Whither LIHTC: H. R. 598 and LIHTC

Mary Levine at Parmenter asks about H.R. 598, “American Recovery and Reinvestment Tax Act of 2009″. I won’t pretend to have any well reasoned commentary, but I can suggest following the legislation at Novo.

Last week I ate lunch with a long time veteran of the industry with 20 years experience as an originator. My companion postulated that after a very successful run, it may be time to change the LIHTC program and recognize that LIHTC is not the sole vehicle for affordable housing. There is no demand for tax credits and on current performance it is likely to be 2011-12 before it picks up again if the GSE situation can be sorted out. Count on David Smith to keep you updated.

Over lunch what we hashed out is that nothing in the stimulus promotes the investment in affordable housing by outside firms nor does it enable the property to actually operate and generate a profit. Push all the money into the states that you want, if developers can’t get loans and properties can’t break even, none of this matters. The originator had strong words for the state agencies that historically held the upper hand. With credits going unused, they will now be required to think in new and challenging ways. LURAs may need to be renegotiated, QAPs may need to be rethought, and operating loans (or grants) will need to be offered.

Coming solely from the for-profit side of LIHTC, I see properties squeezed in a thousand ways. Underwriting standards over the past 5 years left something to be desired as DSCR fell from 1.25 to 1.15 to 1.1 and 1.05. There’s no cushion left for the lender or the owner in a time when delinquency is up, occupancy is stagnant or falling, and expenses continue to rise. If expenses cannot be cut, then income must be increased. Commercial income restrictions already hamper the profitable operation of properties in urbanized areas and the FCC removed the cable fees that previously provided some predictable non-residential income.

So what’s my half-baked plan for restarting LIHTC? Certainly half-baked, but I’m focused not just on reinvigorating investor interest but continuing operations. We have a tremendous need for affordable housing and need to be much more aggressive about its promotion.
1. CRA requirements must be raised and enforced to motivate financial investors. TARP money should be tied to CRA compliance and institutions should be strongly encouraged to meet CRA via LIHTC. Restrictions on commercial income should be reexamined.

2. Urban or transit friendly development is a favored QAP requirement. Unfortunately, because LIHTC developers compete with other developers who can realize greater revenues for this land, are frequently priced out of the market. If they can include a few retail bays, signage, or other methods of raising commercial income, they can compete.

3. Localities must provide some property tax relief. If you receive CDBG funds, you need to show that affordable housing is promoted and protected. Fixed costs in insurance, personnel, utilities, and property tax comprise an overwhelming amount of total expenses for properties. Maybe I’m just infuriated by Indiana’s abject incompetence in this area, but affordable housing provides an ongoing benefit to cities and states. They’re contribution should be recognized via property tax abatements.

4. The QAP needs some additional work. Acknowledging that sufficient demand should exist for some of the requirements, states may need to reexamine their urban/rural mix, very low income requirements, and show a willingness to make adjustments were necessary. We’re trying to protect affordable housing in toto and driving owners out of the program entirely does not serve this purpose.

5. Recognize that private developers are in business to make a profit. This doesn’t need to be obscene, but to expect developers to continue funding deficits caused by poor regulatory structure, QAP requirements, or aggressive taxation policies does not serve the industry well.

As I said, it’s half baked but represents this for-profit asset manager’s thoughts on what is needed for the long term health of affordable housing (separately from LIHTC).

Rent Green: Where does your life take place?

Out on the Intertubes, there’s a wealth of information about living a sustainable lifestyle. Here at MFG, we’ll try to identify those that are particularly relevant to apartment living.

First and foremost, choose a place to live that is located conveniently for your lifestyle. This means looking at where you work, entertain, and play. So look at a map and start figuring out where your life takes place. If you live in or want to live in a less car-dependent area, be sure to check Walk Score, a great resource for helping to determine how much of your life can be lived without a car.

[Note to owners/managers: Your marketing and leasing efforts should emphasize these benefits. Get to know and love Yelp, Outside.in, and other sites that help define your community. If you don't know what is going on around your property, it's impossible to convey that to your residents. If you can't name three things going on in the next three days, how are you going to convince a prospective resident that you live in a convenient location, that you have an active resident base, or that you're any better than the commodity down the street?]

Once you’ve chosen an area to live in, it’s time to start narrowing down the product types. We’ll get to that in the next entry.

