.
An Introduction to the Design of the LowIncomeLow-Income Housing
Tax Credit
Mark P. Keightley
Analyst in Public Finance
December 15, 2009Specialist in Economics
February 12, 2013
Congressional Research Service
7-5700
www.crs.gov
RS22389
CRS Report for Congress
Prepared for Members and Committees of Congress
c11173008
.
An Introduction to the Design of the Low-Income Housing Tax Credit
Summary
The Low-Income Housing Tax Credit (LIHTC) is a federal provision that reduces the income tax
liability of taxpayers claiming the credit. These taxpayers are typically investors in real estate
development projects that have traded cash for the tax credits to support the production of
affordable housing. The credit is intended to lower the financing costs of housing developments
so that the rental prices of units can be lower than market rates, and thus, presumably, affordable.
In the 111th Congress, the American Recovery and Reinvestment Act of 2009 (ARRA), P.L. 1115, directs the Secretary of the Treasury to make grants to states in lieu of a portion of their 2009
LIHTC credit volume limit. The change allows a state to elect to receive as grants up to 85% of
10 times the sum of the state’s unused and returned credit allocation from 2008, 40% of their
2009 LIHTC credit allocation, and 40% of any allocation in 2009 made to the state from the
national LIHTC pool. The Tax Extenders Act of 2009, H.R. 4213, includes a one-year extension
of the program.
ARRA also provides $2.25 billion in grant funding to the LIHTC program through the Tax Credit
Assistance Program (TCAP) via the HOME Investment Partnerships (HOME) Program. The
TCAP is intended to ensure the development of LIHTC projects that received an LIHTC award
between October 1, 2006, and September 30, 2009. The funds are allocated to states according to
a predetermined formula. States, in turn, award grants to developers in a competitive process to
assist with the completion of their developments. All TCAP grant funding must be expended by
February 2012.
In the 110th Congress, the Housing and Economic Recovery Act of 2008 (HERA), P.L. 110-289,
included a number of provisions that made temporary or permanent changes to the LIHTC
program. For example, HERA increased the effective LIHTC rate applied to new construction
completed prior to 2014 and increased the LIHTC allocation to states from $2.00 per capita to
$2.20 per capita through 2009. The act also gave state housing credit agencies the authority to
designate certain buildings as qualified for the enhanced LIHTC, clarified the circumstances
under which a building is to be considered federally subsidized, and expanded the size of the
community common areas that may be included in the eligible basis.
Also passed in the 110th Congress was the Emergency Economic Stabilization Act of 2008
(EESA), P.L. 110-343, which included a temporary change to the LIHTC with the intent of
assisting victims of Hurricane Ike and the severe weather and flooding in the Midwest.
Specifically, EESA allowed certain states to allocate additional credits to affected areas for the
years 2008, 2009, and 2010. For states located in the Midwestern disaster area the additional
allocation is equal to $8.00 multiplied by the state’s disaster area population. For the two states
most directly affected by Hurricane Ike, Texas and Louisiana, the additional allocation is equal to
$16.00 multiplied by the state’s population residing in affected counties/parishes.
This report will be updated as warranted by legislative changes.
Congressional Research Service
.
An Introduction to the Design of the Low-Income Housing Tax Credit
Contents
Overview ....................................................................................................................................1
The Allocation Process................................................................................................................1
Federal Allocation to States...................................................................................................2
State Allocation to Developers ..............................................................................................2
Developers and Investors ......................................................................................................3
Legislative Developments ...........................................................................................................4
Contacts
Author Contact Information ........................................................................................................5
Congressional Research Service
.
An Introduction to the Design of the Low-Income Housing Tax Credit
Overview
The LIHTC was created by the Tax Reform Act of 1986 (P.L. 99-514) to provide an incentive for
the acquisition (excluding land) and development or the rehabilitation of affordable rental
housing. These federal housing tax credits are awarded to developers of qualified projects.
Sponsors, or developers, of real estate projects apply to the corresponding state housing finance
authority for LIHTC allocations for their projects. Developers either use the credits or sell them to
investors to raise capital (or equity) for real estate projects. The tax benefit reduces the debt
and/or equity that the developer would otherwise have to incur. With lower financing costs, tax
credit properties can potentially offer lower, more affordable rents.
