Integrating New Markets and Historic Tax Credits
North Carolina Affordable Housing Conference
September 16, 2010
Fundamentals of Federal Historic Tax Credits
• HTC program has been in existence over 20 years.
• Provides dollar for dollar federal income tax credit for rehabilitation of historic
income producing properties (commercial, industrial, agricultural, or residential
rental).
• National Park Service and State Historic Preservation Officer approve and
monitor (i) qualification of building for HTC and (ii) development of and
compliance with plans and specs for rehabilitation to ensure historic character
is maintained.
• HTC is equal to 20% of “qualified rehabilitation expenditures.” Qualified
rehabilitation expenditures must exceed the acquisition costs of the “Historic
Building.”
• HTC is not competitive, but National Park Service must certify that building
qualifies for credit and that rehabilitation was completed in accordance with
approved plans and specs.
2
Fundamentals of Federal Historic Tax Credits (cont.)
• Building must be listed on the National Registry of Historic Places or be located
in and add to the significance of a registered historic district.
• HTC is taken all at one time when the project is placed in service.
• Subject to recapture for 5 years.
• Less technical than LIHTC, but requires substantial interaction with National
Park Service on Plans and Specs.
• As with LIHTCs, some states have state HTC programs, many of which “piggyback” on Federal HTC programs.
• Allocation of HTCs among partners follows profits.
3
Historic Tax Credit Project – Single Tier Structure Diagram
General
Partner
Developer
Cash
Property
Owner
Lender(s)
99.99%
Interest
(including 99.99%
of HTCs Profits
and Losses)
Investor
• Property must be located in a qualifying area or be listed on National Register of Historic Places. (Part 1)
• Developer/GP work with National Park Service on satisfactory plans and specs for qualified rehabilitation of
Historic Building. (Part 2)
• HTC based on 20% of qualified rehabilitation expenditures.
• HTC claimed on date project is placed in service.
• No significant future monitoring by National Park Service after building receives certification that
rehabilitation was completed in accordance with agreed upon plans and specs. (Part 3)
• Five year compliance period during which Property Owner must remain owner of property and Investor
must remain partner in Property Owner in order to avoid recapture.
• Tax basis in historic building is reduced by amount of HTC.
4
Historic Tax Credit Project –
Lease Pass-Through Structure Diagram
General
Partner
Developer
Cash &
.01% Interest
Services
Property
Owner /
Landlord
Lender(s)
Cash
Rent
Master
Tenant
Master Lease &
“Pass-Through”
of HTCs
99.99%
Interest
(including 99.99%
of HTCs, Profits
and Losses)
Investor
Rent
Sub
Tenants
• Substantially similar to single tier structure on technical points, with addition of Master Lease and Master
Tenant between Investor and Property Owner.
• HTCs are allowed to be passed through to Master Tenant upon Property Owner/Landlord and Master
Tenant making valid Pass-Through Election.
• Important to maintain integrity of Master Lease.
• No reduction in tax basis of historic building, instead Master Tenant must include HTC amount in annual
income pro rata over term of lease.
5
Historic Tax Credit Project Structures
Comparing Advantages and Disadvantages
Single Tier
Advantages
Lease Pass-Through
– Simplicity – fewer entities, fewer
documents required
– No mandatory basis reduction in
property or HTC Investor’s partnership
interest
– GP receives higher tax basis and
depreciation with respect to property
– Minimizes HTC Investor’s participation
in property owner’s cash flow
Disadvantages
– Investor has potential to receive
higher distributions of cash flow and
losses
– More complex, leading to higher
transaction costs and higher on-going
administrative costs
– Mandatory basis reduction of
depreciable property and HTC
Investor’s basis in partnership interest
– Master Tenant recognizes income in
amount of HTC via amortization over
term of Master Lease (Note: this result
may be attractive to some Investors)
6
Diagram of Combined LIHTC and HTC Project with Lease
Pass-Through Structure
Cash
.01% Interest
General
Partner
Developer
Property Owner/
Landlord
10% Interest
Cash
Cash
Master Lease
and PassThrough of
HTCs
LIHTC
Investor
Rent
Master Tenant
Cash
(99.99%
Interest
Including
99.99% of HTCs)
Lenders
7
HTC
Investor
Combined LIHTC and HTC Project with Lease
Pass-Through Structure
Comments
• LIHTC Investor holds 89.99% limited partner interest in
Property Owner receiving 99.99% special allocation of
depreciation on property.
