Considering Resyndication – Acq/Rehab Issues MODERATOR PANELISTS

Brent Parker Novogradac & Company LLP

Holly Heer Barnes & Thornburg LLP

Richard Shea CREA LLC

Bill Truax Inflection Development LLC

Visit www.crowdmics.online/novoco2 to send questions to the moderator

General Acq/Rehab Issues

The Internal Revenue Code treats costs of acquiring an existing building and costs to rehabilitate that building as separate “buildings” for purposes of the tax credit calculation. The “Rehabilitation” building is treated like a newly constructed building. The “Acquisition” building differs specifically regarding the 30% boost to eligible basis and tax credit percentage

Building Type 30% Boost to Eligible Basis Tax Credit Percentage

New or Rehab - not federally subsidized

New or Rehab - federally subsidized

Existing (or “Acquisition”)

How the Internal Revenue Code Views 3 Types of Buildings

New buildings or rehab buildings not financed with tax-exempt bonds may multiply their qualified bases by the lower of the Treasury-published 70% PV rate or 9%; 9% floor first instituted temporarily as part of Housing and Economic Recovery Act of 2008; made permanent part of tax code as of December 2015 legislation

Available if in DDA or QCT; or can be awarded by state allocating agency

Available if in DDA or QCT 30% PV amount for month the new or rehab building is placed in service; or awardee can choose to lock the 30% PV amount earlier to within 5 days after the month the bonds close 30% PV amount for month the acquisition is placed in service (even if it’s a non-federally subsidized property)

Boost is unavailable to acquisition buildings

8823 Guide p. 4-28

Applicable Fraction for First-Year Credit Calculation

TACK-BACK RULE IRC 42(e)(4)(B)

Rule Summary:

Qualified LIHTC units as of acquisition are included in the first-year applicable fraction for both acquisition and rehab “buildings” starting on the later of:

• The acquisition date

• January 1 of the year the rehab is completed

TACK-BACK RULE Rule Summary:

• No acquisition credits unless rehab credits are claimed (IRC § 42(d)(2)).

• Year 1 of acquisition credit period does not begin prior to the year rehab is deemed complete (IRC § 42(f)(5)).

• The rehab building applicable fraction equals that of acquisition buildings, including the yr.-1 weighted-average applicable fraction (IRC § 42(e)(4)(B)).

Therefore…

• Qualified LIHTC units may count for the 1st-year applicable fraction back to the first full post-acquisition month the buildings are in service

• However, if acquisition was in a year prior to rehab completion, qualified units can count only as early as the beginning of Year 1 of the credit period

Jan 1 Dec 31

Rehab completed

Aug 5

Rehab completed

Aug 5 Jan 1 Dec 31

Acq date

Feb 10

Acq date

Nov 15

TACK-BACK RULE

First month in which units could count for applicable fraction

IRC 42(e)(4)(B)

Month Counts?

Initial lease up

1 2 3 4 5

6 7 8 9 10 11 12

13 14 15 16 17 18 19

20 21 22 23 24 25 26

27 28 29 30

Yes No

…but only if the rehab is completed within the same tax year. Otherwise, the unit will start to count only as early as of the first month of the year the rehab is completed.

Acquisition Initial Lease-Up Applicable Fraction for First-Year Credit Calculation

Building placed in service

Acquisition Issues – 10-Year Hold Rule

A property can generate rehabilitation credits without claiming acquisition credits.

But to claim acquisition credits also, the owners must satisfy the ten-year hold and the related-party tests.

