Rather than allocating funds for projects to be constructed and owned by governmental bodies (such as housing authorities), the U.S. government offers credits to developers who construct, own and operate sanctioned facilities to serve the public good. Credits directly reduce tax liability (unlike an exemption or deduction), and for tax and practical reasons, frequently appeal more to corporations than developers. So, syndicators bring investors, and their cash, into a project entity – usually an LP or LLC. Over several years, the investors receive and use the credits. Select taxpayers, including banks, might receive Community Reinvestment Act (CRA) points for investing in underserved areas.
The complexity – and hefty upfront costs – of participating in any tax credit program are mitigated by the potential for significant rewards. Here is a skinny on the three main programs.
Low Income Housing Tax Credits (LIHTC)
LIHTC is a creature of Ronald Reagan’s celebrated Tax Reform Act of 1986. The annual federal LIHTC allocation of approximately $7.1million to Mississippi is administered by the Mississippi Home Corporation. This stellar agency – headed by Executive Director Scott Spivey, the Mississippi Business Journal’s Top 50 Under 40 Business Person of the Year – operates multiple housing programs and, as part of its “9 percent credit” program, conducts an extremely competitive application process. A non-competitive “4 percent credit” program is available for projects funded by tax-exempt bonds. Demonstrating commendable transparency, MHC publishes its annual list of applicants and awards, including project scores, on its fact-filled website.
Under the 9 percent credit program, an annual credit of about 9 percent of a project’s “qualified basis” (roughly the cost) is available for ten years after a qualified new project is placed in service. The actual rate (+/- 9 percent) is the percentage that creates a net present value equal to 70 percent of the project’s qualified basis. The credits are converted to project cash through syndications. The project must serve qualified low-income tenants for 15-30 years. Compliance is ensured through covenants recorded in the land records, such as a Land Use Restriction Agreement (LURA).
New Market Tax Credits (NMTC)
The NMTC program, with its own list of acronyms, is one of the most complex, yet innovative, tax programs ever conceived by Congress. The U.S. Treasury Department, acting through its Community Development Financial Institutions Fund (CDFI Fund) accepts applications from certified Community Development Entities (CDEs) for “allocation authority,” empowering the CDE to raise capital from investors through Qualified Equity Investments (QEIs). CDE investors, in return, receive credits of 39% of their investments over a seven-year compliance period for funds used to make Qualified Low Income Community Investments (QLICIs) in Qualified Active Low Income Community Businesses (QALICBs) located in Low Income Communities (LICs).
NMTC-eligible investments include operating businesses (e.g., small business loan fund), and real estate/development projects (e.g., health facility, factory, mixed-use commercial/residential).
As CDEs’ service areas frequently cross state lines, it is not possible to determine exactly how much “allocation authority” each individual state receives. In the CDFI 2014 awards, CDEs based in Mississippi received a total of $50 million in allocation authority, down from $125 million in 2013. The list of 2015 CDFI Awards is due out any day. Congress currently is considering legislation to extend the program beyond the current cycle.
The Mississippi Equity Investment Tax Credit, administered by the Mississippi Development Authority (MDA), is a state companion program offering a state tax credit equal to 24 percent of a QEI, spread over three years.
Historic Tax Credit (HTC)
The credit issued under the Federal Historic Preservation Tax Incentives program is frequently referred to, incorrectly, as an “historic tax credit” or “HTC.” This program encourages private investment in the substantial rehabilitation of historic buildings. The IRS oversees HTCs, while compliance falls to the National Park Service (NPS) and its three-part process. The NPS works closely with State Historic Preservation Offices (SHPO).
The Mississippi Department of Archives and History (MDAH), our state’s SHPO, has certified over 230 projects since 2006. The NPS estimates qualified rehabilitation expenditures (QRE) in Mississippi of $27 million, $16 million and $20 million in 2012, 2013, and 2014, respectively.
The IRS allows a (i) 20 percent credit for the certified rehabilitation of designated historic structures and (ii) 10% credit for the rehabilitation of non-historic, non-residential buildings built before 1936. Mississippi also offers a separate, state historic tax credit. A Mississippi project that meets the 20 percent federal HTC test automatically qualifies for the state’s 25 percent historic tax credit, which may be claimed as a refund in lieu of a credit. Of Mississippi’s original $60 million HTC allocation in 2006, only approximately $10 million remains untapped. A bill to raise the allocation in the 2015 regular session of the Mississippi Legislature never made it out of committee. To the consternation of developers with projects in the pipeline, MDAH expects to fully exhaust the Mississippi credits in 2015.
Our partner Jason Poulson heads the firm’s Tax Credits Practice Group. Tax credit projects are complex, and cross multiple legal disciplines, including Banking, Corporate, Finance, Real Estate and Tax. Today’s developers are masters of “twinning” tax credit programs – that is, seeking some combination HTC, LIHTC, and/or NMTC for a single project. The current credit programs transcend the goals of Reagan’s trickle-down policies, as today’s benefits flow in every direction. The underprivileged, developers, contractors, accountants, lawyers, real estate agents, consultants, bond advisors, syndicators, and cities all benefit.
We have not addressed related issues, including energy credits, passive losses, AMT, Congress’ purchased powers, tax laws, byzantine structures, Novogradac, deal fatigue… This is a complex business supporting a multi-billion dollar tax credit cottage industry.
» Ben Williams and Molly Jeffcoat Moody are attorneys in a commercial law practice at Watkins & Eager PLLC (watkinseager.com). Ben is recognized by Chambers USA and Best Lawyers in America and was selected as Best Lawyer’s 2014 Commercial Finance Lawyer of the Year in Jackson. Molly is recognized by Chambers USA in the area of Real Estate Law.