• Lease Pass-Through Structure avoids reduction in basis of
property and accordingly no reduction in LIHTC.
• Can dismantle HTC Structure at end of 5 year HTC
compliance period.
• Can have different investors for LIHTCs and HTCs.
8
Fundamentals of New Market Tax Credits
• NMTC program has been in existence for almost 10 years.
• Provides dollar for dollar federal income tax credit for investments in
community development entities (“CDEs”) that use substantially all the
invested funds to make investments in qualifying low-income community
businesses (“QALICBs”).
• QALICBs must be located in low-income communities designated by census
tract. Certain businesses are excluded (e.g. residential rental activities, golf
courses, country clubs, horse tracks and other gambling businesses,
massage parlors, stores where principal business is sale of alcohol for
consumption off-premises).
• The U.S. Treasury through the Community Development Financial
Institutions Fund (“CDFI”) allocates to CDEs the dollar amounts on which
NMTC can be claimed through highly competitive process.
9
Fundamentals of New Market Tax Credits (cont.)
• CDEs are domestic corporations, limited liability companies or partnerships
certified by the CDFI. They must demonstrate a primary mission of
servicing or providing investment capital for low-income communities and
maintain accountability to residents of low-income communities
(representation on governing or advisory boards).
• CDE must invest substantially all of the QEI in QALICBs through “Qualified
Low-Income Community Investments” (“QLICIs”). Can be debt or equity
(but not a “grant”). QLICIs must stay “invested” during 7 year compliance
period to avoid recapture.
• NMTC = 39% of QEI taken over 7 years (5% first 3 years and 6% last 4 years).
• Requirements for qualification as QEI, CDE, QLICI and QALICB are very
technical with primary burden on CDE.
10
Sample Structure
New Markets Tax Credit Structure
• QEI triggers credit delivery period. Total
NMTC = 39% of QEI delivered over 7 years.
Investor
$10M
Qualified
Equity
Investment
(QEI)
100% Interest in CDE,
NMTCs, Profits, Losses
and Cash Flow
Community Development
Entity (CDE)
Loan A
$7M
Loan B
$3M
Qualified Low
Income Community
Business (QALICB)
• Loan A = Qualified Low Income Community
Investment (QLICI) based on market rate
interest. Interest-only with balloon payment
at end of 7 year compliance period.
• Loan B = Also a QLICI. Typically has below
market interest rate (e.g. 2%) and, provided
all other requirements are met (e.g. debt
service on Loan A and Loan B paid, no
violations of NMTC requirements by
QALICB), final payment generally reduced to
fraction of principal outstanding (but QLICI
must be characterized as “bona fide debt”
versus a “grant”).
11
The Tax Credit Marketplace
Federal
North Carolina
South Carolina
Low Income
Yes
Refundable
No
Historic / Mill
Yes
Yes
Yes
New Markets
Yes
No
Yes
Renewable
Energy
Yes
Yes
Yes
Brownfields
No
Yes
Yes
12
Which Credits Work Well Together?
