When Congress passed a sweeping rewrite of the federal tax code last December, they left in place the low-income housing tax credit (LIHTC). However, lowering the corporate tax rate from 35 percent to 21 percent might decrease overall investment in affordable housing, according to Ginsberg Jacobs LLC, a Chicago-based law firm that specializes in corporate, finance, litigation, real estate, trusts/estates, tax and tax credits.
“When it comes to lining up funds for the development and preservation of affordable housing, I know of no better tool than low-income housing tax credits,” said Darryl Jacobs, co-founder of Ginsberg Jacobs. “Now that we have a clearer picture of the tax landscape, it’s important to note even experienced real estate developers don’t always understand how LIHTCs work, due in part to the extensive application process and numerous compliance requirements. The fact that just about all of the affordable communities built over the last 30 years had help via federal subsidies speaks to the importance of this program, especially with a shortage of affordable housing options in cities across the country.”
The LIHTC program was created as part of the Tax Reform Act of 1986, and made permanent after a 1993 recodification. As affordable rental projects in today’s market typically don’t generate enough profit to justify construction, the purpose of the LIHTC was to give private owners an incentive to build affordable housing. With the equivalent of nearly $8 billion in annual budget authority to issue tax credits, it’s the largest program of its kind in the U.S., accounting for over 45,000 projects and 2.97 million affordable housing units between 1987 and 2015, according to the U.S. Department of Housing and Urban Development.
Driven by U.S. census data, the IRS allocates LIHTC funding to each state, which, in turn, metes out the tax credits through its own housing finance agency. Developers must agree to set aside a certain number of units for tenants below a certain income threshold and cap rents on those units based on the area’s median income. Rent restrictions must remain in place for at least 30 years after a project’s completion, possibly lower depending on the state. State requirements can be more specific—and sometimes stricter—than the minimum federal guidelines.
“A real estate developer looking to bridge the financing gap for a new multifamily project or the rehab of an old one might consider including affordable units,” said Jacobs. “Obtaining credits can be competitive, however, requiring the developer to bid against other projects in the state. Preference goes to projects that serve the lowest-income tenants for the longest periods of time, and projects located in qualified census tracts that are part of a community revitalization plan. Projects also have to be timed just right, as credits are only allocated at specific times per year.”
Holsten Real Estate Development Corp., in cooperation with the Local Advisory Council of Cabrini residents, masterplanned the Parkside of Old Town as part of the redevelopment of the former Cabrini Green housing projects. The development provides 700 units on 18 acres in the city’s Near North Side, as a part of the Chicago Housing Authority’s Plan for Transformation.
Parkside of Old Town upends the old public housing model, moving toward a mixed-income strategy. Affordable housing occupies the same lower density structures as market rate units, and all residents have access to the same amenities. Designed by Landon Bone Baker Architects, the nine-story Terrace 459 contains 36 units of replacement housing for former Cabrini residents, 27 affordable units, and 43 market-rate units. The mixed-income approach—and mixed housing style as there are attached townhouses and a nearby 12-unit, three-story building—nurture a sense of community on the former site for one of Chicago’s most infamous projects.
What really makes affordable rents possible in a LIHTC project are the outside investors who typically purchase credits from the developer in exchange for equity. This dollar-for-dollar reduction of their federal tax liability infuses the project with much-needed cash—reducing debt, lowering long-term financing costs and facilitating the project’s progress. Investors generally receive tax credits in allotments over a 10-year period.
The LIHTC offers two types of credits. The first, known as the 4 percent credit, is applied automatically to a project receiving tax-exempt, private activity bonds. It is equivalent to 30 percent of the “qualified basis,” calculated using the percentage of low-income units and the cost of construction or acquisition/renovation minus land and other nonqualifying costs. Unlike the 4 percent credit, a 9 percent credit is available via a competitive application process, but only for projects not financed by tax-exempt bonds.
Though the tax plan signed into law by President Donald Trump in December preserves the tax-exempt bonds utilized in conjunction with the 4 percent credit, LIHTCs will likely be impacted by the reduced corporate tax rate. The value and incentives for developers are effectively diluted because tax benefits would shrink. Prior to the final bill’s passage, accounting firm Novogradac & Company estimated that lowering the corporate tax rate to 20 percent (Congress ultimately settled on 21 percent) would result in an equity loss of nearly $1.2 billion annually, or the equivalent of 85,600 to 93,900 rental homes over the next 10 years.
LIHTC opponents view the program as a tax loophole for developers that should be eliminated from U.S. tax policy. They cite numerous studies including one from the University of Oklahoma in 2010 that estimates the value of tenants’ rent savings was only 35 percent of the value of the tax benefits going to investors, and a 2010 study for the Journal of Public Economics that found as much as 100 percent of development subsidized by LIHTCs is offset by declines in private development.
Meanwhile, affordable housing advocates are calling for not only LIHTC preservation but expansion. U.S. Senators Maria Cantwell and Orrin Hatch introduced the Affordable Housing Credit Improvement Act of 2017 last year, which would increase the annual LIHTC allocation by 50 percent. As proposed, the bill would provide for the creation or preservation of up to 1.3 million affordable homes over the next decade, 400,000 more than is possible under current law.
“The affordable housing crisis is exploding all across the country. We are facing pressures from all sides: demand for rental housing has increased by 21 percent, but we are building units at the lowest rate since the 1970s,” Senator Cantwell said in a statement. “If we do not act to increase the low-Income housing tax credit—our best way to build new affordable homes—by 2025 over 15 million Americans could be spending half their income on rent. This is unacceptable.”
“The debate over low-income housing tax credits will go on in Washington,” said Jacobs. “At this moment, it’s as important as ever to be informed about how affordable housing is paid for in the U.S., and how building it or not affects people’s lives within the evolution of cities.”