OZ Pitch Day - March 7, 2024
Misconceptions often cause investors to opt out of potentially profitable and viable investment opportunities. The Federal Opportunity Zone tax incentive program has had its fair share of uncertainties due to miseducation and confusion around alternative investments. But with the right fund manager and scheme in place, investors can feel good about helping underserved communities while experiencing significant tax breaks.
Michael Episcope unpacks opportunity zone investing misconceptions and explores the potential benefits of adding alternative assets to a portfolio. Michael is co-founder and principal of Origin Investments, a private equity real estate firm founded in 2007.
Click the play button above to listen to our conversation with Michael.
- Common misconceptions and surprising realities about investing in opportunity zones.
- How the Opportunity Zone program offers tax benefits to investors making qualified investment in a Qualified Opportunity Funds (QOF).
- How to minimize uncertainty with the right fund and investment structures in place.
- Different types of opportunity zone funds and a fund manager’s perspective on alternative investment options.
- Market trends and investor perception specific to opportunity zones in 2022 and beyond.
- Benefits of attending the upcoming OZ Pitch Day, live and online on March 29th, 2022.
Featured On This Episode
Industry Spotlight: Origin Investments
Founded in 2007, Origin Investments is a private equity real estate firm based in Chicago. Designed for the needs of high net worth individuals, family offices and wealth management firms, Origin Investments provides the same level of service, terms, and results that larger institutions have enjoyed for decades.
Learn More About Origin Investments
- Visit OriginInvestments.com
- Origin Investments on Facebook | LinkedIn | Twitter | YouTube | Instagram
- Email: [email protected]
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.
Jimmy: Welcome to The Opportunity Zones Podcast. I’m your host, Jimmy Atkinson. And over the next few weeks, this podcast will be previewing OZ Pitch Day, our upcoming live online event that will showcase several qualified opportunity funds. That event is coming to you live and online on March 29th, and you can learn more and register for the event at ozpitchday.com. One of the partners on OZ Pitch Day that we’ll be speaking with today is Michael Episcope, co-founder and co-CEO of Origin Investments. They are a real estate investment platform headquartered in Chicago with offices throughout the Sunbelt. They currently have approximately $1.5 billion in assets under management from over 2,500 investment partners. They closed their QOZ Fund I last year and they have their QOZ Fund II open now. Michael, thanks for joining me. Welcome to the podcast.
Michael: Thanks for having me, Jimmy.
Jimmy: And did I have that right? Did you close QOZ Fund I last year, or was it a couple of years ago?
Michael: We closed it last year in October, and then subsequently opened QOZ Fund II right after that.
Jimmy: Fantastic. And I’ll ask you about both of those funds and, in particular, your open fund, QOZ Fund II a little bit later in the episode today, but I want to zoom out and get your insights into opportunity zones overall, Michael, and I know you wanted to focus on some misconceptions that you see about qualified opportunity zone investing. What are some of the biggest misconceptions that you’ve seen over the years?
Michael: Well, we’ve been in the space since really 2018. So early on, there was a tremendous amount of education that was required and certainly less and less as this program has evolved and more funds have gotten into it. But I think the biggest misconception is that these projects are in distressed areas, low-income areas, areas that you generally wouldn’t wanna be in. And that couldn’t be further from the truth. And before I take you back to 2018 when we were doing due diligence on this program, well, the first thing for us, it made a lot of sense because every one of our investment partners is a taxable individual, whether it’s a family office, an Ultra High Net Worth, or a High Net Worth individual, and so are we. And we created funds that we want to invest in, and when we started looking at the QOZ program, it made just so much sense because of the benefits. But we weren’t quite sure either because we were reading the regs and wanted to go out there and do the research.
And what we found was that we were already in these areas. That the QOZ areas that had been defined are really areas in transition and areas that, you know, from a value-add investor, from a development perspective, the areas that you’re already buying property in, but prior to the QOZ law being passed, we or nobody was really getting the benefits of being in this area. So I think that was the first misconception is that people were very reticent and there was a misunderstanding about what they look like. And I think the biggest thing that has changed is that the law was based on, or the areas were defined based on the 2010 census. And anybody who’s been…you can think back to what the world looked like in 2010, it is a very different world today.