The LIHTC was originally designed to deliver a 10-year subsidy equal to 30% or 70% of a
project’s cost, dependent on the nature of a project. Rehabilitation and federally subsidized
construction is intended to receive the 30% subsidy, whereas new construction is supposed to
receive the 70% subsidy. Over time, the annual credit rate that has delivered the 30%
rehabilitation construction subsidy has approximately equaled 4% of the project’s qualified basis,
although the rate has fallen as low as 3.33%.1 At the same time, the annual credit rate implied by
the 70% new construction subsidy has approximately equaled 9%, with a range of 7.89% to
9.27%.2 The method used to determine the actual credit rate a project receives depends in part on
the prevailing market interest rate at the time the project is completed. Because the market
interest rate changes monthly, so do the LIHTC rates.3
The Housing and Economic Recovery Act of 2008 (HERA), P.L. 110-289, changed the method
used to determine the credit rate for new construction projects completed before 2014. Under the
new law, the credit rate assigned to new construction will not be less than 9%. If the interest rate
that prevails at the time a project is completed is such that the credit rate as determined under the
previous method is greater than 9%, then the project will receive the higher rate. On the other
hand, if the market interest rate is such that the LIHTC rate is less than 9%, then the project will
be assigned a credit rate of exactly 9%. HERA made no changes to the credit rate that
rehabilitation and federally subsidized construction projects receive.
The Allocation Process
The process of allocating, awarding, and then claiming the LIHTC is complex and lengthy. The
process begins at the federal level with each state receiving an annual LIHTC allocation in
accordance with federal law. State housing agencies then allocate credits to developers of rental
housing according to federally required, but state created, allocation plans. The process typically
ends with developers exchanging allocated credits for equity with outside investors. A more
detailed discussion of each level of the allocation process is presented below.
1
U.S. Department of the Treasury, Internal Revenue Service, Revenue Ruling 2003-71, Table 4, Appropriate
Percentages Under Section 42(b)(2) for July 2003, Internal Revenue Bulletin 2003-27, July 7, 2003.
2
U.S. Department of the Treasury, Internal Revenue Service, Revenue Ruling 89-65, Table 4, Appropriate Percentages
Under Section 42(b)(2) for May 1989, Internal Revenue Bulletin 1989-19, April 20, 1989; Revenue Ruling 2008-28,
Table 4, Appropriate Percentages Under Section 42(b)(2) for June 2008, Internal Revenue Bulletin 2008-22, June 2,
2008.
3
See CRS Report RS22917, The Low-Income Housing Tax Credit Program: The Fixed Subsidy and Variable Rate, by
Mark P. Keightley.
Congressional Research Service
1
.
An Introduction to the Design of the Low-Income Housing Tax Credit
Federal Allocation to States
LIHTCs are first allocated to each state according to its population and are typically administered
by each state’s Housing Finance Agency (HFA). For example, HFAs originally received annual
tax credits equal to $2 per person in 2008, with a minimum small population state allocation of
$2,325,000.4 The Housing and Economic Recovery Act of 2008 temporarily increased the per
capita state allocation by $0.20 for the years 2008 and 2009, and the minimum small population
state allocation by 10% in addition to the annual inflation adjustment. For 2009, the per capita
state allocation is $2.30, and the minimum small state allocation is $2,665,000. The state
allocation limits do not apply in the case of development projects that are financed with taxexempt bond proceeds. 5 Tax credits that are not allocated by states are added to a national pool
and then redistributed to those states that apply for the excess credits. To be eligible for an excess
credit allocation, a state must have allocated its entire previous allotment of tax credits.
State Allocation to Developers
State Housing Finance Agencies (HFAs) allocate credits to developers of rental housing
according to federally required, but state created, Qualified Allocation Plans (QAPs). Federal law
requires that the QAP give priority to projects that serve the lowest income households and that
remain affordable for the longest period of time. Many states have two allocation periods per
year. Developers apply for the credits by proposing plans to state agencies. On average, one
project out of five may receive an allocation of tax credits.
Developers of housing projects compete for tax credits as part of the financing for the real estate
development by submitting proposals to the HFA. Types of developers include nonprofit
organizations, for-profit organizations, joint ventures, partnerships, limited partnerships, trusts,
corporations, and limited liability corporations.
