House Passes $1.7T Build Back Better Act with LIHTC Provisions
On Nov. 19, the U.S. House of Representatives passed the Build Back Better Act. The bill passed 220-213 and now goes to the Senate. This $1.7 trillion bill includes an historic expansion of the low-income housing tax credit. According to estimates, the bill could finance nearly 812,000 additional affordable homes than otherwise possible over the next decade by investing nearly $12 billion in the LIHTC program. While the final reconciliation bill is expected to include several changes to ensure its passage, we’ll review the LIHTC housing production proposals included in the House’s bill.
Lowered Bond-Financing Threshold
The provisions lower the 50 percent bond financing threshold test to 25 percent for five years (2022 to 2026), for “any building some portion of which, or of the land on which the building is located, is financed by an obligation which is described in section 42(h)(4)(A) and which is part of an issue the issue date of which is after December 31, 2021.”
Lowering the bond financing threshold for LIHTC sites to 25 percent could result in the production of nearly 1.5 million more 4 percent Housing Credit units than would otherwise be produced between 2022 to 2031, according to a NCSHA report, “Analyzing the Impact of Lowering the 50% Test for 4% Tax-Exempt Bond Financed Properties.”
The Tax Code currently requires that multifamily housing bonds be used to finance at least 50 percent of the aggregate land and building costs in order for a property to generate 4 percent housing credits on the entire amount of its qualified basis. Originally, the financed-by threshold was 70 percent, but Congress reduced that amount in 1990 as properties were unable to support such high debt service with LIHTC reduced rents.
However, many sites, especially those in rural areas or properties serving very and extremely low-income tenants, are unable to generate enough rental income to support debt service if the property is financed with 50 percent debt. Thus, it’s common practice for states to allocate enough bond authority to a development to generate the 4 percent credits, with the expectation that, when the property is ready to place in service, the owner will refinance to a more manageable permanent debt amount.
For states that have more demand than they have available bond authority, the financed-by threshold limits the amount of affordable housing they can produce with the bond volume cap available to them. In all states, it also results in higher transaction costs than would be required if the financed-by threshold were to be lowered.
Increased LIHTC Allocation
The bill increases the annual LIHTC allocation at a rate of 10 percent per year plus inflation from 2022 to 2024. This amounts to a roughly 41 percent increase over current levels in 2024 including the continuation of the current 12.5 percent cap increase, followed by inflation adjustments after 2025. According to cost and impact estimates, from 2022 to 2031, this provision would provide an investment of $2.1 billion and would finance 43,900 additional affordable homes than otherwise possible.
Recently, the IRS published the 2022 LIHTC allocation caps with Revenue Procedure 2021-45. For 2022, the 9 percent LIHTC cap is the greater of $2.60 multiplied by the state population or $2,975,000. This is a decrease from 2021, which was the final year of the temporary 12.5 percent allocation increase from 2018 to 2021.
However, if the bill is adopted the per capita and small state minimum allocation amounts for 2022 to 2024 would change. For example, the allocation for 2022 would be $3.14 per capita with a $3,629,096 small state minimum, and, for 2023, the allocation would be $3.54 per capita with a $4,081,825 small state minimum.
Basis Boost for Sites Serving ELI Households
The bill provides a permanent 50 percent basis boost for developments serving extremely low-income (ELI) households, as well as requiring an 8 percent set-aside for ELI properties, effective for buildings placed in service after Dec. 31, 2021. According to cost and impact estimates, from 2022 to 2031, this provision would provide an investment of $2.0 billion and would finance 53,600 additional affordable homes than otherwise possible. The 50 percent ELI basis boost is available for both the 9 percent and 4 percent Housing Credit, and is available for up to 13 percent of the state’s annual Housing Credit allocation and 8 percent of the state’s annual Private Activity Bond volume cap.
Buildings serving ELI households are defined as buildings in which at least 20 percent of units are restricted for households whose aggregate household income does not exceed the greater of 30 percent of area median gross income or 100 percent of the federal poverty line. The provision also requires that allocating agencies allocate a minimum of 8 percent of the annual 9 percent housing credit allocation for sites serving ELI households.
30% Basis Boost for Sites in Indian Areas
The bill provides for a permanent 30 percent basis boost for developments in Indian areas, effective for buildings placed in service after Dec. 31, 2021, by designating Indian areas as Difficult to Develop Areas. According to impact estimates, this provision would provide an investment of $117 million and would finance 2,000 additional affordable homes than otherwise possible from 2022 to 2031.