And, you know, I live in Chicago, we don’t invest here today, I wanna be clear about that, but Chicago, coming out of the great recession was completely different in the Near North, the Loop, the number of housing projects down there and some of these areas have just changed dramatically. But when you go to areas…like Nashville is a great example, well, Nashville in 2010 barely had any housing stock in The Gulch area, right, and sort of the ring. Today, when you go down there, it resembles more of what you might see in Downtown Denver. And they have built an entire city there in 10 years. And there are some incredible development sites in that area that are opportunity zones, and you just scratch your head going, “Hmm, you know, this doesn’t make sense.” But the reason why it doesn’t make sense is because when the lines were drawn, there was no real population in Downtown Nashville. So those are kind of the areas that we look for and that we’re investing in.
And when people see the development sites that we’ve tied up and they look at them, they can really get their hands around them. And the other thing I just wanna say about this is there’s not a different standard, and an underwriting standard, at least at Origin, for how we evaluate a QOZ opportunity versus a market rate opportunity. And what I mean by that is that we don’t use a different set of underwriting standards, there’s not different models, there’s not a different cost to capital. All the benefits happen on the back end. So we have to make sure that when we’re finding deals in these QOZ areas, that they pencil out to the same margins and metrics as a non-QOZ opportunity.
And what we have found in the last three years is that our competition for deals in these QOZ areas is not other QOZ capital, but it’s market-rate capital, it’s institutions who don’t really care about the QOZ benefits because they can’t use them because they’re already non-taxable, but they just see it as a great development site, as do we. So I think that was one of the biggest misconceptions, but a lot of people are getting their arms around that. And it’s one of the reasons that the program has really attracted a tremendous amount of capital, especially over the last 12 months.
Jimmy: Yeah. Agreed. I think that was, I guess, a couple of misconceptions you drew out there in your response. One, yeah, these aren’t all terribly distressed areas. There are a lot of areas that are on the end of the spectrum where they’re undergoing some positive demographic changes and you really find some nice alpha for your investors, you know, finding some good opportunities in some of these areas. They’re not all terribly economically distressed. There are a lot of census tracts, over 8,700 of them, and quite a few of them are terribly distressed, but there are many that are diamonds in the rough, so to speak. And then the other point you drew out there, Michael, was the fact that this isn’t affordable housing, for an example, where you get a tax credit on the front end that changes how the deal pencils. Are there any other misconceptions about OZ investing that you’ve noticed over the past few years?
Michael: This is an education process that we’ve gone through. I mean, we actually structure, right? But I think a lot of investors are under the impression that it’s better to invest through a REIT than an LLC. And it’s actually categorically the opposite is that if you are investing in a QOZ fund, it should be structured as an LLC and not as a REIT. And the reason is, is there are some very complicated tax laws here, but I’ll do my best to explain it, understanding I’m not a CPA, but you don’t get assigned a basis when you invest in a QOZ by the IRS, and basis is very important for depreciation. Now, when you invest through an LLC, it’s a pass-through entity, so you actually get the advantage of the leverage and the rest of the basis.
So I’ll use an example, if you buy a property, right, if we buy a property, we put $35 million worth of equity in, let’s say the project is $100 million and $65 million of debt, we get the advantage of depreciating the $65 million basis of the property because the entire property is $100 million. In a REIT, you do not get that same advantage. You have a zero basis. So any money coming back before 2026 will be taxed. Now the REIT does have a small advantage, you’re not gonna be taxed at ordinary income, but because you don’t have a basis, it’s gonna be looked at as income to you. And that’s not the same with a REIT. A REIT you get all the same benefits.
And, you know, we are fortunate to have structured this correctly, but I know talking to Ashley Tison back in December, we had a webinar with him, he said that some of the companies who originally structured as a REIT, they are now trying to unwind those structures as a result because, you know, they kind of learned the hard way that these tax rules are constantly evolving and coming out. But I would say that is the other thing that investors really need to be cognizant of is their tax situation. Now, it doesn’t matter if the REIT isn’t going to return any capital or any cash flow in the first 5 to 6 years, if they’re gonna do it after 2026, but it certainly makes a massive difference. So sometimes people like the simplicity of the 1099 versus the K-1, but understand that that simplicity could cost you tens, even hundreds of thousands of dollars in taxes.
Jimmy: Yeah. That’s a really interesting point there. I might have to have a future episode of this podcast, an interview with Ashley Tison, where we go over REITs versus LLCs. I think you’re absolutely right. I think particularly funds that were set up early on in 2018 or 2019 before the final regulations were passed, there was a little bit less clarity on why the REIT structure is not preferred today. And I have noticed at least one or two of them off the top of my head that have tried to undergo making that change. Any other misconceptions that you’re seeing from QOZ investors or other OZ participants in the marketplace, Michael, over the past few years?
