Reasons to Prioritize Private Activity Bonds for Rental Housing

Published by Mark Shelburne and Peter Lawrence on Monday, February 3, 2020 - 12:00AM

As described in an earlier post, the demands on tax-exempt private activity bond (PAB) volume are growing in many states. For several years after the financial crisis and recession of 2008-9, the vast majority of states had plenty of PAB cap available, and rental market conditions often made using PABs for potential affordable rental housing developments financially difficult.

However, as the economy and rental markets have rebounded, many states have begun to use much more of their available PAB cap to respond to the need for affordable rental housing as more potential development became financially feasible. As PAB cap has become more scarce as a result, several states are instituting competitive allocation policies, leading to fierce competition for the valuable resource.

PABs are available to serve many various purposes, but affordable rental housing should be a top priority given the need and compelling financial benefits described below. Even though assistance for first time homeownership for low-income families through PABs, (a.k.a. mortgage revenue bonds or MRBs) is a compelling use as well, it generates less federal financial subsidy and often is not as valuable a use as affordable rental housing, as explained below.

Other Capital Sources are Available

First and foremost, rental housing is different in that state and local governments are often able to support the other PAB-eligible activities using other resources. For example:

  • general obligation (GO) tax-exempt bonds can fund government-owned non-housing projects such as transportation infrastructure, energy, water and sewage facilities; and some economic & community development projects;
  • housing finance agencies can and do serve low-income homebuyers without using PABs by accessing secondary mortgage markets.

While the public-private partnerships that PABs engender offer some benefits as compared to GO bonds, state and local governments should take into account the benefits of using PABs for rental housing when considering to allocate PABs for uses that could be funded with GO bonds.

Similarly, while issuing PABs for low-income homeownership may offer states some advantages as compared to mortgage-backed securities (MBS), again such uses should be weighed against the benefits using PABs for rental housing. Programs in Oregon and Texas are examples of states using MBS to effectively serve low-income homebuyers.  The Federal Housing Finance Agency (FHFA) could change policies that affect the advantages of MBS programs, as FHFA prepares to recapitalize Fannie Mae and Freddie Mac and release from conservatorship.  However, until those policies are finalized, states with scarce PAB cap should consider MBS programs to fund their homeownership programs.

By contrast, the only other substantial capital source for affordable rental housing development is the 9 percent low-income housing tax credit (LIHTC), which is significantly oversubscribed in every state. Nothing else at any material scale is available to create or substantially rehabilitate affordable rental homes for the nation’s lowest income households.

In other words, unlike other activities, failure to use PABs for affordable apartments for low-income families will result in less production and a greater unmet need for such housing.

Responds to a Greater Unmet Need

The rental housing affordability crisis in America is almost universally recognized. Within this need, low-income renters face far more serious challenges than low-income homebuyers in most states, and thus should be a higher priority for those states.

Serves Those at Lower Incomes

According to recent survey data from the National Council of State Housing Agencies (NCSHA), approximately two thirds of those served by MRBs earn more than 60 percent of the area median income (AMI), whereas about two thirds of those in PAB-financed apartments earn less than 60 percent of AMI.

Uniquely Generates 4 Percent LIHTC Equity

If a rental property financed by PABs meets the Internal Revenue Code and state requirements, it produces 4 percent LIHTCs. Unlike the 9 percent counterpart, there is no program-level limit on this resource (each property has a maximum), other than the overall limit of the PAB cap. The 4 percent LIHTC is the same as the 9 percent LIHTC in that the resulting equity investment (millions of dollars for even comparatively small developments) creates affordability by offsetting the need for debt financing.

Every PAB dollar used to directly finance affordable rental housing leverages at least 50 cents of additional federal funds that otherwise would go unused. (The leverage ratio is less for properties with unrestricted units.) No other eligible activity generates an additional tax subsidy source, let alone one as powerful.

Uses Fewer PABs Per Household

The NCSHA survey data shows a wide range of PABs for each first time low-income homebuyer and affordable apartment. However, in every state the amount of PAB issuance for an affordable apartment was lower than for a first-time low-income homebuyer. In reality, the differences are even greater than the numbers suggest, as the amounts do not reflect how bond-funded units will provide an affordable home to multiple households over decades of operations, as opposed to an MRB loan assisting just the one homebuyer.

Also Promotes Homeownership

Building rental housing developments actually advances homeownership from both the supply and demand side. With the former, some renters move to the new apartments from existing single-family stock, allowing it to be sold as entry level homes (the extent varies from market to market). The affordability of PAB-financed properties helps with demand because lower rents allow households to more easily save for down payments.

Provides Revenue for State Housing Agencies

Many state housing agencies are self-supporting and use revenue generated from PAB lending to fund other programs. For both reasons, agencies must take into account the financial effect of resource allocation choices. MRBs can be produce much of this revenue, but fees for issuing PABs for affordable rental housing and allocating 4 percent LIHTCs help support operations as well.


The Affordable Housing Credit Improvement Act (AHCIA, H.R. 3077/S. 1703) proposes several statutory changes to enhance PABs for rental housing. Critical among these is what’s known as bond recycling, which would allow agencies to use the same dollar of bond volume for MRBs and rental developments producing 4 percent LIHTCs. If enacted, the decision to allocate PAB cap for MRBs versus rental housing become essentially moot. In a recycling context, and in states where supply of PABs exceeds demand, the focus of policy makers should be on increasing utilization for rental housing.

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