In order to be eligible for the LIHTC, properties are required to meet certain tests that restrict
both the amount of rent that is assessed to tenants and the income of eligible tenants. The “income
test” for a qualified low-income housing project requires that the project owner irrevocably elect
one of two income level tests, either a 20-50 test or a 40-60 test. In order to satisfy the first test, at
least 20% of the units must be occupied by individuals with income of 50% or less of the area’s
median gross income, adjusted for family size. To satisfy the second test, at least 40% of the units
must be occupied by individuals with income of 60% or less of the area’s median gross income,
adjusted for family size. 6 A qualified low-income housing project must also meet the “gross rents
test” by ensuring rents do not exceed 30% of the elected 50% or 60% of area median gross
income, depending on which income test the project elected. 7
4
From 1986 through 2000, the initial credit allocation amount was $1.25 per capita. The allocation was increased to
$1.50 in 2001, to $1.75 in 2002 and 2003, and indexed for inflation annually thereafter. The initial minimum tax credit
ceiling for small states was $2,000,000, and was indexed for inflation annually after 2003.
5
Tax-exempt bonds are issued subject to a private activity bond volume limit per state. For more information, see CRS
Report RL31457, Private Activity Bonds: An Introduction, by Steven Maguire.
6
U.S. Department of Treasury, Internal Revenue Service, Internal Revenue Code, Section 42(g)(1).
7
U.S. Department of Housing and Urban Development, Office of Policy Development and Research, Updating the
Low-Income Housing Tax Credit (LIHTC) Database Projects Placed in Service Through 2003 (Washington: January
2006), p. 1.
Congressional Research Service
2
.
An Introduction to the Design of the Low-Income Housing Tax Credit
The types of projects eligible for the LIHTC are apartment buildings, single family dwellings,
duplexes, or townhouses. Projects may include more than one building. Tax credit project types
also vary by the type of tenants served. Housing can be for families and/or special needs
populations including the elderly.
Enhanced LIHTCs are available for difficult development areas (DDAs) and qualified census
tracts (QCTs) as an incentive to developers to invest in more distressed areas: areas where the
need is greatest for affordable housing, but which can be the most difficult to develop. 8 In these
distressed areas, the LIHTC can be claimed for 130% (instead of the normal 100%) of the
project’s total cost excluding land costs. This also means that available credits can be increased
by up to 30%. P.L. 110-289 allows an HFA to classify any building it sees fit as difficult to
develop and hence, eligible for the enhanced credit.
Developers and Investors
Upon receipt of a LIHTC allocation, developers typically exchange the tax credits for equity. Forprofit developers can either retain tax credits as financing for projects or sell them; nonprofit
developers sell tax credits. Taxpayers claiming the tax credits are usually real estate investors, not
developers. The tax credits cannot be claimed until the real estate development is complete and
operable. This means that more than a year or two could pass between the time of the tax credit
allocation and the time the credit is claimed. If, for example, a project were completed in June of
2008, depending on the filing period of the investor, the tax credits may not begin to be claimed
until some time in 2009.
Trading tax credits, or selling them, refers to the process of exchanging tax credits for equity
investment in real estate projects. Developers recruit investors to provide equity to fund
development projects and offer the tax credits to those investors in exchange for their
commitment. When credits are sold, the sale is usually structured with a limited partnership
between the developer and the investor, and sometimes administered by syndicators who must
adhere to the complex provisions of the tax code. 9 As the general partner, the developer has a very
small ownership percentage but maintains the authority to build and run the project on a day-today basis. The investor, as a limited partner, has a large ownership percentage with an otherwise
passive role.
Typically, the investor does not expect the project to produce income. Instead, investors look to
the credits, which will be used to offset their income tax liabilities, as their return on investment.
The investor can also receive tax benefits related to any tax losses generated through the project’s
operating costs, interest on its debt, and deductions such as depreciation and amortization.
The type of tax credit investor has changed over the life of the LIHTC. Upon the introduction of
the LIHTC in 1986, public partnerships were the primary source of equity investment in tax credit
projects, but diminished profit margins have driven some syndicators out of the retail investment
market. Although there are individual tax credit investors, in recent years, the vast majority of
8
Internal Revenue Code Section 42(d)(5)(C).
