Income Limits for Average Income Projects
As more and more developers are exploring the average income minimum set-aside, one of the looming questions is how income limits should be calculated for units that are not using the 50 percent and 60 percent limit that are published by HUD for low-income housing tax credit (LIHTC) and tax-exempt bond developments.
Each year the U.S. Department of Housing and Urban Development (HUD) publishes two sets of income limits:
- Section 8 Income Limits that determine the eligibility of applicants for HUD's assisted housing programs
- Multifamily Tax Subsidy Projects (MTSP) Income Limits that per HUD’s briefing materials are used to determine qualification levels as well as set maximum rental rates for developments funded with tax credits authorized under section 42 of the Internal Revenue Code (IRC) and developments financed with tax-exempt housing bonds issued to provide qualified residential rental development under IRC section 142.
As outlined above, the Section 8 limits are to be used for HUD’s programs and the MTSP limits are to be used for LIHTC properties.
Prior to the adoption of the average income minimum set aside, there were only three income limits applicable to LIHTC projects at the federal level: 60 percent, 50 percent and 40 percent (for the 40/60, 20/50 minimum set aside and deep rent skewed, respectively). Allocating agencies have historically had deeper restrictions but since those were state/allocating agency requirement; as long as the additional income limits were lower than the federal level, the agency had leeway on how it calculated its deeper targeted limits.
However, the average income minimum set-aside allows for a wider swath of federal income limit bands : 20 percent, 30 percent, 40 percent, 50 percent, 60 percent, 70 percent and 80 percent. Because the MTSP limits only list a 50 percent and 60 percent limit there has been some discussion about what income limits should be used.
Why it Matters
At first it might seem like a trivial question, a 30 percent limit should be a 30 percent limit regardless of which HUD chart you use. However, under the Section 8 income limits HUD publishes limits that it calls extremely low income (ELI) and low income (LI). Many people in the industry incorrectly refer to these limits as 30 percent and 80 percent limits. However, these limits have adjustments from HUD that cause them to be very different from the mathematical 30 and 80 percent limits.
HUD is required by the 2014 Consolidated Appropriations Act to adjust ELI so that the ELI limit for any household size cannot be below the poverty level. If the poverty level exceeds VLI, the ELI limit is capped at VLI. This means that in vast majority of the areas that HUD publishes income limits for, the ELI does not equal a mathematical 30 percent. In 81.5 percent of the areas, the ELI is greater than a mathematical 35 percent limit. In 46.4 percent of the country the ELI is greater than a mathematical 40 percent limits. In 26.3 percent of the country the ELI is greater than a mathematical 45 percent limits. Finally, in 14.2 percent of the country the ELI is greater than a 49 percent limit.
If ELI is used as the standard for the average income 30 percent units, it would mean that in 14.2 percent of the country a developer could identify a unit as a 30 percent unit for purposes of meeting the income average test and be able to qualify tenants and collect essentially the same rent as unit designated as a 50 percent unit. For example, take a 100-unit property in Talladega, Ala. comprised entirely of two-bedroom units. The development has 60 units at 80 percent and 40 units at 30 percent.
Monthly gross rent using ELI for the 30 percent units: $83,520
Monthly gross rent using mathematical 30 percent: $69,600
Using ELI would increase the monthly gross rent by 20 percent because the 30 percent units are allowed to charge a rent that is equal to 50 percent of median income. While some developers may welcome the extra cash flow, this seems to be incongruous with the intent of the average income minimum set aside.
On the other end of the spectrum, using LI instead of a calculated 80 percent again results in income limits that don’t make sense in an average income development. The adjustments from HUD result in a LI being less than or equal to a calculated 80 percent. However, the adjustments that HUD applies to the LI does not impact as many areas. In 289 areas the adjustments result in a LI that is less than a calculated 75. In 73 areas it results in a LI that is less than a calculated 70 percent. The Stamford-Norwalk, Conn. HUD metro fair market rent area (HMFA) has that largest adjustment; LI for this area is equal to a calculated 61 percent income limit.
For example, consider a 100-unit development in the Stamford-Norwalk, Conn. HMFA comprised entirely of two-bedroom units. The property has 60 units at 80 percent and 40 units at 30 percent.
Monthly gross rent using LI for the 80 percent units and ELI for 30 percent units: $157,820
Monthly gross rent using mathematical 80 percent and 30 percent: $194,840
Using LI results in a 19 percent reduction in the monthly gross rent for the project.
What Guidance Exists
While the IRS and Treasury have not provided guidance regarding how to calculate income limits for average income developments, guidance does exist on how to calculate income limits for the other minimum set asides. Revenue Ruling 89-24 describes how to calculate the income limits for the 40/60 and 20/50 minimum set asides as well as the deep rent skewed 40 percent income limits. Revenue Ruling 89-24 directs owners to calculate the income limits using a mathematical equation off the 50 percent limit. For example, for the 60 percent minimum set aside the units must be set aside for “families having income equal to 120 percent of less of the income limit for a very low income family of the same size.” For the 40 percent limit the ruling says the units must be set aside for “families having income equal to 80 percent of less of the income limit for a very low income family of the same size.”
Unfortunately, developments utilizing the average income minimum set aside do not have clear guidance on what income limits to use. This can lead to uncertainty in setting income limits. Owners and managers should consult with their state agency, investor and tax professional before determining 30 percent and 80 percent income and rent limits for their property.