Whither LIHTC, Part 4b

Posted: January 9th, 2009 | Author: mfguide | Filed under: Investment, LIHTC, News | 1 Comment »

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.’

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