Affordable Housing Finance• Chicago – Many excellent ideas for making the federal low-income housing tax credit (LIHTC) program more efficient were aired at a public meeting of the industry’s leading developers, financiers, accountants and attorneys here in October.
The leaders convened as part of a special public meeting of the Editorial Advisory Board of Affordable Housing Finance magazine at the start of AHF Live: The 2005 Tax Credit Developers’ Summit.
Board Chairman David Reznick opened the discussion by pointing out the fundamental mismatch between housing resources and housing needs. Reznick is chairman of the Reznick Group, P.C., in Bethesda, Md.
The following report outlines a series of changes that were proposed to address certain problems in how the program operates without requiring new federal resources. For a full transcript of the roundtable discussion, go here.
Affordable Housing Finance invites your input to help shape these ideas into well-reasoned and well-supported arguments for change.
Please send us your comments on the program issues and possible solutions described below. Let us know what issues you think are most important and what policies you believe are viable solutions, and why.
Send comments to Donna Kimura at email@example.com.
Encourage mixed-income projects
Primary presenter: David Perel, Preservation Properties
Mixed-income projects have become desirable to many developers and state and local housing agencies because they offer social benefits, and in strong markets, they give projects the added financial boost of having some units that can attract high market-rate rents. However, there is no syndication market where you can efficiently place a mixed-income deal, and the difficulties with compliance are substantial. Many investors don't want to do mixed-income because they don't want to underwrite the real estate market too much, and if a deal has only 20% or 30% of its units eligible for tax credits, it may also be hard to syndicate.
Renee Glover of the Atlanta Housing Authority made the case that there must be a true market-rate component in as many projects as possible: “We all know that all services and all private investment follow disposable income. In order to have a true mixed-income community, a market component is critically important. These deals do work. I think we have to look at the cost of not approaching development from a mixed-income approach, as opposed to continuing to develop exclusively for the different income spectrums, which I think is horribly expensive both socially and financially. There are decades now of experience and actual data that prove concentrating poverty doesn't work.”
Lift the cap on active-income tax liability that may be offset by LIHTCs, or allow segmentation of partnership interests (low-income vs. market-rate units) in a project.
This would facilitate the development of mixed-income projects. The proposal would allow general partners to use LIHTCS without the need to syndicate the credits, or it would enable syndicators to solely underwrite the LIHTC units.
The proposal would have the following benefits:
- More socially beneficial (mixed-income) projects could be developed;
- High-cost-rent areas could make more efficient use of LIHTCs because the market-rate units could help bear the high acquisition costs for the properties; and
- To the extent that general partners could directly use the credit, transaction costs would be lessened and the number of buyers (increased by the use of general partners) would be increased.
Variations on that theme:
To accommodate projects where the market is not that strong initially but where market demand, as well as rents, may increase, allow units to be switched from tax credit units to market-rate units when the economics make that attractive, said Pat Clancy of The Community Builders.
“Perhaps they would allow an entire qualified basis if 80% of the units were affordable, and that would be relatively simple as compared to some other complex solutions of going several years and then moving back and forth. We all love the next-available-unit rule as a fun example of how things can be complex,” said Reznick.
Shaun Donovan, New York City Department of Housing Preservation and Development, said housing officials in New York City have created a program where an 80/20 project (20% affordable) gets up to $45,000 a unit to make 30% of units affordable to moderate-income tenants, so you end up with a 50/30/20. “We found that to be a very, very successful way to try to mix incomes, but what it takes is a city housing finance agency willing to put up $45,000 a unit of its reserves toward those projects.”
Include land as part of eligible basis with a commensurate adjustment of the credit factor.
Presenter: David Perel
Areas with high land costs are generally the areas where rental housing demand is the strongest and where affordable housing is needed but is hard to deliver. In such areas, land costs constitute a greater share of development costs and are presently not included in basis.
