Avoid Noncompliance Problems When Family Size Changes
As a tax credit manager, you must be aware of households’ composition and how changes in the size of an existing household after the initial tenant income certification may invoke certain LIHTC rules. Generally, changes in family size don’t cause a unit to stop being income-qualified.
However, there are some instances where changes in household composition can lead to compliance issues. We’ll go over the reasonable judgment required when there’s an increase in household size right after a low-income household moves in, what to do as the original household members get replaced by new members, and when to apply the next available unit (NAU) rule.
Family Size Increases
The addition of a new member or new members to an existing low-income household requires the income certification of the new member of the household, including third-party verification. The treatment will depend on whether the building is a mixed-use or 100 percent LIHTC building.
Mixed-use building. For mixed-use buildings, the new tenant’s income is added to the income disclosed on the existing household’s most recent tenant income certification. The household continues to be income-qualified, and the income of the new member is taken into consideration with the income of the existing household for purposes of the NAU rule under IRC §42(g)(2)(D).
According to the rule, any unit occupied by a household whose income increases beyond 140 percent of the applicable income limit is considered to be an “over-income unit.” The unit is considered out of compliance and ceases to be treated as a low-income unit if the next comparable unit that is available or subsequently becomes available within the building is rented to a non-qualifying household.
All available units must be rented to qualifying households until the required applicable fraction of the building is restored. Once the required applicable fraction of the building has been restored, the over-income unit may remain rent restricted or, if the building is a mixed-income building, may become a market-rate unit upon lease renewal.
In other words, the NAU rule allows the owner to continue claiming credits on the over-income unit as long as all subsequent vacant units (that are comparable or smaller) are rented to qualified households, until the required applicable fraction is restored. If the owner fails to rent comparable or smaller units to qualified households, it brings all larger over-income units in the building into noncompliance.
100 percent LIHTC building. If the building is a 100 percent LIHTC project, then the new tenant’s income is added to the income disclosed on the existing household’s original income certification. As long as the NAU rule is complied with, the unit remains in compliance. In fact, the IRS-issued Guide for Completing Form 8823 states, “Provided the household is not manipulating the income limitation requirements, we see no difference between increased household income and increased household income resulting from the addition of a new member to the low-income household.”
Income-averaging considerations. The Consolidated Appropriations Act of 2018 created a new minimum set-aside election for new LIHTC projects. Income-averaging allows owners to elect to serve households with incomes of up to 80 percent of area median income (AMI) and have these households qualify as LIHTC units, so long as the average income/rent limit in the project remains at 60 percent or less of AMI. Owners who elect income averaging must also commit to ensuring that at least 40 percent of the units in the project have an average income level of no more than 60 percent of AMI and the rents for these units must be equal to 30 percent of the qualifying income level.
Existing LIHTC developments already placed in service and that have made a set-aside election on federal Form 8609 are not eligible to change their minimum set‐aside election to income averaging unless explicit guidance from the IRS states that this is permissible. Income averaging has been available, at the discretion of each allocating agency, to new developments making their minimum set‐aside election since March 23, 2018.
With this new set-aside option, owners and managers must carefully keep track of each low-income unit to ensure that the building’s average income/rent limit remains at 60 percent or less of AMI. If a household’s income increases above 140 percent of the greater of: (1) 60 percent of AMI; or (2) the applicable designated income limit such as 20, 30, 40, 50, 70, or 80 percent of AMI, the unit will remain LIHTC-eligible if the owner rents another smaller or comparable unit to a household whose income is within its imputed income limit. The rules vary for “deep rent skewed” properties in New York City.
However, determining what income designation should be applied to the vacant comparable unit will depend on if the vacant unit was previously a LIHTC unit or if it is a vacant market-rate unit. The updated language in Section 42(g)(2)(D)(v) states that an available vacant unit of comparable size or smaller must be rented to a household that meets the imputed income limitations outlined below:
- The imputed income limitation designated with respect to such unit under paragraph (1)(C)(ii)(I), in the case of a unit that was taken into account as a low-income unit prior to becoming vacant, and
- The imputed income limitation that would have to be designated with respect to such unit under such paragraph in order for the project to continue to meet the requirements of paragraph (1)(C)(ii)(II), in the case of any other unit.
In other words, if the comparable or smaller vacant unit is an LIHTC unit, rent the unit based on the income designation of the vacant unit. If the comparable or smaller vacant unit is market rate, rent the unit based on the income designation of the over-income unit.
Family Size Decreases
Decreases in family size don’t trigger the immediate income certification of a new household. Subsequent annual income recertifications will be based on the income of the remaining members of the household. If the remaining household’s income is more than 140 percent (170 percent in deep rent-skewed projects) of the income limit at the time of the annual income recertification, then the NAU rule applies.
Losing a member may cause a household’s income to exceed 140 percent of AMI. Remember, income limits are based on household size. So if a household member leaves, you must switch to a lower income limit at the household’s next annual certification, based on the smaller household size. Using this lower income limit may make it less likely that the household’s income will stay below the acceptable limits. And if the departing household member earned little or no income, it’s even more possible that the household’s new total income (without that member) will exceed 140 percent of AMGI.
If this situation occurs, be sure that at least one member of the original household still occupies the unit or the remaining tenants will need to requalify the unit. The requirement that at least one member of the original household continues to live in the unit applies when a household member is added too. The 8823 Guide states that, “a household may continue to add members as long as at least one member of the original low-income household continues to live in the unit. Once all the original tenants have moved out of the unit, the remaining tenants must be certified as a new income-qualified household unless the remaining tenants were income qualified at the time they moved into the unit.”
Manipulation of Income Limit Requirements
In some instances, households may intend to bypass the income limit requirements by adding household members after initial qualification. Many state agencies and management companies view adding members to the original household within six months after its initial move-in to be a red flag. Generally, the applicants are required to disclose any changes to the household composition expected to occur within six months after application.
However, unexpected situations occur that may result in changes in household size shortly after move-in. For example, the tenant fell in love and got married with someone within weeks of initial move-in. In this situation, the moving-in of the tenant’s new spouse within weeks of the household’s initial move-in wouldn’t necessarily be considered a manipulation of the income limitation requirements and the unit would remain in compliance.
The main factor is the intent of the parties at the time of initial occupancy. Managers should act with due diligence and make reasonable judgments in the case when there is an increase in household size right after qualifying the household at its initial move-in. To avoid potential problems, it’s wise to have policies that dictate when household members can be added and gives guidelines as to when household additions may not be allowed.
Sites could require that all new move-ins certify that there are no known or anticipated changes in the household composition during the initial six-month lease term. This can be done at move-in by requiring that each adult household member execute a sworn affidavit in the Tenant Income Certification attesting to the household composition. If you determine that the tenant purposely failed to disclose an anticipated change in the household size, whether due to the move-in or move-out of a household member, a redetermination of eligibility must be made. If the change was in any manner anticipated, then the revised household composition must be used to reevaluate initial qualification or income at move-in.