Order Code RS22389
Updated June 20, 2008
An Introduction to the Design of the Low-
Income Housing Tax Credit
Mark Patrick Keightley
Analyst in Public Finance
Government and Finance Division
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.
The Gulf Opportunity Zone Act of 2005 (P.L. 109-135) significantly expanded the
amount of LIHTC allocation authority for Alabama, Louisiana, and Mississippi and in
the 110th Congress, legislative attention had been focused on extending the completion
deadline for projects funded from that increased LIHTC allocation. The original law
required projects to be placed in service (ready for occupancy) by December 31, 2008,
but a proposal included in the U.S. Troop Readiness, Veterans’ Care, Katrina Recovery,
and Iraq Accountability Appropriations Act, 2007 (P.L. 110-28) extends that date
through December 31, 2010.
The Affordable Housing Investment Act of 2008 (S. 2666), introduced on February
25, 2008, would change the method used to determine the tax credit rate. Most recently,
the Housing Assistance Tax Act of 2008 (H.R. 5720) and the Dodd-Shelby proposed
amendment to the American Housing Rescue and Foreclosure Prevention Act of 2008
(H.R. 3221) include proposals to enhance and modify the LIHTC program to aid with
current housing market concerns. Other legislation, the Community Restoration and
Revitalization Act of 2007 (H.R. 1043 and S. 584), proposes more comprehensive
changes to the tax credit rules.
For more detailed information and analysis of the LIHTC program, see CRS Report
RL33904, The Low-Income Housing Tax Credit: A Framework for Evaluation, by
Pamela J. Jackson. This report will be updated as warranted by legislative changes.

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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.
LIHTC developers receive a fixed tax credit amount each year over a 10-year period.
The value of the annual credit is approximately 9% of the qualified basis for new
construction, or 4% of the qualified basis per year for rehabilitation or federally
subsidized buildings.1 The present value of the 10-year stream of tax credits is required
to equal 70% or 30% of the cost of the project, depending on the nature of the project
(new construction or rehabilitation). As a result, the actual tax credit rates vary month to
month, in line with movements of the 10-year U.S. Treasury bond yields used to calculate
the present value of the total 10-year stream of tax credits. Over the years, the actual 9%
rate has ranged from 7.90% to 8.65%. The 4% credit rate has ranged from 3.33% to
3.68%.2 Table 1 summarizes the relationship between the project cost, the credit rate, and
the annual and 10-year total tax credits.
Table 1. Calculation of the Tax Credit Amount
Newly Constructed Apartment Building
Amount
(assumes 100% of the units are LIHTC)
Cost
$500,000
Credit Rate
8.07%
Tax Credits per Year (8.07% x $500,000)
$40,356
Total Tax Credits ($40,350 x 10 years)
$403,560
Source: Author’s calculations.
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 than allocate
1 Qualified basis is determined by calculating the total development costs of the project and then
subtracting non-depreciable costs, such as land, permanent financing costs, rent reserves, and
marketing costs.
2 U.S. Department of the Treasury, Internal Revenue Service, Revenue Ruling 2006-7, Table 4,
Appropriate Percentages Under Section 42(b)(2) for February 2006, Internal Revenue Bulletin
2006-6, February 6, 2006; Revenue Ruling 2008-28, Table 4, Appropriate Percentages Under
Section 42(b)(2) for June 2008, Internal Revenue Bulletin 2008-22, June 2, 2008.

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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.
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). HFAs receive annual tax credits equal to $2 per person in 2008.3 The minimum
tax credit ceiling for states with small populations is $2,325,000 in 2008.4 However,
these limits do not apply in the case of development projects that are financed with tax-
exempt 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
3 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.
4 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
(continued...)

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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
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%.
Developers and Investors. Upon receipt of an LIHTC allocation, developers
typically exchange the tax credits for equity. For-profit 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-to-day 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
6 (...continued)
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.
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.

