News

TCAP Grants Considered Income By IRS

In Chief Counsel Advisory (CCA) 201106008, issued December 3, 2010, the Office of Chief Counsel of the IRS stated that because the American Recovery and Reinvestment Act of 2009 (the Recovery Act) did not specifically exclude Tax Credit Assistance Program (TCAP) grants from gross income, and the grants are not excluded for income tax purposes by any provision of the tax code, TCAP grants are includable in a recipient s gross income for federal income tax purposes. In the case of a TCAP grant, the recipient will normally be a partnership or corporation. For tax payers using the cash receipt and disbursement accounting method, the grant is not includable in gross income until the taxpayer may actually draw down on the funds. When the owner has access to the funds, the grant amount becomes taxable income. Taxpayers using the accrual method of accounting must take the grant into income when the project owner and the state agency execute the TCAP written agreement, unless the TCAP agreement provides that the grant is due at another time. Owners who have received TCAP grants for the development of a project should discuss tax liability issues relating to the grant with their accountant.

State Agencies Getting Tough on Developers

Agencies in a number of states have tightened the requirements for developers with regard to being eligible to apply for tax credits. Iowa, Texas, and Florida have all added requirements that expand the ways applicants may be deemed ineligible for the LIHTC program. In Iowa, the 2011 Qualified Allocation Plan contains provisions that allow for the barring of a development team member or other significant party due to receipt of an 8823, regardless of whether the problem has been corrected. The state also will deem parties ineligible for program participation if, within the prior ten years, they have gone into bankruptcy, had an adverse fair housing settlement, or a civil rights settlement. The 2011 Texas QAP indicates that an applicant is ineligible for credits if any owner, developer, or guarantor involved with the application has breached a contract with a public agency and failed to cure the breach, or misrepresented to a subcontractor the extent to which the developer benefited from a public agency award. Owners will also be ineligible if they have been removed as a principal from an income/rent restricted multifamily development by a lender, investor, or other owners during the prior ten years. Florida is proposing a rule change that will require development team members to undergo increased financial scrutiny. The proposal would permit the state to require information on past projects and the financial history of any team member. Those with poor past performance records, a lack of financial capacity, or any other unsatisfactory finding will receive a negative recommendation by the underwriter, which would make application approval very difficult.

State Allocating Agency Priorities for 2011

A review of the Qualified Allocation Plans (QAPs) of the State Allocating Agencies indicates some new priorities and directions for a number of states with regard to the Low-Income Housing Tax Credit Program. For example, the Massachusetts Department of Housing & Community Development (MDHCD) is imposing a limit of two applications per development team. This is to prevent some developers from dominating the credit program, which would affect the support of the program among the broader development community. One of the noticeable trends in 2011 is toward the development of smaller or rural projects. The Wyoming Community Development Authority (WCDA) has a set-aside for areas with populations of 7,500 or less, and is providing a 30% boost in eligible basis for projects with no more than 12 units. The Virginia Housing Development Authority (VHDA) is giving additional points for projects with 50 units or less. VHDA is also increasing points for preservation projects. Other agencies, such as the allocating agencies in Maryland and California, are taking steps to increase the energy and resource efficiency of LIHTC projects. In Maryland, preservation projects must have an energy audit and submit an energy improvement report to be eligible for an allocation. Substantial rehab projects that already comply with current energy conservation codes are exempt from the requirement. Developers planning on 2011 deals are encouraged to examine the QAP in any state in which applications are planned, and tailoring those applications to give them the best chance for success. Small projects and preservation are being stressed by many agencies this year, while larger, new construction projects are less favored than in the past.

HUD/IRS Agree on Protocols for Physical Inspections

The Internal Revenue Service and HUD have reached a preliminary agreement that will allow HUD REAC inspections to satisfy IRS physical inspection requirements for tax credit properties with project-based Section 8 assistance. Also, HUD will be able to rely on Housing Allocation Agency inspections instead of REAC inspections. This preliminary agreement was reached in a meeting between HUD and IRS officials on January 10, 2011. This agreement is part of the ongoing discussions between HUD, IRS, Rural Development, and the Treasury Department. The goal of this interagency task force is to develop uniform requirements for the tax credit and other affordable housing programs. While it would be fairly easy to use a HUD REAC inspection for Section 42 purposes, the HUD required scoring for REAC creates problems in terms of using an HFA inspection for HUD purposes. To address this, HUD and the IRS have discussed creating a streamlined scoring system for tax credit properties with Section 8 assistance. HFA staff would have to be training in the use of this system, and if they agreed to do so, HUD could use the inspection results from the HFA. Keep in mind that these discussions are in a preliminary stage, and at this point, there is no change in the inspection requirements for tax credit/Section 8 properties. Federal officials plan to issue a written proposal on the new inspection standards in the Fall of 2011.

