LIHTC Investor-Yield

LIHTC Investor-Yield

Posted on 5th October 2011

As Featured in NAHMA NEWS • May June 2011

Written by: Nancy Morton

The economic downturn initially put many of the Community Reinvestment Act (CRA)-motivated Low Income Housing Tax Credit (LIHTC) investors on the sidelines, resulting in a huge oversupply of LIHTC deals.

As a result, yields to investors spiked in 2009 and early 2010, which attracted non-CRA investors into the LIHTC market. As traditional CRA-motivated investors returned to the market later in 2010, the investor yields have been driven down.

The LIHTC industry will be best served if there are a multitude of investors from varying industries. In order to achieve this, investor yields must remain attractive regardless of the CRA appetite of the investor. The following are various opportunities and obstacles to enhance investor yields in LIHTC transactions:


Bonus Depreciation

Under IRC Section 168, the bonus depreciation percentage is 100 percent for a qualified property placed in service after September 8, 2010 and before January 1, 2012. Qualified property typically includes furniture, equipment (five-year tax life) and land improvements (15-year tax life).

The ability to totally write off an asset that would otherwise be depreciated over five or 15 years significantly increases the Internal Rate of Return (IRR). The obstacle to using bonus depreciation is earlier erosion of the investor’s capital account. Projections need to take into account reductions in the capital accounts to determine if there will be adequate basis to take the LIHTC during the credit period.

Bonus depreciation on the 15-year property may be a problem as that property would not otherwise have been fully depreciated by the end of the tax credit period. An election can be made to opt out of bonus depreciation for the 15-year property while taking bonus depreciation on the five-year property.


Development Fee

It is not uncommon for the project to have a portion of the developer fee deferred. If the new investor is a closely held corporation, the amount of the deferred developer fee cannot be used as basis for the LIHTC until the amount has been paid, due to the at risk rules that apply to individuals and closely held corporations.

Many of the non-CRA investors are closely held corporations; as such, special care needs to be given in this type of situation so that the maximum amount of a current year’s credits can be utilized by all of the investors.


Disposal of Partnership Interest

The 2008 Housing and Economic Recovery Act eliminated the bond posting requirements and provides that the increase in tax from credit recapture under IRC Section 42(j) won’t apply solely by reason of the disposition of an interest in a building if it is reasonably expected that the building will continue to be operated as a qualified low-income housing project for the remaining compliance period for that building.

This allows for more flexibility when an investor can dispose of its partnership interest. Instead of waiting until the 15-year compliance period has ended, the investor could dispose of its interest after having received all of the credits at the end of either the 10th or 11th year, depending upon when the credits commenced. This law also allows for an investor to sell its interest during the 10-year credit period to another investor without the need for recapture.


First Year Rent -Up of Buildings

Another area which can have a very positive influence on the IRR of a partnership interest is how the buildings are leased-up in the initial years.

Emphasis needs to be placed on completing the lease-up by December 31 on individual buildings versus the lease-up of the entire project. Individual buildings that are not fully tax credit-qualified by year end of the first year of the LIHTC period are subject to the 2/3 credit provision on basis attributable to any unit initially leased-up in subsequent periods.

The start of the credit period can be deferred for one year subsequent to the year that the building is placed into service.  Don’t automatically defer the start of the credit period simply because a building is not fully tax credit-qualified at December 31. Buildings that are substantially leased-up at year end should have an analysis completed to determine if the total IRR would be higher if the credits for certain units were taken over the 15-year compliance period versus deferring the credits on the entire building to the following year.

The new LIHTC investor is yield driven, and all LIHTC participants need to be cognizant of this and make certain that deals are structured to maximize investor returns.


Nancy Morton is a member at Dauby O’Connor & Zaleski, LLC.