Rent Green: How to be a Green Renter (Series starter)

Note: For those who aren’t using it yet, Twitter is an exceptional tool for exchanging information on operations, marketing, building, and sustainability. I think this will become a series, but the following short post was inspired by @Sallan_Found who asked for information on how to be a green renter.

Many of the improvements that homeowners can make can be easily made by renters. While you obviously can’t do anything structural (e.g. no new windows or a green roof), you should also carefully read your lease for proscribed activities. This might preclude changes to shower heads, replacing washer-type faucets with cartridge faucets, indoor composting, excessive caulking, or replacing appliances, there are many other things you can do to improve your sustainability profile.

Easy things to do are living near transit, shortening shower times, washing clothes with cold water only, and replacing light bulbs (not fixtures!) with CFL bulbs.
If you live in a home, it might be possible to
1. install a programmable thermostat
2. replace aerators (reduce GPM from 2.0 to 0.5)
3. flush with less water (other upgrades here).

If you live in an apartment, the following are easily done:
1. Air dry laundry (does not require outdoor drying)
2. Keep curtains and shades open to heat your rooms.
3. Remove window-mount AC units during the winter.
4. Speak to your landlord about installing ceiling fans.
5. Running dishwashers when fully loaded.
6. Set your fridge to 38-40F (4C) and the freezer to 0-5 (-15C).
7. Don’t use plug-in air fresheners. Open windows, sprinkle (then vacuum) baking soda, burn a beeswax candle, use oils + water spritzer, or a potpourri sachet.

We’ll have more ideas in coming weeks and always welcome suggestions.

(HT: The Green Your… blog)

Whither LIHTC, Part 5 (Short hits edition)

The ‘Whither LIHTC’ has turned into a much bigger discussion than I initially anticipated as more and more participants take the full measure of the macro impacts on LIHTC. I’d like to thank Mary Levine of Parmenter Group for adding to the discussion and for providing a copy of their LIHTC stimulus proposal. Parmenter’s idea to return tax credits held by the GSEs to the states as an ‘additional incentive’ to future purchases is not one I’ve seen before. Because so many of the GSE credits are of recent vintage, this would give investors some additional credit capacity at a low price. Mary kindly responded to some questions in comments.

I’m also wading through Recap Advisors new report (number 72 on the right) delivered to Mass Housing. The report collates their various thoughts and recommendations for making it through the affordable housing crunch. David Smith, founder of for-profit Recap Advisors and non-profit Affordable Housing Institute, writes about LIHTC issues at his blog. He has unpacked the RA report and shares some hard-won insights in a three part series. Part 1 (Investment in Knowledge), Part 2 (Go try to borrow), and Part 3 (Drive thy business)

Some of the complexity issues identified by David in “Go try to borrow” are complemented in this piece for Novogradac by Boston Capital’s Bob Moss.

In the initial “Whither LIHTC”, we made mention of an Affordable Housing Finance roundtable entitled “Where does the LIHTC industry go?”. Several follow up articles and reports have since been issued such as this summary + YouTube interview, full summary, and 59-page (!) transcript. I just found the transcript today, so I haven’t looked at it yet.

I’m still developing my own solutions, and in the midst of a job hunt, may not get these fully fleshed. Nevertheless, I think we need to increase CRA lending requirements to encourage more debt issuance and equity investment by financial institutions, work with qualified, liquid investors with a useful track record, and adjust IRS rules to increase the amount of commercial income that can be generated. This last idea would be particularly beneficial to projects in urban or TOD areas.

Whither LIHTC, Part 4b

Wherein we finish a surface discussion of the AHTCC’s recent white paper on saving the current LIHTC industry.

In the previous post, we reviewed the first 2 of 5 recommendations made by the Affordable Housing Tax Credit Coalition:

1. Provide a special allocation of additional direct subsidy to be used exclusively by Housing Credit agencies to provide gap financing necessary for financial feasibility for properties which have received Housing Credit reservations or allocations (including bond financed properties).
2. Permit taxpayers to carryback the Housing Credit for up to five years and these Housing Credits should be used to offset Alternative Minimum Tax (AMT) liability during that period.
3. Allow accelerated Housing Credits to be claimed in the first year of the Housing Credit period.
4. Fix the 30% present value Housing Credit at 4%.
5. Make the Housing Credit a refundable credit.

