Important Aspects of the 2016 Difficult Development Areas and Qualified Census Tracts

Published by Mark Shelburne on Friday, January 1, 2016
Journal thumb January 2016

Annual changes in difficult development areas (DDAs) and qualified census tracts (QCTs) have long been part of the Low-Income Housing Tax Credit (LIHTC) program, but the Nov. 24, 2015, Federal Register notice announcement of changes for 2016 has sparked more interest than in the past.

Two main components are different this year:

  • the date when the designations take effect, and
  • the approach for determining DDAs within metropolitan statistical areas (MSAs) that are urbanized areas with 50,000 or more inhabitants.

Other aspects of the DDA and QCT designation process remain the same but have taken on an increased significance. This discussion focuses on what developers, allocating agency staff, equity providers and lenders need to know.

What Are DDAs/QCTs?

Internal Revenue Code (IRC) sections 42(d)(5)(B)(ii) and (iii) require the U.S. Department of Housing and Urban Development (HUD) to make these determinations based on the following parameters.

  • QCTs: at least half of the households in the tract have an income less than 60 percent of the area median income (AMI) or it has a poverty rate of at least 25 percent.
  • DDAs: have high construction, land and utility costs relative to area median gross income.

Because data on costs is not readily available (unlike incomes and poverty rates), HUD follows the IRC’s legislative history and uses a ratio of fair market rents (numerator) and the income of eligible tenants (denominator).

The areas are then ranked from the highest ratio to the lowest. Not all of the areas that would be DDAs/QCTs qualify because Section 42 limits the total to 20 percent of population. Michael Hollar, senior economist in HUD’s Office of Policy Development & Research (PD&R), says this year 146 of the 375 MSAs miss out on at least one area being so designated because of this population cap.

The 2016 designations can be found at www.huduser.gov/portal/sadda/sadda_qct.html and www.taxcredithousing.com.

Section 42(d)(5)(B)(v) allows state LIHTC allocating agencies to count specific buildings as DDAs, although not if they are financed with tax-exempt bonds.

Why Do DDAs/QCTs Matter?

The main benefit of DDAs and QCTs is that properties in these areas may receive an increase, or boost, of up to 30 percent for the eligible basis attributed to new construction or rehabilitation. Correspondingly, the maximum possible LIHTC allocation is 30 percent larger (other than the amount for building acquisition, which is not boosted).

QCTs involve two other considerations. IRC Section 42(m)(1)(B)(ii)(III) requires qualified allocation plans (QAPs) give a preference in the competitive application process for projects in QCTs which contribute to a “concerted community revitalization plan.” The other is an allowance for what are called community service facilities. Normally space intended for use by nonresidents does not count toward eligible basis, but under Section 42(d)(4)(C) some costs of facilities designed to serve low-income individuals will be eligible if the development is in a QCT (see Revenue Ruling 2003-77 for additional requirements).

2015 Versus 2016 Outcomes

With the changes in DDA and QCT designations, there are three possible outcomes:

  • The geographic area was a DDA/QCT in 2015 but will not be in 2016. There are many more areas losing a DDA/QCT designation in 2016 than there have been in previous years, and those areas losing the designation are mostly in California, Florida and New York.
  • Properties will newly qualify for the basis boost in 2016. The notice creates hundreds of such opportunities in MSAs across the country.
  • There is no change. This actually is the predominant circumstance, particularly in non-metro areas.

A description of the two major policy differences informs consideration of the first two outcomes.

Effective Date

The 2016 DDA and QCT designations apply to developments with:

  • 9 percent LIHTC allocations after June 30, 2016, or
  • tax-exempt bonds issued and buildings placed in service (PIS) after June 30, 2016.

In previous years the effective date was Jan. 1.

HUD deserves credit for adopting a creative approach to help the affordable housing community manage an unprecedented extent of year-to-year changes (described below). The additional six months to adapt and react could be very beneficial for those who plan accordingly.

Metropolitan DDAs

The other change is in DDAs located within MSAs. These had been entire counties (or equivalents). In 2015 there were only 35 DDAs located in a handful of states. There always has been annual variation–21 counties gained or lost DDA designation from 2014 to 2015. The important difference for 2016 is in the size and number of metropolitan DDAs. (Nonmetro DDA designations will continue being made on a county basis).

In a change announced four years ago, future metro DDAs will be based on ZIP Code Tabulation Areas (ZCTAs). These are not the same as ZIP codes, especially in fast-growing areas. ZCTAs stay constant over the course of a decennial census, while ZIP codes change to reflect the United States Postal Service’s needs. Unfortunately this discrepancy creates a possible source of confusion, or even error, as HUD’s “data sets” listing shows ZIP codes. Also, some are partial ZCTAs because of not being entirely within an MSA’s boundary. Developers, agency staff and others should look to the huduser.gov map for the exact areas.

