Thread by @LettieriDC

On this slow news day, here are some thoughts on how the new #OpportunityZones regs are a game-changer for investment in local operating businesses, as covered by @jimtankersley in today’s NYT.
nytimes.com/2019/04/17/bus…

The new regs cover lots of issues that will help the marketplace scale, diversify, and avoid abuse. But most importantly, they remove some of the most significant uncertainties that have held back investment in local entrepreneurs & businesses with growth potential.

Until now, Treasury’s guidance did little to facilitate local business investment, which Congressional leaders, community stakeholders, and outside advocates see as the core goal & promise of the #OpportunityZones initiative.

It’s simple: #OpportunityZones won’t succeed unless it provides a meaningful new source of equity capital for entrepreneurs and homegrown businesses in low-income communities.

So how did they do? Let’s look at 10 key issues for operating businesses.

1st, Treasury delivered new clarity on how to meet the 50% gross income rule, providing three safe harbors related to where employees work, location of management/HQ functions, and area of service.

Context: the gross income rule was probably the most detrimental shortcoming of the first round of draft regs in October, as they seemed to exclude any business that sells to customers outside the immediate vicinity.

2nd: the regs ensure that Opportunity Funds will have a minimum of six months to deploy capital they raise from outside investors. This is a huge deal & helps resolve one of the biggest and most unnecessary practical hurdles preventing capital from getting to local businesses.

(Believe it or not, prior to this, funds could have as little as *one day* to invest capital received from investors.)

3rd: the 31-month working capital safe harbor now includes the development of an operating business. (The first draft reg seemed geared specifically towards real estate development.)

Furthermore, the regs clarify that businesses may use multiple overlapping or sequential safe harbor periods as they grow and raise capital. Very helpful.

4th: properties vacant for more than 5 years immediately qualify for investment, making it easier for local businesses to invest and put them to back productive use. Vacancy and blight are major challenges in many #OpportunityZones — this will help.

5th: the regs provide a variety of important and practical clarifications regarding the treatment of the leased property of an OZ business.

6th: Inventory and raw materials in transit to or from an OZ business do not count against the “substantially all” test.

7th: Treasury clarifies that funds will have 12 months to reinvest “interim gains” — but doing so starts a new clock for the tax benefit on the newly reinvested gains. This is a very consequential issue and will be the focus of much attention in upcoming comment letters.

8th: The draft regs provide new certainty to help multi-asset funds wind down and return capital to their investors after 10 years without blowing up the tax benefit. Such certainty is crucial for getting investors to commit to a very long (10+ years) lockup period.

9th: An OZ business must use at least 40% — “substantial portion” — of its intangible property in the active conduct of a trade or business.

Now, not all of these issues come with the label “For Operating Businesses,” but in tandem they dramatically impact the ability of investors, fund managers, & businesses to organize/execute. They also shape the kind of local benefits that can accrue to communities.

In addition to opening the door for new investments in local businesses (for which OZ communities are desperate), these regs will make it easier for communities to develop their own strategies and work with investors to address local priorities.

10th: By far the biggest shortcoming for operating businesses in the new regs relates to the all-important “substantial improvement” test.

Unfortunately, the proposed regulations require a cumbersome asset-by-asset approach to satisfying the test.

Complexity is a subsidy to larger incumbents (& advisors) — and a tax on startups & smaller/newer players. Treasury needs to make the substantial improvement test easier to navigate for local businesses. Should be a major priority for the final rulemaking.

Bonus issue: the regs are also favorable for renewable energy investment, as they appear to avoid creating ordinary income/capital losses on the sale of partnership interest in a fund.

There’s already lots of interest from the renewables community; this should bring even more.

Bonus bonus: it’s great to see the request for input on reporting requirements. @SenBooker & @SenatorTimScott have legislation to reinstate/expand the original requirements, but Treasury shouldn’t wait for an act of Congress to put a framework in place.

There’s still plenty of need for improvement (& analysis), but the new regs mark a major step forward for #OpportunityZones.

2019-2020 is the prime window for communities to organize & the market to take shape. Here’s hoping we see a lot more clarity in the weeks ahead.
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