4 Critical Opportunity Zone Questions Answered

16 Sep 4 Critical Opportunity Zone Questions Answered

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The Opportunity Zone Program is well underway, and the important December 31, 2019 deadline looms before us. An Opportunity Zone investment must be completed by this date to realize the full 15 basis-point adjustment on capital gains taxes. But remember, even if your deal closes after this deadline, you could still realize a 10 basis-point adjustment, plus your new purchase will be free of all federal income tax if you hold it for the required length of time.

For those who own or are considering buying a property within an Opportunity Zone, there are four environmental questions that must be answered:

Question One: I own a property in an Opportunity Zone. What can I do in advance of the sale to increase the property’s value and expedite the entire sales process?

If you know you are going to sell your property, whether or not it’s in an Opportunity Zone, it is advisable that you obtain environmental closure prior to the sale. This is a sound strategy that delivers the following benefits:

1. Clean properties invariably sell for a higher price than those that are environmentally impacted.
2. Clean properties attract more buyers than environmentally distressed properties. Most buyers are averse to risk and prefer to avoid environmental complications.
3. Clean properties close faster. Real estate brokers will tell you that time kills deals. Closing on commercial deals is sufficiently complex without complicating the process with
   environmental compliance issues. ESA is privy to many projects where the sales process was hindered by the conflicting interests of the buyer. And these conflicting interests are often exacerbated by their respective attorneys.
   As a seller, do not allow the buyer’s attorney and/or their environmental consultant to impose their views upon your environmental compliance process.
4. The seller often gets to choose the nature and form of their environmental closure. This is an important benefit that can disappear when you allow the buyer and their consultant to insinuate themselves into your compliance process.

Question 2: I want to buy an Opportunity Zone investment property. What is due diligence? When should I do it? Are all forms of due diligence the same?

Due diligence is a non-invasive investigation (meaning that no samples are taken) used to determine if the property in question harbors potential environmental impacts. In New Jersey, there are two forms of due diligence that can be used. The first is an ASTM Phase I. The other is a Preliminary Assessment (PA).

The ASTM Phase I is used in all 50 states. A Phase I Environmental Site Assessment is conducted and written in accordance with the current ASTM E 1527-13 standard and is intended to constitute “all appropriate inquiry” (a.k.a. “AAI”) for purposes of an innocent landowner defense, contiguous property owner defense, or bona fide prospective purchaser defense pursuant to the federal Comprehensive Environmental Response, Compensation and Liability Act (CERCLA, better known as Superfund). However, it is not intended that its use be limited to that purpose.

PAs are specific to New Jersey. Every PA must follow the format prescribed in the New Jersey Technical Requirements for Site Remediation (N.J.A.C. 7:26E), which differs from the ASTM format and must compare the results of all past environmental investigations against contemporary standards. PAs are the preferred form of due diligence when buying commercial or industrial property in New Jersey because they are required pursuant to various New Jersey laws and statutes, e.g., Brownfield and Contaminated Site Remediation Act (N.J.S.A. 58:10B-1 et seq.). Additionally, a PA must be performed to satisfy the specific requirements of an innocent landowner defense as established by the NJDEP.

The ASTM Phase I and PA can be combined into one report. Combining them confers the ultimate form of protection for a purchaser relative to both CERCLA and the NJDEP regulations. Should you consider combining them? Ultimately, that is a question best addressed by your environmental attorney.

Question 3: Opportunity Zone regulations require that a property be substantially improved within 30 months of being acquired. Do the costs for environmental compliance meet the definition of substantial improvement?

Property is treated as “substantially improved” by the Qualified Opportunity Fund (QOF) only if additions to the basis with respect to such property (excluding land) in the hands of the QOF exceed an amount equal to the adjusted basis of such property at the beginning of the 30-month period. Essentially, this means you must double the basis (cost) of the property plus 1 dollar. The federal government has not yet explicitly stated that environmental compliance costs are eligible to be counted for purposes of “substantial improvement.” However, the overwhelming consensus of attorneys actively putting together QOFs and helping with Opportunity Zone deals is that these costs are allowable. That is, you can use environmental costs to fulfill the substantial improvement requirement. Opinions further indicate that this will be rectified and addressed in writing when the U.S. Treasury releases their next regulatory update. Remember that the environmental costs to be incurred by an Opportunity Zone developer need to be included in the Opportunity Zone developer’s Working Capital Safe Harbor plan.

Question 4: Because environmental compliance, in a perfect world, will be completed within the 30-month period, what steps can an investor take to hasten the environmental compliance process?

There are a series of steps that can be taken:

1. Be responsive. The environmental compliance process and its associated costs create discomfort for most people. Discomfort induces procrastination; sometimes known as avoidance. So, when you receive a proposal or change order, review it then sign it. Sometimes clients take weeks or months before they authorize ESA to proceed. Certainly, you have every right to ask questions and we encourage you to do so. But don’t allow the process to linger.
2. Don’t count on prior environmental approvals and closure notices to save money or time today because they may no longer be valid. Regulations change. Steps taken to ensure compliance 20 years ago may be inadequate today. Cleanup standards may have changed. Activities subsequent to the closure may have created new impacts.
3. ESA recently wrote an article that goes into greater detail on this subject: askesa.com/2019/02/the-need-for-speed.

Opportunity Zone owners and investors must work with an attorney that fully understands the OZ process. The environmental compliance aspect must be addressed intelligently, swiftly, and with precision. Choosing the right environmental consultant makes this process much easier.