1. IPED HOUSING TAX CREDITS 101 San Francisco, California July 24-25, 2008 Molly R. Bryson Thomas A. Giblin

2. 2 Background Part of 1986 Tax Reform to Encourage the Construction and Rehabilitation of Low-Income Rental Housing Administered by the Treasury Department and Allocated by State Agencies Contained in Section 42 of the Tax Code Emphasis on Private Sector Involvement (i.e. Developing and Managing Projects) Objective: To Provide Investor Equity to Lower Debt Service, Thereby Lowering Rents Credit is a Dollar-for-Dollar Tax Reduction Credit Amount Based on the Cost of Constructing or Rehabilitating Housing Developments

3. 3 Program Requirements Minimum Percentage of LIHTC Units (20/50 or 40/60) Minimum 30-Year Affordability Commitment Maximum Rents Limited for LIHTC Units Maximum Income Limited for Households Renting LIHTC Units Projects Subject to IRS and State Regulation/Compliance

4. 4 Credits Are Limited In 2000, Congress Raised Cap from $1.25 to $1.50 in 2001, $1.75 in 2002, and Thereafter Adjusted for Inflation $2.00 Per Person for 2008 $2,325,000 State Minimum in 2008 State Allocation Volume Limit

5. 5 Volume Limit Rules Example: – State With Three Million Population Has $6,000,000 in Credits in 2008 Allocated Amount is for One Year of Credit 10% Nonprofit Set-Aside 50% Test: Private Activity Tax-Exempt Bonds Subject to Bond Volume Cap; No Credit Allocation Needed

6. 6 Qualified Allocation Plans State Must Adopt QAP to Allocate Credits QAP Must Set Forth Allocation Priorities QAP Must Give Preference To: – Lowest Incomes – Longest Period of Low-Income Use – QCT Projects Contributing to a Concerted Revitalization Plan QAP Must Provide Procedure for Notifying IRS of Non- Compliance Bond Financed Projects Must Satisfy QAP

7. 7 Project Evaluation Credit May Not Exceed Amount State Agency Determines Is Necessary for Feasibility and Viability Agency Must Consider: – Sources and Uses – Amounts Expected to Be Generated by Tax Benefits – Reasonableness of Development and Operating Costs

8. 8 Project Evaluation (Contd) Evaluation Occurs at Application, Allocation and Completion Owner Must Certify as to Amount of Subsidies For Tax-Exempt Bond Financed Projects, Issuer Must Make Similar Evaluation Agency Must Require Market Study Paid by Developer

9. 9 Industry Participants Congress IRS/Department of Treasury State Tax Credit Agencies Developers/Owners Property Managers Syndicators/Investors GSEs Nonprofits State/Local Governments HUD Tenants Tax Professionals

10. 10 Who Can Use Credits? C Corporations Can Use Credits and Losses Against Ordinary Income and Taxes Limitations on Closely-Held Corporations Individuals Limited Under Passive Loss Rules to Approximately $9,900/Year at the 39.6% Rate Cannot Use Credits Against Alternative Minimum Tax

11. 11 Structure Investor LP $$$ Syndicator GP Investment Partnership LP Local GP Developer Operating Partnership

12. 12 Key Business Terms Projects Owned by Limited Partnership or Limited Liability Company Limited Partner Generally Owns 99.99% of Tax Credits, Losses and Profits Limited Partner Pays in Capital Contributions in Multiple Installments (Generally 3 or 4), Based on Negotiated Benchmarks General Partner Guarantees Completion, Amount of Credits, and Funding of Deficits

13. 13 Tax Credit Development Timeline July 2008Read State QAP. Analyze Prior Winners, Meet With Staff. July 2008Pick Site, Plan Type of Project. August 2008Develop Cash Pro Formas and Construction Budget. Investigate Loan Availability and Interest Rates. Request Market Study. November 2008Option Land (With Conditions Regarding Zoning, Approvals). November 2008Apply for Soft Loans/Grants, if Necessary. December 2008Receive Soft Loan Commitment.

14. 14 Tax Credit Development Timeline (Contd) March 2009Apply for Tax Credits. May 2009Receive Reservation of Tax Credits. May 2009Work on Site Plan and Zoning Approvals. Submit Applications for Construction and Permanent Loans. July 2009 Obtain Site Plan and Zoning Approvals. July 2009Purchase Land. Select Equity Investor and Execute Letter of Intent. Execute Commitment Letter for Debt/Equity. November 2009Submit Cost Certification of 10% of Reasonably Expected Basis for Carryover Allocation (State Deadlines Vary). December 2009Obtain Carryover Allocation.

