OZ Investing In San Jose, With Urban Catalyst

Erik Hayden discusses Urban Catalyst’s Opportunity Zone fund, which is developing several projects in downtown San Jose.

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Webinar Highlights

  • An overview of Urban Catalyst’s ground up real estate projects in downtown San Jose.
  • How Opportunity Funds can help investors sitting on a capital gain reduce their liabilities and grow tax free.
  • The Opportunity Zones in San Jose and the macroeconomic trends in Silicon Valley that point to San Jose.
  • What Urban Catalyst looks for in its investments, including job engines, physical infrastructure, and a development-friendly local government.
  • Google’s spending spree in San Jose and commitment to making the city home to its largest campus.
  • An overview of the OZ projects that Urban Catalyst is completing as part of its first fund, including student housing, senior housing, and more.
  • The Icon/Echo development that highlights the fund II portfolio, a mix of office space and multifamily housing units.
  • The challenges that San Jose — and the Bay Area in general — face in meeting demand for housing.
  • How San Jose competes with the rest of the region in attracting office tenants through lower rents.
  • The appeal of investing in a team with extensive knowledge and experience of the local market.
  • The timeline for Urban Catalyst’s fund, including payment of taxes and targeted sale of assets.
  • The “hidden” tax benefit of OZ investments, which relates to depreciation recapture.
  • Live Q&A with webinar attendees.

Urban Catalyst

Urban Catalyst is a real estate equity fund focused on ground-up development projects in downtown San Jose. As both fund manager and local developer, they have experience creating ground-up development projects in downtown San Jose.

Learn More About Urban Catalyst

Webinar Transcript

Jimmy: We’re gonna continue now with “Urban Catalyst.” So let me bring Erik Hayden on stage here. He has a qualified opportunity fund that invests exclusively in downtown San Jose, all of which conveniently lies within an opportunity zone. There’s Erik. Erik, how are you doing today?

Erik: I’m doing great, Jimmy. Gosh, it’s good to see you.

Jimmy: Erik, take it away.

Erik: Sure, Jimmy, So, today I’m gonna talk about Urban Catalyst, which is the fund that we are doing here in downtown San Jose. And let me share my screen and go through a little presentation with you. So, here at Urban Catalysts, our current offering, we’re raising our second opportunity zone fund. We’re structured a lot like a traditional real estate equity fund. We’re focused on doing ground-up real estate development projects in downtown San Jose, California. Of course, it is an opportunity zone fund. We’re able to give those additional tax benefits to our investors. And really just to get us started, we’ve been featured here at Urban Catalyst in the news. Pretty often over the last few years, we’ve had over 200 news articles written about us, really just a lot of positive buzz about what we’re doing here in downtown San Jose. Most important of these, of course, we’re named by “Forbes Magazine” as one of the top 20 opportunity zone funds in the country. So nothing like getting a little national validation from Forbes that we’re doing things the right way. In order to get the tax benefits associated with the Opportunity Zone Program, you have to have a capital gains event. Here are the three most common ways that folks have capital gains events, the sale of stock, the sale of business, the sale of real estate. You know, it’s interesting, in our funds, we now have over 500 investors in Fund I and Fund II. And it turns out, the sale of stock, 70% of our investors, that was their capital gains event. And it really makes a lot of sense because before opportunity zone funds were created, there really weren’t a whole lot of ways to shelter those gains from the sale of stock. But now that opportunity zones are in place, investors are figuring it out. Of course, once you have that capital gains event, you have 180 days to put your money into a qualified opportunity zone fund in order to get those tax benefits. This is just a reminder so that no one misses out.

