Gov. Walker to decide on opportunity zones by March 21 deadline 

By Jay Miller

(This article appears courtesy of the Badger Institute.)

In a perfect world, income would be taxed without resort to statutory carrots and sticks. But alas, we live in the real world, where legislators cannot resist trying to influence behavior through tax provisions, despite the added complexity they beget.

Still, given what is — as opposed to what ought to be — we should not ignore tax incentives where they present themselves. And, with that in mind, the new federal tax law has created something called an Opportunity Zone (OZ) to encourage economic investments in impoverished communities. It is a classic case of encouraging one to try to do well by doing good.

Here’s how it works. Governors can nominate up to 25 percent of low-income areas in their respective states to be OZs, subject to the U.S. Treasury Department’s approval. Areas across the nation eligible for such designation, including large swaths of Milwaukee, can be found here.

That designation would then allow taxpayers to sell stocks or other profitable capital assets at a gain but defer paying the tax, to the extent they put the gain proceeds into an OZ fund for investment in designated areas. (Note: It is estimated that currently individuals and corporations are sitting on over $2 trillion in unrealized capital gains.) Taxation of the entire gain could be deferred until as late as 2026, and up to 15 percent could avoid tax altogether if the investment is held for at least seven years.

On top of that, taxpayers could elect to exclude additional capital gains generated from an investment in the fund that is held for 10 years or more.

Consider this example. On Jan. 2, 2018, investor A sells stock for a $500,000 gain. Normally, that would be taxable in 2018. But if the investor reinvests the gain in a qualified OZ fund within six months of the sale and it is held there for at least seven years, 15 percent of that otherwise taxable gain, or $75,000, would not be taxed at all. Further, if the $500,000 gain increases in value to $750,000 and investment in the fund is not sold for 10 years or more, the extra $250,000 gain would also escape taxation.

Although other scenarios could play out, including the fund losing value, most observers would agree that this new provision offers a pretty enticing tax “carrot.”

But for this to be a possibility in Wisconsin, the new law requires that Gov. Scott Walker (like governors in all other states) act quickly. He must nominate certain low-income communities to be designated as OZs by March 21, although he could request a 30-day extension.

Either way, that’s not much time. Compounding the problem is that few people seem to know about the tax incentive. It has been largely left out of the spotlight fixed on the broader corporate and individual tax rate cuts. One professional periodical noted that many states are simply unaware of it.

Although there has been no public discussion at the state level of the Opportunity Zones in Wisconsin, the Walker administration is aware of the incentive. In response to an inquiry from the Badger Institute, his press secretary, Amy Hasenberg, said a “thorough review to determine the appropriate designations” is being undertaken and the governor “will make his determinations based on this information by the March 21 deadline.”

Which areas should Walker nominate as OZs?

Large areas of inner-city Milwaukee, as well as Racine, Kenosha and elsewhere, would be strong candidates for Opportunity Zone designation. That these communities would benefit from an infusion of new capital — if spent well — can hardly be doubted. Moreover, unlike most government programs, this one would be funded with private capital that could be used to start up or expand businesses starving for resources.

Of course, the ultimate question is: Will this idea work? To be sure, tax law has been used in the past to provide other incentives for encouraging investments in distressed areas. For instance, there is the well-received New Markets Tax Credit program that has a similar objective. But the tax credits are allocated on a limited basis and set to expire on Dec. 31, 2019.

The OZ creation is more expansive with — arguably — a greater potential for success. At a minimum, there seems to be little downside to Walker making the designations. Also, it might be a particularly propitious time to designate parts of Milwaukee as an OZ, in light of the Foxconn development in nearby Racine County. The two might work in sync — and without the need for additional state subsidies.

Certainly, others are enthusiastic about the possibilities. According to Jim Lang, a tax partner in the Greenberg Traurig international law firm, “the benefits for investors are potentially huge.” Likewise, U.S. Rep. Mike Gallagher (R-Wis.) recently touted the law’s virtues in a Milwaukee Journal Sentinel op-ed:

“Opportunity Funds can help deploy capital where it’s needed most, driving job creations and wage growth in areas struggling with poverty. This would allow Wisconsinites investing in Opportunity Zones not only to get a return on their investment but also to play a part in revitalizing some of our most distressed areas.”

Looking at Milwaukee in particular, one must ask, “Why wouldn’t its distressed areas be among those that Walker designates as OZs?” The city has a poverty rate of almost 30 percent, one of the highest in the country. Ignoring the problem is not an option. Being bold is.

Establishing one or more OZs here could provide an opportunity for investors and inner-city leaders to work together for a common and mutually beneficial cause. That would be a welcome development in itself.

Jay Miller of Whitefish Bay is a tax attorney and an adjunct professor at the University of Wisconsin-Milwaukee’s Lubar School of Business. He previously served as vice president and tax counsel for Northwestern Mutual. Miller is a visiting fellow at the Badger Institute, focused mainly on tax policy.

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