Friday, August 12, 2022
Weekly SSRN Tax Article Review And Roundup: Layser Reviews Opportunity Zones: A Program In Search Of A Purpose By Eldar & Garber
This week, Michelle Layser (San Diego; Google Scholar) reviews Ofer Eldar (Duke; Google Scholar) and Chelsea Garber (J.D. 2023, Duke), Opportunity Zones: A Program in Search of a Purpose, 102 B.U. L. Rev. 1397 (2022).
When I give talks about place-based tax incentives, the discussion nearly always turns to an important question: What is the purpose of providing tax breaks for investment in low-income communities? Or, more directly, am I sure that the purpose of these laws is to benefit low-income residents? My answer: Not really (see here), but they tend to be sold as such, so it’s worth thinking about how they could be designed to advance that purpose. (Some of my thoughts about that are set forth in How Place-Based Tax Incentives Can Reduce Geographic Inequality, 74 Tax L. Rev. 1 (2020)).
That said, it is overwhelmingly clear that most place-based tax incentives are not designed to benefit low-income communities, and they may even harm them.
The Trump-era Opportunity Zones law, which provides capital gains tax relief to certain taxpayers who invest in low-income neighborhoods, is a good example. (See my critiques of OZs here and here). So, if the Opportunity Zones law isn’t intended to help low-income communities, then what exactly is its purpose? A common response is that it’s a giveaway to the real estate industry, and its purpose is simply to subsidize real estate deals and stimulate economic growth. But in a new article, Professor Ofer Eldar and JD/PhD candidate Chelsea Garber provide a different answer.
According to the authors, the purpose of the Opportunity Zones law is to promote startup investment in operating businesses—or, at least, that’s what its purpose was supposed to be, before it lost its way. The essay begins by analyzing how features of the Opportunity Zones statute and regulatory guidance tend to favor real estate investors and create difficulties for startups. For example, the statute’s property-holding and “original use” requirements are generally favorable to real estate developers, but those same provisions create compliance burdens for startup companies. Other features of the law, such as the time horizon and restrictions on debt investment by Opportunity Funds, simply fail to meet the needs of many startup companies.
To prove that these design features are flaws, not features, the authors provide evidence from the legislative history that suggests early backers of the Opportunity Zones law intended to spur startup investment. Sean Parker—who is best known for founding Napster and investing in Facebook, but who is also credited for proposing the Opportunity Zones concept—said his desire was to “democratize access to capital and use that as a mechanism to help entrepreneurial people all over the country.” Other early Opportunity Zones proponents echoed that sentiment. The bill’s sponsors said it was needed to “start and grow businesses.” At legislative hearings, some supporters of the bill contended that “most job creation comes from early-stage startups.” Silicon Valley businessman Andrew Yang predicted that Opportunity Funds could help roll capital into early-stage businesses.
Based on these statements and others, the authors offer their theory: the purpose of the law is to promote startup investment. As such, a key to evaluating the Opportunity Zones law is to ask whether it has increased startup investment in designated census tracts. To that end, the authors present a statistical analysis of Opportunity Zones investment that demonstrates that the tax preference probably has not increased startup investment in Opportunity Zones. (However, the authors did find a statistically significant increase in late-stage startup investment in a subset of zones that were selected based on political favoritism. That result is interesting and, as the authors note, likely reflects inframarginal investment in projects that were already in progress.)
Based on their empirical analysis, the authors conclude that the Opportunity Zones law has not achieved its purpose of promoting startup investment. They argue that some sort of reform is warranted to enable the law to achieve its purpose, but they decline to offer any concrete proposals, and a caveat in their conclusion may provide some insight as to why their recommendation isn’t more forceful: “We do not profess to argue that spurring entrepreneurship is necessarily a loftier or more desirable goal than promoting real estate investment.” These concluding words anticipate some of my biggest questions for the authors.
For the sake of argument, let’s assume that they are right—the purpose of Opportunity Zones is to promote startups, and something went awry at the drafting stage. What if things hadn’t gone wrong, and the law had been carefully and effectively designed to increase startup investment in low-income communities—and what if, instead of null results, the authors’ empirical analysis had revealed a boom in startup activity in Opportunity Zones. Would that have been enough to conclude that the program had achieved its purpose? If the answer is “yes,” than I’m left wondering: What was the point of making the incentive place-based? If the primary purpose of the law is to increase startup activity, why not let entrepreneurs decide where they want to invest?
In my view, the search for a purpose should include serious attention to downstream outcomes. I have argued elsewhere that place-based tax incentives should only be used for the purpose of reducing geographic inequality. Depending on the context, relevant outcomes may include an increase in affordable housing, jobs for low-income residents, affordable health clinics and grocery stores, expanded facilities for nonprofit organizations—or something else entirely. But the type of investment (e.g., real estate vs. startups) is only relevant to the extent that it impacts those second-order outcomes. Of course, if the law fails to increase any investment (startup, real estate, or otherwise), then it will also fail to achieve the second-level outcomes. But it’s equally possible that a law could do a great job spurring investment, while nevertheless failing to achieve its broader place-based purpose.
This Article makes an important contribution to the empirical literature on Opportunity Zones, and I recommend it to anyone interested in investment tax incentives, place-based tax incentives, or empirical tax scholarship.
Here’s the rest of this week’s roundup:
- Eric J. Allen & Aydin Uysal, The Effect of the Mandatory Disclosure of Corporate Tax Returns on Reporting Bias (August 8, 2022).
- Mascia Ferrari (NYU), Stephen F. O'Byrne, (Shareholder Value Advisors, Inc.), Shivaram Rajgopal (Columbia Business School) & Francesco Reggiani (Zurich), Competitive Target Pay Practices for CEO Compensation (August 3, 2022).
- Luke Freed (Global Investor Network), Romir Mohan (American Heritage School), Lara Tsomik (The American School in London), Ameya Patil (John P Stevens High School), Pramit Samanta (John P Stevens High School) & David Gregory (GIN Research Division), Immediate Effects of Corporate Tax Reform (June 28, 2022).
- Victoria J. Haneman (Creighton) and David P. Weber (Creighton), The Abandonment of International College Athletes by NIL Policy (August 4, 2022).
- Michelle Hanlon (MIT), Nemit Shroff (MIT) & Rachel Yoonl (MIT), Asymmetric Effects of Taxes on Product Market Outcomes (May 27, 2022).
- Doron Narotzki (Akron) and Melanie McCoskey (Akron), Code Section 304: A Roadmap, An Updated Analysis, and Policy Considerations,16 VA. L. & Bus. REV. 471 (2022).
- Pranvera Shehaj (Vienna University of Economics and Business), Withholding Taxes in Developing Countries: Relief Method and Tax Sparing in Tax Treaties with OECD Members,WU International Taxation Research Paper Series No. 2022-09 (August 8, 2022).
- Michael Simkovic (USC Gould), Natural Person Shareholder Voting (August 3, 2020).