What You Need To Know About Low-Income Housing Tax Credits

Tax credits are a way for citizens to reduce the amount of tax they pay to the US State or Federal Government. The Low-Income Housing Tax Credits (LIHTC), is a type of credit that is offered to builders and housing developers, who purchase, renovate or build-from-scratch, affordable housing designed specifically for low-income individuals and families.

In this article, we will explore key information you’d want to know if you wish to apply for the Low-Income Housing Tax Credits (LIHTC).

What does the Low-Income Housing Tax Credits (LIHTC) entail? 

The Low-Income Housing Tax Credits (LIHTC), is a special type of tax credit granted only to individuals who –

•     Construct affordable housing for families in the low-income bracket.
•     Purchase and offer budget-friendly rental services to low-income families and people.
•     Renovate and refurbish existing low-income housing to make them more livable.

The LIHTC was created in 1986 and enforced into law in 1993. It has been brought into enforcement to encourage property developers and builders to actively develop residential properties for low-income individuals and families. By building affordable housing, these developers can then avail of Low-Income Housing Tax Credits, which allow them to reduce the amount of tax they pay to their respective State and Federal governments.

During the 2007-08 property bubble burst, many property developers did not receive much business and their tax liabilities were reduced as well. Due to this, many developers did not feel the need to avail of the LIHTC, resulting in a sudden decline in the number of affordable housing structures in the United States.

In order to encourage developers to continue investing in and building homes for low-income groups, the US Federal Government encouraged LIHTC, as part of the 2009 American Recovery and Reinvestment Act (ARRA), in the following ways –

•     They created the Tax Credit Assistance Program to help developers access federal grants in case they were unable to find investors.
•     They enacted the Tax Credit Exchange Program, which allowed Housing Finance Agencies (HFAs) to seek funding through the US Treasury by exchanging any unused LIHTC at the rate of 85 cents per dollar.

Types of LIHTC 

The LIHTC actually refers to two types of tax credits – the 4% tax credit and the 9% tax credit. The main difference between the two lies in what these credits are provided for.

•     4% LIHTC – This is offered to subsidize 30% of the cost of low-income housing development, specifically new constructions and/or acquisition cost of pre-developed affordable housing. This 4% LIHTC is offered mainly to projects that are funded through tax-exempt bonds and other government subsidies.
•     9% LIHTC – This is offered to subsidize 70% of the cost of low-income housing development for any new constructions that are ineligible to receive any additional federal subsidies. The respective state HFAs conduct a competitive allocation process, which contains their bespoke Qualified Allocation Plan (QAP). Each state has its own QAP, with its own set of eligibility criteria for developers to meet.

The similarities between the 4% LIHTC and 9% LIHTC, is that they both –

•     Are claimed pro-rata over a period of 10 years.
•     Result in quicker lease-ups of the properties.
•     Reduce vacancy rates compared to market-rate rentals.
•     Have lower debt service payments.

One thing to remember here is that while affordable housing developers can apply for both 4% and 9% Low-Income Housing Tax Credits, they won’t be awarded both. Instead, they will be granted any of the types of LIHTCs.

Who is eligible for LIHTC? 

Now that you know what LIHTC is, let’s look at the qualifying criteria to get LIHTC. Developers can apply for the LIHTC if they meet the following affordability requirements. Here, “affordability” refers to what percentage of the units available for rent, can be afforded by renters at different income levels -

•     A minimum of 20% of the residents/renters in your residential development must earn 50% lower than the median income in the locality.
•     A minimum of 40% of the renters in your affordable housing development, must earn 60% lower than the median income in the neighborhood.
•     A minimum of 40% of the renter of the low-income development, must earn no higher than 60% of the median income of the area; and no rental properties in the development are given to people who earn 80% or higher than the average median income of the neighborhood.

However, amendments were made to the LIHTC affordability requirements through the enactment of the Consolidated Appropriations Act in 2018. These amendments allowed developers to provide rents to individuals/families who earned up to 80% of the median income of the neighborhood. This is, provided, the average income of the entire group of renters in the building still remained under 60% of the median income. This change allowed property developers to continue offering affordable housing, without losing their revenue.

In essence, the primary affordability qualifying criterion boils down to this –

Renters’ rental payments must be under 30% of the 50%-60% of the average median income of the locality; and no higher.

If these rules are met, developers can qualify for the LIHTC, for any of the following types of constructions –

•     Single-family homes
•     Apartment complexes
•     Townhouses
•     Duplex dwellings

How much credit can you claim through the LIHTC? 

As per the Omnibus Budget Reconciliation Act of 1993, developers can receive a dollar-for-dollar reduction for the tax credits they earn. This manifests in two ways –

•     If your development bills cost you $500 and you’re eligible for $500 LIHTC, the tax you owe to the Government reduces to Zero. 
•     If your development bills are lower than the LIHTC you’re eligible to get, you will receive a refund of the pending amount you’re owed. (Ex: Bill - $200, LIHTC - $500, Refund - $500-$200 = $300).

However, over the past couple of years, the value of $1 in LIHTC, has been fluctuating between $0.90 and $0.95 in fiat currency.

Also, it's important to note that the highest tax credit that can be awarded for a new construction, is $500,000. Purchase and/or renovations of low-income housing can be awarded up to $1,000,000 in tax credit. This limit of $1 million may be increased in rare circumstances (usually up to $1.3 million), particularly when the housing development project is expected to have a large-scale impact, providing affordable housing for thousands of people in a locality.

How are the Low-Income Housing Tax Credits (LIHTC) allocated to developers? 

•     Developers can apply for their LIHTC at their respective State Department of Housing and Community Development (DHCD).
•     A Notice of Funding Availability (NOFA) is released by the DHCD twice annually and developers can apply based on the application rules provided thereafter.
•     Developers then need to submit a Preliminary Project Assessment (PPA), where they provide information about their target renters, income levels they’re aiming at, the nature of the actual development, what costs it will incur, the location of the project, building design, and accessibility.
•     The Government reviews these PPAs against their Qualified Allocation Plan (QAP). 

These PPAs are neither approved nor denied. Even if the Government offers a green signal for the developers to go ahead with the construction/renovation/purchase, it is not a 100% guarantee that the developer gets the tax credits. Developers will be informed by the State Government about their tax credits if they do qualify.

Using LIHTCs as a way to seek investors 

Low-Income Housing Tax Credits can be a great way for developers to get investments and funding for their affordable housing projects. Developers can keep prospective investors informed about their intention to apply for LIHTC. The developers can choose to give the investor tax credits in exchange for investing directly in the development (a project that has gone Public). Or, the developer can work with a syndicator, who can help them get investors who are open to receiving tax credits. Usually, if the second option is pursued, the syndicator diversifies investors’ risk by pooling multiple low-income housing projects into a single LIHTC equity fund and seeking investments for the fund.