Investing In Overlooked Entrepreneurs

The United States and Britain are in the middle of an enormous economic and societal shift brought about by globalisation and the automation enabled by advanced technologies.

These trends have without question brought enormous benefits. But there is growing acknowledgement that there are places and people who have been left behind, leading to economic insecurity and political unrest.

While large, urban areas with college education workers are booming, many other areas are still experiencing declining business starts, sluggish job growth, and persistent poverty.

In the wake of the financial crisis these communities are also finding themselves shut out of the capital needed to rebuild their main streets and revitalize their communities.

In the United States, a bipartisan provision of the Tax Cuts and Jobs Act of 2017 created Opportunity Zones which strives to provide catalytic capital to these communities. It works in this way. After investors sell appreciated assets such as stocks, bonds, or real estate, they can reinvest the money gained from those sales into certain equity-financed projects located in an Opportunity Zone.

The law offers investors three tax incentives that grow the longer the investment stays in an Opportunity Zone: deferred payment of the federal capital gains taxes on the reinvested amount until 2026, a tax liability reduction of up to 15 percent if they hold the investment for up to seven years, and no taxes on any generated gains from that investment if held for at least ten years.

The policy is unique in four important ways. First, it is a market, not a program. The distinction is important in that there is no government bureaucracy approving projects or allocating limited tax credits. Community leaders and entrepreneurs within an Opportunity Zone must instead make a compelling business case when they pitch projects to private sector investors.

Second, the policy creates incentives for those who have benefited the most from the economic recovery to reinvest those unrealized capital gains into projects in distressed communities that need new sources of capital. The incentive grows over time, rewarding patient private capital.

Third, Opportunity Zones are a tax incentive, not a tax credit. That’s an important difference in that there is no up-front subsidy to investors. Instead, investors bear the risk if the project fails and only receive the favorable tax benefits if they keep their capital invested for ten years.

Fourth, the policy was intentionally designed to provide maximum flexibility for projects. Urban communities have different needs from a rural community. Opportunity Zone financing can support building affordable housing units or providing the start-up capital for a technology business. Rural areas might use tackle capital intensive projects such as renewable energy or broadband buildout.

There are promising signs that the policy is already delivering benefits. More than 366 funds have formally launched, representing $65.77 billion in community development investment capacity.

Cities like Erie, Pennsylvania are leveraging the financing to redevelop parts of the city that have been neglected for decades as manufacturing left. Hypothesis Studio is investing in healthcare, agricultural, and financial technology companies. The KNGDM Impact Fund is supporting new minority-owned businesses.

This concept could work in the United Kingdom where there are geographic divides in terms of economic growth and dynamism.

The policy would need to be carefully targeted, to help the areas facing the most difficulty.

The financial incentives need to reward patient capital and have the flexibility to support the widest range of projects.

Opportunity Zones are just one tool in the toolkit for helping break intergenerational poverty and supporting communities adjusting to a changing world, and changing economy. They are a complement rather than substitute for creating favorable business conditions, tax environment, and investments in education and workforce training.

John Bailey is a visiting fellow at the American Enterprise Institute and former domestic policy adviser to President George W Bush