Why December Is A Great Month For OZ Investing, With Erik Hayden

The month of December in 2019, 2020, and 2021 was the strongest equity raising month in each of those years for Opportunity Zone investors. Will 2022 turn out the same?

Erik Hayden, founder and CEO of Urban Catalyst, returns to the show to provide a year-end status update on Urban Catalyst and give his thoughts on why December is traditionally the most popular month of the year for investing in Qualified Opportunity Funds.

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Episode Highlights

  • Background on Urban Catalyst and their work developing, owning, and managing real estate in San Jose, CA.
  • Why Silicon Valley remains a strong real estate market, due to its strong track record and continued high job growth.
  • The current state of downtown San Jose, and how it lies in the path of growth.
  • Status updates on Urban Catalyst Opportunity Zone Fund I projects.
  • Why downtown San Jose’s regulatory environment is more developer-friendly than most of California.
  • The macroeconomic factors that drive rent rate increases in the multifamily sector.
  • Recent activities by big tech companies leasing office space in San Jose.
  • Timeline for permitting and construction of Urban Catalyst Opportunity Zone Fund II projects: Icon/Echo.
  • The slowdown in Opportunity Zone fundraising over the past six months, and why the pace may increase once again in December, as the year draws to a close.
  • Economic outlook, the biggest concerns for 2023, and why market sentiment hinges on inflation.

Today’s Guest: Erik Hayden, Urban Catalyst

Erik Hayden on the Opportunity Zones Podcast

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 Jimmy Atkinson. And joining me once again today on the show is Erik Hayden, no stranger to the podcast. He’s the founder and CEO of Urban Catalyst, joining us today from Urban Catalyst headquarters in downtown San Jose, California. Erik, great to see you. Welcome to the show. How you doing?

Erik: Jimmy, always great to see you, such a pleasure to be here.

Jimmy: Absolutely. Erik, pleasure to be with you here today, once again. You’re a prolific podcast guest. I’ll be sure to link to some of your previous podcast appearances in the show notes for today’s episode. And our viewers and listeners can find the show notes at opportunitydb.com/podcast. Eric, for listeners and viewers who are not familiar with Urban Catalyst, can you give us a background on you, what Urban Catalyst does, and what makes Urban Catalyst unique from some other fund managers?

Erik: Sure, Jimmy. So, Urban Catalyst, we are a real estate development company. We’re focused on doing ground-up real estate development in downtown San Jose, California, although we’ve done real estate development all over the San Francisco Bay Area. We’re also pretty good at owning and managing real estate, we have a pretty significant portfolio. You know, overall, we’ve been raising Opportunity Zone funds, you know, tax-advantaged funds that allow investors some tax benefits while they invest into ground-up real estate development. We’ve been very successful in our fundraising. The first fund that we closed in 2020 was a $131 million fund. We did six projects with that fund. We’re currently raising our second Opportunity Zone fund, it’s a $200 million fund. And we’re off to a great start fundraising.

Jimmy: Excellent. Well, let’s talk about the market, and specifically where you guys are located, also during down markets, like what we’re experiencing right now, why is the location of OZ projects more important than ever? And specifically, maybe you can address the question of why San Jose, why is San Jose an important location.

Erik: Sure. You know, investors first have the option to invest into real estate, various asset classes, and locations all over the world and all over the country. But when you think about which markets historically have been very strong markets for real estate investment, one of the first that comes to mind is Silicon Valley, because track record here in Silicon Valley has been almost unmatched anywhere else in the world over the last 40 or 50 years.

Now, of course, Jimmy, past performance does not predict future results, that’s something the SEC likes me to remind all of our potential investors. But at the same time, you know, what we saw, especially during the pandemic, was really interesting here in the Valley. So this is a little example for you. Starting in about July of 2020, we started seeing existing office buildings, so office buildings that are already built with tenants, we started seeing the transaction volume double or almost triple as far as the number of sales, and they were selling for these record or near record pricing. And this continued for almost 18 months. And you would think in the middle of the pandemic when everyone was questioning, you know, work from home, you know, is it real, is it gonna last for a long time, why would we see office transactions just go off the charts here in the Valley?

And really, our speculation as to the answer is a lot of the big institutional equity groups and publicly traded office REITs, you know, that had a business plan to raise money and invest into office product in the United States, they saw Silicon Valley as that safe harbor because of our strong job growth. I mean, we have huge companies now, as well as our mid-sized and our startups.