Michael: Yeah. Is this a misconception? I think people sometimes underestimate the complexity of managing a fund in the program, executing on the deals, managing the deals. And I would tell anybody out there that if you’re investing in a qualified opportunity zone fund, you have to make sure that the manager has experience in the fund side and the execution of deals and it’s gonna be around for the next 10, 15, 20 years. And early on, I mean, I was just so surprised, Jimmy, because we saw everybody come out of the woodwork raising QOZ funds. And I was just rolling my eyes because you had these superstars that were announcing $300 million funds, $500 million funds with literally no experience in real estate. And because this is a 10-year bet, you have to focus on the manager and the longevity. And I think all too often people prey on this sort of bright and shiny and if I have a good deal, the money will follow. And, unfortunately, that’s true, right?
And we know in real estate, there’s nothing more important than betting on the manager. So I would tell everybody out there, like there’s complexity and you need to make sure that you’re investing with a platform that can execute on all angles, from not only managing the fund side, you know, to make sure that they have experience there, but also in development, in management, and that it’s gonna be around for the next 10, 15, 20 years because I know some people are going to be in this program for 10 years in a day and some people like myself are gonna be in the program till 2047.
Jimmy: Yeah. Absolutely. I’ve noticed with very few exceptions, possibly no exceptions, that the qualified opportunity funds, the successful ones that are still around today that I first saw a few years ago, they’re the ones that had a real estate investment platform, that had a good Rolodex of family offices and High Net Worths for years, if not a decade or more, prior to rolling out their OZ product. So we are nearly 4 years in now to the opportunity zone program, the legislation was passed a little bit more than 4 years ago and the zones were certified in July of 2018, so almost 4 years ago now. Looking back on the past few years, Michael, since the marketplace first really got going for qualified opportunity funds, what changes or trends have you noticed or how have your expectations changed over the past few years?
Michael: Well, I don’t know if it’s my expectations, but there has been…I think people have really warmed up to this idea and we saw people reticent in the beginning and now people are using qualified opportunity zones as part of their primary investment strategy. And I’ll say, if you’re interested in real estate and you wanna allocate, there’s no better way to allocate capital to real estate than through an OZ fund. So for those individuals who are, you know, now sort of thinking about exits of their company or something like that, they have an avenue to help really, you know, maybe save some on those taxes long-term and then rebalance their portfolio around real estate. So, you know, what we’ve seen just from individuals is they literally look for every dollar they can and put it into a QOZ area.
Now, I will caution everybody on this because think about the fact that all of these taxes come due really in 2027, they’re gonna be recognized in tax year 2026. But if you continue to contribute, and I’ve had this conversation with investors, but contribute on an annual basis, let’s say $300,000 every single year, you are gonna have a massive tax bill in 2026, 2027. So just keep that in mind because on any given year, you might say, “Hey, my tax bill, you know, I only owe $50,000 or $100,000,” well, if you continue to layer these on one another, and there’s always the risk that a fund cannot return ample cash flow or at a time when you need to pay your taxes, so that’s the liability that really falls on the investor. But back to your question, Jimmy, we’re just seeing so much more adoption and, you know, it goes through that sort of, you know, you got the early adopters, then the innovators, and then it’s becoming much more mature than it ever has. So it’s an exciting program. We always saw the value in it. And now the public is really waking up to it as well.
Jimmy: Absolutely. The investing public, the investors themselves, and also their advisors, I think are waking up to it more and more. As each day goes by, there’s a little bit more and a little bit more and a little bit more adoption by the advisor community and their High Net Worth investors and families that they help advise. Michael, I wanna turn our attention now to OZ Pitch Day, the event that the Opportunity DB is hosting on March 29th. You can learn more at ozpitchday.com. And you’re one of our big partners in that event, Michael, Origin Investments is. Tell me more about the fund that you’re gonna be presenting on that event, Origin Investments’ QOZ Fund II. What can you tell us about it?
Michael: QOZ Fund II is a $300 million fund. That’s our total raise that we’re looking at. So far we have five seed assets. And this fund has really benefited from a lot of the work we did in QOZ Fund I. So, in many ways, we’re much further ahead because the deals that are in here, some of them have been worked on for six months, a year, even a year and a half, and finally, we’re getting to the closing table here. So it’s an exciting mix of multifamily properties, Class A in Sunbelt markets. And we typically target business-friendly and low-tax states and high-growth markets. So we have projects in Nashville and Atlanta and Colorado Springs and some of what I consider the best growth markets in the country, and then some of the best development sites within those growth markets as well.
