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Washington Wire: President Obama's 2012 Proposed Budget Expands Several Tax Credit Provisions

Published by Michael J. Novogradac on Tuesday, March 1, 2011

Journal cover March 2011   Download PDF

On February 14, the Obama Administration released its third annual budget proposal, which essentially sets out its spending goals and tax proposals for fiscal year (FY) 2012. At the time the FY 2012 budget was released, the FY 2011 budget had not yet been resolved. However, it is expected that the spending levels set during the FY 2011 negotiations will set the tone for the spending debates for the FY 2012 budget process. As the Journal of Tax Credits went to press, Congress was in recess and scheduled to return to Washington, D.C., the same week that the current funding agreement expires. It appears unlikely that the FY 2011 negotiations will conclude by March 4, so it is expected that a short-term funding extension will be agreed to as negotiations continue, with or without a government shutdown.

As such, I will take a closer look at the spending levels proposed for FY 2012 in an upcoming issue, once the FY 2011 debate has been settled. In the meantime, I focus on the tax provisions presented in the Administration’s FY 2012 plan.

A number of provisions of interest to the tax credit community are presented in the “General Explanations of the Administration’s FY 2012 Revenue Proposals,” commonly referred to as the Greenbook. The Greenbook is a companion document to the Administration’s FY 2012 budget proposal that provides some details of the Administration’s tax plans.

Low-Income Housing Tax Credits
In the FY 2012 budget, the Administration proposes two changes to the low-income housing tax credit: first, to allow LIHTC-supported projects to elect an average-income criterion; and second, to provide a 30 percent basis boost to tax-exempt bond financed LIHTC preservation transactions.

The Administration says the first proposal would allow the LIHTC to serve households in greater need and to provide incentives for creating mixed-income housing. Currently, in order for a building to qualify for the LIHTC, a minimum portion of the units in the building must be rent restricted and occupied by low-income tenants. Under section 42(g)(1), the taxpayer must make an irrevocable election between two criteria. It must choose that:  at least 20 percent of the units be rent restricted and occupied by tenants with incomes at or below 50 percent of area median income (AMI); or at least 40 percent of the units be rent restricted and occupied by tenants with incomes at or below 60 percent of AMI.

The Administration argues in the Greenbook that the inflexibility of these income criteria makes it difficult for the LIHTC to support acquisition of partially or fully occupied properties for preservation or repurposing. The FY 2012 budget proposal would add a third criterion to the two described above. When a taxpayer elects this criterion, at least 40 percent of the units would have to be occupied by tenants with incomes that average no more than 60 percent of AMI. No rent-restricted unit, however, could be occupied by a tenant whose income is more than 80 percent of AMI; and, for purposes of computing the average, any unit with an income limit that is less than 20 percent of AMI would be treated as having a 20-percent limit.

The Greenbook provides the following example: “suppose that a building had 10 rent-restricted units with income limits of 20 percent of AMI, 10 with limits of 40 percent of AMI, 20 with limits of 60 percent of AMI, and 30 with limits of 80 percent of AMI. This would satisfy the new criterion because none of the limits exceeds 80 percent of AMI and the average does not exceed 60 percent of AMI.”  

If passed during the budget process, the change would be effective for elections under section 42(g)(1) that are made after the date of enactment. There are several questions left unanswered by the proposal. For instance, how would the rent limits be determined? Novogradac & Company is currently seeking answers to some of these questions. This proposal is estimated to cost $110 million over 10 years.

The second change that the Administration proposes for the LIHTC  program would allow a 30-percent “basis boost” for LIHTCs for certain projects financed with tax-exempt bonds that are subject to private activity bond volume cap. Projects receiving the proposed boost would be limited to those projects that preserve, recapitalize and rehabilitate existing housing that was originally financed with federal funds and is subject to a long-term use agreement limiting occupancy to low-income households.

In the Greenbook, the Administration argues that there is an acute need for the preservation of existing affordable housing. The document notes that many tens of thousands of federally assisted housing units are being lost, in large part because of inability to fund necessary capital improvements. The Administration goes on to say that “LIHTC-supported preservation offers the hope not only of protecting the existing federal investment in affordable housing by leveraging private capital but also of gaining the benefits of private-market discipline for federally assisted properties. Moreover, preservation is a cost-effective alternative to new construction. The per-unit cost of preservation is about one quarter that of new construction, and it greatly reduces the financial and human costs of relocating tenants.”

