Rehabilitation Tax Credit and Low-Income Housing Tax Credit (Portfolio 584)

Part of Tax

Tax Management Portfolio, Low-Income Housing Tax Credit, No. 584-2nd, provides an in-depth analysis of the tax credit for the acquisition, construction, and/or rehabilitation of low-income housing.


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Tax Management Portfolio, Low-Income Housing Tax Credit, No. 584-2nd, provides an in-depth analysis of the tax credit for the acquisition, construction, and/or rehabilitation of low-income housing. The low-income housing tax credit is calculated as a percentage of the eligible costs of acquiring, constructing, and/or rehabilitating a building that will provide low-income housing (the “eligible basis”), adjusted for the portion of the building occupied by low-income households (the “qualified basis”). The credit is claimed annually for 10 years, provided that low-income use is maintained continuously throughout a 15-year “compliance period” and the taxpayer commits to maintaining the project as a low-income housing project for an “extended use” period of at least an additional 15 years after the end of the compliance period (i.e., a total of 30 years). To qualify for the low-income housing credit, the building must receive an allocation of credits from a designated state agency (or be financed with tax-exempt bonds that are subject to a state's “volume cap”) and at least a specified percentage (which can vary) of the units in the project must be occupied by persons whose incomes are substantially below the local area median. In addition, rents paid by low-income tenants are restricted to 30% of the imputed income limitation for each unit, based on the number of bedrooms in each unit.

The many technical rules and compliance requirements that must be met in order to claim the low-income housing tax credit are analyzed in Sections II through XV of this Portfolio. Important ancillary considerations, including exit issues, partnership allocation issues, state low-income housing tax credits, and certain limitations on the use of low-income housing tax credits, including the at-risk and passive loss rules, are discussed in Sections XVI through XXV.

This portfolio may be cited as Machen, McDermott, and Lavin, 584-2nd T.M., Low-Income Housing Tax Credit.


James E. McDermott, Esq.

James E. McDermott is a Partner of Holland & Knight and is the Section Leader for the Firm's Business Law Section; B.A., magna cum laude, Political Science, Boston College; J.D., cum laude, Boston College Law School; Editor, Boston College Environmental Affairs Law Review; Vice President, Affordable Housing Tax Credit Coalition; Governing Committee (Chair 2012–2013), ABA Forum on Affordable Housing and Community Development; Director, Preservation Massachusetts, Inc.; member, Massachusetts Low-Income Housing Tax Credit Implementation Committee, Housing Advisory Group, National Housing & Rehabilitation Association; speaker and lecturer, various tax institutes; author, various articles on tax issues.

William F. Machen, Esq.

William F. Machen is Of Counsel at Holland & Knight; B.A., Wesleyan University; J.D., University of Michigan Law School; Former Director, National Housing & Rehabilitation Association; Director, Historic Tax Credit Coalition; member, American Bar Association, Massachusetts Bar Association, Affordable Housing Tax Credit Coalition, Historic Preservation Development Council; speaker and lecturer on real estate, tax and business planning issues for a variety of forums, including Massachusetts Continuing Legal Education, Southern Federal Tax Institute, IPED, Foundation for Continuing Education, Bentley College, the Federal Tax Institute, the National Housing and Rehabilitation Association, the National Council of State Housing Agencies, and other panel discussions and seminars presented in cooperation with accounting firms and other industry experts; author, The Rehabilitation Tax Credit: A Practitioner's Guide to the Technical Tax Issues (ABA 2015), as well as various articles on tax issues.

Eric J. Lavin, Esq.

Eric J. Lavin is an associate of Holland & Knight; B.A., magna cum laude, Philosophy, Occidental College (Phi Beta Kappa); J.D., Boston University School of Law; LL.M. in Taxation, Boston University School of Law; Symposium Editor, American Journal of Law & Medicine; member, State Bars of California, Massachusetts.

