Low-income housing tax credit (LIHTC) prices continued to inch up in the first half of 2011, leading to a dramatic turn in the market.

“It's 180 degrees from where we were a year ago,” says Leila J. Ahmadifar, director of LIHTC investments at Citi Community Capital. “It's a seller's market again. There's a lot more demand than supply. As a result, pricing on tax credits has increased in most markets."

Indeed. Some recent deals in California have attracted bids of $1 or more per dollar of tax credit. Two years ago, the same Golden State deals may have fetched around $0.87 if they were lucky. Other regions of the country also report an increase.

“To say the market is robust would be an understatement,” says Beth Stohr, president and LIHTC director of U.S. Bank Community Development Corp. “There is not a deal that we've seen that doesn't have multiple investors interested in it."

It is very hard to get your footing in the marketplace due to the rapid changes in pricing and yields. It is very difficult to know where to price, says Stohr.

While an increase in prices is good for developers, it means lower yields for investors. This raises concern that buyers, who were enticed by the doubledigit returns of a year ago, will cut back their activities.

A big question is at what level do economic investors pull back. “That's the $3 billion question at this point,” Stohr says.

Although several investors report that yield-driven buyers have remained in the market so far, others worry that the situation could soon change.

“I'm concerned with how fragile the market may currently be,” says Christoph Gabler, senior vice president at AEGON USA Realty Advisors, LLC. “Economic investors are voicing concerns about the low level of yields, and yields continue to drop. There is a breaking point, and all it may take is one investor to be the straw that breaks the camel's back. It could very well be that another correction is around the corner."

John Faulkner sees what different investors are doing as managing director of Carreden Group, Inc., an investment bank firm specializing in advising guarantors in the tax credit market.

“Of the $1.3 billion in guaranteed equity we've raised the past 17 months, the dominant trend we've observed is the significant level of demand from non-bank financials, insurance companies, and corporates," he says. “Motivations vary from investor to investor, but risk mitigation, profit and loss impact, and resource allocation considerations are all factors."

In addition to worrying about market volatility, investors continue to keep a close watch on deal terms.

“My biggest concern is deals with aggressive terms that could undermine the integrity of the credit underwriting,” says Citi's Ahmadifar. “There's been recent stress on LIHTC portfolios on deals that closed between 2004 and 2007. I'm concerned that we are going back there."

Ahmadifar is president of the Affordable Housing Investors Council (AHIC), which recently updated its acquisitions and underwriting guidelines. AHIC coordinated with the National Council of State Housing Agencies (NCSHA) when both groups were revising their best practice guidelines. As a result, AHIC's latest guidelines are pretty much in sync with NCSHA's recommendations.

Among its guidelines, AHIC recommends that operating reserves should be equal to at least six months of total operating expenses, replacement reserves, and mustpay debt service.

“For the most part, I'm still seeing deals that are soundly underwritten, and the risks properly mitigated,” Ahmadifar says. Citi invested just north of $600 million in LIHTCs last year and hopes to increase that amount slightly in 2011.

Good underwriting is also on the mind of William Pelletier, managing director, housing investments, at JPMorgan Capital Corp.

“Too much capital chasing a finite number of deals has been a recipe for disaster in the past,” he says. “We hope good underwriting standards and discipline will remain." Pelletier says strong sponsorship continues to be a critical characteristic in the deals his team pursues.

“In a very competitive market, we have partnered with many developers who still seek and value a relationship," he says.

JPMorgan Capital, which invested more than $700 million in direct, single- investor, and multi-investor funds last year, has taken part in a number of large LIHTC developments over the years and continues to see some bigger deals out there.

Deals in the market

Bank of America has been one of the largest and most consistent LIHTC investors in the market.

“We like how our existing portfolio has performed,” says Brian Tracey, community development and investment executive. “It has held up very well during the economic downturn. The best test is not only in the new deals we're seeing but also what we're seeing on the books. That's doing well."

When it comes to overall market concerns, he also cites long-term stability.

His worry is driven by several factors, including potential legislative changes or tax reform efforts that could involve the program.

There also is growing pressure on state and local budgets. This is important because tax credit equity is often just one of several funding sources involved in fi- nancing affordable housing, says Tracey.

This year, the Bank of America team has been seeing and pursuing more reverse condo conversions, where marketrate condominiums are being turned into affordable housing.

These deals often involve an experienced development team and are in strong locations, says Tracey.

The bank is also taking a look at more supportive-housing developments. “We find these deals compelling,” says Tracey. One reason is they often receive strong support from their communities. Despite the threat of budget cuts, local jurisdictions are seeing the benefits of these developments and are continuing to finance and provide services to supportive housing.

Bank of America closed $600 million in investments in 2010 and hopes to increase that amount this year.

At U.S. Bank, Stohr says she's pleased to see developers and housing finance agencies not compromising on quality construction. “They still embrace a long-term view that promotes sustainability," she says.

As a result, she is seeing projects being built with durable construction materials and with healthy replacement reserves in their budgets.

Stohr says she is also seeing projects in strong locations, which might be the result of more land becoming available and at better prices.

All the investors will be sharpening their pencils for the second half of the year. “I think it's going to be very competitive," Stohr says.