And then these are the three headline tax benefits that you can read about all over the internet, but I’ll just go through them really quick. The first is, you’re able to defer paying taxes on that initial capital gains event until 2027. The second benefit, when you pay your taxes in 2027, you get a 10% reduction. So for every $100 that you would have owed in taxes, you only have to pay $90. And these are great, but it’s really the third benefit that is the biggest benefit, and that is after an investor’s money seasons in our fund for 10 years, all the profits from the fund itself are tax-free from a federal capital gains perspective. Everybody likes tax-free profits, right? Here at Urban Catalyst, our plan is to build these buildings, lease them up, stabilize them, hold them until we get to that 10-year mark, and then sell the assets and liquidate the fund. And that’s when we return the majority of the profits to our investors.

Now, one other thing, Jimmy, that I just wanted to point out, this 10% reduction, as a part of the federal program that was created in 2017 initially it started off, you got a 15% reduction, then it changed down to a 10% reduction. And this is all part of their plan, right? So for two years, it was 10%. And as of January 1st next year, it goes to 0%. So, really, this month is the month to invest into opportunity zone funds so you don’t miss out on that additional 10% reduction. Taking a step back, here are the opportunity zones throughout the Bay Area in green. This is the San Francisco Bay Area. Of course, for this fund, we’re focused on downtown San Jose. You can see downtown San Jose is covered by four census tracts that are opportunity zones.

And it’s interesting, when I formed Urban Catalyst in 2018, my plan was to create a real estate equity fund to focus on doing ground-up development in downtown San Jose, mainly because of the overall macroeconomic trends throughout Silicon Valley, all pointing towards downtown San Jose as the next place to do development on a large scale. It was only after I started forming Urban Catalyst that I learned about the Opportunity Zone Program, and that everywhere I was planning on building these buildings was already located in the zone. I thought, “Well, wouldn’t it be great to be able to give my investors these additional tax benefits associated with this program?” So that’s how Urban Catalyst became an opportunity zone fund.

And when I talk about those macroeconomic trends, what I’m really talking about is tech migration. So, here’s Silicon Valley. You know, obviously, everyone knows there are lots of tech companies here in the valley. For this example, I’m just gonna talk about these five companies, now the five largest companies in America by market cap. You know, as these companies have grown over the last 20 years, they’ve expanded their office footprint all over the world, all over the country. But here in Silicon Valley, what we’ve seen is a slow migration southward. If Palo Alto and Mountain View here kind of the center of the Silicon Valley universe, they’re not very big cities. So, this expansion, these companies, they needed more space. And what they did is they made big moves into the city of Sunnyvale. That’s been great for Sunnyvale. You know, there was room to grow. And a lot of development happened in Sunnyvale over the last 20 years, in fact, pretty much went gangbusters.

And to give you an idea, just at the scale of all this, currently, in Mountain View, Google occupies 95% of the office space in the entire city. And very similarly, here in Cupertino, Apple occupies 85% of the office space in that entire city. And now, in the city of Sunnyvale, Google and Apple combined have more than 50% of the office space. But now, Sunnyvale is completely built out. And it’s also kind of fund… Three years ago, when I started Urban Catalyst, I’d say, “Now that Sunnyvale is built out, where’s the next logical place that all these companies will go?” But now I can just say, “And all of these companies have now gone to San Jose.” Microsoft and Apple have taken large landholdings. Amazon has had an office here for a few years. And really, the biggest story in downtown has been what Google is up to. And I’ll talk a little bit more about that in some future slides. But because of this tech migration, the downtown San Jose market, from an office perspective, we’ve seen rents more than double in the last decade. And we’ve seen vacancy rates that historically were 20% to 25% drop down below 10%, really just showing how healthy the market has become.

We’ve been developers here at Urban Catalyst for many, many years doing projects all over the Bay Area. And whenever we do a project in any city, we wanna make sure that it has several criteria that we have to have. Downtown San Jose has all that. The first is we wanna make sure that there’s a demand for all the different types of projects that we’re building. And in downtown, that demand is really driven by the Silicon Valley job engine. We wanna make sure that transit and physical infrastructure are already in place. Diridon Station slated to be the largest train station on the West Coast already has a variety of mass transit options that connect to it, including Caltrain. And now Bart is fully funded to come through downtown and connect into Diridon Station. San Jose State University, right in the heart of downtown, has 35,000 students. It’s the second-largest university in the Bay Area behind Cal Berkeley.

