Tax Credits

Program Summaries and Purposes

For the past two decades the vast majority of new affordable housing programs have been tax-credit based. The largest such program, the federal Low Income Housing Tax Credit (LIHTC), is the main source for financing construction or rehabilitation of affordable rental housing. Each year in Minnesota roughly 800 – 1000 apartment units are financed through LIHTC.

LIHTC financing comes in the form of a tax credit to investors, who provide cash or ‘equity’ to the developer of a project and, in return, receive a dollar-for-dollar reduction in their federal income taxes.  This infusion of equity reduces the amount of money a developer has to borrow, thereby lowering costs and allowing for lower rents. Tax credits are available only for qualified low income housing projects which are defined as housing where either:

1.       20% or more of the units are rent-restricted and rented by households at 50% of area median income or less (20/50 projects) or,

2.       40% of the units are rent-restricted and rented by households at 60% of area median or less (40/60 projects). Units are rent-restricted when rent and utilities do not exceed 30% of the income limitation applicable to that unit, i.e. 50% or 60% of area median income. States sometimes require projects have deeper income targeting requirements, depending on the project type and sources of financing.

Unfortunately, the 2007-2009 economic collapse substantially hindered the market for the credits. In response to this loss of tax credit investment, Congress created two funding approaches in the 2009 stimulus package

1. The Tax Credit Assistance Program (TCAP) provides states funds through HUD to offset the drop in value of the credits. TCAP funds have to be used by February 2012.
2. States are eligible to return unused credits (up to 40% of credits available in 2009 and all prior years’ credits) to Treasury for cash.

Current Status

Investment demand rebounded dramatically in 2010 and almost all LIHTC projects were able to attract investor equity. With the departure of Fannie Mae and Freddie Mac as LIHTC investors, most investors have been financial institutions that receive Community Reinvestment Act credit for these investments. The cash (equity) provided by the investors is used by the developer, along with other resources such as conventional mortgages, state loans and funds from federal programs such as HOME, to construct or substantially rehabilitate affordable housing. Although project financing varies from deal to deal, a typical LIHTC project has 50-60% in investor equity, 20% in mortgage debt, and the remainder in a variety of subsidies and soft financing.

With the 2010 resurgence in investor demand, the need for TCAP and other recovery programs has significantly diminished.

The main issues of concern for the LIHTC program in the upcoming year are tax reform and deficit reduction. Several advisory commissions have recommended either the elimination or substantial reduction in tax expenditures, or spending through the tax code, and use the savings to lower tax rates and lower the deficit. The LIHTC is one of the more prominent corporate tax expenditures. In his 2011 State of the Union speech, President Obama called on Congress to enact corporate tax reform, and while there are plenty of obstacles to achieving tax reform, there is also considerable pressure building to pass corporate tax reform, as the U.S. has one of the highest corporate tax rates among members of the Organization for Economic Cooperation and Development.

What Advocates Need to Know

As a way to develop and maintain support for the program, some advocates are pursuing modest provisions, such as making the 9% credit percentage floor provision originally enacted in HERA permanent, and applying the same principle to the 4% credit for acquisition. Other possible proposals include reinstating the exchange program, allowing the LIHTC to be used to acquire foreclosed multifamily properties, and changes to facilitate the use of the LIHTC in rural areas. In addition to defending the program, advocates are seeking to modify the program to deepen the income targeting for the program and modify the rent structure to reduce potential rents burdens on very low income tenants.

More Information:

National Low Income Housing Coalition