I mean, you think back 20 years…20 years ago when you thought dot-com, you thought, “Oh, pets.com did a commercial on the Super Bowl.” At that time, there was no Meta, Google was a startup. And now Google is gigantic, so is Meta, even with their layoffs, which is kind of a drop in the bucket for their total employee count. I mean, we’re seeing such strong growth with the big companies, but also the mid-sized and the small companies.

So, to the point as to Silicon Valley and how strong has the real estate market been historically, it’s been extremely strong. We find that a lot of our investors, you know, when they look at Urban Catalyst, obviously, they like our assets that we’re developing, they like our development team. But when they see Opportunity Zone in downtown San Jose, Silicon Valley, that really gets them excited as to, you know, the type of real estate that Silicon Valley has had over the years.

And then to your other question, you know, why downtown San Jose, specifically? You know, in the 80s San Jose named itself and its mantra that, “The capital of Silicon Valley.” And while it’s a great tagline, it hasn’t necessarily been true. I mean, really, Mountain View, Palo Alto, Menlo Park, that is the center of Silicon Valley right there by…

Jimmy: All of those areas a little bit north of San Jose or north-northwest of San Jose, right?

Erik: Yeah. Only about 15 miles, but it’s taken a number of years for these office tenants to really expand their footprints as they grew, you know, all over the country, all over the valley. They’ve been slowly expanding southward. And you and I have talked about the…you know, what we call tech migration. But really, San Jose, about five years ago, the private market’s finally caught up with it. So as far as ground-up development is concerned, now and for the last five years, it’s really been the time to start that process here in downtown San Jose. And that’s really why we’re here.

Jimmy: Yeah, it does seem like… I remember just walking around downtown San Jose about a year and a half ago now when I was out there visiting you guys, Adobe’s down there, Zoom’s down there. But by and large, a lot of the downtown San Jose area has gotten left behind, I guess, it’s a little bit run down in some parts, but it kind of stands right in the path of progress. Is that a fair way to characterize it?

Erik: It absolutely does. You know, a lot of people after they come and they visit downtown San Jose, what they say is they say, “This is exactly like Austin, Texas, like, 10 years ago. You know, we can see the history and everything.” But as you point out, some parts are a little more rundown. But then there’s also these brand new buildings, these really cool new retail areas. And the development has just started, it really was only about five years ago that suddenly everything started to pencil in downtown. And that’s when we saw just a flood of big tech companies coming into downtown and huge developers just acquiring land like crazy because the writing was on the wall, the secret was out, downtown San Jose was happening.

Jimmy: So, tell us a little bit more about your projects in downtown San Jose. Urban Catalyst OZ Fund I had…I can’t remember how many projects it had in it, six or eight or so I think, and a diversified portfolio of projects. Could you tell us a little more about what they are and how they’re progressing so far?

Erik: Sure. So, our Fund I projects, we have six projects. It is a variety of asset classes, we have two smaller office projects, we have a senior living facility, a student housing project, multifamily apartments, and we have an extended state business hotel. So those are the six projects. We’ve been making great progress on these projects. I mean, obviously, COVID threw the financing markets for a little bit of a loop, not terrible, but not great. And now we’ve exited COVID into rising inflation, rising interest rates, and a lot of uncertainty. That all being said, we did start one of our office projects in Fund I, our presale project, it’s almost complete. We’ve got the entire ground floor leased out. And we just had an office tenant tour, potential office tenant. That was very positive news for us, we think we’re gonna land them.

Besides that, we broke ground on our senior living facility earlier this year, and we plan on starting construction going vertical on our hotel in January of next year. So that’s kind of what we’re really focused on right now is getting that hotel out of the ground. And we do expect to start several of our other projects throughout the course of the year, including our apartments and our student housing facility.

Jimmy: Well, we mentioned… I wanted to back up for a minute and I recognize that we mentioned some of the demographic or trend-related benefits of doing projects in downtown San Jose, are there any other benefits to developing in downtown San Jose? When I think of California, I don’t think of a particularly developer-friendly type of regulatory environment, but is San Jose a little bit different?