15. 15 Tax Credit Development Timeline (Contd) January 2010Close on Equity Investment and Construction Loan. Begin Construction. November 2010Finish Construction. Begin Leasing. January 2011 Start First Year of Credit Period. Continue Leasing. Submit Cost Certification for Forms 8609. April 2011Achieve Full Lease-up and Beginning of Break-Even Period. Obtain Forms 8609. September 2011Close Permanent Loan and Achieve Final Equity Contribution. December 31, 2011Place All Buildings in Service.

16. 16 Calculating Credits/Defining Terms Annual Credit Amount = Applicable Percentage X Qualified Basis Annual Credit Amount Available for 10 Years Credit Period Begins When a Building is Placed in Service Unless the Taxpayer Elects to Defer the Start of the Credit Period to the Next Taxable Year First Year Credit Reduced to Reflect Qualified Occupancy During First Credit Year

17. 17 Applicable Percentage Two Credits: – 70 Percent Present Value Credit (9% Credit) – 30 Percent Present Value Credit (4% Credit) Credit Rates – 7.93% and 3.40% for July 2008 – Lowest Rates for July 2003 (7.78% and 3.33%) Owner Elects to Set Applicable Percentage Either (i) When Receiving a Binding Commitment From the State (or When Tax-Exempt Bonds Issued) (a Lock-in Election), or (ii) When Building Placed in Service

18. 18 9% Credit vs. 4% Credit New Construction RehabilitationAcquisition 9% CreditYes No 4% CreditYes

19. 19 4% Credit for New Construction or Substantial Rehabilitation Federally Subsidized New Construction or Rehabilitation Expenditures – Building Receives Tax-Exempt Bonds or Below Market Federal Loan Below Market Federal Loan – From Federally Appropriated Funds – Interest Rate Below AFR (in July 2008 for Long-Term Loans Compounded Annually, AFR = 4.60%)

20. 20 Exceptions From Federally Subsidized Definition HOME Loan if 40% at 50% Targeting (in Each Building) Community Development Block Grant (CDBG) Loans Affordable Housing Program (AHP) Loans Loan or Bond is Subtracted From Eligible Basis Section 8 Native American Housing Assistance and Self- Determination Act (NAHASDA) of 1996 if 40% at 50% Targeting (in Each Building)

21. 21 4% Credit for Acquisition Based on the Acquisition Cost of an Existing Building Purchase From an Unrelated Party Ten-Year Rule Certain Placements in Service Ignored – Carryover Basis – Acquired From Decedent – Placement in Service by Governmental Unit or Nonprofit Entity – Foreclosure Waiver of Ten-Year Rule From Treasury

22. 22 Substantial Rehabilitation Requirement Expenditures During a 24-month Period Selected by the Taxpayer Must Equal the Greater Of: – $3,000 Per Low-Income Unit, or – 10% of Adjusted Basis Separate New Building

23. 23 9% Credit for New Construction or Substantial Rehabilitation If Not Federally Subsidized

24. 24 Basis Calculations Start With Eligible Basis, Then Qualified Basis

25. 25 Eligible Basis New Construction = Adjusted Basis (Generally, Development Cost Less Land) Acquisition = Acquisition Cost Substantial Rehabilitation = Capitalized Rehabilitation Expenditures (24-Month Rule) Must Subtract Federal Grants 130% Increase in Qualified Census Tracts (QCTs) and Difficult Development Areas (DDAs)

26. 26 Qualified Basis Qualified Basis = Applicable Fraction X Eligible Basis Applicable Fraction is the Lower of: – Number of Occupied Low-Income Units Divided by the Total Number of Residential Units, or – Floor Space Fraction

27. 27 Example of Tax Credit Calculation 100 Unit Project/70 Low-Income Units Total Development Costs (Including Land) = $5.5m Land Value = $500k Eligible Basis = $5.0m Qualified Basis = $3.5m ($5.0m X 70%)

28. 28 Example Tax Credit Calculation (Contd) Applicable Percentage = 7.93% (Not Federally Subsidized) Annual Credit = $277,550 ($3.5m X 7.93%) 10-Year Credits = $2,775,500

