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Washington Wire: Preparing for Expiration of Fixed Housing Credit Rate

Published by Michael J. Novogradac on Friday, November 1, 2013

Journal cover December 2013   Download PDF

Barring a last-minute legislative reprieve, on Dec. 31 the 9 percent tax credit percentage floor for the low-income housing tax credit (LIHTC) will expire, leaving many affordable rental housing properties under development with a large equity gap. However, in addition to possible legislative resolutions, some of these LIHTC developments may be able to offset the effect of this change, with the aid of state allocating agencies.

The Housing and Economic Recovery Act of 2008 (HERA) set a fixed 9 percent minimum tax credit percentage rate for the 70 percent LIHTC. Before HERA, the tax credit percentage for the so-called 9 percent LIHTC was directly linked to federal borrowing costs, which is so low that the calculated 70 percent rate is substantially below 9 percent. Absent the 9 percent floor, the otherwise low credit percentage rate makes many affordable rental housing developments infeasible.

Discretionary Basis Boost May Help Some
In addition to the fixed 9 percent rate, HERA created a discretionary state-designated 30 percent basis boost under Internal Revenue Code (IRC) Section 42(d)(5)(B)(v). This provision allows allocating agencies to deem developments as requiring enhanced credit in order to be financially feasible and those properties can qualify for the 30 percent basis boost. The IRC gives allocating agencies broad discretion to make these designations and that flexibility has been crucial to allowing states to set their own priorities and determine which developments receive the bonus.

As such, some developments that were generating 9 percent LIHTCs may be able to apply for this basis boost, and those that are successful won’t be adversely affected by the expiration of the 9 percent floor. But those developments in the pipeline already expecting the 9 percent floor and a 30 percent basis boost, or those properties unable to get the state to grant them the boost, will be impacted by the expiration of the 9 percent floor.

The Effect of the Fixed Rate
The average floating rate since the enactment of the floor is 7.62 percent. The lowest floating rate since the enactment of the floor is 7.35 percent, the highest is 7.94 percent.

The Floor’s Effect
The creation of the 9 percent floor had an immediate helpful effect on the financing of LIHTC properties. The 9 percent floor has ranged from 13.3 percent to 22.4 percent higher than the applicable percentage since its enactment. This means that since the summer of 2008, LIHTC developments have been able to qualify for 13.3 to 22.4 percent more LIHTC equity than they would have without the provision.

This additional equity has allowed LIHTC developments to serve lower-income populations, provide more services and offer more amenities. The additional equity has also made many projects feasible at a time when other federal, state and local gap financing sources were being reduced. Nine percent developments receiving allocations after Dec. 31, 2013 will be subject to the floating rate, which represents at least 12 percent less equity per property.

The sample calculations below illustrate the difference in equity using the tax percent credit percentage rate for November 2013, which was 7.59, at a range of investor equity prices.

Because of this loss of equity, many LIHTC developers and owners will try to redesign existing pipeline properties to serve higher-income populations, provide fewer amenities and/or provide fewer ongoing tenant services in order to try and make them financially feasible. Many of these pipeline developments will simply become infeasible.

The consequences of a 12 to 22 percent reduction in credit percentage and corresponding tax credit equity are exacerbated by the deep and repeated cuts Congress has made to gap financing sources for affordable housing. In addition, in many cases severe cuts have also been made to affordable housing funding in state and local budgets, which continue to struggle to recover from the recession.

Senate Legislation Secures Bipartisan Support
Recognizing the benefits created by the temporary fixed rate, Sen. Maria Cantwell, D-Wash., in August introduced S. 1442, the Improving the Low-Income Housing Tax Credit Rate Act. The bill would make permanent the fixed rate floor for 9 percent LIHTCs and provide a 4 percent credit rate floor for existing buildings. This 4 percent floor is new and would apply to allocated credits and not tax-exempt bond credits.

“This bill supports a proven job creating program that means 95,000 jobs a year across the country,” Cantwell said in a statement about the bill’s introduction. “The low-income housing tax credit is a win-win for our communities: It leverages private capital to invest in new jobs and new housing in our communities. This legislation will improve the tax credit for years to come.”

At the time of this writing, the bill had 25 bipartisan cosponsors, but despite this considerable bipartisan support, a number of contentious legislative battles have prevented this legislation from gaining momentum so far.

President’s Budget Included Related Proposal
In his proposed budget for 2014, President Barack Obama suggested changing the formula used to determine the floating 9 percent rate. As described in the General Explanations of the Administration’s Fiscal Year 2014 Revenue Proposals (also known as the Green Book), the floating rate would be would be the average of the mid-term and long-term applicable federal rates for the relevant month, plus 200 basis points. The proposed change would apply to both 70 percent and 30 percent allocated LIHTCs.

In the Green Book, the administration suggests the new floating rate under this calculation would better reflect private-market rates. Unfortunately the president’s proposal, under current interest rate conditions would generate a credit percentage substantially below 9 percent. Many in the affordable housing community are appreciative of the president’s efforts to address the issue, but much prefer the approach to extending the 9 percent floor as provided in the Cantwell bill.

Reason to Hope?
The extension of the 9 percent floor is widely expected to be part of any effort to extend the tax provisions that expire at the end of 2013. Unfortunately, most believe such an extension effort won’t likely occur until late summer or early fall next year. That is long after many allocating agencies will have made their 2014 awards, which will likely be based on the lower, floating, 9 percent credit percentage. That said, keep your eyes on the current budget conference because there is an outside chance that if it includes some tax provisions, you will see an effort to attach tax extenders to it.

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