9
Syndicators are intermediaries who exist almost exclusively to administer tax credit deals. In the early years of the
LIHTC, syndicators were more prevalent. In later years, as the number of corporate investors in the LIHTC grew and
interacted directly with developers, the role of syndicators diminished.
Congressional Research Service
3
.
An Introduction to the Design of the Low-Income Housing Tax Credit
investors have come from corporations, either investing directly or through private partnerships. 10
Neither individuals nor corporations can claim the LIHTC against the alternative minimum tax.
Different types of investors have different motivations for investing in tax credits. An estimated
43% of investors are subject to the Community Reinvestment Act (CRA), and investment in
LIHTCs is favorably considered under the investment test component of the CRA.11 Other
investors include real estate, insurance, utility, and manufacturing firms, many of which list the
rate of return on investment as their primary purpose for investing in tax credits. Tax sheltering is
the second-most highly ranked purpose for investing.12
The LIHTC finances part of the total cost of many projects rather than the full cost and, as a
result, must be combined with other resources. The financial resources that may be used in
conjunction with the LIHTC include conventional mortgage loans provided by private lenders
and alternative financing and grants from public or private sources. Individual states provide
financing as well, some of which may be in the form of state tax credits modeled after the federal
provision. Additionally, some LIHTC projects may have tenants who receive other government
subsidies such as housing vouchers.
Legislative Developments
In the 111th Congress, the American Recovery and Reinvestment Act of 2009 (ARRA), P.L. 1115, as agreed to in conference and signed into law by the President, directs the Secretary of the
Treasury to make grants to states in lieu of a portion of their 2009 LIHTC credit volume limit.
Specifically, under the act a state may elect to receive as grants up to 85% of 10 times the sum of
the state’s unused and returned credit allocation from 2008, 40% of their 2009 LIHTC credit
allocation, and 40% of any allocation in 2009 made to the state from the national LIHTC pool.
The grants are not taxable income to the recipients. States may allocate the grant money to
qualified housing projects regardless of whether a project has received a LIHTC allocation. The
Joint Committee on Taxation (JCT) estimates that the modifications made by the act will cost
$419 million for FY2009 through FY2018.13 The Tax Extenders Act of 2009, H.R. 4213, includes
a one-year extension of the program.
ARRA also provides $2.25 billion in grant funding to the LIHTC program through the Tax Credit
Assistance Program (TCAP) via the HOME Investment Partnerships (HOME) Program.14 The
TCAP is intended to ensure the development of LIHTC projects that received an LIHTC award
between October 1, 2006, and September 30, 2009. The funds are allocated to states according to
a predetermined formula. HFAs, in turn, award grants to developers in a competitive process, in10
HousingFinance.com, “Corporate Investment and the Future of Tax Credits: What Should You Expect,” at
http://www.housingfinance.com/housingreferencecenter/Corporate_Investment.html, visited June 19, 2008.
11
U.S. Department of the Treasury. Office of the Comptroller of the Currency, Low Income Housing Tax Credits: Fact
Sheet August 2005, pp. 1-2, at http://www.occ.treas.gov/Cdd/fact%20sheet%20LIHTC.pdf, visited June 19, 2008.
12
Jean L. Cummings and Denise DiPasquale, “Building Affordable Housing: An Analysis of the Low-Income Housing
Tax Credit,” City Research, 1998, p. 33.
13
U.S. Congress, Joint Committee on Taxation, Estimated Budget Effects Of The Revenue Provisions Contained
Division B, Titles I And III, of H.R. 1 [1] As Passed By The House Of Representatives On January 28. 2009, committee
print, 111th Cong., 1st sess., January 30, 2009, JCX-14-09.
14
HUD has established a website for the TCAP. It may be found at http://www.hud.gov/recovery/tax-credit.cfm
Congressional Research Service
4
.
An Introduction to the Design of the Low-Income Housing Tax Credit
line with their QAPs. States must commit 75% of all TCAP grants by February, 2011. By
February 2012 all funds must have been expended.
