Opportunity Zones Can Assist Just & Equitable Transitions
Source: NRDC
https://www.nrdc.org/experts/julia-prochnik/opportunity-zones-can-assist-just-equitable-transitions
May 16, 2019 Julia Prochnik & Roger Baneman
The Qualified Opportunity Zone tax advantage could be used to attract investment capital to start businesses that hire workers sidelined by coal mine or plant closings.
As part of the 2017 law, Congress enacted a set of tax incentives for investments in “Qualified Opportunity Zones” (QOZ) to encourage private investment in economically distressed communities.
Opportunity zones can offer access to new streams of capital investment in communities experiencing job loss due to fossil fuel plant closures, enabling these communities to develop new businesses and employment opportunities.
Many States Officials are promoting the economic and social value of QOZ investments. California has 879 QOZ, and released a study noting that between $745 million and $1.2 billion in new economic activity in QOZs could be generated this year, which could help local economies become more sustainable and inclusive. Both California and Colorado have specific QOZ websites to promote the economic advantages.
As the fossil fuel industry in the U.S. continues to decline, many coal plants and mines are subject to closure, damaging the economies of those communities that depend on them. Some of the plants and mines that are slated to close are located in or near Opportunity Zones. Take a look at the GIS maps created by our colleague Aaron Rosenbluth overlaying opportunity zones with gas and coal plants and mines.
Well-paying jobs that provide employment for former coal workers are essential in a “Just and Equitable Transition” from the current energy economy to a clean energy economy. The notion of a “Just and Equitable Transition” builds upon learnings from the indigenous and labor movements working to create a “just transition” securing workers' jobs and livelihoods as the economy is changing. Adding equity as a consideration expands the policymaking to include diverse community voices and help make change livable for all impacted. “Just and Equitable Transition” describes both where we are going and how we get there. If the process of transition is not just, the outcome will never be.
In addition, as our colleagues, Stephanie Gidigbi, Sasha Forbes, and Marissa Ramirez note in their blog, “investment without protective equitable policy and process mechanisms leads to gentrification and the subsequent displacement of residents in low-income and communities of color.”
How Do Opportunity Zone Investments Work?
The opportunity zone tax benefits generally go to investors with pre-existing investments that have appreciated in value. By investing in funds that invest in opportunity zones—known as “Qualified Opportunity Funds”—investors can
defer the capital gain on these existing investments through 2026,
avoid taxation on up to 15% of this capital gain, and
avoid tax on any appreciation in the Qualified Opportunity Fund investment if they hold that investment for at least 10 years.
In order to be eligible, the Qualified Opportunity Fund must hold most of its assets in one or more QOZ: census tracts that are considered “low-income communities” (or in certain cases, are adjacent to low-income communities). The qualifying census tracts were nominated by each state and then designated by the U.S. Treasury.
The investments must also generally be made in a “Qualified Opportunity Zone Business,” generally a business that derives most of its income from the active conduct of a trade or business in a Qualified Opportunity Zone and meets several other requirements. Those requirements include that substantially all state of the business' tangible property
is used in the zone, and
was acquired by purchase from an unrelated party after December 31, 2017.
There are many complicated rules involved in structuring a Qualified Opportunity Fund. The U.S. Treasury has issued extensive proposed regulations on opportunity zones, and guidance and practice are still developing.
So How Would the Opportunity Zones Be Used to Create Businesses and Help Displaced Workers?
The basic idea is that fund managers would create private equity funds constituting Qualified Opportunity Funds to seek investment opportunities in places that
are in or near communities that will need employment for displaced coal workers and
are located in opportunity zones.
The capital gain tax benefits to investors in Qualified Opportunity Funds should facilitate the raising of capital by these fund managers. The investors can be from anywhere in the country—they do not have to reside in the opportunity zones or in that state.
While fund managers are generally private individuals (or management companies formed by private individuals), public entities or not-for-profit entities could also be fund managers. For example, a public utilities commission or a government-formed green bank or green fund might potentially be a fund manager, as might a not-for-profit entity formed to facilitate the employment of displaced coal workers.
It may be desirable, for regulatory or legal reasons, for the governmental entity or not-for-profit entity to form a wholly-owned entity, such as a limited liability company, to be the actual fund manager. In addition, federal, state, and local law constraints, including the laws and regulations governing the particular public utility commission or other public or not-for-profit entity and any other applicable regulatory or legal regimes, would have to be considered. However, this kind of structure might be worth exploring to jump-start fund formation.
Under this law, the tax incentives should generally be available for any type of business investment that provides employment for displaced coal workers, including clean energy production, such as solar or wind, or energy efficiency (EE). For instance, a business in a QOZ implementing EE features in new construction or doing EE retrofits could potentially qualify.
Gov. Newsom's May Revision to the budget includes a key sentence in the first paragraph of page 74 outlining the importance to decrease demand and supply of fossil fuels in a just and equitable manner:
"The May Revision also recognizes the need for careful study and planning to decrease demand and supply of fossil fuels, while managing the decline in a way that is economically responsible and sustainable."
Proposed legislation in California, such as AB 383, and AB 857 and other states could further help opportunity zones transform the environment and economy in impacted communities.
Qualified Opportunity Funds are new and there are many questions swirling about their formation, conditions and operation. However, they have the potential to be a powerful tool to attract investment in businesses that hire displaced coal plant and mine workers.
To get the fullest capital gains tax benefit on the appreciated assets whose proceeds are invested in a Qualified Opportunity Fund, investors must invest in the fund by the end of 2019. The time to invest in Qualified Opportunity Funds is now!
The foregoing general discussion is not legal or tax advice. Readers are urged to consult with their own legal and tax advisors about the tax, legal and regulatory issues in connection with the matters discussed above.