Erik: Well, you know, it’s crazy you said that. The regulatory environment throughout California is very difficult, not only from an environmental perspective but also because most of the cities are anti-development. If city council members approved projects, they’re not gonna get reelected. And sometimes they call that walking the political plank because they know that the project should be there, they know that that’s what’s good for their city, good for society, but they can’t approve them because of the resistance of the neighbors, because of traffic and height, parking, and all of those things.

San Jose, as far as citywide, isn’t a whole lot better than its neighbors, except in the downtown core. And that’s where all of our projects are located. The downtown core, they wanna see high-density development and they wanna see it now. And a lot of that is because of the leadership of San Jose. The Mayor, Sam Liccardo, has been the mayor for eight years. And before that, he was a council member representing downtown for eight years. He’s put in policies that have really promoted development and attracted developers like us and just made it so much easier for us to get our projects through that governmental process.

In fact, Jimmy, out of our six projects in Fund I, and our two projects in Fund II, we now have approval for all of those projects, pretty much in the exact same form that we initially proposed them. And that is really saying something as far as California, to go eight for eight like that, it’s not as common as you would think.

Jimmy: No, I wouldn’t Imagine it would be. Well, let’s talk about your two projects that are in Urban Catalyst Opportunity Zone Fund II. We talked about the first six that are in Fund I. The two projects in Fund II are called Icon/Eco, what can you tell us about them?

Erik: Sure. Icon is a 500,000-square-foot office high-rise. And Echo is just about 400 units of multifamily apartments. And, you know, these projects…why did we choose these asset classes to build in this location? And a lot of that is we really liked this location for office, especially right on Santa Clara Street. In the downtown, that’s kind of, you know, the main drag of the central business district. And it’s right next to a future BART station, BART, of course, the largest mass transportation system here in the Bay Area. So it’s really the epitome of transit-oriented development.

We’ve seen office rents… Well, we haven’t seen them decrease throughout COVID. There’s been a lot of talk about return-to-office and yes, the Bay Area is somewhat lagging the rest of the country in return-to-office. But as of the last couple of months, we’re seeing that trend of return-to-office accelerate pretty significantly around here.

Office location is really important. And then the… It’s kind of an old cliche, Jimmy, they call it the flight to quality, which is tech tenants, they like to locate in the newest, coolest, you know, best locations. They wanna be near awesome restaurants, retail, cultural institutions, some of the arts. And downtown San Jose has all of that. And to be able to build a brand new building with huge floor plates, which is really kind of the new big thing when it comes to office development is you need these minimum 40,000 square foot floor plates.

When we build our Icon project, really, we’re not competing with any of the existing office stock in downtown San Jose, because the majority of those only have maximum 22,000 square foot floor plates. It’s almost as if we’re reinventing what class-A office is here in the downtown. So, we feel great about our office product despite the headwinds against it, and really a lot of the negative news around it over the last year, year and a half.

And then our multifamily project… I mean, multifamily or any type of housing in California is kind of a no-brainer. We have here in California a housing crisis, we literally can’t build housing fast enough to meet our demand. For example, here in Silicon Valley, if we wanted to build enough housing to have supply equal demand, we’d have to build around 150,000 housing units, and we’ve never built more than 5000 housing units in a single year in history. So that’s really how far behind the eight ball we are.

You can see our population here grows exactly as fast as we are building housing units. That’s because we just have so many jobs here. We have so many jobs that the employers, they can’t even fill the amount of jobs with people. Really, our biggest problem with our economy here in the valley is we don’t have enough humans to fill the jobs.

This lack of housing has really driven up housing prices, both for sale and for rent. I just read an article this morning, “Updates on the San Jose Housing Market,” our new median home price is almost $1.7 million. We’re the most expensive city to live in, big city to live in, in the United States and the fourth most expensive big city to live in in the entire world. I mean, 1.7 million will get ya a nice 1960s ranch style, three bedroom, two bath.

And that translates to apartment rents. Apartment rents are really driven by two things. One is tech salaries. And tech salaries around here have gone up 30% over the last year, year and a half. And they’re also driven by the affordability of housing. Our housing prices are completely unaffordable. And then at the same time with rising interest rates, it makes it even less affordable. So those two factors really drive the rents, and we’ve seen rents go up significantly over the last year. We’re now 7% higher than pre-COVID, our multifamily rents, and we’re 10% up, year-over-year. CBRE and Colliers have both sent out their forecasts, and they’re both projecting double-digit rent increases over the next 12 to 18 months because of these, call it macro-economic factors.