In the 110th Congress, the Housing and Economic Recovery Act of 2008 (HERA), P.L. 110-289,
included a number of provisions that made temporary or permanent changes to the LIHTC
program. 15 As discussed earlier in this report, HERA guaranteed that the LIHTC rate applied to
non-federally subsidized new buildings completed prior to 2014 will not be less than 9%. The act
also increased the LIHTC allocation to states from $2.00 per capita to $2.20 per capita for 2008
and 2009. P.L. 110-289 changed the LIHTC program to allow state housing credit agencies to
designate certain buildings as qualified for the enhanced LIHTC. Lastly, the act clarified the
circumstances under which a building is considered to be federally subsidized and expanded the
size of the community common areas that may be included in the eligible basis.
Also passed in the 110th Congress was the Emergency Economic Stabilization Act of 2008
(EESA), P.L. 110-343, which included a temporary change to the LIHTC with the intent of
assisting victims of Hurricane Ike and the severe weather and flooding in the Midwest.
Specifically, EESA allowed certain states to allocate additional credits to affected areas for the
years 2008, 2009, and 2010. For states located in the Midwestern disaster area the additional
allocation is equal to $8.00 multiplied by the state’s disaster area population. For the two states
most directly affected by Hurricane Ike, Texas and Louisiana, the additional allocation is equal to
$16.00 multiplied by the state’s population residing in affected counties and parishes: the counties
of Brazoria, Chambers, Galveston, Jefferson, and Orange in Texas, and the parishes of Calcasieu
and Cameron in Louisiana.
Author Contact Information
Mark P. Keightley
Analyst in Public Finance
mkeightley@crs.loc.gov, 7-1049
15
The Housing and Economic Recovery Act of 2008 (H.R. 3221) was passed in the Senate on July 11, 2008, and in the
House on July 23, 2008.Low-Income Housing Tax Credit
Summary
The low-income housing tax credit (LIHTC) program is one of the federal government’s primary
policy tools for encouraging the development and rehabilitation of affordable rental housing.
These non-refundable federal housing tax credits are awarded to developers of qualified rental
projects via a competitive application process administered by state housing finance authorities.
Developers typically sell their tax credits to outside investors in exchange for equity. Selling the
tax credits reduces the debt developers would otherwise have to incur and the equity they would
otherwise have to contribute. With lower financing costs, tax credit properties can potentially
offer lower, more affordable rents. The LIHTC is estimated to cost the government an average of
nearly $6 billion annually.
The LIHTC program was originally designed to provide a 30% subsidy for rehabilitated rental
housing, and a 70% subsidy for newly constructed rental housing. To ensure that the 30% or 70%
subsidies were achieved, the U.S. Department of the Treasury designed a formula for determining
the LIHTC rate. The formula depends in part on current market interest rates that fluctuate over
time. These fluctuations have also caused the LIHTC rate to change over time. Developers and
investors have expressed concern over the uncertainty that the variable LIHTC rate changes
introduce into the program.
The Housing and Economic Recovery Act of 2008 (P.L. 110-289) temporarily changed the credit
rate formula used for new construction. The act effectively placed a floor equal to 9% on the new
construction tax credit rate. The 9% credit rate floor only applies to new construction placed in
service before December 31, 2013. The tax credit rate (known as the 4% credit) that is applied to
rehabilitation construction remained unaltered by the act. Most recently, the American Taxpayer
Relief Act of 2012 (P.L. 112-240) extended the 9% floor for credit allocations made before
January 1, 2014.
This report will be updated as warranted by legislative changes.
Congressional Research Service
An Introduction to the Low-Income Housing Tax Credit
Contents
Overview.......................................................................................................................................... 1
The Allocation Process .................................................................................................................... 2
Federal Allocation to States ....................................................................................................... 2
State Allocation to Developers .................................................................................................. 2
Developers and Investors .......................................................................................................... 3
Contacts
Author Contact Information............................................................................................................. 5
Congressional Research Service
An Introduction to the Low-Income Housing Tax Credit
Overview
The low-income housing tax credit (LIHTC) was created by the Tax Reform Act of 1986 (P.L. 99514) to provide an incentive for the development and rehabilitation of affordable rental housing.
These federal housing tax credits are awarded to developers of qualified projects via a
competitive application process administered by state housing finance authorities (HFAs).