And then, of course, we always wanna see a local government that wants to see development happen. That is not the case in most Bay area cities, but it’s absolutely the case here in downtown. They wanna see high-density development occur, and they wanna see it now. A lot of that has been brought on by the Mayor, Sam Riccardo. This is a picture of my partner Josh and I with Sam. Sam’s been the mayor for seven years. And before that, he was the council member representing downtown for eight years. And it’s really the policies that he’s put into place that have streamlined the pre-construction process and just made it so much easier for developers like us to do business.

To give everyone an idea of just the massive revitalization that’s occurring here in downtown San Jose, I like to show this, you know, before and after slide, this is the current skyline in downtown. If all of the projects that are currently in the planning process are built out, say over the next 10 years, downtown San Jose should more than triple in size. You can see Urban Catalyst, our Fund I, and our Fund II projects there in red. But definitely exciting things happening here in San Jose. And to continue talking about the downtown market, here’s my two-dimensional map. This blackline here, this represents the opportunity zone. Right here, this is our headquarters. We’re located right in the heart of the zone. We’re right next to Adobe’s world headquarters and Zoom’s world headquarters, San Jose State University. And then that new Bart line that I was talking about… And by the way, for those of you that don’t know, Bart is the largest mass transportation system here in the Bay Area. And it’ll finally be connecting here through downtown San Jose with a stop downtown into Diridon Station, that big train station. You can literally get on Bart here in the downtown core, and you can be in downtown San Francisco in the financial district in 55 minutes.

As I mentioned, the big story recently has been Google. And I’ll give you guys the Cliff Notes. Google over the last five years just has been on an acquisition tear. They have acquired over 80 acres worth of property. They’ve spent almost half a billion dollars on those acquisitions. And the plans that they had approved at city council earlier this year show them building roughly 7 million square feet of office and 6,000 residential units. At build-out, this will be Google’s largest campus on Earth. So really exciting stuff. I mean, to hear about San Jose, you know, it’s the 10th largest city in America. The downtown core has about 100,000 people in it. This campus alone is projected to bring between 40,000 and 60,000 additional people into downtown every day, really, you know, livening up our ground floor retail restaurants, you know, flower shops, everything else to make downtown San Jose just really blossom.

But of course, Google’s not the only story in town. Recently, we’ve seen a lot of big developers come into downtown, three notable ones, Boston Properties, Jay Paul, and West Bank. Combine these three groups, they’ve spent over a billion dollars acquiring property, and they’re planning on doing millions of square feet of new development. Here are some of the renderings, some of the architecture that they’re planning just so you can get kind of flavor of what is going to be built here in downtown. Jay Paul’s already started on this 900 plus 1,000 square foot high rise. Boston Properties already started on this million square foot office building. So, we’ve already seen this really beginning.

Of course, this is what we saw at Urban Catalyst, and we saw this wave of development coming to downtown. And our whole plan was to get in on the ground floor and acquire properties before they were scooped up by all the big developers and big tech companies. And really, that’s exactly what we did with the acquisition of our Fund I and Fund II projects. Here in blue, you can see our six Fund I projects. In Fund I, we raised $131 million. We had over 350 investors, 6 projects. We’ve already started construction here on this Paseo project. We plan to start construction on all of these projects in the next 12 months. Paseo and Fountain Alley, these are both 100,000 square foot mixed-use office buildings. Keystone is an extended state business hotel. Delmas, this is a senior living facility. Madera is an apartment building, and the Mark is a student housing high-rise. So these are the six projects in Fund I, just to give you an idea of what we’re up to here in downtown.