Jimmy: Yeah, probably a combination of inflation and, like you mentioned before, too many jobs and not enough housing to house all the humans that need to fill those jobs. That’s exactly right. So, we heard you talk about the tech migration a moment ago and, you know, we talked about how San Jose is probably the next place where Silicon Valley’s and the companies in Silicon Valley are going to flow south into. Can you tell us about some of the recent activities by big tech companies leasing space in San Jose?

Erik: Sure. So, kind of the latest big news was that ByteDance just took 700,000 square feet about a mile north of downtown San Jose. ByteDance’s, of course, the parent company of Tiktok. That was the headlines recently. But last year in Q4, we saw Meta take 1.2 million square feet about five miles outside of town, down in Santa Clara.

Here in the downtown though, we’re really excited. Adobe just completed their just about a million square feet of new offices. This is their fourth high-rise tower, they’re all right next to each other. They built sky bridges in between them. And they announced not only are they bringing their employees back for three days a week, but they’ll also be outfitting their new building with 3800 more employees come Q1 of next year. So that’s been great.

Recently, and we’ve talked about this before, the biggest news in downtown San Jose over the last five years has been Google’s massive acquisitions here in the downtown, over half a billion dollars of land acquired, over 80 acres. To put that to scale, Jimmy, you know, our Fund II project for these two high-rises, we have two acres of property. Google has 80.

Google not only got their approvals for 7 million square feet of office and 6000 residential units, but they also broke ground last month doing their infrastructure improvements. And their infrastructure is so significant, they’re rebuilding the streets, they’re relocating where the streets go, they’re building 16 acres of turnkey parks. And so they’ve started all of those improvements. They’re planning a 10-year build-out, $19 billion. So it’s great to see them moving dirt, getting started, just showing, you know, Silicon Valley sees downtown San Jose as its next place of massive growth. And we’re right there on the cusp of that. We’ve been taking advantage of that with our latest acquisition over the last few years.

Jimmy: Yeah, it must be an exciting place to be. I wanted to revisit Icon/Echo for a moment. You mentioned two acres, it encompasses one city block…two different projects, but on the same city block. Can you tell us a little more about the status of those projects, have you broken ground yet, have you acquired everything you need to in order to start construction or when will construction begin and be completed, do you estimate?

Erik: Sure. So, we acquired just about half…a little more than half of an entire downtown San Jose city block. It is two separate projects, so they will be on separate parcels, financed separately, sold separately, all of those things. Which is important, you wanna have that kind of flexibility. At the same time, because we have a larger kind of space to work with, you know, like, our Fund I project is averaged about a half acre in size each. So to have the two acres, it makes our projects…we can build in a lot of construction efficiencies.

And that’s important, right? Because you have the same net rentable but if you have less hallways, less parking, less areas that are just sort of extra areas, it does make it so that you can have that efficiency. And that makes your project models look a lot better and it provides higher returns for our investors. The project is four parcels. We’ve acquired three of the four parcels, we’re going to be acquiring the fourth parcel later this month.

We had anticipated acquiring it last month, but we have this caveat that the seller wants us to pull building permits and break ground prior to acquiring the property. And we are pulling our first permits and doing some of our off-site underground utility work starting in January. And so that really is the trigger for us to be able to acquire the property. We’ve had the money to acquire for a long time, we’ve been in a binding option contract for a long time. So this is just really finalizing the last details for that acquisition.

So, those are the four properties. We, as I mentioned, now have full approval from the city council to build the two projects. And while, you know, for us that wasn’t, you know, the biggest thing in the world, right? I mean, we expected that the entire time, we’ve been raising money in this fund for almost two years, and we didn’t have the project approvals.

But in downtown San Jose, I don’t wanna say it’s like checking a box because it takes so much work for our team, our positioning as developers and fund managers, to be able to do that and make it look so easy and completely expected. It is, in general, the largest development risk associated with development in the State of California is getting the right to be able to build the projects.

So we now have approvals to build those projects. We also, here at Urban Catalyst, really pride ourselves in the pre-construction process on how we create our construction documentation. I will be submitting our full construction document package for the residential portion of Icon/Echo, the Echo portion, three weeks from now. So usually, you know, developers, they get their approvals, then they go draw their construction documents. And that’ll take four to six months to draw. We’ve been drawing on this entire time and now we’re going to be submitting them.