Allow Accelerated Housing Credits to be claimed in the first year
The existing rules for first year tax credits allow investors to take credits based on the average first year occupancy of a project. To borrow AHTCC’s example, if a 120 unit project is placed in service (ie. opens for occupancy) in January and is fully occupied by December at a rate of 10 units per month, the investor can claim 50% of the annual tax credits in the first year, with the remainder claimed in year 11. Through a DCF model, this reduces the value of the deferred credits nearly to $0. The Coalition proposes that where buildings achieve their minimum set aside requirements (see also glossaries from CHFA and NHHFA), that all allowable credits for the first year be claimed, with a reconciliation to take place in the second year. This would have the effect of boosting credits claimed in the first year, with a healthy increase in the value of the credits to the investor.

Comment: The method of claiming first year credits based on an average of the first year occupancy always made a certain simple sense to me. Nevertheless, deferring credits to the end of the credit period certainly reduces the value of those credits in a measurable way. Allowing investors to claim the full value of the credits in the first year and then reconcile anticipated with actual results in subsequent years seems to be a good solution to this challenge and should be implemented in code. In the current environment, however, we are still left with the challenge of who can use these credits in the near term, so I do not believe the immediate effect will be significant.

Fix the 30% present value Housing Credit at 4%
[Note: This is inside baseball for non-LIHTC readers. Tax credits (ie. equity) in affordable housing can be 9% or 4% depending on whether the deal is financed with 70% equity (ie. 70% of the qualified basis) or 30% equity (ie. 30% of the qualified basis) , respectively. New construction or rehabilitation can qualify for 9% credits, while existing properties (very little rehab) or new construction projects with additional federal subsidies receive 4% credits. After HERA, tax-exempt bonds are the only recognized form of federal subsidies, so most projects qualify for 9% credits. For a long time, most state agencies stretched their dollars farther by only approving 4% deals. The accountants at Novogradac are generally considered to be the experts in tax planning for LIHTC.]

AHTCC points out that by fixing the 9% credit to 9% instead of allowing it to float (where it generally floated at 8% in prior years), Congress enabled states to generate substantially more tax credit equity investment, which they calculate at potentially 12.5%. By fixing the 4% credit at 4% instead of its 12/08 rate of 3.36%, tax credit equity in 4% deals could increase 19%.

There is little justification for having the rate on bond financed transactions and existing buildings float while non-bond financed and newly constructed projects enjoy a fixed rate. Not only does the floating rate cause substantial uncertainty, it is also contributes to the financial infeasibility of many projects.

Comment: I’ve never fully understood the reason that the 9% or 4% credit floats, so purely from a desire to reduce brain damage, this seems like a reasonable adjustment.

The Housing Credit should be made a refundable credit
The tax credit program’s length, 10 years of credits plus an additional 5 years of continued compliance allow companies to manage tax expense over a long period of time. That long period of time, however, presumes that tax credits can be applied to predictable income. Suggests AHTCC:

Obviously, if a company does not have sufficient tax liability to utilize all its Housing Credits, the value of the investment is reduced and the risk of such an occurrence is a major deterrent in the investment decision. Permitting the Housing Credit to be refundable, i.e., Treasury would provide a cash refund to the extent that a taxpayer is unable to use its Housing Credits, would address this situation and help stimulate investment.

AHTCC would require such credit refunds only go to publicly traded or regulated C-corps that participate passively in these investments. Such regulated entities, AHTCC believes, ensure that all LIHTC projects are soundly underwritten, structured, and monitored for compliance.

Comment: Cough. Ahem. I’m not sure that this is the best time to be emphasizing how well investors required agencies and syndicators to ensure proper structure and underwriting given the challenges many investors had in underwriting deals for their own portfolio. Regardless, what troubles me about this proposal is the ‘heads I win, tales you lose’ aspect of the credit refundability. By my reading of the proposal, investors get the benefit of the tax credit in every year in which they can claim a credit against income. Where their own taxable income is too low, they get a check. While it is wonderful to be in such a position as an investor, I am troubled by the policy implications.

When you invest, you place money at risk, for which you receive a rate of interest that theoretically provides compensation for this risk. When the risk is that you either take credits or receive a check, I’m not clear on why you’re receiving much of a return since so little is being risked. I would be interested to see what AHTCC thinks this will do to fund yields for LIHTC funds, and whether this would enlarge the universe of tax credit investors. At this time, I don’t see the policy benefit.

“Whither LIHTC” is a continuing series on the difficulties of investing and financing affordable housing. More articles can be found via the LIHTC tag.’

