How to Handle Rental Property When Calculating Household Income

Determining annual income is an important step in determining an applicant’s eligibility for the LIHTC program. To become income eligible, an applicant’s household gross annual income must be equal to or less than the income limit applicable to your site.

The governing regulations for the tax credit program require site owners to use the rules found in HUD Handbook 4350.3 to calculate the annual income of applicants and residents. If you run a mixed-income site, during the process of certifying or recertifying households, you may learn that an applicant or household member owns rental property that generates income. In these cases, you need to know how to treat the property when calculating the household’s income and assets. Here’s what you must do when handling an applicant or resident of a low-income unit with rental income.

Treat Rental Property as Household Asset

Because rental property generates income, you might think you should just count the total rental payments made by the property’s tenants. But you must, instead, treat a household’s rental property as an asset and think of the rental payments as income that the asset generates [HUD Handbook 4350.3, exh. 5-2A(3)]. But if the applicant’s main business is real estate, then you would count any income solely as business income and not both as an asset and business income [HUD Handbook, par. 5-6(H)].

If a resident owns rental property, first verify how much rent the resident gets from her tenants over a 12-month period. Then subtract the resident’s expenses to maintain the rental property, such as insurance, taxes, mortgage interest, and repairs. The result is the income that the rental property generates, which you must include when calculating the household’s income. If the property is already being rented, the most recent tax return can give you all of this information. Also, always try to get a copy of the lease.

For example, suppose Jane Roe is applying to live in a tax credit unit at your site. During a certification interview, you learn that she owns a house that she’s renting to her sister. Roe’s sister pays her $500 a month for rent (totaling $6,000 per year), and Roe’s expenses to maintain the property total $2,000 per year.

To calculate the income that Roe’s asset generates, subtract Roe’s operating expenses from her sister’s total rent payments. So Roe’s income from her house is $4,000 ($6,000–$2,000), which you must add to her household’s total income.

Determining Rental Property’s Cash Value

Because you must treat a household member’s rental property as an asset, HUD requires you to determine its cash value each year. To do this, you can verify the property’s fair market value with your local assessor’s office, a real estate broker who’s willing to complete a comparative market analysis on the property, or various online real estate listing sites such as Zillow.com or Trulia.com. You can also obtain the market value from the real estate broker who sold the house to the household member. If a tax assessment is used, be sure to clarify if assessed value equates to market value.

The real estate value will always be the fair market value less any unpaid balance on the mortgage and reasonable costs that would be assessed upon selling the asset. For example, if the real estate value is $200,000, the mortgage payoff amount is $147,000, and the broker fees and selling costs in your area average 5 percent (which comes out to $10,000 in this scenario), the total value of the rental asset would be $43,000.

To verify the remaining mortgage balance, contact the bank or financial institution that holds the mortgage. Verify the closing costs by determining the average closing costs on any real estate transaction in your area. If you’re not sure what the average costs are for your area, talk to a local real estate brokerage company or title company.