The Opportunity Zones Program and HUD Multifamily Loans
Opportunity Zones offer a groundbreaking federal tax incentive to encourage development in some of the nation's most distressed areas, where HUD multifamily loans can be ideal for investors.
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FHA Multifamily Loans Are an Excellent Source of Funding for Opportunity Funds
The Opportunity Zones program offers a groundbreaking federal tax incentive designed to encourage development in some of the nation’s most economically distressed areas. Created as a result of the Tax Cuts and Jobs Act of 2017, the Opportunity Zones Program permits borrowers to defer paying capital gains taxes until 2027, provided that they invest in an Opportunity Fund, a special financial vehicle which must invest at least 90% of its assets in a Qualified Opportunity Zone, or QOZ. Qualified Opportunity Zones include 8,700 low-income census tracts specifically nominated by state and territorial governors and approved by the U.S. Department of the Treasury.
Opportunity Funds can invest either in real estate or eligible businesses. To invest in real estate, a fund needs to either construct a new building, or invest at least the current value of a building into rehabilitation/building improvements. With long terms, high leverage, and low interest rates, HUD multifamily loans are ideal for developing multifamily properties in Opportunity Zones.
The Tax Benefits of Opportunity Zones
While we mentioned that investing in an Opportunity Fund allows investors to defer paying capital gains taxes, that isn’t the only tax benefit they offer. In fact, investors who keep their investment for at least five years are eligible for a 10% discount on capital gains taxes, while investors who hold the investment for seven years can receive an additional 5% reduction — for a total discount of 15%. Finally, those investors who keep their investment in an Opportunity Fund for at least 10 years will not have to pay any capital gains taxes on any investment gains since it entered the Opportunity Fund.
It’s important to know that Opportunity Funds can self certify — they don’t actually need to receive approval from the Treasury or any other government agency. However, they will be subject to an asset test twice every year to ensure that 90% of assets are actually invested in a QOZ. Funds that do not meet the standard will be subject to a variable penalty, which is currently set at 6% per year. Investors may start their own Opportunity Fund (i.e., a captive fund), or, they may choose to invest in another Opportunity Fund.
Opportunity Zones and Affordable Housing
Opportunity Zones are often in need of quality affordable housing, and this is where HUD multifamily loans truly shine. HUD offers some of the highest leverages in the industry, with its HUD 221(d)(4) and HUD 223(f) loans allowing LTVs of 87% for affordable properties and LTVs of 90% for developments with 90% or more low-income units. Plus, affordable properties are allowed a lower DSCR (to a minimum of 1.15x) in comparison to the 1.20x required for market-rate properties.
In many cases, Opportunity Fund managers (and associated developers) may also wish to make use of the Low-Income Housing Tax Credit (LIHTC) program, a dollar-for-dollar tax credit which is awarded to developers of affordable properties and can be re-sold to investors to fund the development of a property. While the LIHTC program is competitive, it can be an excellent way to generate capital for projects. The credit comes in two variations: 4% credits, which subsidize 30% of a project’s cost, and 9% credits, which subsidize 70%.
In addition, HUD multifamily borrowers using the LIHTC program can also enjoy a reduced 0.45% mortgage insurance premium, in contrast to the 0.65% MIP generally mandated for other properties. When combining this program with the tax benefits of Opportunity Funds, investors can achieve truly remarkable yields.