Whither LIHTC, Part 4a

Wherein we discuss the AHTCC’s lengthy proposal to create immediate and ongoing incentives to support affordable housing. A play in two parts:

With the particulars of the stimulus bill awaiting imminent release, everyone is putting forward their recommendations. Shortly before the holidays, the Affordable Housing Tax Credit Coalition weighed in with theirs. The white paper has five points:
1. Provide a special allocation of additional direct subsidy to be used exclusively by Housing Credit agencies to provide gap financing necessary for financial feasibility for properties which have received Housing Credit reservations or allocations (including bond financed properties).
2. Permit taxpayers to carryback the Housing Credit for up to five years and these Housing Credits should be used to offset Alternative Minimum Tax (AMT) liability during that period.
3. Allow accelerated Housing Credits to be claimed in the first year of the Housing Credit period.
4. Fix the 30% present value Housing Credit at 4%.
5. Make the Housing Credit a refundable credit.

AHTCC’s white paper provides an extended discussion of these ideas and starts with a strong lede:

[In 2007] approximately $9 Billion of equity was raised in the Housing Credit industry. For 2008, that amount is likely to be somewhere in the range of $4 to $5 Billion, a reduction in one year of 44% to 55%! Even worse, at this time, there is hardly any investor demand, which means that 2009 could be even bleaker than this year.

The result of this lack of equity capital is that thousands of critically needed affordable rental units will not be built or preserved and lower income families and seniors throughout the country will find it more difficult or impossible to find the decent, safe and sanitary housing produced by the Housing Credit program. Many projects which have been awarded Housing Credits will not be built due to lack of equity capital. Although it is impossible to know this number with certainty, our estimate is that hundreds of projects may not be able to move forward.

Special Allocation to state housing credit authorities
This special allocation, to be provided directly by the government using the same dispersal method as standard tax credits, would be used as a ’soft second’ mortgage to fill the gap between equity and senior debt. The soft second could take various forms, either with variable payment terms “so that rents would not need to be raised to pay for the debt service associated with the loan and so that the loan would be treated as bona fide indebtedness for federal income tax purposes. ” Or, these funds could be treated as part of eligible basis per Section 42 but not treated as generating income, or only in eligible basis but not depreciable basis.

Comment: I appreciate that AHTCC modified the total housing credits to reflect both the increase to 9% via HERA and the decrease to $0.70/$1 credit reflecting no interest in the 2007 tax credit yields of $0.90/$1 credit. However I’m not sure $0.70 is low enough to attract buyers in this market. Except to meet CRA needs, in January 2009 it is very difficult to attract buyers at any price. We have a credit and financial slump on top of a cyclical downturn. This affects not just traditional buyers of tax credits such as banks and other financial institutions but also the larger corporations that might have a need to offset income if they weren’t facing a drop off in their main business lines and therefore little income to offset. For those companies making sufficient money to need tax credits, I think the education required to explain the investment type to them would take too long to get their money into the market in a reasonable period of time.

I also know that you can’t get loans in 2009 at 2007 prices. Pricing is higher, underwriters are much more skeptical of “and then a miracle happens” scenarios, and I don’t see them passing the more rigorous stress testing as easily as before. Furthermore, I’m not convinced that the “Local Subordinate Loan” that helped restructure the debt on deals in the past is still around. Cities and counties cutting spending to avoid raising property taxes too much are unlikely to provide any additional financing, much less a soft second. I’m willing to be wrong about this, however.

The bigger surprise is that AHTCC recommends an allocation of $5b in 2009, $4b in 2010, and $3b in 2011. This is a massive amount of spending, representing 50% of all tax credit investment in the first year, which would likely squeeze out traditional lenders or reduce the tax credits to purchased by private investors to negligible. If lenders are not lending (by choice or by inability to compete) then they are not generating profits that require offsetting.

Loss carryback up to 5 years and AMT offsets
The paper identifies two problems with current tax treatment: 1. tax credits cannot currently offset profits for the entire financial boom since 2004; 2. companies subject to the AMT (hint: their names start with ‘F’ and end with ‘e’) cannot use these to offset any profits subject to AMT.

Comment: AHTCC claims that the problem with the short carryback period (currently 2 years) is that companies with too many tax credits will simply sell their ‘overage’ at a greatly reduced price, lowering demand for new tax credits. While this change might reduce the risk that institutions dump their existing tax credits, it does nothing to generate additional investment. HERA already allows investors to use tax credits for buildings placed in service after 2007 against AMT, and this provision would not change that.

I’ll have Part 4b posted shortly.

