IPED HOUSING TAX CREDITS

1
IPED HOUSING TAX CREDITS 101Boston,
MassachusettsJune 7-8, 2007Molly R.
BrysonThomas A. Giblin
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Background

• Part of 1986 Tax Reform to Encourage the
  Construction and Rehabilitation of Low-Income
  Rental Housing
• Tax Incentives Replace Direct Funding Guarantee
  Programs
• Administered by the Treasury Department and
  Allocated by State Agencies
• Contained in Section 42 of the Tax Code
  (Including Any Penalties for Noncompliance)
• Objective To Provide Investor Equity to Lower
  Debt Service, Thereby Lowering Rents
• Emphasis on Private Sector Involvement (i.e.
  Developing and Managing Projects)
• Credit is a Dollar-for-Dollar Tax Reduction
• Credit Amount Based on the Cost of Constructing
  or Rehabilitating Housing Developments

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Program Requirements

• Minimum Percentage of LIHTC Units (20/50 or
  40/60)
• Minimum 30-Year Affordability Commitment
• Maximum Rents Limited for LIHTC Units
• Maximum Income Limited for Households Renting
  LIHTC Units
• Projects Subject to IRS and State
  Regulation/Compliance

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State Allocation Volume Limit

• Credits Are Limited
• In 2000, Congress Raised Cap from 1.25 to 1.50
  in 2001, 1.75 in 2002, and Thereafter Adjusted
  for Inflation
• 1.95 Per Person for 2007
• 2,275,000 State Minimum in 2007

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Volume Limit Rules

• Example
• State With Three Million Population Has
  5,850,000 in Credits in 2007
• Allocated Amount is for One Year of Credit
• 10 Nonprofit Set-Aside
• 50 Test Private Activity Tax-Exempt Bonds
  Subject to Bond Volume Cap No Credit Allocation
  Needed

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Qualified Allocation Plans

• State Must Adopt QAP to Allocate Credits
• QAP Must Set Forth Allocation Priorities
• QAP Must Give Preference To
• Lowest Incomes
• Longest Period of Low-Income Use
• QCT Projects Contributing to a Concerted
  Revitalization Plan
• QAP Must Provide Procedure for Notifying IRS of
  Non-Compliance
• Bond Financed Projects Must Satisfy QAP

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Project Evaluation

• Credit May Not Exceed Amount State Agency
  Determines Is Necessary for Feasibility and
  Viability
• Agency Must Consider
• Sources and Uses
• Amounts Expected to Be Generated by Tax Benefits
• Reasonableness of Development and Operating Costs

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Project Evaluation (Contd)

• Evaluation Occurs at Application, Allocation and
  Completion
• Owner Must Certify as to Amount of Subsidies
• For Tax-Exempt Bond Financed Projects, Issuer
  Must Do Similar Evaluation
• Agency Must Require Market Study Paid by Developer

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Industry Participants

• Congress
• IRS/Department of Treasury
• State Tax Credit Agencies
• Developers/Owners
• Property Managers
• Syndicators/Investors
• Nonprofits
• State/Local Governments
• HUD
• Tenants
• Tax Professionals
• GSEs

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Who Can Use Credits?

• C Corporations Can Use Losses and Credits Against
  Ordinary Income and Taxes
• Limitations on Closely-Held Corporations
• Individuals Limited Under Passive Loss Rules to
  Approximately 9,900/Year at the 39.6 Rate
• Cannot Use Credits Against AMT

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Structure
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Key Business Terms

• Projects Generally Owned by Limited Partnership
  or Limited Liability Company
• Limited Partner Generally Owns 99.99 of Tax
  Credits, Losses and Profits
• Limited Partner Pays in Capital Contributions in
  Multiple Installments (Generally 3 or 4), Based
  on Negotiated Benchmarks
• General Partner Guarantees Completion, Amount of
  Credits and Funding of Deficits

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Tax Credit Development Timeline

• March 2007 Read State QAP. Analyze Prior
  Winners, Meet With Staff.
• April 2007 Pick Site, Plan Type of Project.
• May 2007 Develop Cash Pro Formas and Construction
  Budget. Investigate Loan Availability and
  Interest Rates. Request Market Study.
• September 2007 Option Land (With Conditions
  Regarding Zoning, Approvals).
• September 2007 Apply for Soft Loans/Grants, if
  Necessary.
• December 2007 Receive Soft Loan Commitment.

