Special Issues for Projects Involving Nonprofits IPED Housing Tax Credits

1
Special Issues for Projects Involving
NonprofitsIPED Housing Tax Credits
101February 22-23, 2007

• Molly R. Bryson
• Thomas A. Giblin

2
Examples of Nonprofit Participation in Tax
Credit Projects

• General partner, or co-GP with a for-profit
• Developer or property management agent
• Lender
• Social service provider
• Lessor under ground lease (or Managing GP) to
  qualify for property tax exemption/abatement
• Holder of right of first refusal under 42(i)(7)

3
Obtaining and Maintaining 501(c)(3) Status IRS
Memo Dated 4/25/06

• Resolution of conflicts consistent with
  charitable purpose
• Providing of low-income housing consistent with
  safe-harbor tests of Rev. Proc. 96-32 (75
  low-income and 20 or 40 at lower levels)
• Limit on amount and length of operating guarantee
  (6 months of expenses 5 years from break-even)

4
IRS Memo, Dated 4/25/06 (contd)

• Payment of tax credit guarantee treated as a
  capital contribution or a loan
• Limit on amount of tax credit guarantee (to the
  extent of fees earned)
• Limit on repurchase price to 100 of capital
  contributions
• Removal only for cause after a reasonable cure
  period
• Right of first refusal
• Fixed price construction contract

5
Tax-Exempt Use Property Issues

• 40-year depreciation (may be ok with investor)
• Qualified allocation (0.01 interest in all tax
  items, including cash flow and sale/refinance
  proceeds)
• be alert to incentive fees
• For-profit subsidiary as general partner making a
  Section 168(h)(6) election
• election made on tax return
• also attached to exempt parents tax return
• must state it is a 168(h)(6) election

6
Structuring Around Federal Grants

• Often awarded to exempt organizations
• Reduce qualified basis
• Instead structure grant award to exempt
  organization followed by a loan to the
  partnership at AFR
• partner non-recourse debt potential issue if
  investors capital account goes negative
• 79/21 solution (use of a second exempt
  organization as minority stockholder of the
  general partner)

7
Nonprofit Set-Aside

• Each state tax credit agency must set aside at
  least 10 of its annual credit ceiling each year
  for projects involving qualified nonprofit
  organizations
• Many states provide preferences for nonprofit
  sponsored projects by assigning points to
  projects with nonprofit involvement
• Whenever there is nonprofit involvement, need to
  determine whether the tax credit agency actually
  awarded credits from the nonprofit set-aside

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Nonprofit Set-Aside (Contd)

• Nonprofit organization must be exempt from
  federal income tax under Section 501(c)(3) or
  501(c)(4) of the IRC
• One of the organizations exempt purposes must
  include the fostering of low-income housing
• Nonprofit cannot be affiliated with or
  controlled by a for-profit organization
• Nonprofit must own an interest in the project
  (directly or indirectly)
• Nonprofit must materially participate in the
  development and operation of the project
  throughout the compliance period

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Right of First Refusal Under IRC Section 42(i)(7)

• Added to IRC Section 42 in 1990 to facilitate
  nonprofit ownership of tax credit properties at
  the end of the 15-year compliance period
• Eligible holders/minimum purchase price is
  specifically set forth in IRC Section 42(i)(7)

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Eligible Holders of a Right of First Refusal
Under IRC Section 42(i)(7)

• Tenants of the project (in cooperative form or
  otherwise)
• Resident management corporation of such building
• Qualified nonprofit organization
• Government agency

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Determining Minimum Purchase Price Under IRC
Section 42(i)(7)

• Minimum purchase price is equal to the sum of
• the principal amount of the outstanding
  indebtedness secured by the buildings (other than
  indebtedness incurred during previous 5 years),
  plus
• all Federal, state and local taxes attributable
  to such sale

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Right of First RefusalGeneral Observations

• A right of first refusal is not an option. Needs
  to be triggered by a bona fide third party offer
• A right of first refusal can be granted at any
  time during a projects lifecycle
• Parties may come together in year 15 to negotiate
  fair price
• Congress expected minimum purchase price to be
  favorable to nonprofits

13
Business Considerations When Granting a Right of
First Refusal

• The statutory purchase price is a minimum price.
  
• Statutory purchase price does not include
• accrued but unpaid fees to limited partners
• unpaid limited partner loans
• unpaid tax credit adjusters

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Business Considerations When Granting a Right of
First Refusal (contd)

• Need to understand how sales proceeds are
  distributed under the partnership agreement
• Right of first refusal should terminate if an
  affiliate general partner withdraws or is removed
• Need to determine a specific term for the right
  of first refusal
• Loan documents should contemplate a sale in year
  15

15
IRC Section 4965

• New Section 4965 (2005 Tax Act) and new Notice
  2006-65 (7-11-06) provide If an exempt
  organization is involved in a deal with
  contractual protections, then (i) possible 100
  tax on organizations income or cash from deal,
  and (ii) 20,000 fine on the entity manager
• IRS has provided recent guidance

10311776