Low-Income Housing Tax Credit
The (LIHTC) is a tax credit created under the Tax Reform Act of 1986 that gives incentives for the development of housing aimed at low-income Americans. The credits are also commonly called Section 42 in reference to the applicable section of the Internal Revenue Code. The tax credits are more attractive than tax deductions as they provide a dollar-for-dollar reduction in a person's federal income tax.
The Tax Reform Act of 1986 (TRA86) increased incentives favoring investment in owner-occupied housing relative to rental housing . The imputed income an owner receives from an investment in owner-occupied housing has always escaped taxation, but TRA86 changed the treatment of imputed rent, local property tax es, and mortgage interest payments to favor homeownership , while phasing out many investment incentives for rental housing. Since low-income people are more likely to live in rental housing than in owner-occupied housing, this would have decreased the new supply of housing accessible to them. The Low-Income Housing Tax Credit was hastily added to TRA86 to provide some balance and encourage investment in multifamily housing for the poor.
The LIHTC directly subsidizes the development costs of low-income housing. To qualify, a project must sign a Land Use Restriction Agreement (LURA) guaranteeing a minimum of 15 years with either:
- At least 20 percent or more of the residential units in the development are both rent restricted and occupied by individuals whose income is 50 percent or less of the area median gross income
- At least 40 percent or more of the residential units in the development are both rent restricted and occupied by individuals whose income is 60 percent or less of the area median gross income
The eligible basis of a proposed project is determined by the estimated costs of acquiring property, construction, and other costs to complete the project plan for the units included in the LIHTC program. For this reason, most developers include 100% of the units in the program in order to maximize the eligible basis and potential tax credits. Projects for new construction or substantial rehabilitation not funded by tax-exempt bonds can receive a maximum tax credit allocation of 70 percent (approximately 9 percent annually) of the project's eligible basis. For projects with federal assistance, the maximum is 30 percent (approximately 4 percent annually). The developer can charge a maximum rent of 30 percent of the maximum eligible income, which is 60 percent of the area's median income adjusted for household size as determined by HUD.
The credits are not provided in a lump sum but instead are distributed over 10 years. In order to generate the equity to cover the high initial costs of the project (acquisition, construction, etc.), developers typically "syndicate" the credits whereby they enter into limited partnerships with all income and tax credits passing through to the partners as taxable income. The developer serves as the general/managing partner who receives a minimal amount of the tax credits. The developer then finds limited investors to provide the initial capital for the project in return for the lion's share of the annual tax credits. The funds generated through the syndication vary from market to market, but 75-95¢ for each total dollar of tax credits is fairly common; e.g., $10,000 credits annually for the next 10 years would be $100,000 total, so developers could probably get $75,000-$95,000 through syndication. The following table summarizes the relationship between the developer and outside investors. : This is only meant to demonstrate the concept of partnerships for such projects and is not to be taken as literal guidelines for developing a LIHTC project.
| Party | Developer | Investor |
|---|---|---|
| Partner Level | General or Managing | Limited |
| Management of Project | 99% | 1% |
| Share of Partnership Control | 99% | 1% |
| Share of LIHTC | 1% | 99% |
| Share of Initial Equity | 1% | 99% |
The program is totally administered at the state level, with each state getting a fixed allocation of credits based on its population. State housing agencies, often called finance authorities, have complete discretion in terms of what types of projects to subsidize and where to subsidize them. The credits are awarded to projects each year, usually in a few separate allocation rounds during the year, on a competitive basis with the top project getting credits, then the second, and so on until the credits are exhausted for the round. This allows the states to address specific housing goals. It also encourages developers to offer rents below the established limits to improve their status in competing against other projects. States are also responsible for monitoring the ongoing development costs and quality of approved projects, and have the enforcement threat of stopping and recollecting the subsidy if the investor deviates once the development has started.
As of 2002 , as much as 40 to 50 percent of new multifamily construction has been developed under the program. The federal government spends roughly $3 billion annually on the LIHTC, and the outlay will increase significantly since Congress has increased the state allocations by 40 percent.
The tax credits are usually a crucial element in a development plan. In project's that qualify for allocations at 70 percent of the eligible basis, the mortgage makes up a small part of the overall funds for the project. Because the tax credits are only available from the state agency assigned to allocate the credits, failure to receive an allocation usually results in the project falling through or having to wait 3-12 months until the next round of allocations.
A majority of tax credit projects also receive subsidies from other sources. These additional subsidies, which can include development grants and loans at below-market interest rates from local and state governments, account for a third of total capital subsidies. Thirty-nine percent of low-income tenants also receive rental assistance in the form of housing voucher/vouchers .
: United States Department of Housing and Urban Development
State Agencies Allocating Low Income Housing Tax Credits (In Progress)
Alaska Housing Finance Corporation
Hawaii Housing and Community Development Corporation
Nebraska Investment Finance Authority (NIFA)
New York State Housing Finance Agency (HFA)
Oregon Housing and Community Services (OHCS)
Wisconsin Housing and Economic Development Authority (WHEDA)