We should have building permits ready to go vertical on Echo around late summer, let’s call it July/August of next year. We could start construction as soon as that. We’re projecting just, you know, give it a little bit of time, that we’ll be starting in Q4 of next year on the Icon, and then…sorry, on Echo. And then Icon, the office portion, we’re planning on starting in Q2 of 2024. And that really has more to do with our total fundraising for our Opportunity Zone Fund. You know, we have the funds, we can start Echo right now, so really as soon as we get our building permit, we should get that one going. But we need to continue to raise…to hit that $200 million mark at the end of next year to start the office development.

Jimmy: Now I want to talk about Opportunity Zone fundraising in a minute, but I just wanted to talk multifamily with you for one more minute here first. Echo, the multifamily project, it seems like it’s in pretty good shape right now. From a demand side, I would imagine, the multifamily market is really strong right now with rising rents. As you mentioned a few moments ago, Erik, rents are about as high as you could possibly expect. There have been huge rental rate increases over the past 12 months or so. Do you think those rental rate increases are sustainable or what’s your take overall on how the multifamily market may impact your projects?

Erik: Sure. And by the way, Jimmy, when we think multifamily, you know, especially in our Fund I projects, we’re also looking at how that trickles down to our senior living, our student housing, even our extended state business hotel. Because typical residents in our hotel stay for 15 days, some stay for six months, it’s almost like kind of shorter-term housing then apartments longer-term housing then a traditional hotel.

Jimmy: Sure. So, we’re not just talking about Echo, we’re talking about all of your multifamily and multifamily adjacent Fund I project as well, right?

Erik: Yeah, if folks are folks are living in the building, you know, we’re seeing the rents go up. And while I mentioned before, that’s not great for society. We have some of the most expensive housing out there. It does work well for our models, but there are really three things that go into our models that make them look better. The first is, of course, are your rents going up, because that’s your gross revenue, and that’s always important. And that’s really one of the most important things.

But that’s something that I really can’t control. What I can control is how much it costs to build these buildings, how I design them, how I maximize that efficiency, reduce those costs. You can design beautiful buildings that are sustainable and green, and then fit all the requirements a tenant wants without breaking your budget, as long as you have a professional development team that has done it before, and knows what they’re up to.

So, we’ve designed these buildings in the most cost-effective way. And what we’re seeing, just in the market, in general, for construction costs increases is during COVID construction costs here in the valley flatlined. And that was really welcomed reprieve because we’d seen construction costs double over the previous decade. We’re one of the most expensive places to build multifamily or even office buildings, in the entire world. So seeing that flatline during COVID was a little bit nice and a little silver lining on an otherwise not positive market economic outlook.

Earlier this year, you know, the market started to improve before we kind of hit this, you know, patch of uncertainty we’re currently in. And when that happened, we started to see…buildings started to get built again, driving up labor prices. Labor prices are always what drives construction prices here in the valley, a lot more so than commodities prices that you read about in the newspaper. And those labor prices, again, at the end of this year have flatlined. So when you see rising rents, and you see costs flatlining, that is a great position for developers to be in.

Now, the third thing is also important, and that is the financing markets. Financing markets, they pulled back during COVID, they’ve pulled back even more in this time period. And so, that has somewhat hindered our ability to start on several of our projects that otherwise would have started. It isn’t that our models aren’t working the way that they’re supposed to, or we bought the land the wrong way, or we designed the wrong buildings. It’s just that, you know, maybe a certain asset class only like 10% of the lenders out there are currently lending. And of course, that’s going to change, Jimmy. Every real estate cycle goes through cycles, just like that. And we’ll see that change. But in a time when rents are going up, construction costs are flat, and we’re looking for that improvement in the financing markets, we’re really in a good position to start a bunch of our projects next year.

Jimmy: Good. Well, good luck to you. It sounds like you’re on the right track so far, and a lot of tailwinds at you’re back. But some headwinds as well, and this leads me to my discussion with you about Opportunity Zone fundraising. I’m pulling up on my other monitor right now just an article that I wrote, breaking down the Novogradac fundraising data from Q2 to Q3 of this year was largely flat. But if you look at it from a year-over-year perspective, fundraising’s down a lot in Q3 compared to Q3 of the same period last year.