Table of Contents

Detailed Analysis
I. Background and Overview of the Housing Tax Credit
Introductory Material
A. Congressional Objectives
B. Overview of the Housing Tax Credit
C. Allocation of the Credit by States
D. Qualification for the Housing Tax Credit
E. Credit Amount
F. Exceptions to the General Rules
1. Below-Market Federal Loans
2. Tax-Exempt Financing
3. Federal Grants
4. Increase in Credit for Certain Areas
G. Example
II. Calculation of Credit Percentage
A. Overview
B. The 70% Present Value Credit
C. The 30% Present Value Credit
D. Determination of Applicable Percentages
1. Calculation Method
2. Binding Agreement to Elect Applicable Percentage
3. Electing the Applicable Percentage
4. Example
E. Treatment of Certain Rehabilitation Expenditures as a Separate [New] Building
1. Definition of Rehabilitation Expenditures
2. Substantial Rehabilitation Requirement
3. Buildings Acquired From Governmental Units
4. Placement in Service and Applicable Fraction
5. Existing Building Limitations Do Not Apply
6. No Double Counting
7. Illustration of Calculations
8. Transferees
9. Groups of Units
F. Federal Subsidy Determination
1. Overview
2. Buildings Placed in Service On or Before July 30, 2008
3. Loan Derived From Federal Funds
4. Attribution of Federal Funds to Entire Project
5. Qualifying for the 70% Credit on Projects That Have Federally Subsidized Loans
6. Exceptions to Federally Subsidized Loan Rules With Respect to Buildings Placed in Service On or Before July 30, 2008
a. Construction Financing
b. Community Development Block Grant Funds
c. HOME Funds and Native American Housing Assistance
d. Affordable Housing Program Funds
e. Oil Stripper Settlement Funds
f. Exceptions for Natural Disaster
III. Calculating Eligible Basis
A. Overview
B. Definition of Eligible Basis
1. General Rule
2. Includible Costs
C. Allocation of Costs
D. Existing Buildings
1. Statutory Conditions
a. If GP Is an Individual
b. If GP Is a Corporation
c. If GP Is a Partnership
d. If GP Is a Grantor of a Trust
e. If GP Is a Fiduciary of a Trust
f. If GP Is a Beneficiary of a Trust
g. If GP Is or Controls an Exempt Organization
2. Exceptions to Placed in Service Rule
3. Disproportionate Unit Rule
4. Residential Rental Property
5. Form of Ownership
6. Lease-Purchase Arrangements
7. Assisted Living Facilities
8. Treatment of Various Other Costs for Eligible Basis Purposes
a. Amenities and Common Facilities
b. Interest and Financing Costs
c. Developer Fees
d. Tenant Relocation Costs
e. Environmental Costs
f. Tax Credit Application and Allocation Fees
9. Ancillary Costs
10. Offsite Improvements
11. Community Service Facilities
12. No Deduction for Depreciation
13. Federal Grants
14. Qualified Census Tracts and Difficult Development Areas
15. Step-in-the-Shoes Rule
16. Section 266 Election
E. Adjustments for Other Rehabilitation Incentives
IV. Qualified Basis
A. General
B. Special Rule for Housing for Homeless Individuals
C. Occupancy Requirement
D. First Year Calculation
E. Example
F. Increases in Qualified Basis
G. Resident Managers and Security Officers
V. Minimum Set-Aside and Rent Restriction Tests
A. Overview
1. Minimum Set-Aside Test
2. Rent Restriction Test
3. Time for Satisfying Tests and Election to Defer Credit Period
4. Tests Applied at Project Level
5. Residential Rental Property
6. Nontransient Occupancy
B. Low-Income Use Requirements
1. General
2. Required Incomes for Low-Income Units
3. Income Standards
4. Changes in Tenant or Median Income
5. Irrevocable Set-Aside
6. Projects With Buildings Placed in Service on Different Dates
C. Application of the Rent Restriction Rules
1. Imputed Income Limitation Based on Number of Bedrooms
2. Utilities
3. Rent Subsidies
4. Support Services
VI. Housing Tax Credit Allocation Process
A. Housing Tax Credits Derived From Tax-Exempt Financing
1. General Rule
2. Volume Cap and Other Requirements
3. Project Must Comply With Qualified Allocation Plan
B. Housing Credit Agencies
1. In General
2. Qualified Allocation Plans
a. In General
b. Housing Priorities Selection Criteria
