A Big Tax Break for Socially Responsible Investing

The structure of the investment is novel. The zones aim to entice people who, after years of increases in the value of their investments, have a lot of “embedded gains,” or taxes that would be owed if those holdings were sold.

Investors can put those profits into opportunity zone funds, which will invest in businesses and real estate in these designated areas. In return, the investors will get various tax breaks on both the investment they sold and the one they made in the opportunity zone.

If they maintain their investment for five years, they’ll get a 10 percent break on the capital gains tax they would owe today; if the investment lasts seven years, the reduction is 15 percent. When the investment in the opportunity zone hits 10 years, the gains on that investment are tax free.

Investing in these zones would seem like a win-win. But not all opportunity zones are the same, and the tax incentive could also keep investors from being sufficiently rigorous with their due diligence.

For starters, some of the zones are a stretch to qualify as neighborhoods in need of help. In Connecticut, South Norwalk, a bustling restaurants and arts area, is on the list. So are East Austin, Tex., where property taxes are rising quickly as property values soar, and Oakland, Calif., which is becoming San Francisco’s younger, hipper sibling.

There are investors who plan to focus on the edges of opportunity zones. Among them are Avy Stein, a co-founder of Cresset Capital Management, and Larry Levy, a real estate investor and a founder of Levy Family Partners, who have teamed up to raise a $500 million fund. Mr. Stein said one of the criteria is that the investments would need to have been worthy without the tax break.

“It makes sense to identify those areas where, with a substantial amount of capital, those communities can change,” Mr. Stein said. “It doesn’t make sense to put money into areas where the capital won’t come out.”