Question: How does the Community Development Financial Institutions (CDFI) Fund measure how a community development entity (CDE) meets the innovative investment requirement under Section 3.2(l)(iii) of the new markets tax credit (NMTC) allocation agreement?

Answer: In the NMTC allocation application, a CDE indicates whether it intends to use a portion of its NMTC allocation to pursue certain innovative uses, and if so, it must state which innovative uses it will pursue and the percentage of its NMTC allocation that it will dedicate to those respective uses.

If a CDE is awarded an NMTC allocation, it will probably have that specific innovative use that it discussed checked in Schedule 1 under Section 3.2(l) of the NMTC allocation agreement and it will have the required specified percentage of its NMTC allocation that must go to that type of innovative investment. If a CDE decides to make small-dollar qualified low-income community investments (QLICIs) under the 2018 allocation agreement, then the QLICIs made in qualified active low-income community businesses (QALICBs) must receive QLICIs of $4 million or less.

In certain situations, a QALICB receives small-dollar QLICIs, then receives additional QLICIs years later. Many CDE entities wondered whether those additional QLICIs could also be deemed small-dollar QLICIs and still be in accordance with Section 3.2(l)(iii) of the NMTC allocation agreement.

This CDFI Fund provided guidance in the Certification, Compliance, Monitoring and Evaluation Frequently Asked Questions updated in March 2019 regarding the CDFI Fund’s evaluation of how a CDE meets the innovative investment requirement under Section 3.2(l)(iii) of the 2018 allocation agreement. The CDFI Fund stated that a CDE making a small-dollar QLICI in a QALICB will satisfy the innovative investments requirement if the following criteria are met:

The QALICB has not received a QLICI in any amount within the past 24 months; or

The QALICB has received QLICIs within the past 24 months which, when combined with the CDE’s QLICI, will not exceed the applicable maximum small-dollar investment limit.

The applicable maximum small dollar investment limit is the amount stated in the application submitted related to the allocation under which the CDE is making the small-dollar QLICI. However, if the QALICB received previous QLICIs within the past 24 months, the applicable maximum small-dollar investment limit is the amount stated in the application for the allocation under which the first QLICI to that QALICB within that 24-month period was made.

If a CDE receives principal repayments on a small-dollar investment from the QALICB, that CDE or another CDE may make additional QLICIs to the QALICB, if the total outstanding QLICI(s) to the QALICB do not exceed the applicable maximum small-dollar investment limit.

For example, CDE A makes a $1 million QLICI into a QALICB in February 2018 using its 2017 allocation (under the 2017 allocation round, small-dollar QLICI was $2 million or less). CDE B has a 2018 allocation and  would like to make a small-dollar QLICI to that same QALICB in November 2019. Since November 2019 is less than 24 months from February 2018 (the date of the original small-dollar QLICI to that QALICB), then CDE B could only make a $1 million QLICI to that QALICB in November 2019 and have it count as a small-dollar QLICI. Then after February 2020 (once the first 24-month period has expired), CDE B could make another $3 million QLICI to that same QALICB and count that as a small-dollar QLICI, provided that the $1 million QLICI in February 2018 was the only previous QLICI in that QALICB.

CDEs are expected to monitor this requirement themselves to ensure that the QALICB does not exceed the applicable maximum small-dollar QLICI limit within a 24-month period. If a subsequent CDE makes a small dollar QLICI into a QALICB that causes the QALICB’s total QLICIs within a 24-month period to exceed the applicable maximum small dollar investment limit for the previous QLICI in that QALICB, then it is the subsequent CDE that cannot receive innovative investment credit for its QLICIs.

CDEs are encouraged to consult with their tax and compliance advisors regarding any questions on compliance with Section 3.2(l)(iii) of the allocation agreement.