Two New Tax Advantaged Financing Tools for Hotel Investors

Looking into Opportunity Zone and Property Assessed Clean Energy (PACE) financing

Brad Elmer, managing director of Baker Tilly Capital, LLC, the wholly owned private investment banking subsidiary of Baker Tilly Virchow Krause, LLP, specializes in assisting clients—including hotel developers and owners—with project finance and incentives. He described for LODGING the how’s and why’s of two particular options—property assessed clean energy (PACE) financing and the benefits of locating projects in opportunity zones.

What special approaches are hotel owners and developers taking to finance projects now?
It’s our job at Baker Tilly to find creative ways to help our developer and owner clients pay for their projects at the best rates and terms. In addition to the use of bank debt, equity, state and federal historic rehabilitation tax credits, and tax increment financing (TIF), there are two new incentivized options that may make sense for a lot of hospitality clients. They are property assessed clean energy (PACE) financing, which is geared specifically toward energy efficiency improvements, and opportunity zone financing, which is for projects located in designated “opportunity zones,” whereby investors can take advantage of federal tax benefits in exchange for their contributions to economic growth and investment in specific opportunity zone census tracts, which account for 11 percent of the country.

What is PACE financing and how does it benefit hotel developers?
PACE funding is enabled by state legislation in 33 states, where it is established locally through counties and municipalities for eligible improvements to a variety of buildings, including: hotels, retail, industrial, multi- family, and office buildings. This long-term (up to 25 years) fixedrate loan product is offered at much lower rates than those available for equity or mezzanine debt, so it can be used by hotel developers to finance energy-efficient new construction or qualifying improvements such as retrofits, replacing higher cost capital in their capital stack. One of the things that makes it unique is that the debt is repaid through a special assessment on your property tax bill. Other benefits are: it is non-recourse, so no personal guarantees are required; no principal repayment is required upon sale; and it can be used to finance 100 percent of eligible costs of improvements, although it can also be combined with other federal, state, and local incentives.

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What are opportunity zones?
Opportunity zones are specific low-income census tracts identified through the Opportunity Zones program, which was established via the Tax Cuts and Jobs Act to spur long-term private-sector investments in low-income communities nationwide. The Opportunity Zones program offers federal tax benefits for those who invest in these qualifying zones. To establish the qualifying zones, states first nominated various low-income communities. The governor of each state was then permitted to select 25 percent of the state’s qualifying areas, which were designated by census tract data and had to meet a definition of low-income.

How does opportunity zone financing work?
This is a really hot topic now. The Opportunity Zones program offers federal tax incentives for investing realized capital gains in a qualified opportunity fund (QOF), an investment vehicle that is set up as either a partnership or corporation for investing in an eligible property that is located in an opportunity zone and that utilizes the investor’s gains from a prior investment for funding the opportunity fund. It has specific federal tax benefits—not unlike a 1031 exchange, although there are some key differences including additional benefits.

For example, you can defer capital gains from a prior investment and can have a portion of those gains forgiven; and you can also have gains on the opportunity zone investment completely forgiven if it is held for 10 years. This is really important for hotels because they are generally financed with a high proportion of equity, so if the property for which funds are raised is located in an opportunity zone, investors have the opportunity to structure the transaction so that they receive some very valuable tax advantages.

 


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