Sign Up For Novogradac Industry Alert Emails

Senate Tax Reform Bill Would Reduce Affordable Rental Housing Production by Nearly 300,000 Homes

Published by Michael J. Novogradac on Monday, November 13, 2017 - 12:00AM

[Updated: 2017-11-21 1:58 p.m.]

According to Novogradac & Company analysis, the Tax Cuts and Jobs Act, tax reform legislation introduced by Senate Finance Committee Chairman Orrin Hatch, R-Utah, would reduce the future supply of affordable rental housing by nearly 300,000 homes over 10 years.  The Senate bill is more favorable than the House bill, because it preserves private activity bonds, but the Senate bill would still appreciably reduce affordable rental housing production at a time when the need for affordable rental housing is acute. Specifically, the following changes proposed by the bill would result in fewer rental homes built or renovated by the low-income housing tax credit (LIHTC):

  1. Lower corporate tax rate from 35 percent to 20 percent,
  2. Change the depreciation and interest deductibility of LIHTC propertis, and
  3. Change inflation factor for future LIHTC and private activity bond allocations from CPI-U to “chained CPI”

The following analyzes the effect of each change and provides a rough estimate of the degree to which each change would reduce the number of affordable rental homes financed by the LIHTC over 10 years.

1. Lower corporate tax rate from 35 percent to 20 percent

The reduction of the top corporate tax rate from 35 percent in 2017 to 20 percent in 2019 would reduce the tax loss benefits of LIHTC investments, since the value of depreciation expense deductions would be reduced. Novogradac & Company analysis found that lowering the corporate tax rate to 20 percent would reduce LIHTC equity by about 15 percent, translating to $1.8 billion or more in loss equity annually. This loss of investor equity translates into loss of 195,900 to 217,200 affordable rental homes, or more, over 10 years.

Much of this loss could be addressed through a two-step proposal to increase allocable LIHTCs and modernize the credit percentage formula.

2. Change to the depreciation/interest deductibility of LIHTC properties

The current draft of the Senate tax reform legislation reduces the depreciation cost recovery for residential rental and nonresidential real estate to 25 years, but only allows for that benefit if interest deductibility is limited to net interest expense. Alternatively, interest deductibility limitations could be avoided if LIHTC properties elected the alternative depreciation system with a 40 year cost recovery period, which is 12.5 years longer than the current law depreciation cost recovery period for residential rental real estate. Given the absence of statutory language, it is assumed that an LIHTC partnership could not qualify for the small business exception to the nondeductibility of interest. With these changes to the depreciation/interest deductibility of LIHTC properties, it is estimated that these changes will result in the loss of 52,000 to 56,000 affordable rental homes, or more, over 10 years.

3. Change inflation factor for future LIHTC and private activity bond allocations from CPI-U to “chained CPI.”

The current draft of the Senate tax reform legislation would change the inflation adjustments throughout tax code from a factor based on the consumer price index for all urban consumers (CPI-U) to one based on a “chained” CPI-U. Many economists claim that the chained CPI-U provides a more accurate estimate of changes in the cost of living from one month to the next by accounting for the effects of substitution on changes in the cost of living. This change will decrease inflation adjustments in LIHTC and private activity bond allocations in future years, and would lead to a loss of 18,700 to 19,900 affordable rental homes, or more, over 10 years.

Combined Effect

On balance, it appears that the current draft of Chairman Hatch’s tax reform legislation would reduce the total amount of LIHTC-financed affordable rental homes by about 267,000 to 293,000, or more, over 10 years. Furthermore, given the lower financial feasibility under a lowered corporate rate, the changes would also result in rental homes that would likely serve higher average income levels, provide fewer amenities and/or social services.

Economic and State Impacts

That significant reduction in housing production would also mean the loss of more than 330,000 jobs and billions of dollars in business income and federal, state and local tax revenue across the United States.

 

Click to Enlarge

 

Here is how these losses would break down by state:

 

Click to Enlarge

 

Based on these estimates, here are the states that would suffer the most adverse impacts:

Click to Enalrge

 

[Note: This post is based on the initial Chairman’s mark. The final bill approved by the Senate Finance Committee shortened the 40 year cost recovery period to 30 years. Also, the final bill includes a base erosion tax that has provisions that would adversely affect the value of community development tax credits. This blog post has not been updated to account for these two items.] 

Learn more about Novogradac's expertise and many services