Considering Best Time to Start Working on an NMTC Financial Forecast

Published by Eric Blades, CPA on Thursday, February 3, 2022
Journal Cover Thumb February 2022

Q: When is the right time to start working on a new markets tax credit (NMTC) financial forecast?

A: It depends on your circumstances, as well as exactly what the question intends.

Perhaps a more pointed way to ask this is: What are the circumstances that would tip the cost-benefit scale in favor of engaging an accounting firm early for financial modeling? To clean up the question-begging, what does “early” mean? For our purposes, let’s define early as any period of time ending approximately a week or two before your development gets a commitment letter for NMTC allocation and one of the transaction parties starts asking for a draft of a financial forecast.

So, what circumstances might call for an early engagement?

The first answer to this question is somewhat selfish and only slightly tongue-in-cheek: every single deal. By the time you gather several attorneys, an investor and CDE(s) (perhaps even additional non-CDE lenders) onto a kickoff conference call, you should be settled on a financial structure, cleared said structure with your tax counsel, and your accounting firm should at least be engaged and preferably already have a draft forecast ready for review by opposing counsel. The forecast provides the roadmap for drafting legal documents and will be the most significant impetus for getting all the parties on path for closing.

What about sometime earlier? Here are some scenarios where clients benefit from early work on a financial forecast, even in advance of starting discussions with CDEs:

This is your first NMTC transaction and you are not working with an experienced search consultant or tax counsel.

Self-explanatory–project sponsors should assemble their team with at least one party with extensive NMTC experience to help with the navigate the transaction process, structure the transaction, provide education on the basics, etc.

Your transaction pursues the use of two or more tax credits (twinning) in your transaction.

Credits that use more than one tax credit incentive, be they state or federal, can get complicated. Every state NMTC program comes with its own wrinkles and challenges, as do combining, say, historic tax credits (HTCs) and NMTCs. Some states have additional requirements to be eligible for their NMTC allocation or to claim their HTCs. With the federal HTC incentive, projects need to consider whether a prepaid rent, loan or equity structure (or some combination thereof) makes the most sense.

These considerations get more complicated when you add in the balance sheet effect of NMTCs. For example, let’s say your project is $10 million. A CDE falls in love with it and wants to help as much as possible and awards $9 million in allocation, meaning this project entity is going to get as much as, or at least very near to, $9 million in loans on its balance sheet. Assuming you’re using a brand-new entity for the transaction, that’s $1million in room for other sources.

Obviously, more allocation is a good thing for a project in nearly every circumstance, but you have to make sure all your other sources can be structured into helping leverage the allocation awarded. Getting started on at least a preliminary financial forecast is probably the best way to shake out all the issues at hand.

You have a debt lender with no NMTC experience and you need to decide a) where their debt will flow and b) what collateral is available for their loan(s) and subsequently get the lender comfortable with the proposal.

Similar to the last example, consider the balance sheet crowding effect of NMTCs. Assuming the same facts as the previous example, your entity has $1 million of room to take on other sources with access to the assets as collateral. If your lender wants to lend you $6 million, what then?

Ideally, the lender agrees to participate directly or indirectly in the leveraging of the NMTCs. A $9 million QEI will require roughly $6.5 million in leverage (leverage loan), depending on the investor’s credit equity and before considering fees. The lender can be pledged an assignment of this leverage loan as security, subject to certain forbearance provisions, for the amount of their debt used in the leverage loan. This can be a significant hangup for many lenders and it will take some time to get a first-timer comfortable with this arrangement. A financial forecast that shows the lender a) where its debt is, and b) what income and cash flow is available to service it will be helpful in these discussions.

Conclusion

It’s always a good idea to get an early start on an NMTC financial forecast.

So, get started early. Even if you’re skeptical of the value brought to the table in the scenarios outlined above, it takes some time to put a NMTC financial forecast together and it benefits all parties to show up to the closing table with a solid initial forecast.  Look on the bright side. Once the earnest work on the NMTC forecast is done, you get to start the actual closing process.  Appropriating a quote from Winston Churchill, it is, perhaps, the end of the beginning.