The result of this new policy is that 311 areas have been designated small area DDAs (SADDAs). These SADDAs are located in 45 states in almost all of the nation’s MSAs. According to Hollar, the following are the 20 largest areas with the largest gains of SADDAs (by percent of population)

  • Phoenix-Mesa-Glendale, Ariz., MSA
  • Modesto, Calif., MSA
  • Sacramento-Arden-Arcade-Roseville, Calif., HUD metro FMR area
  • San Jose-Sunnyvale-Santa Clara, Calif., HUD, metro FMR area
  • Santa Rosa-Petaluma, Calif., MSA
  • Stockton, Calif., MSA
  • Vallejo-Fairfield, Calif., MSA
  • Visalia-Porterville, Calif., MSA
  • Cape Coral-Fort Myers, Fla., MSA
  • Jacksonville, Fla., HUD metro FMR area
  • Lakeland-Winter Haven, Fla., MSA
  • Port St. Lucie, Fla., MSA
  • San Juan-Guaynabo, Puerto Rico, HUD metro FMR area
  • Las Vegas-Paradise, Nev., MSA
  • Nassau-Suffolk, N.Y., HUD metro FMR area
  • Charleston-North Charleston-Summerville, S.C., MSA
  • Memphis, Tenn., Miss.-Ark., HUD metro FMR area
  • El Paso, Texas, MSA
  • Virginia Beach-Norfolk-Newport News, Va., N.C., MSA
  • Tacoma, Wash., HUD metro FMR area

This list includes many MSAs in California and Florida that would not have seen a DDA under the prior approach.

Outcome No. 1: Preserving Expired 2015 Designations

All across the country, development pipeline deals are in areas facing a loss of DDA/QCT status. Reasons include being:

  • an unsuccessful past application, or
  • in subsequent parts of a multi-phase endeavor.

While many of these investments will be affected by the switch to SADDAs, other changes also play a role. For example, Los Angeles has 18 fewer QCTs than in 2015.

These developments often depend on the additional LIHTCs, particularly tax-exempt bond transactions. More than a decade ago, HUD responded to this difficulty by allowing property owners to keep the boost in two circumstances.

One is if the agency received a “complete application” before the effective date of the new designations. HUD defines complete as “no more than de minimis clarification of the application is required for the agency to make a decision about the allocation of credits or issuance of bonds.” The property owner also must either receive a 9 percent allocation or issue bonds and placed-in-service within 730 days of the application being submitted.

The other circumstance is for certain multi-phase properties. The notice specifies various requirements for preserving a boost, including having identified the anticipated buildings, phasing being necessary because of LIHTC allocation limits and applying in successive years.

Outcome No. 2: Using New DDAs/QCTs

There are now many new areas where a property will qualify for a 30 percent increase. Developers planning properties in upcoming DDAs/QCTs do not need to be concerned about applying before June 30. The notice says a “complete application” preserves what had been in effect previously if an area is losing its status, not when gaining it. However the allocation or bond issuance and placed-in-service must take place afterward.

Policy/Practical Considerations

The following are important aspects of the notice.

  1. LIHTC agencies and developers may be able to time applications and allocations to take advantage of new and/or expiring DDAs/QCTs, although most QAPs have already established deadlines.
  2. The geographic designations are especially important for tax-exempt bond transactions, because they cannot benefit from an agency’s discretionary basis boost. Of course some 9 percent developments also do not qualify under the applicable QAP criteria.
  3. The effective date may lead to interpretive issues/questions for agencies reviewing applications inside or out of DDAs/QCTs as of July 1. QAPs apply for calendar years and have various preferences and other policies for proposals in such areas.
  4. Even if a property has a ZIP code listed in HUD’s data set, it may not actually be inside an SADDA’s boundaries. Be certain to check the huduser.gov map. Also be sure to print out a copy of the map showing that the development is qualified for future reference, as it is not clear if HUD will keep the 2016 versions of the mapping system available once the 2017 areas are effective.
  5. SADDAs may help agencies carry out fair housing goals. In a presentation last year, Katherine O’Regan, assistant secretary for HUD PD&R, explained the revised approach is meant to expand incentives to build LIHTC housing in lower-poverty “opportunity areas” throughout the country.

For more information on the 2016 DDAs/QCTs order the recording of Novogradac’s Dec. 18, 2015 webinar, “2016 DDAs and QCTs: What You Need to Know Webinar.”