But today, of course, we wanted to talk about our current offering, Fund II. Fund II is located right here in orange. You can see we managed to acquire almost half of an entire downtown San Jose city block. And it’s right across the street from City Hall. It’s right on Santa Clara Street, which is really the main drag of the Central Business District, and it’s right next to a future Bart station. It’s really the epitome of transit-oriented development.
Here’s what Fund II looks like. We have two projects in Fund II. On the left is Icon. Icon is a 420,000 square foot office building. And on the right is Echo. Echo is a 300 plus unit multifamily building. Here’s a different view of these two projects. When I like to talk about these projects, I like to talk about the demand, you know, as to why did we decide to build these two asset classes in this location. I’ll start with Echo here. You know, multifamily demand is somewhat of a no-brainer, right? Here in California, we have a housing crisis. And it’s especially true here in Silicon Valley, where we’ve created six jobs for every housing unit that we’ve built for over 30 years straight. That’s why we have some of the most expensive housing both for sale and for rent in the entire world.

Interesting statistic just came out that I think really outlines the housing crisis. Here in Silicon Valley, if we wanted to build enough housing, to have supply, equal demand, we’d have to build 150,000 housing units. We’ve never built more than 5,000 units in a single year in history. So it’s gonna be really a challenge for us to build our way out of this. Whenever we build multifamily, we really like to put in just the best amenities possible. This is our podium pool deck. This is our infinity pool. You know, we have some cabanas. This is a two-storey amenity space that wraps the pool deck. So, in here, we have an indoor-outdoor fitness facility. Over here, lounge area, kitchen bar, movie room, game room, and then out on the grass, some barbecue areas for our tenants. And then up on the 22nd floor, this is our rooftop lounge. This has views in every direction with couches, with fire pits. And we also have this indoor area. This is office space for our residential tenants. This is their conference room that doubles as a dining room in the evening.

Now, I’ll talk about Icon a little bit. You know, the demand for office while it’s still strong in Silicon Valley, it is different than multifamily mainly because, as developers, we can build the office fast enough to meet the demand. So, whenever we build new office, we have to make sure we have all of the right things in place in order to really attract that top-quality tenant. And this project has all those things. The first is, you know, the old Mantra location, location, location. We talked a little bit about the location here in downtown and what a great spot it is for real estate. But downtown San Jose, from an office perspective, it competes with all of Silicon Valley.

So, how does downtown San Jose compete? Well, it competes really in two ways. The first is, it’s one of the only places that you can get this amount of office space, so you can get office space at scale. And the other way that it competes is rents for office in downtown San Jose are about 50% of what rents are at say in downtown Palo Alto. So it’s a lot less expensive to locate here.

The next thing that I like to talk about, of course, that we have to have is what I call functionality. That means we have the right amount of parking. So, this project, we have the right amount of parking. We’ve designed these really large floor plates. This is what all the new office tenants wanna see. They call them the big fat boy floor plates. These are 40,000 square feet, so almost an acre of net square footage per floor. We have 14-foot floor to floor heights with floor-to-ceiling windows to really give that open airy office feeling. And we have a lot of interior, or sorry, a lot of exterior spaces. So you can see these exterior staircases, balconies. And back on this slide, you can see some of the rooftop decks that we’re planning, some of the rooftop gardens, just taking advantage of those, you know, 300 days a year of sunshine that we get here in San Jose.

And then the last thing is what I call architectural aesthetic beauty. You know, it has to be a good-looking project. For this project, we’re utilizing WRNS as our architect. They’re one of the premier architects for office here in Silicon Valley. They just finished doing Microsoft’s big campus up in Mountain View. And we’re really pleased with how this project is turned out and what the design looks like.

