On Tuesday, February 13th, the U.S. Treasury Department’s Community Development Financial Institutions Fund (CDFI Fund) awarded $3.5 billion in New Markets Tax Credit allocation to 73 community development entities throughout the country. Based on the terms of the awards, it is expected that approximately $2.47 billion of allocation will be deployed to support businesses in low income communities and $1.03 billion will be deployed for the development of real estate projects.
The priority is the deployment of New Markets Tax Credit authority in underserved states which in this round include Arkansas, Florida, Georgia, Idaho, Kansas, Nevada, Tennessee, Texas, West Virginia, and Wyoming. Though these states are priorities, projects from all states have opportunities for NTMC financing.
Certain program restrictions limit use of NMTCs for financing residential projects but NMTC financing can be (and has often been) used for mixed-use projects with a residential component (79 percent or less).
The New Markets Tax Credit Program, established by Congress in December 2000, permits individual and corporate taxpayers to receive a non-refundable tax credit against federal income taxes for making equity investments in vehicles known as Community Development Entities (CDEs). Since the program’s inception, New Markets Tax Credit investments are estimated to have created nearly 750,000 new jobs and supported the construction of more than 200 million square feet of retail, manufacturing, and office space. As the communities benefitting from these investments develop, they become more attractive to investors, creating a ripple effect that spurs more investment.
There are certain “rules of thumb” regarding these NMTC loans.
- First, a NMTC “subsidy” or “equity” is equal to about 25 percent of the project cost (all inclusive).
- The NMTC subsidy is usually interest only for seven years and is effectively forgiven at the end of the seven-year term.
- One doesn’t need to sell the tax credits, buyers are typically lined up by the CDE.
- A community benefit is typically attached to the project.
- Most NMTC projects don’t have to be “affordable” and are often market rate.
- Don’t assume your community doesn’t qualify for New Markets Tax Credits. By way of example in Southern California, parts of Santa Monica, Hollywood, Westwood, and most of greater Los Angeles qualify (see shaded areas in the map on the right).
Obtaining NMTC Financing for Projects
Obtaining NMTC financing for a development project is competitive. Since CDEs must regularly reapply to the CDFI Fund for NMTC allocations, CDEs seek to finance projects that best meet the goals of the NMTC program. Projects that provide real, measurable benefits to communities are the ones most likely to receive financing.
High impact projects will generate the most interest from CDEs and the best pricing from tax credit investors. These types of projects tend to:
- Create a large number of jobs, or create higher quality jobs than currently exist in the area;
- Provide needed goods or services for the community;
- Create environmentally sustainable outcomes; and/or
- Fulfill other important community needs.
Charter schools, job training centers, business incubators, health clinics, green commercial buildings and grocery stores in underserved areas are examples of high impact projects that often receive NMTC financing. Many CDEs finance projects that have a demonstrated need or financing gap that only NMTCs can fill.
How do New Markets Tax Credits Work?
The NMTC program provides federal income tax credits equal to 39% of Qualified Equity Investments (QEIs) in Community Development Entities (CDEs) that serve as intermediary vehicles for the provision of loans, investments, or financial counseling in Low Income Communities (LICs). By way of example, a $20 million development project within an LIC would generate $7,800,000 in federal tax credits, e.g., 39% of $20 million. At closing, a simple $20 million leverage loan NMTC structure would take on the form diagrammed below:
In the above diagramed structure, the tax credit investor (typically a bank) purchases the federal tax credits at a discounted rate of $0.72 on the dollar. Over the last few years, the purchase price for NMTC has ranged from $0.68 to $0.87. The CDE takes a fee at closing of four percent of the total QEI or project cost or $800,000. The NMTC loan is $4.816 million, interest only for seven years and typically non-recourse to borrower.
At the conclusion of the seven-years, the NMTC loan is subject to a put/call agreement allowing the Developer to purchase the $4,816,000 QLICI B promissory note for $1,000 or $10,000. This put/call arrangement is why the NMTC loans are often referred to as “forgivable loans.”
Entrepreneurs and real estate developers should consider New Markets Tax Credit financing as an option for funding their companies or their projects.
If you would like a copy of the guide book which describes the program and gives a list of the allocatees, click here. If you would like a free assessment of your project’s NTMC potential, contact us here. We’d love to talk to you about your project.