Sources of Tax Credit Equity Continue to Dry Up
Two major government-sponsored enterprises (GSEs), Fannie Mae and Freddie Mac, announced recently that they are not making new tax credit investments. Together, these GSEs accounted for approximately 40 percent of tax credit investment annually for the past decade or so.
A lower price for tax credits has been the main effect of reduced GSE participation. The price for tax a credit in 2007 averaged approximately 93 cents, and that number is likely to drop below 84 cents in 2008, according to Affordable Housing Finance magazine.
The drop in tax credit price is likely to lower the number of tax credit deals that get done. Experts agree that affordable housing deals that were not easy for developers to put together at a price of 95 cents per tax credit may be all but impossible at today's price of 84 cents per credit.
In addition, the subprime mortgage crisis is reducing the need that banks traditionally have for tax credits. And it is likely that remaining low-income housing tax credit (LIHTC) funding will not fill the gap.
Forecast Bleak for Rest of 2008
More than $300 billion in subprime mortgage loans will be refinanced in 2008, and a further $400 billion in mortgage loans will be refinanced in 2009, according to a report issued by the National Leased Housing Association (NLHA). The report summarizes a recent NLHA-sponsored meeting of housing providers, site owners, lenders, syndicators, and investors.
Meeting participants examined the current economic environment affecting tax credit equity, along with the outlook for the remainder of 2008, says Denise Muha, executive director of NLHA.
The report also predicts that the $6 billion equity market for 9 percent tax credits and the $3 billion market for 4 percent tax credits will see a $2 billion to $3 billion drop in equity in 2008. The drop in equity will result from uncertainty in the amount of tax credits that Fannie Mae and Freddie Mac will purchase, as well as turmoil in the tax credit market caused by uncertainty about the plans of other investors.
However, the report also suggests that potential problems are not the fault of the LIHTC program alone; they are due to problems arising from the economy as a whole. So far, the LIHTC program has been the most successful source of affordable housing finance in U.S. history and has worked equally well for investors.
Even though there is a current shortage of investor capital, NLHA meeting participants are confident that new investors will enter the tax credit market. And it is likely that investors who have remained in the tax credit market, as well as lenders, will tighten their underwriting standards, including sponsor guarantees.
Individual states are adjusting their tax credit allocation plans in response to the current weakening of prices, the report says. States can do so by removing what tax credit experts call “deep targeting requirements.” States can also raise the cap on the amount of tax credits that any given development project can receive. Another possibility would be giving relief from the alternative minimum tax to corporate and individual investors alike.
The one bright light on the horizon is that yields to investors are likely to rise, which should attract additional investors in the tax credit arena.
Equilibrium in the current market turmoil is not likely to occur by the close of 2008. But eventually, as a result of new investors coming into the arena, the familiar balance between supply of, and demand for, tax credits will be restored, says Muha.