Does selling a stabilized development project to an OZ fund typically result in a higher resale value? If the project is located in a rapidly growing neighborhood that happens to be in an Opportunity Zone, would you underwrite it at an exit cap equal/lower than the going in cap rate assuming a 5 year hold?
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Well...first of all, selling a stabilized deal isn't going to work for OZ capital, since you need to improve your cost basis in the improvements by 100% to qualify. Built deals trading to OZ-qualified money only works if the deal is pre-TCO.
But, no. We've gotten two ground-up OZ deals funded and they are underwritten just like any other deal. That being said, there is more equity chasing these opportunities so the good ones are generally easier to finance, but underwriting a more aggressive cap rate usually isn't going to fly.
Sorry for being unclear, I meant doing a ground up development that is projected to stabilize in ~3 years. Seems like a more aggressive underwriting could only be justified by the stand alone deal/market environment, and ignore the fact that the deal is in a OZ.
For clarity...
Are you referring to a traditional acquisition of an asset that just happens to be within an opportunity zone? If not...you might be confusing the true purpose/advantage of opportunities zones.
Let me state that I'm not pretending to be an authority on opportunity zones...but will share my insights/understandings.
In order to take advantage of the opportunity zone benefits...you need to undertake new development/construction. Also...you need to have a 10 year hold in order to truly realize the tax benefits. I don't believe a 5 year hold will yield any advantages (or at least very nominal advantages). Others can likely provide better insight on that aspect.
There's not enough data to know the cap rate dynamics (from a historical standpoint). However...it sounds like the previous poster has some experience on what people are internally projecting.
Keep in mind...opportunity zones are...as currently codified...a limited time thing...with sunset provisions. Therefore...there might be a risk in thinking there will be any benefit on trading assets within opportunity zones down the road.
Also...you also have to consider the underwriting risk. By nature...opportunity zones are blighted or economically depressed areas.
I'm currently undertaking a MF development project within an opportunity zone. The site just happened to be in an opportunity zone. We didn't target the site because it was an opportunity zone. Therefore...the fact it's within an opportunity zone doesn't impact our model.
There seems to be a lot of misinformation out there when it comes to opportunity zones. And there's a lot of fly-by-night entities/people trying to promote opportunity zones as the greatest thing ever to happen to real estate. Frankly...there's a lot of scammers out there playing on this topic.
In my mind...opportunity zones make the most sense for large developers/groups/funds that:
-have substantial existing assets/holdings -are targeting a long-term hold -have the capacity/intent to undertake massive development projects...as in $100MM+ mixed-use projects that span several acres
For the MF development I mentioned earlier...we had to consider the underwriting risk that the rest of the opportunity zone tract (around 50 acres total) might not attract other investment. So...are we going to be the catalyst for other investment to flow into that zone...or are we going to end up being a complete outlier with the rest of zone being undeveloped or underutilized.
I'm referring to a mixed use ground up development. This property is in a OZ tract that is an up and coming area that already had a few development projects in the pipeline in 2017, so I would not consider the area to be blighted right now.
As of now, there is only one project in the pipeline, due to difficulty of obtaining entitlements in my market.
They might overpay, if they are facing a large tax they'd rather avoid or if they value neighborhood improvement over pure profit.
I saw a pre approved dev deal that landed in a OZ go up about 60% in price one it was announced and the owner just sold it with entitlements instead of building.
THis! You need shovel ready projects...takes too long to do ground up for QOZ
That's not really true...both our funded OZ deals are ground up deals that require full construction documents. The trick is that you need to structure a deferred closing so that the clock on your 31-month window to put your OZ equity out the door and satisfy the 100% substantial improvement test starts when you are already several months into drawings.
At a macro level, the OZ fund experiment isn't really doing much for the real estate sector. Mnuchin projected $100B in OZ money raised by now, and the number is closer to $2B. Of that $2B, the amount that has actually been deployed is infinitesimally small. Any deal that doesn't close by the end of the year will have an even lower tax-incentive attached to it, so I don't see any uptick happening.
As everyone who actually knew what they were talking about predicted before this happened, the only OZ deals getting done are deals that would've gotten done anyway. The market has spoken on how they view OZ's, and that is as nice dressing on top, but nothing worth overly concerning yourself with.
As the GOAT Craig Bernstein once said "OZ makes good deals better, not bad deals good"
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