c. Reasonableness of Costs
C. Limit on Credit Allocated
D. Making Housing Tax Credit Allocations
E. Standard Allocations
1. Allocation Made by Issuance of Form 8609
2. No Need for State Agency to Investigate the Building Before Completing Part I of Form 8609
F. Overview of Carryover Allocations
1. Requirements for Qualification
2. Temporary Relief From 10% Test and Two-Year Rule
G. Application of the 10% Test for Carryover Allocations
1. General
2. Determining Basis
3. Accounting Method
4. Inclusion of Application and Monitoring Fees in Carryover Basis
5. Verification by Agency
H. Form of Carryover Allocation
I. Allocation of Additional Housing Tax Credits
J. Unused Credits
K. Additional Rules Related to Allocations
L. Extended Low-Income Housing Commitment
1. Requirement of the Agreement
2. Terminating the Extended Use Period Early
M. Allocation of Housing Tax Credits on a Project Basis
VII. Mixed Income Projects and the Available Unit and Vacant Unit Rules
A. Special Issues Raised by Mixed Income Projects
B. The Available Unit Rule
1. Increases in Tenant Income
2. Annual Recertifications
3. Comparable Unit
4. Move to Vacant Unit
5. When Is a Unit Deemed To Be Available
6. Special Rules
7. Impact of Failure to Comply
8. Correction of Noncompliance With Available Unit Rule
9. Impact of Income Averaging Election
10. Example
C. Vacant Unit Rule
1. Legislative History
2. Exception
3. Annual Recertifications
4. Reasonable Attempts
5. Available Unit Rule Has Precedence
6. 100% Low-Income Buildings
7. Acquisition/Rehabilitation Transactions
VIII. Scattered Site Projects
A. General Rule
B. Scattered Site Exception
IX. Placed in Service Rules and the Start of the Credit Period
A. Overview
B. IRS Guidance
X. State and Local Housing Credit Agencies
A. Overview
B. Apportionment of Credit Ceiling
C. The Special Case of Illinois — Constitutional Home Rule Cities
D. Regulatory Guidance
XI. Housing Tax Credit Allocations and Tax-Exempt Bond Financed Projects
A. Overview
B. Calculating Each State's Housing Tax Credit Ceiling
C. Disaster Relief
D. The Unused Carryforward Component
E. The Population Component
F. The Returned Credit Component
G. The National Pool Component
H. Stacking Order
I. Example
J. Portion of State Ceiling Set-Aside for Nonprofit-Sponsored Projects
K. Treatment of Subsidiaries — Accommodating a Typical Housing Tax Credit Structure
L. Application to Tax-Exempt Bond Financed Projects
M. Establishing Criteria for Making Allocations — Qualified Allocation Plans
N. Financial Feasibility Analysis
O. Application to Projects Financed With Tax-Exempt Bonds
XII. Depreciation and Tax-Exempt Use Property
A. Pre-2017 Tax Act Recovery Period Rules
B. 2017 Tax Act
1. Residential Rental Property and Nonresidential Real Property
2. Expensing of Certain Improvements
C. Residential Rental Property
D. Allocation of Costs
E. Tax-Exempt Entity Leasing Rules
F. Governmental Instrumentalities and the §168(h)(6)(F) Election
1. Overview
2. The Statutory Framework
a. Section 168(h)(6)(F) Election
b. Treatment of Instrumentalities
3. Treatment of LLC Electing To Be Taxed as C Corporation.
4. Determining Instrumentality Status
a. Rev. Rul. 57-128
b. Section 414 Factors
c. IRS Private Letter Rulings
d. ARRA §1603 Grants
e. The Esquenazi Case
5. Tax Status of Instrumentalities
6. Application of Factors to State Housing Authority
a. Tax Status of Housing Authority
b. Tax Status of Subsidiary
c. Formation of Exempt Organization.
d. Ability of an Instrumentality to Obtain a §501(c)(3) Exemption.
7. Required Analysis
8. Consequences of Instrumentality Status
a. Overview
b. Taxable Subsidiaries
c. Tax-Exempt Subsidiary
XIII. Compliance Monitoring and Reporting Requirements
A. Overview
B. Recordkeeping and Record Retention Provisions
1. Recordkeeping Provisions
2. Record Retention Provisions
C. Certification and Review Provisions
1. Certification
2. Review Provisions
D. Inspection Provisions
E. Notification-of-Noncompliance Provisions
F. Delegation of Authority
G. Fees for Monitoring Expenses
H. Annual Low-Income Housing Credit Agencies Report