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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 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 December 2005, the Gulf Opportunity Zone Act of 2005 (P.L. 109-135) was
enacted to provide tax relief to communities adversely affected by Hurricanes Katrina,
Wilma, and Rita.13 The new law temporarily added to existing LIHTC allocation
authority for Alabama, Louisiana, and Mississippi. There are now two authorized
allocations of tax credits for these states. The first allocation, which existed prior to the
Gulf Opportunity (GO) Zone enactment, was approximately $5,515,635 for Mississippi,
10 HousingFinance.com, “Corporate Investment and the Future of Tax Credits: What Should You
E x p e c t , ” a t [ h t t p : / / w w w . h o u s i n g f i n a n c e . c o m / h o u s i n g r e f e r e n c e c e n t e r /
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:FactSheet Aug. 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 The Gulf Opportunity Zone (GO ZONE) is defined as those areas in Alabama, Mississippi, and
Louisiana that have been designated by the federal government as warranting assistance due to
Hurricane Katrina.

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$8,579,963 for Louisiana, and $8,607,346 for Alabama. The second allocation of tax
credit authority, which is temporary, is in addition to the amounts listed above and could
yield an annual amount of approximately $35,429,094 for Mississippi, $56,759,274 for
Louisiana, and $15,651,792 for Alabama each year for three years.14 The tax law also
made an additional $3.5 million in LIHTC authority available to both Texas and Florida
in 2006 and also increased the size of the credit from 100% of qualifying project costs to
130% of such costs by assigning the designation of difficult development area (DDA) to
the GO Zone (and also the Rita and Wilma Zones) for 2006, 2007, and 2008.
In the 110th Congress, legislative attention has focused on extending the completion
deadline for LIHTC projects funded from the GO Zone LIHTC allocation. Current law
required those projects to be placed in service (ready for occupancy) by December 31,
2008, but a proposal included in the U.S. Troop Readiness, Veterans’ Care, Katrina
Recovery, and Iraq Accountability Appropriations Act, 2007 (P.L. 110-28) extends that
date through December 31, 2010. Other legislation, the Community Restoration and
Revitalization Act of 2007 (H.R. 1043 and S. 584), proposes more comprehensive
changes to the tax credit rules.
The Preservation Approval Process Improvement Act of 2007 (P.L. 110-35), which
became law in June 2007, modified the rules regarding the processing of participation
certificates for LIHTC investors filing claims for the credits.
The Affordable Housing Investment Act of 2008 (S. 2666), introduced on February
25, 2008, would, among other things, change the method used to determine the applicable
tax credit rate. LIHTC recipients would receive the greater of a tax credit calculated under
the current method, or a 4% or 9% tax credit, depending on whether the credit was used
for rehabilitation or new construction.
The Housing Assistance Tax Act of 2008 (H.R. 5720)and the Dodd-Shelby proposed
amendment to the American Housing Rescue and Foreclosure Prevention Act of 2008
(H.R. 3221) include proposals to enhance and modify the LIHTC program. H.R. 5720,
which was passed by the House Ways and Means Committee on April 9, 2008, and the
proposals in the amendment to H.R. 3221, would temporarily increase the $2 per capita
rate of LIHTC allocation to states to $2.20 per capita for 2008 and 2009. The legislation
proposes to simplify LIHTC program rules and would, among other things, eliminate the
distinction between new and existing buildings, establish a minimum credit rate for
non-federally subsidized buildings, clarify the circumstances under which a building is
considered to be federally subsidized, and reform rules pertaining to sales of low-income
housing buildings. These proposed changes are estimated to cost $250 million over 10
years.15
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14 U.S. Department of the Treasury, Internal Revenue Service, IRS Notice 2006-21 Providing
Alabama, Louisiana, Mississippi Population Portions for Computing Housing Amount, Face
Amounts of Gulf Opportunity Zone Bonds (Washington, March 2006).
15 U.S. Congress, House of Representatives, Committee on Ways and Means, Ways and Means
Passes Bipartisan Housing Tax Relief: Summary of H.R. 5720, the Housing Assistance Tax Act
of 2008, website, [http://waysandmeans.house.gov/media/pdf/110/eresummary.pdf], visited Apr.
11, 2008.

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