revenue ruling said that all four of the cells that you enunciated were eligible where the nomination instruction said only three of those are.

Jimmy: Right. And then as it turned out, Storey County does happen to be the only census tract that falls into that fourth cell, that non-LIC contiguous tract, according to 2016 ACS data. I suppose because they were the final state to get their nominations in and no other state had noticed that discrepancy or perhaps the states were unaware that that fourth cell existed because of the omission in the instructions. Is that right?

Dan: That’s right. And one other state did in fact raise the matter. It was the state of Vermont. CDFI told them that they were not eligible, and they decided that that was an adequate answer to them. We at Treasury provided a pretty in-depth response to a letter from Senator Wyden on this, and that Treasury response is available on the finance committee website. I will send the links to you after we get off of this call. I think that would be something that, for people who really wanna pursue it, they would be able to read it carefully, understand the situation that we found ourselves in here, and get some of the other side of this that you didn’t really see reported in the media.

Jimmy: Right. Now, I think that would be helpful, and I will link to that report to that response in the show notes for today’s episode. And you can find those show notes at opportunitydb.com/podcast, and I’ll be sure to link to that official Treasury response to Senator Wyden’s inquiry. Secondly, Dan, do you have any additional comment on the pending investigation by the acting Treasury Inspector General?

Dan: No. This was a congressional letter to the IG. IG is doing their job and following up on something that Congress asked them to do. And essentially, I think the response that we provided to Senator Wyden and CC’d Senator Grassley and Chairman Neil on is essentially the same fact that one would present to the IG.

Jimmy: Okay. Good. Well, thank you for providing some clarity on this issue. I know it hasn’t been…your side hasn’t been reported very accurately or in much depth from everything I’ve read, so I’m glad.

Dan: Right. Not in much depth. That’s right. Exactly. So I appreciate it.

Jimmy: Yeah. I’m glad we were kind of able to finally get to the bottom of this and hopefully, some people listen to this and are able to read your response and get some more factual information, some more context. Getting back to the regulatory efforts now. In the past, I’ve heard you speak, and you’ve said something akin to, you know, “At Treasury, we’re tax lawyers, not social scientists.” Yet there were several requests for the regulations to address the question of, well, how do we go about measuring the effectiveness of this initiative?

How do we know that this tax incentive is doing what it’s supposed to be doing in the first place? Your department, the Treasury Department has no clear mandate to collect and report on all of the data that might best measure the effectiveness of the opportunity zone program. But what were you able to do in this regard, and is there anything more that you wish you could have done?

Dan: We have put together a substantially revised form 8996, which is the QOFs report to the IRS on making sure that it meets the asset test. And we have changed that doc, and it’s available at, you know, irs.gov/draftforms, and then you type in the number 8996. We will now be collecting, by QOZB, their investments in each census tract.

So what that’s going to enable us to do is to be able to find out which tracts are getting investment, how much, and then to be able to compare tracts that have received the opportunities zone incentive with tracts that have not received the opportunities zone incentive. And then you can look at things like what is the income in the OZ tract versus the non-OZ tract, income, poverty, the types of statistics that department of commerce collects on a regular basis.

And so, we are also working through the National Economic Council and the White House Opportunity Council the measurement portion of that to work with commerce to make sure that we have robust reporting at the census tract level so that we’re able to do a good measurement of what the impact of opportunities zones has then. I think, to the extent, we are interested primarily in the economic betterment of those tracts. I think we’ll be able to get what we need from the IRS data when combined with census data and other data that the government already collects.

The thing about it is that will take time. The returns are basically available with a year lag, right, and everyone wants to know what’s going on in opportunities zones now? Has it worked now? And I encourage patience on this. This incentive has a life through 2026 as far as new money going in and for that money to continue to work in the low-income community through 2047.

So these are things that will occur over time, and I think that’s the biggest shortcoming in what we are doing, is that it may not happen quickly enough to make everyone happy, but I think that it will provide the information that’s needed for us to do an economic evaluation of whether or not opportunity zones has had a real impact in these communities. That said, we’re certainly willing to work with Congress if they feel that there is other information that we can’t get through our tax administration authority to, you know, enhance the data collection process.

Jimmy: Good. So there is some action that you’ve taken already, and it may take some time. It may be another year or two before some of that initial data starts trickling in, but, you know, patience is the word, I suppose, and we will get some sort of reporting, some sort of data coming through Treasury and the IRS in due time. Do you anticipate any further action by Congress in regards to data collection reporting as well that may complement the efforts that you’re undertaking at Treasury?