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Tax Credit Development Timeline (Contd)

• March 2008 Apply for Tax Credits.
• May 2008 Receive Reservation of Tax Credits.
• May 2008 Work on Site Plan and Zoning Approvals.
  Submit Applications for Construction and
  Permanent Loans.
• July 2008 Obtain Site Plan and Zoning Approvals.
• July 2008 Purchase Land. Select Equity Investor
  and Execute Letter of Intent. Execute Commitment
  Letter for Debt/Equity.
• November 2008 Submit Cost Certification of 10 of
  Reasonably Expected Basis for Carryover
  Allocation (State Deadlines Vary).
• December 2008 Obtain Carryover Allocation.

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Tax Credit Development Timeline (Contd)

• January 2009 Close on Equity Investment and
  Construction Loan. Begin Construction.
• November 2009 Finish Construction. Begin
  Leasing.
• January 2010 Start First Year of Credit Period.
  Continue Leasing. Submit Cost Certification for
  Forms 8609.
• April 2010 Achieve Full Lease-up and Beginning of
  Break-Even Period. Obtain Forms 8609.
• September 2010 Close Permanent Loan and Achieve
  Final Equity Contribution.
• December 31, 2010 Place All Buildings in Service.

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Calculating Credits/Defining Terms

• Annual Credit Amount Applicable Percentage
  Times Qualified Basis
• Annual Credit Amount Available for 10 Years

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Applicable Percentage

• Two Credits
• 70 Percent Present Value Credit (the 9 Credit)
• 30 Percent Present Value Credit (the 4 Credit)
• Credit Rates
• 8.11 (9 Credit) and 3.48 (4 Credit) June
  2007
• Lowest Rates in July 2003 7.78 and 3.33

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Applicable Percentage (Contd)

• Owners Election to Set Applicable Percentage
  Either(i) When Receiving a Binding Commitment
  From the State to Allocate Credits (or When
  Tax-Exempt Bonds Issued) (a Lock-in Election),
  or (ii) When Building Placed in Service

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4 New Construction/Substantial Rehabilitation
Credit

• Federally Subsidized New Construction or
  Rehabilitation Expenditures
• Building Receives Tax-Exempt Bonds or Below
  Market Federal Loan
• Below Market Federal Loan
• From Federally Appropriated Funds
• Interest Rate Below AFR (Approximately 4.91 in
  June 2007 for Long-Term Loans Compounded Annually)

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Exceptions From Federally Subsidized Definition

• HOME Loan if 40 at 50 Targeting (in Each
  Building)
• Community Development Block Grant (CDBG) Loans
• Affordable Housing Program (AHP) Loans
• Loan is Subtracted From Eligible Basis
• Section 8
• Native American Housing Assistance and
  Self-Determination Act (NAHASDA) of 1996 if 40
  at 50 Targeting (in Each Building)

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4 Acquisition Credit

• Existing Buildings/Acquisition Costs
• Purchase From Unrelated Party
• Ten-Year Rule
• Waiver of Ten-Year Rule From Treasury

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4 Acquisition Credit (Contd)

• Certain Placements in Service Ignored
• Carryover Basis
• Acquired From Decedent
• Placement in Service by Governmental Unit or
  Nonprofit Entity
• Foreclosure

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Substantial Rehabilitation Requirement

• Greater Of
• 3,000 Per Low-Income Unit, or
• 10 of Adjusted Basis
• Separate New Building
• Can Receive 4 Plus 9 Credits

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9 New Construction/Substantial Rehabilitation
Credit

• If Not Federally Subsidized

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Basis Calculations

• Start With Eligible Basis, Then Qualified Basis

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Eligible Basis

• New Construction Adjusted Basis (Generally,
  Development Cost Less Land)
• Acquisition Acquisition Cost
• Substantial Rehabilitation Capitalized
  Rehabilitation Expenditures (24-Month Rule)
• Must Subtract Federal Grants
• 130 Increase in Qualified Census Tracts (QCTs)
  and Difficult Development Areas (DDAs)

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Qualified Basis

• Qualified Basis Applicable Fraction Times
  Eligible Basis
• Applicable Fraction is the Lower of
• Number of Occupied Low-Income Units Divided by
  the Total Number of Units, or
• Floor Space Fraction