Now, what makes Urban Catalyst different than other opportunity zone funds, is most other opportunity zone funds are just fund managers. Their whole plan is to go out, raise a bunch of money, and then look all over the country for developers that have projects in opportunity zones. Of course, here in Silicon Valley, we like to look at Steve Jobs and Steve Wozniak, we think, these guys go out, you know, raise a bunch of money, and then hire someone to build them a computer? The answer is, of course, not. They built a computer, and then they took it out to the market. And really, that’s what we do here at Urban Catalyst. We’re not just fund managers. We’re also the developers of all of our projects, and we have projects in our portfolio. And now we’re taking those projects out to the market.

Another thing that I like to talk about with all of our potential investors is, you know, when you hear about the Opportunity Zone Program, you hear a lot about just tax benefits. You know, don’t get me wrong. We’re big fans of the tax benefits here at Urban Catalyst. But when it comes down to it, if the biggest tax benefit associated with the program is you get tax-free profits after 10 years, you know, there better be profits after 10 years, or really, what’s the point of the entire program? So, understanding the local market, the asset classes that are being built, and who the developers are, they’re building those projects, that’s what matters. Here at Urban Catalyst, we see ourselves as a solid fundamental real estate equity fund and development company, and we see the opportunity zone tax benefits really as just the icing on the cake for our customers.

A little bit about me, I’ve been a developer for my entire career. I’ve done several billion dollars worth of ground-up real estate development projects. And in general, I build institutional quality and scale projects. Really what that means is I build big buildings, income-producing buildings, and with a typical exit strategy of selling out to, you know, a publicly-traded REIT, a large institutional equity group.

At Urban Catalyst, We have five partners. Really, when I started Urban Catalyst, I knew we’d be doing business in downtown San Jose. Wanted to build an all-star team of downtown San Jose developers. And I did that by bringing on Josh Burroughs and Paul Ring. Josh is our chief operating officer. For over a decade before he joined Urban Catalyst, he was the lead developer at Barry Swenson Builder. And he managed our entire downtown San Jose portfolio. It’s quite extensive. He got experience building a variety of different project types and asset classes. Paul Ring, for 15 years before he joined Urban Catalyst, he was the lead developer at The Core Companies. They focused on multifamily and below-market-rate housing development here in downtown San Jose. And I had a great experience about a decade ago working with Paul as a joint venture partner on two apartment projects here in San Jose. Really liked his style. I brought him on to manage our, now it’s a 15-person development and construction team that build all of our buildings.

Of course, we’re not just developers, we’re also fund managers. Morgan Mackles, who I’ve known for over 25 years, he and I went to high school together. He spent his career building scalable and repeatable sales processes. Now he’s our head of Investor Relations. He has worked at big and small companies, you know, startups all the way up to Fortune 500. And he’s the primary reason why we’re so successful in our Fund I fundraising, why we’re off to such a great start raising money here in Fund II.

Last but not least, Sean Raft. Sean is our general counsel. He is, of course, an attorney, but he also manages all of our financial consultants, our accountants that do our tax and audit, our legal team, our fund managers. Of Course, Sean also, not only is he a great guy, but he’s also on the national working group that advises the Treasury and the IRS on any ongoing clarifications to the Opportunity Zone Program. Kind of an easy way to say it, Sean, really dots the i’s and crosses the t’s at Urban Catalyst.

So, these are the five partners. We have a total of 35 people that work here at Urban Catalyst. But the five partners are experienced here in Silicon Valley. We’ve built over $5 billion worth of ground-up real estate development projects. And you can really see the heavy concentration of projects here in downtown San Jose.