And I think it’s also fair to say that it’s down a little bit, overall, just over the last six months in general. By the way, I’ll link to my article on the recent Novogradac survey in the show notes for today’s episode, if anybody wants to click through and take a look. But Erik, what are you seeing in terms of Opportunity Zone fundraising? What has your experience been? Are you concerned at all? And we’ll talk about December and why that might be a big month in a moment here. But first, what are you seeing just the last few months?

Erik: I mean, we’re seeing it a lot like the rest of the market, and that is fundraising velocity has slowed down. It makes a ton of sense, right? Opportunity Zone funds, yes, for great ground-up development funds. In general, most Opportunity Zone funds are ground-up development, or they’re the renovations of existing assets. There are other types but, I mean, I’d say the majority fit into those two categories.

And you get tax advantages for investing into these types of funds. And that the tax advantages are, well, if you had a capital gains event, you can do the following things. Problem is, is when the economy slows down, less folks have capital gains events. And that’s across the board from the sale of real estate to the sale of a business, to the sale of stock.

And in particular, the sale of stock, I mean, we’re all watching the stock market. You know, this year it’s performed very poorly, it’s down 20% to 30%. And when that happens, you know, a lot of investors are like, “Well, I’m just going to keep my money in the stock market, it will come back and I’ll make that money back up.” Or if they do sell, they’re like, “Well, I didn’t sell for that much of a profit. I don’t have that many gains and so I don’t need to reinvest my gains into, you know, a tax-advantaged fund like Urban Catalyst’s Opportunity Zone Fund II, because it’s just not a whole lot. That’s not how I’m going to diversify my portfolio.”

And when you see that happen, yeah, you know, it’s something that we expect. It’s why when we first opened our fund to raise 200 million, you know, we thought, “Well, we’ll raise around 65 million a year.” And we’re still on that pace. And over the course of next year, more than likely we’ll hit right at that $200 million number that we initially anticipated.

And, Jimmy, one other thing that we found out, which I was pretty pleased with, you know, we now have 43 people that work here at Urban Catalyst. And a lot of those folks on our fundraising team, on our marketing teams, they’ve been doing just an amazing job. And at the same time, fundraising velocity is down. But we recently saw a statistic that showed that Urban Catalyst, while we raise…more than likely we’ll raise less money this year than we did last year, we have taken a much larger percentage of overall market share. In fact, our market share, as far as fundraising, has almost doubled, which is just a testament to the good things we’re doing here in San Jose, investors liking our overall market and our projects and, you know, who we are as a company. So we’re really pleased to see that. I like showing that to my marketing folks saying, “See guys, it isn’t you, it’s the whole world. But look at how great you’re doing.”

Jimmy: Yeah. I think that’s a good point to make. Your marketing campaigns and your marketing team probably are more efficient and doing better work this year than they were last year just because of one more year’s worth of experience, right, and a larger team.

Erik: And the data that we get about successful campaigns or not successful, and how all that works…

Jimmy: But it’s all led to possibly a little bit of a downtick in terms of fundraising, just due to external factors and market uncertainty. I think market uncertainty and market downturns have led to investor uncertainty, investor hesitation, maybe a flight to safety and opportunistic or, you know, development real estate funds, not exactly the safest place to park your cash. It’s more of an opportunistic type play. And like you mentioned, you know, those are all Opportunity Zone funds with the requirement for new construction or heavy rehabilitation, heavy renovation, what have you. You’re not gonna find core or light value add type plays in this industry, just by the very nature of how the statute is written in the letter and intent of the law.

Erik: We have our place in an investor’s portfolio. And in general, we have higher returns just based on the additional risk associated with ground development and especially like owning existing real estate assets. But, I mean, if you think about it, it’s… Investors right now are thinking, “Man, bond rates…or maybe we should buy some bonds.” I mean, it’s…some folks are saying, “You know, this year, I’m just gonna pay my taxes and hold it in cash. Because I just wanna keep that cash to make myself feel better that, you know, as we go through this, how bad will it get? And if it gets terrible, I just wanna know that I’m gonna be okay.”