Developers either use the credits or sell them to investors to raise capital for real estate projects,
which, in turn, reduces the debt or equity contribution that would otherwise be required of
developers. With lower financing costs, tax credit properties can potentially expand the supply of
affordable rental housing. The LIHTC is estimated to cost the government an average of nearly
$6 billion annually.1
Two types of LIHTCs are available depending on the nature of the rental housing construction.
The so-called 9% credit is generally reserved for new construction. Each year for 10 years a tax
credit equal to roughly 9% of a project’s qualified basis (cost of construction) may be claimed.
The applicable credit rate is not actually 9%; instead, the specific rate that a project will receive is
set so that the present value of the 10-year stream of credits equals 70% of a project’s qualified
basis.2 The formula used to ensure the 70% subsidy is achieved depends in part on current market
interest rates that fluctuate over time.3 These fluctuations have also caused the LIHTC rate to
change over time. Since 1986, the 9% credit has ranged between 7.89% and 9.27%.
The so-called 4% credit is typically claimed for rehabilitated housing and new construction that is
financed with tax-exempt bonds.4 Like the 9% credit, the 4% credit is claimed annually over a 10year credit period. The actual credit rate fluctuates around 4%, but is set by the Treasury to
deliver a subsidy equal to 30% of a project’s qualified basis in present value terms. At one point,
the 4% credit rate had fallen to as low as 3.33%.5 For both the 4% and 9% credit it is the subsidy
levels (30% or 70%) that are explicitly specified in the Internal Revenue Code (IRC), not the
credit rates.2
To understand the mechanics of the LIHTC, consider a new affordable housing apartment
complex with a qualified basis of $1 million. Since the project involves new construction it will
qualify for the 9% credit and generate a stream of tax credits equal to $90,000 (9% × $1 million)
per year for 10 years, or $900,000 in total. Under the appropriate interest rate the present value of
the $900,000 stream of tax credits should be equal to $700,000, resulting in a 70% subsidy. The
situation would be similar if the project involved rehabilitated construction except the developer
1
U.S. Congress, Joint Committee on Taxation, Estimates of Federal Tax Expenditures for Fiscal Years 2011-2015,
committee print, 112th Cong., 2nd sess., January 17, 2012, JCS-1-12.
2
The concept of present value is used when it is necessary to value a stream of money that is expected to be received
over time. Because of the ability to earn a return on money received sooner rather than later, money received in the
future is less valuable than money received today. The present value concept accounts for this “time value of money”
by discounting money expected to be received at different points in time. Usually, discounting is carried out using an
interest rate because interest rates measure the time value of money.
3
See CRS Report RS22917, The Low-Income Housing Tax Credit Program: The Fixed Subsidy and Variable Rate, by
Mark P. Keightley for a detailed discussion of how the LIHTC rates are calculated.
4
A developer using federal tax-exempt bonds can qualify for the 9% credit if they reduce the project’s eligible basis by
the amount of the tax-exempt bond subsidy.
5
U.S. Department of the Treasury, Internal Revenue Service, Revenue Ruling 2003-71, Table 4, Appropriate
Percentages Under Section 42(b)(2) for July 2003, Internal Revenue Bulletin 2003-27, July 7, 2003.
Congressional Research Service
1
An Introduction to the Low-Income Housing Tax Credit
would be entitled to a stream of tax credits equal to $40,000 (4% × $1 million) per year for 10
years, or $400,000 in total. The present value of the $400,000 stream of tax credits should be
equal to $300,000, resulting in a 30% subsidy.
The Housing and Economic Recovery Act of 2008 (HERA, P.L. 110-289), temporarily changed
the credit rate formula used for new construction. The act effectively placed a floor equal to 9%
on the new construction tax credit rate. The 9% credit rate floor only applies to new construction
placed in service before December 31, 2013. The 4% credit remained unaltered. Most recently,
the American Taxpayer Relief Act of 2012 (P.L. 112-240) extended the 9% floor for credit
allocations made before January 1, 2014. As long as interest rates remain relatively low, the floor
increases the subsidy to new affordable rental housing construction above the 70% level. For
analysis of the credit rate floors and alternative policy options see CRS Report RS22917, The
Low-Income Housing Tax Credit Program: The Fixed Subsidy and Variable Rate, by Mark P.