Dan: Well, certainly, there was an interest in that towards the end of last year. I do not know whether the coming year in Congress will have a lot of time for legislating that type of thing.

Jimmy: All right. So, again, I suppose time will tell on that issue as well.

Dan: I don’t know whether the interest that was there in November continues, you know, the spring.

Jimmy: Yeah, fair enough. Fair enough. Especially in an election year, I’m not sure how much might get done anyway. So, yeah, time will tell there again as well. Well, yeah, I’m hopeful that we do get some reporting down the road at some point. Understood that it will take a little bit of time for the data to trickle in and become available. What are Treasury’s estimates for capital raising, for capital flowing into these opportunities zone communities? Is it too soon to tell maybe, or do you know if qualified opportunity funds are on pace to hit these estimates?

Dan: Well, we have not really changed our $100 billion estimate. We still think that that’s a good number for what the private sector may be able to put into these communities in a tax-advantaged fashion. See my earlier comment on everything we learn through the tax system occurs with a lag. That’s also true in terms of the investments of QOFs, how much QOFs are taking in. But you read what other people are doing, you know, Novogradac basically seems to think that maybe 12 to 15 [billion dollars] came in this year, putting words in their mouth.

But, you know, something in that, and that seems to me to be consistent with $100 billion program between now and 2026 because I think OZ investment will grow in the next two years. Now, people have the guidance they need in order to proceed confidently. It’ll take time for people to get comfortable with the mechanics. But once investors start seeing other people investing in opportunity zones and see that, you know, it’s not any more risky as a structure than other things that you might undertake, that then I think, you know, it’ll start to snowball for the next couple of years.

Jimmy: Right. Well, I hope you’re right there. I think, you know, obviously, there was that big push toward the end of 2019 to get in, and there was a lot of pressure for some investors to get in to take full advantage of the full benefit of the program, which is the 15% basis step up on the original gain. That went away on December 31, 2019, but, of course, there are still…the main tax incentives are still there.

Dan: Still 10% for two years, right?

Jimmy: Right. Still 10% for two years and still the big benefit at the back end, excluding all capital gains from investment within the opportunity zone funds, and, of course, the tax deferral on the original gain until the end of 2026. So, yeah, obviously, you know, the bulk of the tax incentive still exists. I think all you missed if you missed that 2019 year-end deadline is you’re missing the cherry on top of the very large hot fudge sundae, so to speak.

Dan: Absolutely. I mean, I put it before as it was an extra incentive for early adopters.

Jimmy: That’s right. That’s exactly what it is. Did you have anything more to say about what OZ trends you anticipate in the coming years?

Dan: I think we’re going to see what creativity exists out there in the economy. I do believe that we’ll see more businesses, more non-real estate plays, one of the things that I think, once people who are thinking about starting new businesses or growing businesses, when they realize that opportunities zones is for them and they can put their start-up in leased space in a qualified opportunities zone and be a QOZB, I think that’s going to encourage people to think about where they may want to start up their businesses. I think it’ll take a little bit of time for folks to get that it’s not just a straight real estate play, and I think that will happen more in the next couple of years.

Jimmy: Yeah. I’m hopeful of that trend as well. I think a lot of real estate, obviously, at the beginning, for a variety of reasons, the regulations were more clear for real estate after the first tranche was issued by your department. And, you know, in some sense, you can think of the real estate as the infrastructure that need to get laid down in these opportunities zones, and hopefully, in coming years, we’ll see some businesses, some startups, some operating businesses come into these low-income communities, these opportunities zone tracts as well. And yeah, I’m…

Dan: Hopeful.

Jimmy: Yes. Yes. We’re both hopeful that we’ll see some creativity in the marketplace, as you say. Dan, when we spoke in April of last year, and I heard you speak that last spring also, you seemed discouraged by the amount of activity by some of the nation’s CDFIs and similar institutions. You agreed with me that they seemed slow to get into the opportunity zone game. Do you have any update there? Have you seen any progress in that regard from those types of lending institutions?

Dan: Yeah. I have not seen as much activity there as I would hope, but I think CDFIs, now that new markets have been expanded or extended again, I think now you may see more trying to bring CDFIs in new markets and all of these incentives into play in the opportunities zones in coming months. But I haven’t seen a lot of a CDFI activity per se.