Lack of Habitability – Impact on the Applicable Fraction

The LIHTC program requires that in order for credits to be claimed, low-income projects and units must be suitable for occupancy under regulations prescribed by the Secretary of the Treasury. Units that are not suitable for occupancy on the last day of the taxable year may not be included as low-income units in a building s applicable fraction. The IRS recently provided an example of how a reduction in the applicable fraction as a result of a habitability issue can impact a buildings credits; I believe it is instructive for all those involved in the operation of tax credit projects to relay that IRS example. Assume a 100% low-income building with ten residential units. At the end of the year, three of the ten units are not suitable for occupancy. Using the Unit Fraction calculation, the Applicable Fraction is 70% (7 10). Since the Applicable Fraction of a building is the lesser of the Unit Fraction or the Floor Space Fraction, the affected square footage must also be examined. Assume the building contains five units of 1,000 square feet each and five units with 1,200 square feet each, for a total of 11,000 square feet. All three out of compliance units were units with 1,200 square feet. The building has now lost 3,600 square feet of low-income space leaving 7,400 low-income square feet. 7,400 11,000=.6727, so the Floor Space Fraction is 67%; this is the buildings new Applicable Fraction - at least for that year. Suppose the eligible basis of the building is $833,333 with 9% credits. This means the annual credit for the building is $75,000 (833,333 X1.00 X .90). When the Applicable Fraction is reduced to 67%, the calculation is now as follows: Eligible Basis: $833,333 time Applicable Fraction of 67% = qualified basis of $558,333. This qualified basis times the 9% tax credit = annual credits of $50,250, resulting in a credit reduction for that tax year of $24,750. Now, here is where it gets ugly. Because the qualified basis is less than it was at the end of the prior tax year, the recapture provisions of 42(j) are applied. Suppose this was the sixth year of the compliance period. The recapture rate is .333; $24,750 X .333 = $8,241; this is the amount that must be paid back for each of the first five years of the compliance period, or $41,205. This amount, plus interest, must be paid back. When the interest is added, the total due the IRS would be $50,461; all this just because management failed to make three units suitable for occupancy by the end of the year. The IRS continues to make it clear that units that are vacant and not turned to be made market ready are not eligible for credits. Hopefully, this example will serve notice that the penalty for failing to turn units can be severe - so, no matter how long a unit may be vacant, turn it and get it market ready. Failing to do so can have severe consequences.

Red Flags Rule

The Federal Trade Commission (FTC) has issued a new rule that goes into effect on January 1, 2011, called the "Red Flags Rule." This rule requires certain businesses to develop written plans to fight identify theft. The Red Flags Rule requires financial institutions and creditors with "covered accounts" to develop and implement written identity theft prevention programs. While this should not generally impact apartment owners or managers, there are two circumstances where a multifamily operator could fall under the rule: 1. You enter into a partial payment agreement with a tenant. If your policies permit you to collect past due rent or other debt on a payment plan, you would be considered a creditor and come under the law; or 2. You sub meter utilities and bill tenants for the use of utilities after the fact. If you fall into either of these categories, you may be subject to the rule, especially since the FTC has stated that it will take a broad view of the rule and who is bound by it. In this case, it may be a good idea for you to develop a simple prevention program for Businesses and Organizations at low-risk for identity theft. The FTC has created a simplified form for low-risk businesses that can be found at: http://www.ftc.gov/bcp/edu/microsites/redflagsrule/RedFlags_forLowRiskBusinesses.pdf

RD Issues Unnumbered Letter Regarding Non-Smoking Properties

On December 29, 2010, the Rural Development Service issued an Unnumbered Letter outlining the policies that owners of RD assisted properties may put into place if they wish to ban smoking at RD assisted multifamily properties. Owners may ban smoking in units, common area, and on the grounds of a property, or may choose to permit smoking in units but not in common areas. The Unnumbered Letter provides the following guidance for owners who wish to establish non-smoking policies. Any non-smoking policies must be developed in accordance with State and local laws. Unless the owner completely bans smoking on the property, including in units, written policy should be developed addressing smoking in units, common areas, playground areas, areas near exterior windows or doors, and areas outside tenant units. Areas where smoking is permitted should be clearly designated with signage. Owners who elect to take their properties non-smoking may not do the following: 1. Deny occupancy to any individual who smokes or to any individual who does not smoke who is otherwise eligible for admission; 2. Applicants may not be asked whether they or any member of their household smokes. However, applicants must be informed of any non-smoking requirements for a project. Owners may not maintain waiting lists specific to smoking or not smoking. Grandfathering Owners may grandfather existing residents who smoke, as long as the rules relating to grandfathering are clearly outlined in the Occupancy Rules. Owners interested in making Section 515 properties non-smoking should obtain a copy of the Unnumbered Letter.

Rural Development Focusing on Energy Efficiency for New Projects

In FY 2010, the Rural Housing Service funded 31 multifamily housing projects; in each case, energy efficiency was made a priority. The goal of RHS is "net zero" energy usage, meaning that the renewable energy produced on site equals the energy consumed. 2011 projects will also be viewed with this policy in mind. [clear h="10"] The net zero goal will take some time to meet on a National level, and only two of the approved 2010 properties - both in California - meet the standard. [clear h="10"] Developers applying for RHS financing in 2011 will be require to meet the following standards: Energy Star and Energy Builder s Challenge from the Department of Energy; Enterprise Green Communities; Leadership in Energy and Environmental Design (LEEDS) for Homes from the U.S. Green Building Council; and the NAHB national green building standard. [clear h="10"] Other elements that RHS will look for in the design of affordable multifamily properties include passive solar design; insulation with high R-values; low-energy lighting, appliances and equipment; and educated and motivated tenants. Designs may also include renewable energy sources such as solar, wind, biomass, or biofuel. RHS is also encouraging geothermal exchange systems to assist in achieving the net zero goal. [clear h="10"] Developers planning 2011 multifamily applications through the RHS should keep these considerations in mind when developing the projects; failure to meet these standards will almost certainly result in a failure to obtain financing.