This proposal would allow state housing finance agencies to designate certain projects to receive, for purposes of computing the LIHTC, a 30 percent boost in eligible basis. To receive this treatment, a project would have to satisfy the following requirements:

  • It must involve the preservation, recapitalization and rehabilitation of existing housing;
  • The housing must demonstrate a serious backlog of capital needs or deferred maintenance;
  • At least half of the aggregate basis of the building and of the land on which the building is located must be financed by tax-exempt bonds that are subject to the volume cap;
  • The project must involve housing that was previously financed with federal funds (including having benefited from the LIHTC); and
  • Because of that funding, the housing must be subject to a long-term use agreement limiting occupancy to low-income households.

The volume of designations that a state housing agency could make under this proposal would be limited by an amount that is computed using the state’s volume cap. The limitation applicable to a project would depend on the calendar year of issue of the tax-exempt bonds that help finance the project and not on which year’s volume cap was taken into account in issuing the bonds. Under the limitation, the aggregate issue price of the bonds that are issued in a calendar year and that finance projects whose bases are designated for a boost under this provision would not be allowed to exceed an amount equal to 0.4 percent of the state’s volume cap for that calendar year. Thus, for example, if an otherwise-qualifying project is financed with tax-exempt bonds that are issued in 2012 using volume cap that the state carried over from 2010, the basis boost for that project would be subject to a limitation that is based on an amount equal to 0.4 percent of the state’s volume cap for 2012.

This change would make many more acquisition/rehabilitation transactions financially feasible. The proposal would be effective for projects that are financed by tax-exempt bonds issued after the date of enactment. How the limit would be calculated, based on the description in the Greenbook, is not entirely clear. Novogradac & Company is currently seeking clarity regarding this issue. This proposal is estimated to cost $762 million over 10 years; this appears to assume that, annually, about $20 million of additional tax credits would be available nationally. At tax credits prices of 75 to 90 cents, this $20 million in additional credits ($200 million over 10 years) translates into about $150 million to $180 million in additional annual funding.

In a statement on its web site, the Affordable Housing Tax Credit Coalition (AHTCC) says it is an excellent sign that the LIHTC was included in the President’s budget proposal, especially in light of current discussions on tax reform suggesting elimination of many tax expenditures. 

New Markets Tax Credits
In its FY 2012 budget, the Obama Administration also includes two proposals for the New Markets Tax Credit (NMTC) program.

First, the proposal would extend the NMTC, set to expire on December 31, 2011,  through 2012, with an allocation amount of $5 billion. The Administration estimates that within this $5 billion, at least $250 million will support financing healthy food options in distressed communities as part of the Healthy Food Financing Initiative. An extension of the NMTC would allow community development entities (CDEs) to continue to generate investments in low-income communities.

And second, the proposal also would permit NMTC amounts resulting from qualified equity investments (QEIs) made after December 31, 2010, to offset alternative minimum tax (AMT) liability. Under current law, the NMTC can be used to offset federal income tax liability but cannot be used to offset AMT liability. This change would expand the number of potential investors in the NMTC program.

These proposals would be effective upon enactment. The estimated cost of the NMTC extension and AMT modification is $858 million over five years and $1.87 billion over 10 years.

Historic Tax Credits
While the budget does not propose any direct changes to historic rehabilitation tax credit (HTC), the President has called for a new Better Buildings Initiative that could directly affect HTC development.

The proposal would replace the existing deduction for energy efficient commercial building property with a tax credit equal to the cost of property that is certified as being installed as part of a plan designed to reduce the total annual energy and power costs with respect to the interior lighting, heating, cooling, ventilation, and hot water systems of the building by 20 percent or more.

The tax credit with respect to a building would be limited to:

  • 60 cents per square foot in the case of energy efficient commercial building property designed to reduce the total annual energy and power costs by at least 20 percent but less than 30 percent,
  • 90 cents per square foot for qualifying property designed to reduce the total annual energy and power costs by at least 30 percent but less than 50 percent, and
  • $1.80 per square foot for qualifying property designed to reduce the total annual energy and power costs by 50 percent or more.