And so, you know, it’s totally normal. It isn’t really, I would say, fazing us a whole lot. We plan on doing a three-year fundraise, we are right on track as far as our fundraising velocity. And to all those investors out there, you know, fundraising risk is a real risk and it is something that everybody should ask about. Because if a fund doesn’t raise the amount of money it says it’s gonna raise, they might have issues with building their projects.

I do wanna say, you know, it’s very traditional for developers and, of course, we’ve been developers for a long time, to put in about 10% of the funds into a total capital stacks of… You know, like, for example, I’m doing $100 million building, I’m gonna put it in about, call it 10 million. Our Opportunity Zone fund for Fund II has around $700 million for its projects. That means 10%, I need about 70 million. Now you add in some of our, you know, fundraising costs and other things, you know, maybe 100 million was our minimum as far as how comfortable we wanna be. And we’ve already hit… Well, we’re almost at 120 million in funds raised. So we’ve already hit our minimum, we’re not particularly concerned that even if we stopped fundraising today, we wouldn’t be able to build our projects. However, we always anticipated we’re gonna raise around 200 million. And that’s still our goal, and it’s really still what we expect to hit.

Jimmy: Good. Well, good luck to you. And the good news is we are in a pretty good time of year…this episode’s airing in mid-December, with less than three weeks to go until year-end. And I don’t know, it’s kind of become a rule of thumb in the Opportunity Zone industry, and maybe in the investing industry as a whole, but it certainly seems to be true for Opportunity Zones that December seems to be the biggest month of the year for fundraising. Novogradac data seems to support that, by the way. Q4…they report on a quarterly basis and Q4 is always by far and away the biggest fundraising quarter. Why is that, Erik, and do you see similar trends? And what are you expecting this December and in the last few weeks for Urban Catalyst, as we run down 2022?

Erik: You hit the nail on the head there, Jimmy, we always see huge Q4s and especially giant Decembers as far as fundraising velocity. You know, our statistics here at Urban Catalyst, we raise about 50% of our annual fundraise in Q4, and we raise about 35% of our annual fundraising December alone. So, you can see it is always a big month for us, we’re always excited. We have a rule here at Urban Catalyst, no one takes vacations in December because we are so busy with incoming investors, it’s hard for us to even handle the volume that we get. In fact, we beef up and prepare for this all year long.

And a lot of that is because as a tax-advantaged fund, you know, folks have 180 days from the day of their capital gains event to invest. But a lot of times they want to do their Opportunity Zone fund investment in the same calendar year that they had their capital gains event, just to make their taxes simpler when they pay them in April. And so, here you got a lot of folks, and they’re sitting there going, “You know, I had a great year,” they started thinking about their taxes then they go, “Oh, man, I have so much in capital gains taxes, I should do something about that. Well, if I’m gonna do something, I should do it this year so I don’t have to like mess around on my tax returns and file augmenter returns. Like, what if I have to pay, and then I get my money refunded? I don’t really want to do that. Let’s just invest in December and make it really simple.”

And so, in December, like clockwork, investors start calling and calling and calling and start coming in through our website. There have been past years where I’ve had 10 or 15 investor calls a day. And the calls, I have to go like, “Hey, I don’t have a lot of time that I can answer your questions. We can talk about the fund but what you need to know is that to get in by the end of the year, here’s what you do.” Where maybe in January, I can spend a couple of hours chit-chatting with them about, you know, anything they wanna talk about but December is that crunch time. And here we are right in the middle of it, Jimmy, it’s so exciting. It’s like college football Bowl season and fundraising season for Opportunity Zone funds.

Jimmy: I love Bowl season, as my friends and family know. But yeah, fundraising season for Opportunity Zones is not a bad time of the year either. What about 2023? Can I get your Outlook real quick? We’re running out of time here but I wanted to know, do you have any concerns about the economy heading into 2023? You mentioned high-interest rates, higher cost of debt, inflation, what are you concerned about the most and what should investors be considering when they look to 2023?

Erik: I mean, everybody right now is watching inflation, and then we’re watching the Fed attack it aggressively. I’d love to see inflation stop and start to go down. And when that happens, you’re gonna see out there people are gonna start feeling a lot better about the economy, banks are gonna feel more secure about their loans. We’re gonna see our financing markets for ground-up development expand significantly.

