The Impact of Inflation on Income Limits
Published by Thomas Stagg on Wednesday, January 19, 2022 - 12:00AM
Inflation directly affects low-income housing tax credit (LIHTC) properties’ operating expenses and repair costs. However, the effect of inflation on income limits is less obvious and not as well understood.
There are two key components when the U.S. Department of Housing and Urban Development (HUD) determines area median income (AMI): the U.S. Census Bureau’s American Community Survey (ACS) data and the change in the Consumer Price Index (CPI).
Due to the timing of the release of the ACS data in relation to when HUD publishes income limits, HUD uses ACS data that is three years prior to the income limit year. For example, for the 2021 AMI calculation, HUD used the 2018 ACS data.
To adjust for this lag in income data, HUD uses a CPI factor to trend the historic ACS data to the income year. It is in the CPI factor that inflation comes into play and directly impacts income limits. Depending on which direction CPI is trending, this can serve as a headwind or tailwind to income limits.
CPI Trend Factor
HUD uses the same national CPI trend factor for all areas. The CPI trend factor is made up of two inputs calculated as follows:
Congressional Budget Office’s (CBO) estimate of CPI for the HUD income year/CPI for the ACS year
2021 AMI is calculated as follows:
2018 ACS* (2021 CBO CPI/2018 CPI)=2021 AMI
HUD uses the CBO’s 10-year economic projections–fiscal year estimate of CPI–All Urban Consumers (CPI-U). The CBO typically publishes two estimates of CPI per year, one in July and one in January. HUD historically uses the most recently published CBO estimate at the time of the release of the income limits, which is the January release. It should be noted that in 2021, the CBO’s CPI estimate was not released until February.
CPI’s Impact on Limits
A simplistic answer is that the greater the change in CPI, the higher the income and rent limits will be. While this is a true statement, it is important to look into some nuances. First, when determining if CPI is increasing, we really want to look at the change in the CPI trend factor from the previous year’s income calculation. CPI generally increases, but for purposes of determining the impact on income limits, we have to look at how the CPI factor has changed from the prior year. Just looking at the CPI factor without putting it in context to prior years is not meaningful. For example, the CPI factor used for 2021 was 1.04537–this doesn’t reveal how big of an impact this has on income limits. It is only after comparing it to the trend factor from 2017 of 1.06193 that it becomes clear that this trend factor served as a headwind to curtail income growth compared to prior years.
In fact, for the last three years, the CPI has not served to be a large driver of income limit growth. The following chart uses a constant ACS data flat to show CPI impact to income limits.
As can be seen in the chart, CPI has not been a driver of income limit growth. In fact, in two out of the three years, CPI has either been flat or slightly down. Note, AMI is rounded to the nearest $100, and that is why the small decrease in CPI factor from 2019 to 2020 resulted in a flat income limit.
However, the inflation experienced in 2021 will result in CPI having a large impact on income limits. The LIHTC community is anxiously awaiting the release of the CBO’s estimate of CPI, but until that, consider some hypothetical examples of how this will impact income limits. Most estimates have CPI for 2022 as low as 280 and as high as 290. For this analysis, Novogradac used a wide range to show the impact at the various levels.
As can be seen from the chart above, CPI could have a very large impact on income limits this year. As discussed in a previous blog post, even before the pending January updated estimate of CPI published by CBO, Novogradac was already anticipating large increases in income limits for 2022. The continued increase in CPI will serve to push the limits even higher than we had originally estimated. The estimates in the referenced blog post were based on the July CBO estimate of 2022 CPI, which was 272.3. Based on the data above, if the CBO’s estimate of CPI is 280.0–the income limits would be almost 3% higher than Novogradac’s initial estimate.
We will provide an update as soon as the CBO releases their estimate of CPI.
It is important to note that although CPI is currently increasing, if there was a slowdown in CPI growth in future years, it would have the opposite impact and could serve to lower income limits if the decline was drastic enough compared to the prior years. This would be similar to the CPI trend in 2021. Even though CPI was increasing, it was increase at a much slower rate than prior years, so it served to slow down the income limit growth.