Over the past two months, we have visited 12 U.S. cities and counties as part of our New Localism book tour and met with public, private and civic leaders from dozens more.
In city after city, our discussions have quickly turned from a general synopsis of the themes and recommendations of the book to a specific discussion of a little-known tax incentive contained in the recently enacted Tax Cuts and Jobs Act of 2017 that focuses on attracting private investment to distressed communities. Given the emphasis in our book on the importance of organizing civic and private capital, this was not unexpected.
Past federal place-based tax incentives have been generally structured along two lines. Since the 1980s, tax credits have been created to spur equity investments (generally by large financial institutions trying to shield taxable income) into low-income rental housing, historic preservation and commercial real estate. In the 1990s, empowerment zones took a different approach, giving tax benefits to companies that locate in specific communities.
The new “Investing in Opportunity Act”, co-sponsored by Senators Tim Scott (R-S.C.) and Cory Booker (D-N.J.) explores a third path. The law allows people or corporations to defer taxes on capital gains if they park those gains in qualified Opportunity Funds that target their investments to state-designated Opportunity Zones. If investors stay in a Fund for 10 years, any additional gains from Fund investments are also exempt from taxes on the capital appreciation.
The new tax incentive differs from other tax incentives in several ways. First, it is more market driven. It does not use a federal or state agency to distribute the incentives. Secondly, it can be used for a wide variety of projects: residential, commercial, businesses. Third, there is no cap on the amount of the benefit as long as the regulations (still to be written) are followed.
The process of designating zones is happening in real, record time. The law directs Governors to select Opportunity Zones from an eligible group of low income census tracts by the third week of March 2018 (or the third week of April 2018 if an extension is requested). States are now scrambling to get input from cities and counties to get this right.
We have written elsewhere — www.thenewlocalism.com/research/guiding-principles-for-opportunity-zones — about the principles that should guide the selection of zones and ultimate design of investment and inclusion strategies for distressed urban, suburban and rural areas. As always, the devil will be in the details.
It is conceivable that this small tax incentive may catalyze large amounts of capital for a broad range of investments in communities left behind. And if it does, it will build on a distinct mix of federalism, localism and capitalism.
With Governors and states taking different approaches to the designation of zones, the federalist element is clear. Once zones are selected, the localist component will come into sharp relief. We expect that the most forward-looking cities and counties will develop Investment Prospectuses that build from the distinctive assets of selected areas (e.g., strategic location, land availability, anchor institutions) and tease out specific investable projects and propositions. Most cities will go further and design inclusive growth strategies that maximize the positive impact that private investment could have on low-income residents living in or near selected areas. A recent trip to Louisville showed city leaders already thinking through a range of schools and skills strategies.
And, finally, capitalism. Investors are being asked simultaneously to do well and to do good. This incentive is certain to spur new concrete, routinized ways of linking long neglected markets and large pools of capital and matching investor expectations with investment reality. The recent explosion of impact investment in support of environmental issues and climate change could conceivably find a place-based focus as a result of the new tax bill. And it may also spur creative pooling of local and national philanthropic resources focused on social returns. It’s a reminder that the United States has not suffered from an absence of capital but a lack of connectivity.
All of this, of course, is still nascent. Rules still need to be written. Funds still need to be raised. Local strategies still need to be devised. But shame on us if we don’t explore the full potential of this tool to expand employment opportunities, regenerate communities, integrate low-income residents into productive labor markets, and create new financial instruments (and even institutions) for investing in distressed places and disadvantaged people.
Note to Readers:
This newsletter is a continuation of an effort started by Bruce Katz a year ago while he was the Centennial Scholar at the Brookings Institution. We have decided to continue the newsletter as a joint effort, delivered every two weeks, building on lessons learned from our research, travels and conversations and responding directly to questions raised by readers and practitioners. As many of you know, Bruce has left Brookings. The two of us have co-founded New Localism Advisors to help cities organize public, private and civic capital in ways that spurs transformative investments. We hope that you continue to follow our musings.