Tax Credits
Each Sustainable Housing Solutions Partner brings a wealth of diverse and relevant experience that amply qualifies us for developing Low Income Housing. Following is additional information on how the Federal Low-Income Housing Tax Credit Program works:
About The LIHTC Program:
The Federal Low-Income Housing Tax Credit Program (commonly referred to as the “housing tax credit program” or the “affordable housing tax credit program”) was established in 1986 under Section 42 of the Internal Revenue Code, to encourage the private sector to develop and manage housing for lower income individuals. These individuals are typically entry-level workers, resulting in this type of housing also being referred to as “work force” housing. Despite that approximately 1.0 million units have been built, there still remains dramatic shortages of affordable housing in many parts of the country. The lack of sufficient work force housing for potential workers is frequently cited by employers as a major obstacle to opening a facility in a specific community or region of the country.
How the credits are awarded:
Low-income housing tax credits are awarded by the respective state agencies charged with administering the program on behalf of the federal government. Some states have a complimentary state credit, although the extent to which the state credit compliments the federal credit varies substantially. In states with a matching state credit including Missouri, the debt-to-equity ratio for projects is typically significantly less than the debt-to-equity ratio of projects developed in states without a state credit. In Missouri, the credit is a 100-percent matching credit resulting in very low debt-to-equity ratios. While defaults are very rare, many believe the risk of default is further minimized by lower debt-to-equity ratios.
Sometimes developers restore historic buildings as a means of creating affordable housing. In those cases the project will earn both housing tax credits and Federal Historic Rehabilitation Tax Credits (“historic credits”). Some states, such as Missouri, have a state historic credit. As is the case with the housing tax credit, projects in states with a state historic tax credit have significantly lower debt-to-equity ratios.
The role of the developer:
Tax credit projects are developed by a developer who is responsible for constructing the project and managing the project through his own, or a third party management company. The developer is also responsible for preparing all financial statements and reports required by state and federal agencies. The developer must also establish operating budgets, provide maintenance and repair of the project, and generally provide those types of services necessary to operate the project. The developer, who serves as a general partner, maintains a small ownership interest (typically less than one-percent) during the tax credit compliance period. However, the developer usually has the right or the obligation to sell the project at the end of the tax credit compliance period (15 years) or to acquire the investors’ interest in the project. At this time, the developer will generally receive most of the proceeds. That is the developer’s reward for having developed and managed the property for the past 15 years. The project may generate positive cash flow during the compliance period, but the amount is usually nominal and not considered a significant factor in valuing partnership interests.
Investor Role & Benefits:
Investors invest in “affordable housing” projects by becoming a member of a fund that invests in a tax credit project. The investment by the fund usually comprises most of the equity in the project. The fund is a “limited partner” in the project. The fund typically owns in excess of 99-percent of the partnership interest so that it can claim in excess of 99-percent of the tax credits as well as the incidental tax benefits (such as passive losses) that flow from the partnership. The fund will receive the same percentage of profits. The fund will also receive some percentage of the positive cash flow, which is usually nominal. The fund is a pass-through entity such as a limited partnership or a limited liability company. As such, the profits, losses and cash flow pass through that entity to the corporate investors. Investors typically receive a number of benefits. The first and most important is the allocation of federal tax credits, which provide a direct dollar-for-dollar reduction in an investor’s federal tax liability. The credits are typically claimed over a ten year period. In the event an investor is also a state investor, it will also receive a dollar-for-dollar reduction in its state tax liability. The second most significant benefit comes in the form of passive losses that flow to the investor partners. The investor may also receive positive cash flow distributions from the project and may receive some value for its residual interest in the project. The residual interest typically would be received sometime between years 10 and 12, although some investors wish to remain partners beyond year 12 in order to receive additional passive losses in the event their capital accounts are sufficient to permit the taking of additional losses.