Keightley.
The Allocation Process
The process of allocating, awarding, and then claiming the LIHTC is complex and lengthy. The
process begins at the federal level with each state receiving an annual LIHTC allocation in
accordance with federal law. State housing agencies then allocate credits to developers of rental
housing according to federally required, but state created, allocation plans. The process typically
ends with developers selling allocated credits to outside investors in exchange for equity. A more
detailed discussion of each level of the allocation process is presented below.
Federal Allocation to States
LIHTCs are first allocated to each state according to its population. In 2012, states received a
LIHTC allocation of $2.20 per person, with a minimum small population state allocation of
$2,525,000.6 The state allocation limits do not apply to the 4% credits which are automatically
packaged with tax-exempt bond financed projects.7 The administration of the tax credit program
is typically carried out by each state’s Housing Finance Agency (HFA).
State Allocation to Developers
State HFAs allocate credits to developers of rental housing according to federally required, but
state created, Qualified Allocation Plans (QAPs). Federal law requires that the QAP give priority
to projects that serve the lowest income households and that remain affordable for the longest
period of time. Many states have two allocation periods per year. Developers apply for the credits
by proposing plans to state agencies. Types of developers include nonprofit organizations, forprofit organizations, joint ventures, partnerships, limited partnerships, trusts, corporations, and
limited liability corporations.
6
From 1986 through 2000, the initial credit allocation amount was $1.25 per capita. The allocation was increased to
$1.50 in 2001, to $1.75 in 2002 and 2003, and indexed for inflation annually thereafter. The initial minimum tax credit
ceiling for small states was $2,000,000, and was indexed for inflation annually after 2003.
7
Tax-exempt bonds are issued subject to a private activity bond volume limit per state. For more information, see CRS
Report RL31457, Private Activity Bonds: An Introduction, by Steven Maguire.
Congressional Research Service
2
An Introduction to the Low-Income Housing Tax Credit
An allocation to a developer does not imply that all allocated tax credits will be claimed. An
allocation simply means tax credits are set aside for a developer. Once a developer receives an
allocation it has several years to complete its project. Credits may not be claimed until a project is
completed and occupied, also known as “placed in service.” Tax credits that are not allocated by
states are added to a national pool and then redistributed to states that apply for the excess credits.
To be eligible for an excess credit allocation, a state must have allocated its entire previous
allotment of tax credits. This use or lose feature gives states an incentive to allocate all of their
tax credits to developers.
In order to be eligible for a LIHTC allocation, properties are required to meet certain tests that
restrict both the amount of rent that is assessed to tenants and the income of eligible tenants. The
“income test” for a qualified low-income housing project requires that the project owner
irrevocably elect one of two income level tests, either a 20-50 test or a 40-60 test. In order to
satisfy the first test, at least 20% of the units must be occupied by individuals with income of
50% or less of the area’s median gross income, adjusted for family size. To satisfy the second test,
at least 40% of the units must be occupied by individuals with income of 60% or less of the area’s
median gross income, adjusted for family size.8 A qualified low-income housing project must also
meet the “gross rents test” by ensuring rents do not exceed 30% of the elected 50% or 60% of
area median gross income, depending on which income test the project elected.9
The types of projects eligible for the LIHTC are apartment buildings, single family dwellings,
duplexes, and townhouses. Projects may include more than one building. Tax credit project types
also vary by the type of tenants served. Housing can be for families or special needs populations
including the elderly.
Enhanced LIHTCs are available for difficult development areas (DDAs) and qualified census
tracts (QCTs) as an incentive to developers to invest in more distressed areas: areas where the
need is greatest for affordable housing, but which can be the most difficult to develop.10 In these
distressed areas, the LIHTC can be claimed for 130% (instead of the normal 100%) of the
project’s total cost excluding land costs. This also means that available credits can be increased
by up to 30%. HERA (P.L. 110-289) enacted changes that allows an HFA to classify any building
it sees fit as difficult to develop and hence, eligible for the enhanced credit.