Now, I’m gonna shift gears and talk a little bit about the timeline of our fund. You know, every opportunity zone fund is a little bit different. So it’s good to understand exactly how our fund works. We’re doing a $200 million fundraise here in Fund II. We plan on raising money for three years. And the reason why we’re projecting a three-year fundraise is because in our first fund, we raised on average $65 million a year. You times that by three years, you get to that $200 million. Our minimum investment size, $250,000. But just so everybody remembers, here’s where you have to pay your taxes on your initial capital gains event. So, keep that on our timeline here. And then, of course, after the 10-year hold, here’s what we plan on, selling the properties and liquidating the fund. And again, that’s when we return the majority of the profits to our investors. But 10 years is a long time to wait. We do plan on making distributions prior to the end of 10 years, the first time being in 2026 as a part of our refinance and distribute program. You know, sometimes I call this developer 101 because something we do pretty often. We plan on starting construction of these buildings in 2023. They’ll be complete in 2025. There’ll be leased up and stabilized in 2026. And when that happens, we go out, and we get permanent financing. We take that permanent financing, we pay off a construction loan, and then any excess refinances proceeds, we pass those through to our investors. And it’s a tax-free distribution because it’s a distribution of debt. And right now, we are targeting distributing roughly 65% of our investor’s initial investment back to them in 2026 as a part of this program.

Our overall goal is that we distribute enough money in this fund so that our investors are able to pay their taxes with our distributions on their initial capital gains back in 2027. Now, of course, this is also where my attorney is like me to say, “There are no guarantees associated with investing into Urban Catalyst.” And of course, you need to read our private placement memorandum to understand all of the risks, but I did wanna show you our plan.

After our refinance event, we’ll have cash flow from our stabilized assets through the remainder of the holding period. We pass that cash flow through to our investors before we sell the property in 2034. Now, this is also where I like to talk about what I call the fourth hidden benefit of the Opportunity Zone Program, and starts off, you know, our fund, we’re an LLC, that means we’re able to pass through losses to our investors on their K1s every year. For example, a million-dollar investment in our fund, we anticipate roughly $600,000 in passive losses throughout the duration of the fund. And that’s great. Folks love passive losses. A lot of those passive losses come from the depreciation of our stabilized assets. So, you know, anyone that owns real estate is depreciating those assets on their tax returns every year. It’s no different for us, except we pass through that depreciation to our investors for their personal use. Of course, they can use that to offset not only the cash flow that we are distributing from this fund, but they can also use it to offset any other cash flow that they might have from other, you know, passive income. Now, where that fourth hidden benefit comes in, typically, when you sell a real estate asset, the government makes you pay back all that depreciation that you’ve taken in what is called depreciation recapture. Specifically, for opportunity zone funds, there is no depreciation recapture.

So all of those passive losses that accrue and carry forward forever, when we sell the assets, not only do you get to keep them, but they also convert at that time from passive loss to active loss. And active loss, that’s great because you can use it to offset things like ordinary income. So after the sale, all those passive losses now can offset ordinary income. Everybody likes that because ordinary income typically a much higher tax rate. So, here’s how all of that works together.

Here at Urban Catalyst, we are looking at a 15% or 15.4% internal rate of return for our project. That is the equivalent of a 3.28 multiple. So, those are our investor-targeted returns. Of course, that is after Urban Catalyst fees have been paid. So that’s what we expect to distribute to our investors. And that’s also before any of the tax benefits or any of the, you know, passive losses that we plan on passing through. And so you can do an apples-to-apples comparison with other real estate equity funds focused on doing roundup development.

The last thing I wanna talk about, Jimmy, is our Bonus Units Program. This was a really popular program in our first funds. We continued it here into our second fund. We give bonus units in three different ways. And the way that this works, of course, if you invest in Urban Catalyst, what you’re doing is you’re buying our units, or you’re paid out, of course, based upon the number of units that you own. So the first way that we give bonus units is our Time Incentive Credit. This really to reward investors for earlier investment. You can see this month in December of 2021, we have 6% bonus units. That means if you bought $100 worth of our units this month, we give you $106 worth of our units. And you can see that goes down every month throughout our projected fundraising timeline. The next way that we give bonus units is our Multiple Ventures Program. This is for investors that invested into our first fund. It’s a loyalty rewards program. They get 4.5% bonus units. And then finally, our Volume Incentive Program. This is to reward investors for more investment. Our minimum investment size, as I mentioned, is $250,000. Bonus units start $300,000. They got all the way up to $1.9 million. And another thing that’s kind of nice is these three categories add together. And the Volume Incentive Program, you know, we have around 10% to 15% of our investors invest multiple times in our single funds. So, we expect that to occur again here in Fund II. We’ve already started to see it happening. And what’s nice about the Volume Incentive Program, like let’s say you did $300,000, you know, this year because you had a nice sale of stock, then you just have another great year. Next year, you have another $300,000. That would bump all of your volume incentive units up to the $600,000 mark or 2.5%. This is a cumulative program. So that’s the end of my presentation. And Jimmy, I’ll stop sharing, and let’s get to some of these questions and answers.