Indian areas are defined in the Native American Housing Assistance and Self Determination Act of 1996. To qualify, buildings must be assisted or financed under the same act; the project sponsor must be a qualifying Indian tribe or a tribally designated housing entity; or the building must be wholly owned or controlled by a qualifying Indian tribe or tribally designated housing entity.
Other LIHTC Provisions
The House-passed version of the Build Back Better Act also makes changes to the LIHTC program related to qualified contracts and the right of first refusal.
Qualified contracts. The bill seeks to repeal the qualified contracts option and changes the purchase price for existing sites. The provision corrects a loophole in the tax code allowing sites to get out of their affordability requirements after 15 years, rather than 30 years as intended by Congress.
Although LIHTC sites must commit to at least 30 years of affordability, they are only subject to a 15-year “compliance period.” This is the period of time where the tax credits that have been given to developers can be taken away or re-captured if the site fails to comply with LIHTC regulations. During the following 15 years, the site is still required to maintain affordability and comply with LIHTC rules and regulations.
Currently, the qualified contract process allows LIHTC owners to opt out of the program after the first 15 years. To utilize this process, the owner has to inform the state tax allocating agency of its intent to sell and the agency would then have one year to find a qualified buyer. If no qualified buyer is produced within the 365-day period, the owner may be released from all use restrictions and obligations. However, if the owner refuses to sell the property, it must abide by the extended use restrictions.
Right of first refusal. The bill modifies the right of first refusal for nonprofit owners of LIHTC sites. It would enable nonprofit property owners to buy the buildings they develop for a minimal price at the end of the 15-year compliance period when the tax credit investor exits the partnership agreement. The bill makes the following changes:
- Converts the right to a purchase option for agreements entered into after passage;
- Allows the inclusion of partnership assets related to the building in the definition of property. In other words, it clarifies that for existing agreements, the right to acquire the building includes the right to acquire the partnership interests relating to the building and the right to acquire assets held for the development, operation, or maintenance of the building;
- Allows the option holder to exercise the right of first refusal without requiring the approval of an investor or requiring a bona fide third-party offer; and
- Changes the purchase price to only debt and not debt plus exit taxes.
Understanding the Proposed LIHTC Basis Boost Provision
for ELI Units
Among the LIHTC provisions within the Build Back Better Act, the proposed basis boost for sites serving extremely low-income (ELI) households is a unique proposal for sites to maximize their allocation of LIHTCs. To understand the 150 percent basis boost provision, you need an understanding of eligible basis and how a site’s LIHTCs are calculated.
Annual Allowable Credit
The amount of tax credit a site owner can claim each year is calculated with a three-step process. To begin, you determine the eligible basis or the amount of development cost that would be eligible for generating tax credits if all the site’s units are used for low-income housing.
The concept of “eligible basis” is unique to the low-income housing tax credit program because it’s tied to the credits that can be claimed. Typical market-rate apartment developers mainly are concerned with total construction costs, and they don’t consider the eligible basis of a site.
For a tax credit site, however, total cost of construction doesn’t equal eligible basis. The eligible basis of a building is determined at the end of the first year of the credit period, and as long as there’s no reduction in the eligible basis amount upon which the credit is based, the site is in compliance.
Second, you calculate the applicable fraction (the percentage of a site that’s dedicated to serving low-income residents) and qualified basis (eligible basis x applicable fraction). A site with all of its units used for low-income housing will have an applicable fraction of 100 percent, and its qualified basis will be equal to its eligible basis. A mixed-income site will have an applicable fraction of less than 100 percent, and a qualified basis below its eligible basis.
Finally, you calculate the annual tax credit amount by multiplying the qualified basis by the applicable percentage. The applicable percentage is based upon the appropriate tax credit rates (9 percent and/or 4 percent), with adjustments made for the applicable federal rate. A 9 percent annual credit rate is applied to eligible construction and “substantial rehabilitation” costs. A 4 percent annual credit is applied to the acquisition cost of existing buildings to be rehabilitated. And if a site uses tax-exempt bond financing, a 4 percent annual credit is used for all of its eligible costs, including eligible construction and substantial rehabilitation costs.
Basis Boost Provisions
According to the bill, a building would generate an additional 50 percent of eligible basis if at least 20 percent of its units are affordable to and occupied by households at the greater of:
- 30 percent of area median gross income (AMI); or
- The federal poverty line.
The bill requires that allocating agencies allocate a minimum of 8 percent of the annual 9 percent housing credit allocation for sites serving ELI households. The law’s effective date would make the basis boost available in 2022.