Allow land to be included in basis for calculating tax credit benefits for investors. To be revenue-neutral, you would adjust the credit rate so that the total amount wouldn't change, but where land is more attractive and rents are higher, deals would be a little bit more feasible.
Related idea for state agencies:
Reduce qualified allocation plan (QAP) incentives and requirements for specific features of project sites, like being located near shopping centers, which make land very expensive, said Ronne Thielen of Related Capital.
For state agencies: Be cautious about allocating credits to inexperienced developers; do more to enforce agreements and pledges used to win points
Presenter: David Heller, The NRP Group
Each state has a limited amount of tax credits to allocate each year. As a result, allocating agencies like to spread the credits around to different projects and developers. This results in credits going to inexperienced developers, both nonprofit and for-profit. Without careful scrutiny of their work by state agencies, this can lead to problems during construction and after completion and/or to noncompliance with agreements developers make during the tax credit application process.
Counterpoint and variations on that theme:
Favoring experienced developers, however, would limit the participation of new players in the tax credit program, several panelists said.
“Geographic diversity and developer diversity is a key to the checks and balances in this industry,” said Jana Cohen Blackman of Sonnenschein Nath & Rosenthal.
The proposed solution:
While the National Council of State Housing Agencies’ best practices already state that agencies should make the experience of the entire development team a factor in project evaluation, Heller thinks states need to “look deeper at the developers and look at the financial capacity of the developer. Look at what guarantees the developers are providing on the projects. A lot of state agencies do have experience requirements. But in many of the states where I work, no one comes back and polices [agreements developers make in order to win the competition for tax credit allocations]. Experienced developers that are spending the time and effort of not only writing these supportive-services plans, but implementing these plans and then delivering a quality project, should be rewarded.”
Other ideas include:
- More state and local agencies should provide adequate training and technical assistance for inexperienced developers, as is done in New York and other states.
- Allocating agencies should give negative points on applications to developers that have had troubled deals or failed to comply with prior agreements.
- Agencies should encourage joint-venture partnerships between experienced developers and less-experienced developers.
Do not incentivize deeper income-targeting in QAPS without ensuring sufficient subsidies to make it economically feasible.
Presenter: Chris Tawa, MMA Financial
There is a trend, especially in the 9% tax credit program, to require deep income-targeting in order to win the competition for credits. Although this helps lower-income families, it is also stressing portfolios. This is because revenues are staying flat while operating and other expenses are increasing at a rapid rate. Over the long term, the financial feasibility of projects with deep targeting is being increasingly put at risk.
“I think that we're on the verge of a greater stress test for these portfolios than we've ever seen before as expenses associated with inflationary pressures really increase,” Tawa said.
Variations on that theme:
Several speakers pointed out that market studies show that the greatest need in many markets is for housing affordable to persons earning substantially less than the maximum tax credit income level (60% of the area median).
“I sympathize with the difficulty in delivering housing to very low income people under 50% of the median … But, also we have to recognize where the housing need is. To be blunt about it, in the city of Chicago, we don’t particularly need more rental housing production at 60% or at 70% or at 80% of median income,” said Jack Markowski, Chicago Department of Housing. He noted that he isn’t seeing single-room occupancy or supportive-housing projects in trouble. That’s because the rental subsidies have been figured out ahead of time.
Tawa proposed that state agencies not require deeper income-targeting if it would hurt project feasibility in the long run.
Others pointed out that states should link any such priorities for deeper targeting with subsidies to make it feasible. For example, the Pennsylvania Housing Finance Agency recognized early in the history of the program that subsidies were going to be needed to make projects work for very low income people, and it began using its reserve funds to that end.
Another idea is to change the tax credit authorizing statute that currently sets the same maximum tax credit amount for all eligible units, regardless of the income group they target. Deep income-targeting could be facilitated by allowing a higher credit amount for units targeted to very low income households. To make it budget-neutral, it could be offset by providing lesser credit amounts for units targeted to people at the upper end of the eligible income level.