Jimmy: Fantastic. Yeah, we’ve got a lot of questions. First one comes in from David. I think you just answered this. He asked what the minimum investment in Fund II is. I believe you said $250,000. Is that correct?

Erik: That is correct.

Jimmy: Good. Let’s move on here. A few anonymous questions coming in. Let’s see, how much of this fund’s assets will be invested into multifamily units versus other real estate types?

Erik: So, in this fund, there are only two real estate types because it’s two buildings. It’s the office and the multifamily. And the way that it turns out is about a little more than a third of the total fundraise will go into the multifamily project, while the other two-thirds will go into office.

Jimmy: Right on. Good. We got a few more minutes here, it looks like. Our next presenter is coming on at quarter till the top of the hour. So we’ve got about five more minutes here for a few more questions. Erik, we got one here who asks, “Could you elaborate on this idea that San Jose’s local government is friendly to development? Is it an outlier in California, in this sense?” This person says, “My perception is that local governments in California are often roadblocks to development.”

Erik: Whoever asked that question is absolutely true. Local governments, in general, and I can say this because I’ve done business in maybe 25 different municipalities here in Northern California, in general, they don’t wanna see development happen. And that’s because their constituents are afraid of traffic. They’re afraid of density, they’re afraid of parking. They don’t want more people in their little towns. Downtown San Jose is the polar opposite. They see downtown San Jose, it’s a place where all that physical infrastructure is already built. It’s where all the mass transit is. We have just all the bones in place. And it’s kind of, you know, an urban planner’s dream, right? Everything is already there, let’s build as much high development or high-density development as possible because we wanna put where people live and where people work next to mass transit, next to all of the amenities, all the cultural amenities, all the retail, the restaurants, everything else, so that we can reduce the number of people that are living, you know, an hour to an hour and a half away in these distant suburbs commuting into the cities for their job every day.

Jimmy: Right on. Let’s talk about office because both of your funds, and this one in particular, Fund II, has a lot of exposure to office. This person asks, “How are your funds factoring in the remote workers and the big resignation trends for office occupancy in…?” The question of San Diego. I think he meant San Jose.

Erik: Sure. And by the way, Jimmy, that’s the number one question that we’ve been getting because of the pandemic, because of work from home, and this new hybrid work. The simple answer is that the office demand here in Silicon Valley is driven by what it’s always been driven by, which is the big tech companies and the small startups that are located here. That hasn’t changed because of the pandemic. Now, the whole great resignation, you know, everybody changing jobs, people quitting like crazy, a lot of that has been happening here in the Valley as well. And mainly because these big companies have been hiring at such a significant pace. I mean, they’ve all been doing great during the downturn. They’ve been hiring so fast and, you know, cannibalizing each other. We’ve seen salaries for tech workers go up about 30% in the last 12 months. And nobody has been leasing new space, you know, throughout the pandemic, until about a month ago. And a month ago, kind of as we had predicted or as at least we had considered would happen, is now these companies are looking at, “Okay, we’re gonna have a return to workday. It’s going to be a hybrid workforce.” And what they figured out is they’ve hired so many people that even with the hybrid workforce, they’re not gonna be able to bring everybody back. So, recently, we saw Apple take 700,000 square feet of new office in Sunnyvale. Just last week, we saw Facebook in two transactions take 500,000 square feet and 750,000 square feet, increasing their footprint here in Silicon Valley by about 25%. So just a huge move. I mean, even Tesla, who…Oh, yeah, Tesla moved out of California to Texas. Yeah, as they were moving, they took an additional 400,000 square feet of new office in Palo Alto in San Jose. So, as they move, they do a massive expansion here, let alone that their factory is still here and their giant Gigafactory out in the Central Valley. So office demand is strong…has remained strong. And we’re about to see, you know, I call it kind of Facebook and Apple’s moves like the tip of the iceberg, as all of these major tenants are gonna come out with demands for new office here in Q1.