And that’s going to be a huge benefit to us as we go out looking for financing, for example, on our Fund II Echo project. You know, we’ll start looking probably, like, in April for that capital stack to build that. So right about that time, I’m hoping that the Feds have increased interest rates to the point where inflation starts to become manageable and under control with some certainty, folks are feeling better about the economy, financing markets open up. But overall, I’m expecting a pretty good 2023.

I was pretty optimistic at the beginning of 2022. I mean, 2021, bummer year here in the valley, right? I mean, 2022, it started off strong since then that uncertainty has really raised its ugly head with inflation. If we get that under control, and people are feeling better about the economy overall, we’re going to have a great 2023. And maybe I’m a little bit more optimistic than other folks but, you know, I’m watching my projects, do I have a clear path to start construction, you know, create that vertical capital stack to build those buildings? And a lot of cases, I’ve got it, I see it. And so, I don’t feel those negative impacts or the uncertainty that a lot of folks, you know, feel out there. So that’s kind of how I feel about 2023. I’m excited for it. It’ll be a happy new year, you know.

Jimmy: Good. Well, I wanted to end there but then I just thought of one more question I got to ask you before we go. And it is, what about OZ legislation, do you think it’s gonna pass before the end of this year? And what would it mean to you and your investors if it does pass? Are you concerned that it won’t pass potentially, and what impact might that have if it doesn’t get passed, on your fund and investors?

Erik: Sure. So, the new legislation that’s out there, you know, lots of folks been talking about it. It does a couple of things for Opportunity Zone funds. But the two major positive benefits for investors is it gives everyone that 15% discount when they pay their taxes on their initial capital gains event. So that…a couple of years ago, you got a 15% discount then it went to 10%. This year, if you invest, 0%. It would retroactively give everyone that 15% discount, so that’d be awesome. I have over 800 investors here, between Fund I and Fund II, they’re all gonna be super happy about that.

The second thing that that does that I think is even more important is it pushes out the date they have to pay those capital gains taxes from 2027 to 2029. Now, that doesn’t seem like such a big deal. But all of our investors and, you know, the way that we’ve structured our funds, is to have cash distributions to our investors prior to when they need to pay their taxes so they don’t have to come out of pocket to pay those taxes because they invested those funds into our fund. So having those distributions is important. And we get those distributions when we build our buildings, and we have those refinance events.

We have plans in place for both Fund I and Fund II to have those refinance events prior to 2026 returning at least 40% of our investors’ initial investment, which is called the minimum amount they need to pay their taxes. But if that extension happens, where they don’t pay until 2029, it sure gives us a little breathing room. You know, perhaps we can make different deals or do better deals. If we wanna wait on a project because we don’t like the terms, we’re not worried about waiting because we don’t have that kind of hanging over our heads and our investors’ heads.

So we would really like it if that passed. Now, will it pass? You and I, Novogradac, the whole world… we’ve been saying it’s gonna pass here before the end of the year. I do think that eventually it’s going to pass, whether it’s this year or next year. But will it pass before the end of the year, we’re still pretty optimistic it’s going to pass before the end of the year.

I check with my partner Sean every day who’s on Novogradac’s national working group that advises the treasurer in the IRS. And so far, it’s no update, no update, no update, but they’d always said it would be after elections and before the end of the new year, so here we go. Will it be we? We are waiting with bated breath, Jimmy, just like everybody should.

Jimmy: We’re going to find out very shortly here. Hopefully, we find out that it did get passed in the next two or three weeks here before the end of the year. That would be great. And if not, then fingers crossed for it to pass at some point in 2023. Erik, it’s been great speaking with you today, if we have any listeners or viewers out there who are liking what you have to say, maybe they wanna talk with you some more or learn a little bit more about Urban Catalyst, where can they go to do that?

Erik: You can learn more about us by visiting urbancatalyst.com.

Jimmy: Urbancatalyst.com. Fantastic. And, of course, for all of my listeners and viewers out there today, I will, as always, have show notes available for today’s episode at our website. You can find those show notes at opportunitydb.com/podcast. And there I’ll have links to all of the resources that Erik and I discussed on today’s show. And please be sure to subscribe to us on YouTube or your favorite podcast listening platform to always get the latest episodes. Erik, again, it’s been a pleasure. Thanks so much for joining me today. And if I don’t see you again, happy New Year. We’re getting there.

Erik: You too, Jimmy. Take care.

Jimmy: Thank you.

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