XIV. Recapture of Housing Tax Credits
A. Events Causing Recapture
B. Calculation of Recapture Amount
C. Other Rules Applicable to Recapture
D. No Recapture in Certain Situations
E. Disaster Exceptions From Recapture
F. Special Rule for Large Partnerships
G. Casualty Losses
H. Posting Bonds
I. Procedures
J. Example
XV. Correction of Administrative Errors
A. Section 42(n)(4)
B. Definition of Administrative Error or Omission
C. When Is Prior Approval Needed?
D. Form of Request for IRS Approval
E. Automatic Approval for Certain Corrections
XVI. Exit Issues
A. Overview
B. Statutory Right of First Refusal
1. Section 42(i)(7)
2. Homeowner's Rehab, Inc. Case
C. Put and Call Options
1. Impact of a Put Option
2. Administrative and Judicial Authority
3. Determining Fair Market Value
D. Foreclosures and Qualified Contracts
1. Overview
2. Qualified Contract Regulations
3. Example
E. Charitable Contribution or Bargain Sale of Interest
F. Resyndication
XVII. How Housing Tax Credits Are Allocated by a Partnership
A. General
B. Nonrecourse Deductions
C. Partner Nonrecourse Deductions
D. Stacking Rules
E. Minimum Gain Chargebacks
F. Tiered Partnerships
G. Substantiality
1. General
2. Shifting and Transitory Allocations
3. Overall Substantiality Test
H. Allocation of Housing Tax Credits
XVIII. State Tax Credits
Introductory Material
A. Background
B. Fundamental Federal Income Tax Issue
C. The Landscape Prior to the Virginia Historic Case
D. The Virginia Historic Case
E. Post-Virginia Historic Transactions
F. The Route 231, LLC Case
G. Character of Gain
H. Timing of Income
I. Example
J. Impact of 2017 Tax Act
XIX. Tax Ownership Issues
A. Background
B. Tax Ownership Criteria
C. Low-Income Housing Transactions
XX. True Debt Issues
A. Overview
B. Debt Characterization Factors
C. Estate of Franklin and Its Progeny
D. Low-Income Housing Transactions
E. Valuation
XXI. Passive Activity and At-Risk Rules
A. Passive Activity Rules
B. At-Risk Rules
C. Example
XXII. Limitations on Interest Deductions Imposed by 2017 Tax Act
XXIII. Other Applicable Provisions of 2017 Tax Act
Introductory Material
A. Corporate Tax Rate and Corporate AMT
C. Deduction for Certain Passthrough Income
D. Modification of the Definition of Built-In Loss
E. Partnership Charitable Contributions and Foreign Taxes Taken Into Account in Determining Partner Loss Limitation Under §704(d)
F. Short-Term Capital Gain With Respect to Applicable Partnership Interests
G. Repeal of Partnership Technical Termination Rules
H. Modification of Rehabilitation Tax Credit
I. Revisions of Treatment of Contributions to Capital
XXIV. Limitation Based on Amount of Tax
XXV. Other Statutory, Regulatory and Judicial Limitations
A. General
B. Section 183
C. Application to Housing Tax Credits
D. Section 701 Regulations
E. Judicial Doctrines
1. Overview
2. Partnership and Partner Characterization Issues
a. Statutory Definitions
b. Culbertson and Early Case Law
c. Section 704(e) of the Code
d. Check-the-Box-Regulations
e. The Business Entity Issue and the Sham Partnership Cases
f. Partnership Debt-Equity Cases
g. Application of Law to Housing Tax Credit Transactions
h. Rev. Proc. 2014-12
3. Economic Substance Issues
4. Codification of Economic Substance Doctrine

Working Papers

Table of Worksheets
Worksheet 1 Glossary of Housing Tax Credit Terms
Worksheet 2 CRS Report: “An Introduction to the Low-Income Housing Tax Credit”
Worksheet 3 Exceptions to Low-Income Housing Rules for Federally-Declared Disaster Areas
Worksheet 4 Government Instrumentality Rules
Worksheet 5 Number of Low-Income Units for Inspection and Low-Income Certification Review
Worksheet 6 Partnership Allocation Example
Worksheet 7 State Low-Income Housing Tax Credits
Worksheet 8 Computation of Low-Income Housing Tax Credit — Example
Worksheet 9 IRS Memo Outlining Criteria for Low-Income Housing Tax Credit Limited Partnerships
Worksheet 10 Housing Tax Credits Program Commitment
Worksheet 11 2017 Carryover Allocation Agreement
таблетки для потенции

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