Jimmy: Excellent. Here’s a softball for you, I think it’s a softball, are there any incentives to invest this month versus waiting until next year? And I think both internally within your fund, you have those bonus shares, and then externally or legislatively speaking, there’s that 10% basis step up that’s expiring. Can you go into more detail there?

Erik: Yeah, I mean, so, for tax advantage funds like ours, we always have a big Q4. People get to the end of the year, realize they’ve made a lot of money, think about what their tax liabilities are, and they go, “Man, what can I do to, you now, shelter these taxes?” And they learn about opportunity zone funds, and they, you know, invest in opportunity zone funds. So, Q4 is always big, December’s always our biggest month of the year. Having that 10%, you know, reduction of your taxes on your initial capital gains event, we pay them in 2027, having that go away at the end of the year, that’s a big deal. And we’ve just seen an absolute spike in the number of people investing into our fund, especially, like, in the last five weeks. So, definitely, if you’re considering investing into an opportunity zone fund, this is the month. It’s better to do it this month…the next month because of the federal program. And at Urban Catalyst, you know, we do reward earlier investments. So the 6% bonus units that we have this month, of course, next month, they go down to 5.75%. Our bonus units, what we like to say is bonus units, of course, not a reason to invest into Urban Catalyst, but definitely, if you’ve decided you want to invest into Urban Catalyst, definitely a reason to invest sooner rather than later.

Jimmy: Sure. Sure. A couple more of questions here, and then we’ll move along. This person asks, “Do opportunity zone investments have any tax benefits at the state level, depending on the state, obviously?”

Erik: So, the answer is yes, some states do conform with the federal program. They conform in a variety of ways. California does not. So, for example, a worst-case scenario would be an investor investing from, you know, Nevada, where there’s no state capital gains taxes. Of course, they wouldn’t have to pay their capital gains taxes because there aren’t any Nevada on their initial capital gains event. But then at the end of the tenure, you know, hold period, when we liquidate the fund, they would have to pay California capital gains taxes, a maximum of around 13%. We had our accounts do a little analysis. And what that means to Nevada investors if, say, they’re investing into the exact same fund…exact same everything, but they did have to pay that 13%, it’d be about a 1% reduction in the internal rate of return. It’s really not that big of a deal, especially when you consider that, as I mentioned, it really is the real estate that matters. It’s a lot more about the real estate than it is the tax benefits. But obviously, the tax benefits aren’t juicy.

Jimmy: Well, let’s revisit Fund I here with this last question. Is it meeting its initial milestones? That’ll be the final question.

Erik: Yes. We’re getting close to building permits on all six of our projects. We’ve already started construction our first project. We have two more that are right in line to start-up in Q1 of next year. And as I mentioned, we should have them all started by the end of next year.

Jimmy: Fantastic. Well, Erik Hayden from the Urban Catalyst, thank you again for participating, and thanks for your presentation today. I’ll cut you loose there. It’s great to see you as always, Erik. Thank you so much.

Erik: Great to see you, too, Jimmy. Thank you.

Jimmy Atkinson
Jimmy Atkinson

Jimmy Atkinson is co-founder and director of events at AltsDb, as well as host of the Opportunity Zones Podcast. He resides in Texas.