In addition, the proposal would treat property as meeting the 20-, 30-, and 50-percent energy savings requirement if specified prescriptive standards are satisfied. Prescriptive standards would be based on building types and climate zones. If enacted, this change could be beneficial for the rehabilitation of historic buildings because if the current tax deduction is converted to a tax credit, a much broader segment of the market would be able to take advantage of it, such as real estate investment trusts (REITs). The proposal says that special rules would be provided that would allow the credit to benefit REITs or their shareholders. The tax credit would be available for property placed in service during calendar year 2012.

Supporters of the provision say this initiative would catalyze private sector investment in upgrading the efficiency of commercial buildings. Changing the current tax deduction for energy efficient commercial building property to a tax credit and allowing a partial credit for achieving less stringent efficiency standards would encourage private sector investments in energy efficiency improvements. In addition, allowing a credit based on prescriptive efficiency standards would reduce the complexity of the current standards, which require whole-building auditing, modeling and simulation.

The provision is estimated to cost approximately $1.025 billion.

Renewable Energy Tax Credits
The Administration’s FY 2012 budget proposal would also authorize an additional $5 billion of Advanced Energy Manufacturing Tax Credits under Section 48C.

Under the proposal, applications for the additional credits would be made during the two-year period beginning on the date on which the additional authorization is enacted. As under current law, applicants that are allocated the additional credits must provide evidence that the requirements of the certification have been met within one year of the date of acceptance of the application and must place the property in service within three years from the date of the issuance of the certification. The change would be effective on the date of enactment.

In the Greenbook, the Administration says that the $2.3 billion cap on the credit has resulted in the funding of less than one-third of the technically acceptable applications that have been received. Rather than turning down worthy projects that could be deployed quickly to create jobs and support economic activity, the Administration says the program – which has proven successful in leveraging private investment in building and equipping factories that manufacture clean energy products in America – should be expanded. The Greenbook estimates that an additional $5 billion in credits would support at least $15 billion in total capital investment, creating tens of thousands of new construction and manufacturing jobs. “Because there is already an existing pipeline of worthy projects and substantial interest in this area,” the document says, “the additional credit can be deployed quickly to create jobs and support economic activity.”

The 2012 proposed budget would also extend the election created under Section 1603 of the Recovery Act to receive a grant for specified energy property in lieu of tax credits. Under the current program, which is slated to expire at the end of 2011, taxpayers are allowed to elect to receive an energy credit in lieu of the renewable electricity production credit or to receive a grant from the Department of the Treasury in lieu of the energy credit or the renewable electricity production credit. The budget proposal would extend the election to receive a grant in lieu of tax credits for one year, through 2012.

Rhone Resch, president and CEO of the Solar Energy Industries Association (SEIA) released a statement following the release of President Obama’s FY 2012 budget request. “If this budget is enacted, I expect the solar industry to more than double in 2012, creating tens of thousands of good-paying solar energy jobs,” he said. “[The Section 1603 program] has been critical for solar power development, both large and small, while the financial markets have been slow to recover. After securing a hard-fought extension through 2011 during the lame duck session, we are pleased to see that the program remains a top priority for the President.”

The X Factor: FY 2011
As mentioned earlier, the negotiations that determine the appropriations levels for the remainder of FY 2011 are expected to set the stage for the spending debate for FY 2012. And, don’t forget that the federal debt ceiling will likely be reached sometime in April.

Negotiations began after the House Appropriations Committee proposed $100 billion in spending cuts on February. At the time of this writing, the House had just passed a funding bill that included $60 billion in cuts. That bill would cut $104 million from tenant based rental assistance, $551 million from the Section 202 Supportive Housing for the Elderly program, and $210 million from Section 811 Housing for Persons with Disabilities. The House bill would reduce funding for the Public Housing Capital Fund in 2011 by nearly $1.1 billion, the HOME Investment Partnerships would be cut by $175 million, and Native American and Native Hawaiian Housing Block Grants would be reduced by $213 million.

As soon as the FY 2011 appropriations are decided, I will examine what lies ahead for federal spending in FY 2012. Stay tuned.

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