Developers and Investors
Upon receipt of a LIHTC allocation, developers typically exchange the tax credits for equity. Forprofit developers can either retain tax credits as financing for projects or sell them to investors;
nonprofit developers sell tax credits. Taxpayers claiming the tax credits are usually investors, not
developers. The tax credits cannot be claimed until the real estate development is complete and
operable. This means that more than a year or two could pass between the time of the tax credit
allocation and the time the credit is claimed. If, for example, a project were completed in June of
2013, depending on the filing period of the investor, the tax credits may not begin to be claimed
until some time in 2014.
8
Internal Revenue Code (IRC) §42(g)(1).
IRC §42(g)(2).
10
IRC §42(d)(5).
9
Congressional Research Service
3
An Introduction to the Low-Income Housing Tax Credit
Trading tax credits, or selling them, refers to the process of exchanging tax credits for equity
investment in real estate projects. Developers recruit investors to provide equity to fund
development projects and offer the tax credits to those investors in exchange for their
commitment. When credits are sold, the sale is usually structured with a limited partnership
between the developer and the investor, and sometimes administered by syndicators who must
adhere to the complex provisions of the tax code.11 As the general partner, the developer has a
very small ownership percentage but maintains the authority to build and run the project on a dayto-day basis. The investor, as a limited partner, has a large ownership percentage with an
otherwise passive role. Syndicators charge a fee for overseeing the investment transactions.
Typically, investors do not expect the project to produce income. Instead, investors look to the
credits, which will be used to offset their income tax liabilities, as their return on investment. The
return investors receive is determined in part by the market price of the tax credits. The market
price of tax credits fluctuates, but in normal economic conditions the price typically ranges from
the mid-$0.80s to low-$0.90s per $1.00 tax credit. The larger the difference between the market
price of the credits and their face value ($1.00), the larger the return to investors. The investor can
also receive tax benefits related to any tax losses generated through the project’s operating costs,
interest on its debt, and deductions such as depreciation.
The type of tax credit investor has changed over the life of the LIHTC. Upon the introduction of
the LIHTC in 1986, public partnerships were the primary source of equity investment in tax credit
projects, but diminished profit margins have driven some syndicators out of the retail investment
market. Although there are individual tax credit investors, in recent years, the vast majority of
investors have come from corporations, either investing directly or through private partnerships.12
Different types of investors have different motivations for investing in tax credits. Some investors
are motivated by the Community Reinvestment Act (CRA), which considers LIHTC investments
favorably.13 Other investors include real estate, insurance, utility, and manufacturing firms, many
of which list the rate of return on investment as their primary purpose for investing in tax credits.
Tax sheltering is the second-most highly ranked purpose for investing.14
The LIHTC finances part of the total cost of many projects rather than the full cost and, as a
result, must be combined with other resources. The financial resources that may be used in
conjunction with the LIHTC include conventional mortgage loans provided by private lenders
and alternative financing and grants from public or private sources. Individual states provide
financing as well, some of which may be in the form of state tax credits modeled after the federal
provision. Additionally, some LIHTC projects may have tenants who receive other government
subsidies such as housing vouchers.
11
Syndicators are intermediaries who exist almost exclusively to administer tax credit deals. In the early years of the
LIHTC, syndicators were more prevalent. In later years, as the number of corporate investors in the LIHTC grew and
interacted directly with developers, the role of syndicators diminished.
12
HousingFinance.com, “Corporate Investment and the Future of Tax Credits: What Should You Expect,” at
http://www.housingfinance.com/housingreferencecenter/Corporate_Investment.html, June 19, 2008.
13
In 2005, an estimated 43% of LIHTC investors were subject to the CRA. U.S. Department of the Treasury. Office of
the Comptroller of the Currency, Low Income Housing Tax Credits: Fact Sheet August 2005, pp. 1-2, at
http://www.occ.treas.gov/Cdd/fact%20sheet%20LIHTC.pdf, June 19, 2008.
14
Jean L. Cummings and Denise DiPasquale, “Building Affordable Housing: An Analysis of the Low-Income Housing
Tax Credit,” City Research, 1998, p. 33.
Congressional Research Service
4
An Introduction to the Low-Income Housing Tax Credit
Author Contact Information
Mark P. Keightley
Specialist in Economics
mkeightley@crs.loc.gov, 7-1049
Congressional Research Service
5