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P2’s Naugatuck Plant is in an Opportunity Zone

Tax Cuts and Jobs Act of 2018 provides for significant capital gains tax relief for investments in certain areas of the country. P2 is in one such area. For more information, read below or contact Neil Burns, CEO. (neil [at] p2science.com)

From the Economic Innovation Group

WHAT ARE OPPORTUNITY ZONES?  Opportunity Zones are low income census tracts nominated by governors and certified by the U.S. Department of the Treasury into which investors can now put capital to work financing new projects and enterprises in exchange for certain federal capital gains tax advantages. The country now has over 8,700 Opportunity Zones in every state and territory.

WHAT ARE OPPORTUNITY FUNDS? Opportunity Funds are private sector investment vehicles that invest at least 90 percent of their capital in Opportunity Zones. U.S. investors currently hold trillions of dollars in unrealized capital gains  in stocks and mutual funds alone— a significant untapped resource for economic development. Opportunity Funds provide investors the chance to put that money to work rebuilding the nation’s left-behind communities. The fund model will enable a broad array of investors to pool their resources in Opportunity Zones, increasing the scale of investments going to underserved areas.
WHAT ARE THE INCENTIVES THAT ENCOURAGE LONG-TERM INVESTMENT IN LOW INCOME COMMUNITIES? The Opportunity Zones program offers investors the following incentives for putting their capital to work in low-income communities:

  • A temporary tax deferral for capital gains reinvested in an Opportunity Fund. The deferred gain must be recognized on the earlier of the date on which the opportunity zone investment is sold or December 31, 2026.
  • A step-up in basis for capital gains reinvested in an Opportunity Fund. The basis of the original investment is increased by 10% if the investment in the qualified opportunity zone fund is held by the taxpayer for at least 5 years, and by an additional 5% if held for at least 7 years, excluding up to 15% of the original gain from taxation.
  • A permanent exclusion from taxable income of capital gains from the sale or exchange of an investment in a qualified opportunity zone fund, if the investment is held for at least 10 years. (Note: this exclusion applies to the gains accrued from an investment in an Opportunity Fund, not the original gains).

So, if a family office is sitting on $100M capital gains as a result of the recent stock market, they can invest in P2, then if they stay in for 10 years and in the course of that period make a very conservative 7% annual gain, they will end up with $44M (33%) additional cash vs a traditional investment. Here’s how:

A) The Green Family Office has $100 of unrealized capital gains in its stock portfolio. Green decides in 2018 to reinvest those gains into an O-Fund that invests in P2, and it holds that investment for 10 years. Green is able to defer the tax it owes on its original $100 of capital gains until 2026. Further, the basis is increased by 15% (effectively reducing its $100 of taxable capital gains to $85). Thus, Green will owe $20 (23.8% of $85) of tax on its original capital gains when the bill finally comes due. In addition, since Green holds the O-Fund investment for at least 10 years, it owes no capital gains tax on the appreciation. Assuming that Green’s O-Fund investment grows 7% annually, the pre-tax value of the original investment in 2028 will be $196M and the after-tax value of the original $100 investment in 2028 will be $176.  Total tax bill : $20 (due in 2026).
B) By contrast, the Brown Family Office has has a similar $100 M of unrealized capital gains but they decide to realize and reinvest those gains in a traditional investment. First, in 2018, Brown pays $23.8M in capital gains, thus reducing their investable cash to $76.2M. They put this $76.2M into an investment bearing 7% annual gains and thus at the end of 10 years, in 2028, Brown has $149.9M, including a $73.7 capital gains. They pay tax on this gain of 23.8%, that is $17.5M, leaving them with after tax cash of $132M – which unfortunately is $44M less than Green’s cash. Total tax paid by Brown is $41.3M (23.8 of it in 2018).
The origin story of the concept is quite fascinating (linked articel from Forbes)
The Wall Street Journal has also reported extensively.

 

From the New York Times: The Treasury Department outlined new rules on Friday October 19th, 2018 stemming from the $1.5 trillion tax overhaul last year that are aimed at giving investors confidence to pour billions of dollars into distressed economic areas across the United States.

Investment banks, venture capitalists and real estate developers have been eagerly awaiting guidance for so-called opportunity zones, a sort of domestic tax haven that was created under the Republican tax bill that President Trump signed into law in December. The zones are devised to attract capital to urban, suburban and rural areas where investment has lagged after the Great Recession — like broad sections of Detroit and Stockton, Calif. — by allowing investors to avoid some taxes when they fund projects there.

The draft regulations, which will be subject to 60 days of public comment and most likely completed next spring, would allow individuals, corporations and other types of businesses to invest in new opportunity funds. The funds could only be seeded by capital gains, such as the proceeds from selling a home or a share of stock at a profit. Ninety percent of a fund’s investments must be in qualified opportunity zones.

P2 Science, Inc.

4 Research Drive,
Woodbridge, CT 06525
Phone: (203) 821-7457
Email: inquiries@p2science.com

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