“Whither LIHTC” is a continuing series on the difficulties of investing and financing affordable housing. More articles can be found via the LIHTC tag.

Mythbusting resolution by Green Decoder (and other thoughts on “Green is expensive”)

Green Decoder had a nice start of the year post about cost perceptions and his resolution to do more green outreach and education. Writing about his brother’s incomplete understanding of sustainable building:

Initially, his sentiment on green focused on the negative aspects: expensive, inconvenient, and difficult to do without professional help. I realized I am not doing enough to share my own message of Shades of Green. In our conversation, he quickly learned that going green is not only the big changes, but all the little decisions we make everyday.

I submit my resolution to you. This year, I will spread the message and teach anyone who will listen, and even some that won’t about Shades of Green. This year, I will move shades closer to the green I want to be.

The idea of Shades of Green is appealing, but following a discussion with a colleague earlier last week, we’re left with a question of why the perception remains “Green is too expensive.”

A recent post from 100khouse.com posits one theory as to why this perception continues to hold sway:

Most of the builders and developers reporting high premiums for pursuing LEED are still trying to build the exact same home they have always built. They are simply adding features to make that same house energy efficient, healthy and sustainable. This addition gets expensive. Rather than redesign the house that has been successful for them in the past, they add solar panels, geothermal systems, high end interior fixtures, extra insulation and other green features. The house gets greener. It gets certified, but it also increases significantly in cost. Since the features are add-ons and extras, the price rises as each one is tacked on.

The 100k house is an attempt by Philadelphia developers to build “a modern and “green” house for a measly $100,000.” The website has extensive information about their choices, challenges, and ambitions. It deserves a long look regardless of your property type.

Whither LIHTC, Part 3

Lots of activity during the holiday break, but we’ll start with House Financial Service Committee Chairman Barney Frank

According to a well-written article in the Boston Globe, Congressman Barney Frank wants to include $10 billion for affordable housing in the stimulus bill to be announced later this month.

The $10 billion would take the form of $5b in Treasury purchases of tax credits and $5b in assistance to states for funding existing projects currently stalled by market conditions. “Frank said the Treasury could buy the credits and hold them until the market improves and then resell them to recoup its money. He said the government also could send money to states to help developers with funds they need to get projects moving.”

The Globe article does not discuss the length of time Treasury would hold the tax credits, whether the credit period would begin once the credits are sold to a third party, or whether the compliance period would be extended. If Treasury holds the credits, then deals will probably get done, but if the credit period begins at point of purchase, the credits will decline in value (because they burn off at +/- 10% per year) and Treasury will never realize any gain from the sale. If the credit period begins at point of sale to the eventual investors (TBD) then the investors will pick up a project either at completion (if conditions are good) or well into its first couple of years of service (if conditions aren’t). This means that equity investments will be due immediately rather than spaced over construction, replacement reserve costs will be higher, and that the property will be much more likely to require a major capital upgrade during the compliance period.

The direct assistance to states is much harder to evaluate, but there are many, many projects that cannot be built because neither equity nor debt is available for funding. In the spirit of “shovel ready” that predominates discussion of the stimulus bill, the National Housing Partnership Network claims “There are 230 projects ’shovel ready,’ with a combined 2,100 units that could go into construction if the federal government provides additional help.” Of course, 10 units/project seems a little low, so I’ll assume that the Globe missed a decimal place.

One of the things to remember is that even if a project can be built, that does not mean that construction expenses will not exceed budgets, that the project will deliver on time, or that operations will not require additional funding. This is particularly important because many developers are over extended or feeling pressure on existing deals and cannot be counted on to provide additional operating loans. I deal with developers across the country on a daily basis and I can’t find one that doesn’t feel heat.

Overall the article provides a good summary of complex issues and presents the policy challenges faced by the industry.

“Whither LIHTC”, a multi-part, semi-informed discussion of the current challenges to the Low Income Housing Tax Credit program is discussed in Part 1 and Part 2.

(Via Open House.)

Restart

Restarting in more ways than one. Took a long holiday break to sell some assets, refinance some bonds, and finish off some (ma)lingering paperwork.

In so many ways 2008 was a terrible year. No secret there. While the stimulus package and a renewed commitment to affordable housing through government gives one hope, credit is hard to come by, skips are increasing, rents are dropping, and at best we can hope for a bottoming 2009.

In the face of daunting conditions, MFG soldiers on and promises to have a couple more installments of “Whither LIHTC” this week and a lengthy discussion of sustainability at HUD soon thereafter.