Mixed expectations for how new federal program will affect Davis
On Feb. 5, the City of Davis announced that a Davis region has been chosen to receive opportunity zone status. Opportunity zones were created within the Federal Tax Cuts and Jobs Act of 2017 to address national economic disparities by using tax benefits to incentivize distressed area investment.
Davis’ opportunity zone, defined by census tract, is approximately 0.8 square miles in size. It is “bordered by the north/south UPRR line on the west, L St. and Pole Line Rd. on the east, Covell Blvd. and 5th Street on the north and I-80 to the south,” according to the press release. Current development projects already in this tract include the controversial Nishi Student Housing project, Lincoln 40 Apartments, 111 Richards Hotel and Trackside Center.
Whether or not the opportunity zone will affect current development projects will depend on the timelines of the projects and the regulations that will continue to be released by the Internal Revenue Service.
So far, guidelines for how opportunity zone tax benefits will work are simpler and more flexible than previous similar place-based development projects, such as the New Market Tax Credit program and the Enterprise Zone program.
The opportunity zone model incentivizes long-term investment. If someone invests their profit from a sale or an investment — their capital gains — into affordable housing, real estate or infrastructure in an opportunity zone for five years, their capital gains tax will be reduced by 10 percent.
For instance, if the capital gains tax is normally 50 percent, an investment of $1 million in an opportunity zone would mean that after five years, the investor would have to pay only 40 percent — $400,000, instead of $500,000. For seven and 10 years, investors receive even more incentive — a 15 percent tax reduction — and for a 10-year investment, they also do not have to pay capital gains tax on earnings that came from investment in the zone.
John Whitcombe, a Nishi Gateway Student Housing partner, believes this Davis opportunity zone may benefit the Nishi project.
“Front end capital in the millions of dollars will be required,” Whitcombe said via email. “The opportunity zone may be a solution to incentivize front end investor participation.”
While Mayor Brett Lee agrees that the zone will produce benefits, he believes that lot sizes of the zone may prevent these benefits from being significant.
“There aren’t a lot of large parcels in that area,” Lee said. “You can imagine that if there were 50-acre parcels available, the amount of income on that parcel could be quite substantial — so that the savings by deferring taxes could be quite substantial — but for smaller parcels, I’m not sure how big of an impact [the opportunity zone] would have.”
On the other hand, a potential exists for the opportunity zone to be too effective. One CityLab article warns that poorly chosen opportunity zones “could pour gasoline on a market that’s already white hot,” leading to gentrification and displacement for the very communities the program aims to serve.
Thus, when areas are already developing without the help of opportunity zone incentives, as Davis’ zone seems to be, there are some risks of overly rapid development. This would only be a danger, of course, if Davis’ opportunity zone is effective, despite its small parcels.
Another reason for judicious selection of opportunity zones is because they are in limited supply. An area gains eligibility to become an opportunity zone if it meets a definition of a Low-Income Community, but only 25 percent of census tracts can be chosen from those eligible, a decision ultimately made by state governors.
Noli Brazil, a UC Davis assistant professor in community and regional development, spoke about how it is important for these place-based programs to take into account regional change over time for this reason.
“[The criteria] might capture a disadvantaged neighborhood, but for the past five years, it’s improving because of some kind of renewal process, gentrification —and so that kind of neighborhood — is that the type of target that these development programs need to be going after?” Brazil said. “Instead, [the program should be] focusing more on neighborhoods that have continued to experience decline, or are increasing in decline.”
Brazil also warned about place-based programs in general, particularly because of their history of causing displacement.
“I think the broad theory or the idea of place-based programs are fine, but I think it needs to be combined with other approaches,” Brazil said. “I think it needs to bring a more holistic approach to development.”
Sarah Worley, the business engagement manager for the City of Davis, was more confident than Brazil about the promise of opportunity zones and similar tax incentive program to support local business growth.
“It’s definitely a tremendous opportunity, and it can be combined with other tax increment programs, etcetera,” Worley said. “Actually, the State of California is proposing to do that very thing — to say this is just one tool in the toolbox that can help direct investment in areas that would really benefit from it.”
Worley said that she has received a few inquiries about the zone and that the City of Davis has been proactive in doing outreach to raise awareness about the zone, but that investor interest is tempered by the lack of information from the federal level so far.
“It’s still very new, and people are waiting to find out, well, okay, how is this really going to work?” Worley said.
The State of California has published online tools to help interested investors engage with opportunity zones, including an online portal with more information and a marketplace to review and post investment projects. The IRS had been planning to release more regulations Feb. 14, but has been delayed by the government shutdown.
Written by: Anne Fey — firstname.lastname@example.org