This idea of a flexible credit percentage could be combined with a focus on mixed-income projects by changing the income limits, allowing some units to be rented to persons earning more than 60% of median income, but getting a lower credit amount than units aimed at lower-income groups.
“The credit could be made more flexible, but as you go down to the 30% band to make a development serve that, you could also go up to the 70% to 75% band. You could create more of a range and have units be able to be tax credit units. To the extent you go lower, you could also go higher. Mixed-income, and everything that we have been involved in for the last 20 years, is a much healthier environment if you can create it," said Clancy.
Related issue: Encourage more use of tax-exempt bonds
Presenter: David Perel
Tax-exempt bond authority is going unused in many states and cities, largely because the bonds and the 4% tax credits that go with them do not provide a deep enough subsidy to make projects feasible.
Allow a flexible credit percentage for bond deals so more tax credit equity could be raised.
For most tax-exempt bond projects, particularly new construction projects, the 4% tax credit is insufficient to completely finance the project. It is often a case of “throwing the life preserver halfway.” These projects require substantial additional public capital contributions. If states were permitted to allocate higher levels of tax credits with a commensurate reduction in private-activity cap allocation (to make it budget-neutral), a more efficient affordable housing finance execution would be possible. The amount of capital subsidy now required for these projects could be reduced, with the savings made available for 9% projects. There might also be a more balanced competition for the two types of tax credit financings.
“In Chicago, the city has plenty of bond cap that is not being used right now. So, for instance, let's say that we were flexible. Instead of a 4% credit, we ended up with a 12% credit on a deal and we had to give up three times the bond cap on that deal. We'd do that. We have plenty of bond cap to do that,” said Markowski.
Reduce the uncertainty involved in property tax appraisals.
Presenter: Judy Calogero, New York State Division of Housing and Community Renewal
Local tax assessors have different methods of valuing property, which can mean unpredictable and expensive tax assessments for affordable housing owners.
New York Gov. George Pataki signed a law in 2005 that will help ensure uniformity, predictability and fairness in assessments, said Calogero. The legislation requires local assessors to establish the assessed value of an affordable housing project based upon the actual net operating income of the project. This income approach, compared to a traditional market approach, is expected to lead to more consistent, and possibly somewhat lower, assessments for affordable housing properties.
This also allows developers to plan what their property tax liability is going to be in advance, while applying for tax credits. She suggested that the same idea could be implemented in other states.
For the private sector, developers and lawyers: Exercise more discipline and take more care in deal-structuring for tax purposes.
Presenter: Jana Blackman
Asset management is being neglected, and deal structures now are “pushing the envelope” of what is acceptable. Because there is “more money chasing deals than we have deals, there is pressure to cut fees to syndicators, and that could result in reduced asset management.
“That is fear number one: asset management. I've seen more projects fail this year than I have ever seen. We've made more money in legal fees this year from workouts than we've seen in all the time I've been in this business. Projects are failing. Asset management is being reduced.“
A closely related problem is stretching the boundaries of normal accounting procedures by including in basis such things as loans that really never have to be repaid and developer fees that don’t get paid off for many years, or sometimes are not expected to be paid at all.
“I'm seeing far too aggressive lower-tier structures and the lack of policing because there is still too much money chasing too few deals. So, deals are getting done that shouldn't get done because we need the deals,” Blackman said.
Blackman advocated going back to contractual remedies in multi-investor funds, so the investors have real rights to look over the shoulder of the syndicator, to make sure the asset management is being done. Contractual remedies at the lower tier are where developers stand behind their deals.
She also called on lawyers serving the tax credit business to “step up to the plate” and set standards for what practices are acceptable and which are not.
For Congress: Revise method for identifying difficult-to-develop areas
Calogero proposed taking management of the difficult development areas away from the Department of Housing and Urban Development and give it to the states. The flexibility that would result would be tremendous.
Eliminate the 10-year rule
Set the tax credit rate at a fixed amount instead of having it vary every month, as it does now.