 Low Income and Historic
 Low Income and Renewable Energy
 New Markets and Historic
 New Markets and Renewable Energy
13
HTC Funding
HTC Investor
Managing
Member:
NTCIC Investment Fund
X, LLC
NOLA Manager, LLC
HTC
Project Lender
Local/Regional Bank
Lessor (Landlord)
NOLA Operating Co., LLC
89% Man. Member: NOLA Mgr, LLC
10% Member: NOLA Operating Co., LLC
1% Member: State HTC Investor, LLC
HTC Equity
Master Lease
HTC
Lease
Payment
Master Tenant
NOLA Operating Co., LLC
99.99% Man. Member: NTCIC IFX, LLC
.01% Member: NOLA Manager, LLC
HTC
Equity
State HTC
Investor
LA State Credit Fund
Developer
Tenants
HTC & NMTC Funding
Equity
Leveraged Lender
Local/Regional Bank
Repay SHTC
Bridge Loan
Equity Bridge Loans
Constr./Perm Loans
NOLA Investment Fund, LLC
NMTC
NMTC Equity
HTC & NMTC
Investor
NTCIC Investment Fund X,
LLC
100% Member: NTCIC IFX, LLC
LA State Credit Fund
QEI
SHTC
NMTC
QEI
HTC
NMTC
NTCIC Sub-CDE
Second Sub-CDE
NTCIC Investment
Fund X, LLC
NOLA Investment Fund
III, LLC
QLICI 1
SHTC Equity
Managing
Member:
Repay HTC Bridge
Loan
Project Investment Fund
State HTC
Investor
Affiliated
Developer
Entity
QLICI 2
Lessor (Landlord)
NOLA Operating Co., LLC
89% Man. Member: NOLA Mgr, LLC
10% Member: NOLA Operating Co., LLC
1% Member: State HTC Investor, LLC
HTC Equity
Master Lease
HTC
Lease
Payment
Master Tenant
NOLA Operating Co., LLC
100% Member: NTCIC IFX, LLC
HTC
Equity
NOLA Manager, LLC
Developer
Tenants
Combining The Tax Credits
Federal Historic Tax Credits:
Total Qualified Costs:
QREs
Tax Credit Percentage
Federal Credits
Federal Credit Price
Total Equity to Developer
$12 M
20%
$2.4 M
$1.00
$2.4 M
Combining The Tax Credits
New Markets Tax Credits:
NTCIC CDE Allocation
$ 11 M
2nd CDE Allocation
$
Total QEI
$ 16 M
Tax Credit Percentage
New Markets Credits
New Markets Credit Price
NMTC Equity to Project
5M
39%
$6.24 M
$.70
$4.37 M
Combining The Tax Credits
Total Tax Credit Investment:
Federal Equity
$2.40 M
NMTC Equity
$4.37 M
TOTAL EQUITY
$6.77 M
What Makes a Project Attractive to Investors
• Tell a good story
– Project Economics (low loan-to-value, strong debt service coverage
ratios, pre-leasing)
• Minimize risk of something going wrong
– High level of Community Impact
• Job creation
• Grocery or other services
– Developer Experience
• Market (CRA)
Issues for Lenders with NMTC
• Lack of direct security interest
• Forbearance
• 7 years, interest-only
• Limited reserve accruals
Sponsor as Leveraged Lender
• Sponsor receives grants, pledges or other funds and loans them through
the new markets structure
• Caveats
– Understand the restrictions on the money being enhanced
• Some grants only fund on a % of completion basis,
• Some grants/loans need to be secured by mortgage on property (AHP)
– Labor Intensive for Sponsor
• Set up new entity to act as QALICB
• Annual reporting requirements
• Need to have cash at closing for leveraged loan
INVESTOR
NMTC Equity $
SPONSOR
Leveraged Lender (LL)
2,925,000
$
7,075,000 NMTC Leveraged Loan
Total $ 10,000,000
Investment Fund
100%IM
QEI $ 10,000,000
NMTC $
CDE
QLICI
Loan $ 7,075,000
Equity $ 2,925,000
Total $ 10,000,000
TBD LLC
QALICB
Rent payments
via
operating lease
SPONSOR
(operating entity)
3,900,000
Legislative Update & Current Bills
• Codification of Economic Substance – impact on Tax Credit Transactions
• HR 4213
– Extend LIHTC 1602 for 9%, extend NMTC program, extend GO Zone Deadlines for LIHTC and GO Zone
HTC
• S 3326
–
5 year carry-back provision for LIHTC investments, extend 1602 for a year and expand 1602 to 4%
credits
• HR 2628 / S 1583
– Multi-year extension of NMTC program, increase the annual funding and exempt NMTC from AMT
• HR 3715 / S 1743
– Several enhancements to the HTC program
• HR 2336
– Energy retrofits for real estate owners
• HR 4868
– Affordable Housing preservation bill
Contact Information
Robert L. Mendenhall
704.444.3520
Marshall Phillips
704.295.9394
rmendenhall@mayerbrown.com
marshall.phillips@reznickgroup.com
Kirk Carrison
Leigh Ann Smith
919.688.5600
980.386.3855
kirk_carrison@ntcicfunds.com
leigh.ann.smith@baml.com