Maximum opportunity, maximum danger.
That about sums up ImpactAlpha’s early coverage of “opportunity zones,” the impact investing story of the summer that is destined to break out in wider political and media circles this fall.
The “opportunity funds” soon to be raised will pour tax-deferred stock-market winnings into designated low-income neighborhoods in every state. The uncapped tax break could move tens or hundreds of billions of dollars into investments in places like South Bend, Louisville and Oklahoma City, all of which have been moving to attract the capital.
The maximum opportunity is to flip a switch from scarcity to abundance of capital for investments in geographies and demographics that have long been capital-starved. Efforts across decades for inclusive models of community development could blossom with robust investment.
The maximum danger is that tax-cut-fueled real-estate plays further dislocate hipsterizing urban neighborhoods already reeling from gentrification.
Under the theory, “Don’t let a good bubble go to waste,” the impact investing field has scrambled to mobilize. At ImpactAlpha, we’ve been amazed at the advance response to today’s Agents of Impact conference call on “Seizing the Opportunity Zone Opportunity.” You still can get on the waitlist here.
The sudden opportunity zone frenzy is an object lesson in the speed with which capital can turn on a dime…especially when a tax break is involved.
Capital gains tax cuts are hot now because investors of all sorts are eager to take their chips off the casino table that is the stock market. The prospect of a hefty tax bill is a major reason they don’t. Such unrealized capital gains amount to well over $6 trillion.
Follow the money! Even a small fraction flowing into opportunity funds could reshape community development. The apparent inflection point make the opportunity zone opportunity a real-time experiment in exponentially scaling capital and an object lesson, or cautionary tale, for impact opportunities in other zones or sectors.
Here are a few of the takeaways from some of the Agents of Impact we’re talking with.
- Welcome aboard: America’s local revival is already underway. Long before the Investing in Opportunities Act kicks in, American cities and towns are finding new and diverse ways of bringing back jobs, neighborhoods and community. As James and Deborah Fallows showcase in their book, “Our Towns,” America is in the midst of a regenerative wave. Even without a tax break, local ecosystem-builders around the country are supporting diverse and mission-driven entrepreneurs. ImpactAlpha has profiled dozens of these “New Revivalists,” who are investing in overlooked places, solving real problems and most importantly, spotting hidden and underestimated talent. Community development finance institutions and affordable-housing lenders and developers have been moving capital and building relationships for years. Opportunity funds that succeed will build on these local economic development plans and regional strategies.
- Harness policy to impact outcomes. The power of policy, especially policy that directly translates into ROI, cannot be underestimated. A capital-gains tax break turns out to be the difference between fund managers clamoring to raise opportunity funds and flat-to-down levels of investment in other capital-starved sectors of demonstrable impact. “It’s all about the yield,” one affordable-housing financier told me about the flow of capital to projects inside, and outside, the new opportunity zones. Check out the additional returns to investors with this handy calculator.
In contrast to the clamor for opportunity funds, investment levels are flat in some key high-impact, low-margin sectors. The “missing middle” of developing world business-development is still missing, as the takeaway from two reports last week on the $1 trillion opportunity for small-business lending around the world. Even more alarmingly, renewable energy investment, needed to avert climate catastrophe, fell by 7% to below $300 billion last year, the International Energy Agency reported (solar power and energy efficiency investments were up). To have even a shot at meeting 2030 climate-action goals, global investment in renewable electricity needs to nearly double to about $550 billion per year, experts says.
Capital gains tax rates are not the only lever to pull. Time to put a price on carbon?
- Go big, go long. It takes more than real-estate deals to lift up a community. Low-income neighborhoods need multiple flavors of capital in order to create thriving communities with jobs, housing and services for current residents and growing revenues for local business owners. ImpactAlpha’s Dennis Price has written about “community capital stacks” that include debt, equity, grants and even municipal-bonds. By stacking forms of capital, communities can also ensure that the right stakeholders are at the table as opportunity funds actively look for deals. That means that more kinds of investments can participate in the uplift, not only real estate, but small businesses, affordable housing and other basic services.
There’s a huge incentive built into the opportunity zone legislation for investors to maintain their opportunity fund stakes for 10 years or more. The cost-basis of their investment gets stepped up to the fair-market value at that point, eliminating most if not all of the capital-gains tax liability. There may well be unintended consequences, but it’s a powerful incentive to plan for America 2028.
- Share the wealth with community asset-building. The opportunity zone legislation includes no impact accountability or even reporting, but that doesn’t mean champions of social impact can’t hold fund managers responsible for genuine community wealth-creation. The trick to making the zones more than a quick-flip real-estate play, and to generate more than low-wage, temporary jobs, are strategies in which active community participation and deep engagement surfaces better ideas, activates talent, reduces risks and creates better investment opportunities.
One strategy is to intentionally invest in local founders and entrepreneurs of color. Project 500’s Melissa Bradley plans to team up with Entrepreneurs of Color funds in several cities to identify pre-vetted businesses. Adding later-stage debt and equity capital will help Black and Latino entrepreneurs start and grow businesses. Other funds will help local business owners buy their own buildings, and residents to become homeowners.
Expect new models of community ownership, from artist co-ops to community energy companies to nonprofit land trusts. Here’s a provocative idea: Provide equity stakes in the new opportunity funds themselves for community residents and businesses. Just as Norway built one of the world’s largest sovereign wealth funds from its North Sea oil, or native communities have used casino revenues to build community assets, low-income communities can build collective wealth from the rising value of their own neighborhoods. Philanthropic and public capital could reflect the community’s value-add with dedicated opportunity fund stakes for current residents.
- FOMO = Full-Out Mobilization Opportunity. The level of interest in opportunity zones reflects that most powerful of investment drivers: fear of missing out. But FOMO could stand for something even more powerful, a full-out mobilization to seize a rare moment of abundant capital. It’s going to take popular pressure to make positive community impact the centerpiece of the new opportunity zones. The Rev. William Barber is leading a new “Poor People’s Campaign” calling for voting rights, universal health care, fair wages and affordable food, education and housing for 140 million poor and low-wealth people in the U.S. The fusion of Rev. Barber’s call for a moral revival with strategies for inclusive prosperity and equitable opportunities can create a powerful base grounded in the lived experience and aspirations of America’s own emerging market.