Jimmy: And somewhat related, the Community Reinvestment Act, those regulations are currently being rewritten. Proposed regs were actually issued by the FTAC and OCC last month in December of 2019. And you have approved, if I’m understanding this correctly, CRA credits would be granted for any community development that provides financing for or supports qualified opportunity funds. Do I have that right? And what do you see as being the implications of that incentive for banks that are subject to CRA regulations?

Dan: Well, I think that the proposed regulations confirm what many of us thought, which is that if an opportunity zone project is taking place in a CRA assessment area, that you can receive CRA credit for it while taking advantage of the OZ incentive. I’ve always felt that that was implied, right? But to say that that actually should be the policy should make people comfortable that they’re able to do that now.

I do not know how long it will take for a CRA regulation to make its way through. Apparently, the federal reserve seems to have some reservations about what OCC and FTIC has put out, so this may be a longer rogue. But I do think that there is a kernel there that says, “Yeah. There’s no problem of getting CRA credit for an OZ project that I think will be helpful.”

Jimmy: Yeah. Just some additional supportive opportunities zones by another wing of the federal government. I think that’s part of what the White House Opportunity and Revitalization Council is attempting to do, is to kind of channel all of these federal resources into the Opportunity Zones program, and certainly, the regulations from Treasury are a large part of it. The efforts by different departments, including the Housing and Urban Development Department and possibly these Community Reinvestment Act regulations kind of all steering the ship in the same direction.

Dan: Right. And EDA I think is doing good work out there. EDA has funds that are available to help support Opportunity Zones, labor for training, education. What’s nice about the council is that if you want to try and do something to improve these low-income communities, there are other resources besides opportunity zones that can help you to develop a thriving business in them. And the council has heightened the need throughout the federal community and is also making the wider community aware that if you want to do this, you’re not alone.

There’s other things that we can do that can help support you while you’re getting the business and the LIC going. And I think that’s great. That may be the extra push that can encourage something to happen, a business to grow and employ that might not have happened otherwise. And it’s really that emphasis on building businesses, growing businesses, getting people to work and live, and revitalize these low-income communities that we’re doing it for.

Jimmy: Yeah. No, that’s great. And the council has been a tremendous resource in that regard, and I’m sure they will continue to be into the future. Dan, will we see any additional clarifications or updates to the IRS regulations on qualified opportunity funds in coming months and years, or is this the final word from Treasury?

Dan: Well, I alluded earlier when we were talking about the failure of a QOF to qualify that there may be a need in the future to provide more guidance about that, when does a QOF cease to be a QOF? I can see there being something about that in the future, I think. But as I say, no time horizon. I think we need to get experience with the incentive to see what other guidance would be helpful, what kind of clarifications.

I think we are intending to use the frequently asked questions on the IRS webpage as well as forms and instructions as a way to fill in details where there may be uncertainty about what we mean and what we put out on the 13th of January. And so, we’ll be doing that. I think you’ll see more of that in the coming months. Then you will see a proposed, or a notice of proposed rulemaking proposed regulations.

Jimmy: Understood. So unlikely that we’re going to get issued another 500 pages of rules making any time soon. I’m sure you’re happy to avoid that as well.

Dan: Absolutely. And what I want to say is, you know, don’t use the prospect that there may be more regulations as an excuse for not investing.

Jimmy: No, of course not. Now is the time. You have everything you need to move forward.

Dan: You really do have everything you need. And, of course, we always reserve the right to provide additional guidance that’s going to help taxpayers and tax administrators have clarity on what the rules of the road are. I think that’s to everybody’s advantage. But I think there’s enough out there, and we put enough breadth in what we had done between proposed and final that market participants really should be free to know what they can structure and to work within the rules as they now exist.

Jimmy: I agree 100%. No excuse anymore, as we said.

Dan: No excuse.

Jimmy: Dan. You’ve been incredibly generous with your time today. Thank you so much for joining me. This has been great. For our listeners out there, again, I’ll have show notes on today’s episode at opportunitydb.com/podcast. And, there you’ll find links to all of the resources that Dan and I discussed on today’s show. I’ll be sure to link to Treasury’s response to Congressman Wyden’s request for information, and I’ll also have links to the full text of the final regulations and all of the other resources that we discussed today. Dan, again, thanks. This has been great.

Dan: It has been a pleasure. I look forward to seeing you in person at some conference in coming months.

Jimmy: Looking forward to it, Dan. Thank you.