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Low-Income Units

• Minimum Set-Aside Election of
• 20 of Units at 50 of Area Median Income
  (AMI), or
• 40 of Units at 60 of AMI
• Election Upon Placement in Service
• Must Meet Minimum by End of 1st Credit Year
• HUD Publishes Area Income Figures Annually

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Low-Income Units (Contd)

• Adjustments for Family Size Like Section 8
• Family of 4 Qualifies at 60 (50) AMI
• Family of 3 Qualifies at 54 (45) AMI
• Family of 2 Qualifies at 48 (40) AMI
• Single Household Qualifies at 42 (35) AMI

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Rent-Restricted

• Rent (Including Utilities) Cannot Exceed 30 of
  Qualifying Income for Assumed Family Size Based
  on Bedrooms Per Unit
• Occupancy Assumptions
• One Person for Studio
• 1.5 Persons Per Bedroom

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Additional Rent Rules

• Rent Limits Change Annually With Publication of
  New Area Median Incomes
• Rent Will Not Decrease Below Original Floor
• Gross Rent Does Not Include Section 8 (or Similar
  Rental Subsidies)
• Gross Rent Must Include Utility Allowance for
  Tenant-Paid Utilities (i.e., Deduct From Rent to
  Owner)

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Example of Tax Credit Calculation

• 100 Unit Project/70 Low-Income Units
• TDC (Including Land) 5.5m
• Land Value 500k
• Eligible Basis 5.0m
• Qualified Basis 3.5m (5.0m X 70)

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Example Tax Credit Calculation (Contd)

• Applicable Percentage 8.11 (Not Federally
  Subsidized)
• Annual Credit 283,850 (3.5m X 8.11)
• 10-Year Credits 2,838,500

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Equity Calculation

• Pricing Primarily Based on Total Amount of
  10-Year Credits Available to Investor and Market
  Conditions
• Expressed As Cents Per Tax Credit Dollar
• In Above Example, if Investor Will Pay 0.90 Per
  Tax Credit Dollar, Equity Equals 2,554,394
  (2,838,500 X 99.99 X 0.90)
• Equity Generally Paid in Several Installments
  (Often 3 or 4 Installments) Based Upon Negotiated
  Benchmarks
• If Bond-Financed 4 Deal, Equity Equals
  1,096,090 ((5,500,000 - 500,000) X 70 X 3.48
  X 10 X 0.90 X 99.99)

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Continued Compliance

• 15-Year Compliance Period
• Continued Tenant Qualification
• 40 Increase Above Eligibility OK
• Vacant Units/Over-Income Units OK if Next
  Available Unit Rule Followed

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Recapture

• Recapture on Non-Compliance
• Accelerated Portion of Credit Recaptured (1/3 of
  Credit 1st 10 Years, Decreasing Through Year 15)
• If Minimum Set-Aside Fails, All Accelerated
  Credits Recaptured
• Otherwise, Unit-by-Unit (Extent of Decrease in
  Qualified Basis)

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Recapture (Contd)

• Recapture on Change of More Than 1/3 in Ownership
  of Sale of Project
• Bond Posting Procedure
• New Owner Steps Into Sellers Shoes Upon Sale of
  Project

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Extended Use

• Recorded Extended Use Commitment
• Extended Use Period
• At Least 30 Years, May Be Longer to Gain Points
• Termination (With Three-Year Vacancy De-Control)
• Upon Foreclosure
• Qualified Contract

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Qualified Contract

• State to Find Buyer if Requested by Owner After
  14th Year Pursuant to Qualified Contract
• Contract
• Outstanding Debt
• Adjusted Investor Equity
• Other Capital Contributions, Less
• Cash Available for Distribution

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Qualified Contract (Contd)

• Adjusted Investor Equity Initial Investor
  Equity to Project Inflated by COLA (Up to 5 Per
  Year)
• If No Buyer Found Within One Year, Property May
  Be Sold or Converted to Non-Low-Income Housing,
  Subject to 3-Year Vacancy Decontrol
• IRS Guidance Expected in 2007

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Compliance Monitoring

• State Credit Agencies Monitor Projects
• Owners Recordkeeping Requirements
• Number of Low-Income and Total Units
• Income Certifications/Annual Re-Certifications
  and Backup Verifications
• Qualified Basis and Eligible Basis Amounts
• Rent Amounts
• Owner Annual Compliance Certifications

10603835.1