So I think that people will be really excited and I’m excited to candidly unveil those projects for the first time. Because when you have these projects sort of under LOI but not under contract, you can’t say much about them. But now that we have them under contract, now we can start talking about them in more depth and the plan and everything else. So we’re excited about this fund. We’re four months in and we’ve raised about $130 million, so we’re 45% to our target. And a lot of that came in in December of this year. So I think we’re gonna hit our target in the next six or seven months and the fund is shaping up great.
Jimmy: Good to hear. Let’s talk about some specific examples of some products. So it’s a multi-asset fund. You have multiple deals, multifamily properties, primarily in these different growth markets. Can you give us a few examples of some of the projects that you have in various phases of development?
Michael: Yeah, but then Jimmy, nobody’s gonna go to OZ Pitch Day.
Jimmy: That’s a good point, but we can preview it here a little bit first and I know you’re gonna go into a lot more detail at OZ Pitch Day. So go ahead. Tell us a little bit more.
Michael: All right. So I would say one of the most exciting projects we have is in Nashville right now, it’s called Edgehill, and it sits at the edge of The Gulch. It’s a multi-phase project. It is arguably one of the best development sites remaining in all of Nashville. So that’s one that I’ll be sharing renderings on. It’s quite a large project. It requires more than $95 million in equity. And that will actually be shared by both Fund I and Fund II. In a deal like that, because one of the things we strive for is risk management in all of our funds, so we’re not gonna have…you know, we’ll probably commit to 2 phases and $60 million of equity in Fund II, or maybe even less than that fund, and then the rest of that will be brought out into a sidecar. So we do have occasional sidecars. We know investors like those, but generally, they only go to fund investors unless we tap out there and then we go out to the general public, but it’s an exciting deal.
And the other deal that we have that we’re under contract for right now is 30 acres in Atlanta. And that’s also a multi-phase opportunity that’s gonna take four to five years to develop the first phase, which is really three buildings will take off here in the next six months, and that will be an opportunity that we put in Fund II as well. But, you know, as we look forward, some of that project will actually be in Fund III, and possibly even in Fund IV. So our pipeline right now for immediate deals, I know I just did the webinar the other day, we have $180 million of equity that we’re gonna be putting out into these various deals in the next 6 to 12 months. And then our pipeline behind that…and those are seed deals, those are actually deals that we have tied up in our under contract. And then our pipeline is just as large as that, so our near-term pipeline. So a lot of good stuff to share. And I really am looking forward to that Oz Pitch Day to go into more detail in all of these projects.
Jimmy: Good. Yeah. I’m looking forward to it as well, Michael, and we’re doing audio-only here on this podcast today, but OZ Pitch Day, of course, will be a giant Zoom call and you’ll be able to share your screen and share the renderings of some of these projects that you have in development. So, again, OZ Pitch Day is coming on Tuesday, March 29th, beginning at 10:00 a.m. Eastern time. We’ve got a couple of education sessions in the morning, and then Michael’s actually the first OZ fund presenter that morning. He’ll go on at 10:25 a.m. Eastern time. We’re looking forward to that. And again, you can learn more about how to register for OZ Pitch Day, it’s free to attend at ozpitchday.com. Michael, it’s been a pleasure speaking with you today, but before I let you go, where can our listeners go to learn more about you and Origin Investments.
Michael: Go to our website, origininvestments.com, and you can email us at [email protected] and just tell them that you’re interested in QOZ II or any of our other funds.
Jimmy: Fantastic. Hey, you do have some other funds that are non-OZ. So if you have a capital gain, the OZ’s a great option, but if you don’t or if you wanna get involved with Michael in any future endeavors, they’ve got a few other funds on their platform there as well. So do check out origininvestments.com. And again, for our listeners out there today, I will, as always, have show notes for today’s episode on the Opportunity Zones Database website. You can find those show notes at opportunitydb.com/podcast, and there you’ll find links to all of the resources that Michael and I discussed on today’s show. Michael, it’s been a pleasure speaking with you today. Thank you.
Michael: Jimmy, really great time. Thank you for having me on again.
Jimmy: That’s it for our show today. A huge thank you to you, our listener. If you liked this episode, please rate and review us on iTunes. The Opportunity Zones Podcast is produced by the Opportunity Database. Visit opportunitydb.com to learn more about opportunity zones and opportunity zone fund investing. You can learn how to subscribe to this podcast and read more about today’s guest in the show notes by visiting opportunitydb.com/podcast. And we’ll be back soon with another episode.