29. 29 Common Areas Eligible Basis Includes Cost of Common Areas and Tenant Facilities to the Extent Such Facilities Are Made Available to all Residents Without Additional Charge Common Areas Include Community Rooms, Garages, Laundry Rooms and Pools/Playgrounds Common Areas/Tenant Facilities Must Be Used Exclusively by Tenants of the Tax Credit Property Community Service Facility Exception: Cost of Construction Community Service Facility May Be Included in Eligible Basis Even if Non-Residents Use the Facility

30. 30 Manager Units Eligible Basis Includes Cost of Constructing Units Occupied by a Full-Time Resident Manager/On-Site Maintenance Personnel Manager Units Are Excluded From the Applicable Fraction When Determining a Buildings Qualified Basis

31. 31 Determining Eligible Basis in Mixed Use Buildings Mixed Use Buildings May Qualify for Tax Credits but the Eligible Basis Must be Reduced by the Cost of any Non- Residential Rental Property Cost of Common Areas Allocated Between Residential/Non-Residential Use According to any Reasonable Method that Properly Reflects the Proportional Benefits to Be Derived by the Residential/Non-Residential Property Common Approach: Allocating Cost of Common Elements Based on Relative Square Footage of Residential/Commercial Property

32. 32 Equity Calculation Pricing Primarily Based on Total Amount of 10-Year Credits Available to Investor and Market Conditions Expressed as Cents Per Tax Credit Dollar In Above Example, if Investor Will Pay $0.80 Per Tax Credit Dollar, Equity Equals $2,194,980 ($2,744,000 X 99.99% X 0.80) Equity Generally Paid in Several Installments (Often 3 or 4 Installments) Based Upon Negotiated Benchmarks If Bond-Financed 4% Deal, Equity Equals $951,905 (($5,500,000 - $500,000) X 70% X 3.40% X 10 X 0.80 X 99.99%)

33. 33 Income-Restricted Minimum Set-Aside Election of: – 20% of Units at 50% of Area Median Income (AMI), or – 40% of Units at 60% of AMI Election Upon Placement in Service Must Meet Minimum by End of First Credit Year HUD Publishes Area Income Figures Annually

34. 34 Rent-Restricted Rent (Including Utilities) Cannot Exceed 30% of Qualifying Income for Assumed Family Size; Based on Bedrooms Per Unit Rent Limits Change Annually With Publication of New Area Median Incomes Rent Will Not Decrease Below Original Floor Gross Rent Does Not Include Section 8 (or Similar Rental Subsidies) Gross Rent Must Include Utility Allowance for Tenant- Paid Utilities (i.e., Deduct From Rent to Owner)

35. 35 Continued Compliance 15-Year Compliance Period Continued Tenant Qualification – 40% Increase Above Eligibility OK – Vacant Units/Over-Income Units OK if Next Available Unit Rule Followed

36. 36 Understanding The Affordability Commitment 30-Year Affordability Commitment – 15-Year Tax Credit Compliance Period – 15-Year Extended Use Period Early Termination of 30-Year Affordability Commitment – Foreclosure (or Instrument in Lieu of Foreclosure) – Qualified Contract Process Extended Use Agreements

37. 37 Qualified Contract State to Find Buyer if Requested by Owner After 14th Year Pursuant to Qualified Contract – Contract = Outstanding Debt + Adjusted Investor Equity + Other Capital Contributions, Less Cash Available for Distribution

38. 38 Qualified Contract (Contd) Adjusted Investor Equity = Initial Investor Equity to Project Inflated by COLA (Up to 5% Per Year) If No Buyer Found Within One Year, Property May Be Sold or Converted to Non-Low-Income Housing, Subject to 3-Year Vacancy Decontrol IRS Issued Proposed Regulations in June 2007; Comments Received and Under Review; Public Hearing Held

39. 39 Recapture Recapture on Non-Compliance: – Accelerated Portion of Credit Recaptured (1/3 of Credit First 10 Years, Decreasing Through Year 15) – If Minimum Set-Aside Fails, All Accelerated Credits Recaptured – Otherwise, Unit-by-Unit (Extent of Decrease in Qualified Basis)

40. 40 Recapture (Contd) Recapture on Change of More Than 1/3 in Ownership or Sale of Project Bond Posting Procedure New Owner Steps Into Sellers Shoes Upon Sale of Project

41. 41 Compliance Monitoring State Credit Agencies Monitor Projects Owners Recordkeeping Requirements: – Number of Low-Income and Total Units – Income Certifications/Annual Re-Certifications and Backup Verifications – Qualified Basis and Eligible Basis Amounts – Rent Amounts Owner Annual Compliance Certifications 11084826v1