Ten-Year Hold Rule – Exceptions

The following five transfers of property ownership don’t necessarily restart the 10-year clock per IRC 42(d)(2)(D): 1. Via gift 2. Via death 3. Via foreclosure 4. PIS by gov’t unit or not-for-profit organization (100% ownership) 5. Owner-occupied, single-family residence (principal residence)

(and be eligible for acq credits)

10 YRS

Last time Placed in Service

Ten-Year Hold Rule

Don’t restart the 10-year clock Doesn’t restart the clock here either

The following three transfers of property ownership wouldn’t restart the 10-year clock, even if they occur within the initial 10-year period: 1. Via gift 2. Via death

5. Owner-occupied, single-family residence (principal residence)

(and be eligible for acq credits)

10 YRS

Last time Placed in Service

Ten-Year Hold Rule

Would restart the 10-year clock Doesn’t restart the clock if after the

previous 10-year clock

The following two transfers of property ownership might restart the 10-year clock if they occur within the initial 10-year period:

3. Via foreclosure

4. PIS by gov’t unit or not-for-profit organization (100% ownership)

(and be eligible for acq credits)

10 YRS

Last time Placed in Service

Ten-Year Hold Rule

Two Super Exceptions to Ten-Year Hold Rule – IRC 42(d)(6):

(and be eligible for acq credits)

1. Substantially assisted, financed or operated under federal or state housing program funds (Section 8, USDA, other HUD programs, etc.)

2. Purchased from a financial institution in default (with IRS approval)

(and be eligible for acq credits)

10 YRS

Last time Placed in Service

Ten-Year Hold Rule

Technical termination means sold or exchanged cumulatively >50% partnership interest (capital & profit) w/in a 12-month period

0.01% 99.99%

Most sales transactions trigger a new 10-year period. But sales of partnership interests (including technical terminations)

DO NOT trigger a new 10-year period.

However, if the sale is made to a related party, the transaction will not qualify for acquisition credits.

Ten-Year Hold Rule Most sales transactions trigger a new 10-year period.

But sales of partnership interests (including technical terminations) DO NOT trigger a new 10-year period.

Therefore, one method to structure a re-syndication of tax credits is for the GP to buyout the original investor after the 10-year credit period and then sell a majority interest to a new investor after the close of the 15-year compliance period.

Definition of Related-Party Transaction 50% common ownership in property between purchaser partnership and seller partnership

Be careful to account for back-end economics in the application of related party rules to your transaction.

(and be eligible for acq credits)

10 YRS

Last time Placed in Service

0.01% 99.99%

15-Year LIHTC Compliance Period

99.99% 100%

(and be eligible for acq credits)

99.99%

Developer ownership percentage

Partnership A: Partnership B:

100%

0.01%

Ten-Year Hold Rule and Related Parties – Resyndication

But are you really a 0.01% owner of the new partnership if you’ll be entitled to 80% of the profit on the back-end sale of the property?

But are you really a 0.01% owner of the new partnership if you’ll be entitled to 80% of the profit on the back-end sale of the property?

Tenant Certifications and Income / Rent Limits

Tenant Certifications – Existing Tenants (Previously a LIHTC property)

8823 Guide p. 4-27

Consider having third party review “grandfathered” tenant income certification files to confirm that tenants qualify OR complete new income certifications for all tenants and review old files for any tenants over income.

Tenant Certifications (Not previously a LIHTC property)

For existing tenants, if the rehab is completed in same year as acquisition and tenants certified within 120 days of acquisition, you may take credits on certified units as of the acquisition date.*

*The 120-day grace period is 120 days before OR after the acquisition date. Delays in acquisition will impact the timing of the grace period and may necessitate multiple certifications if initially completed before acquisition.

For new tenants, certify as units are leased – no 120 rule and credits earned when certified / moved in. However, vacant qualified units may still earn credits from acquisition.

Income Limits for Acq/Rehab Income limits – Set limits as tenants are qualified / certified.

Certify and set early income limits to protect against decreases prior to project PIS.

If income certified prior to acquisition, state agency may allow the earlier income limits.* However, most agencies will not allow limits prior to acquisition.

*Discuss with your investor as they may require the later limit.

(Not previously a LIHTC property)

Income and Rent Limits for Acq/Rehab

Income Limits:

• Existing Tenants may continue to use hold harmless income limit.

• New tenants generally required to use new income limit at time of certification.

– May be subject to next available unit rule (140% x new limit for existing households)

Rent Limits:

• Both new and existing tenants required to use current limits.

(Resyndication Gap)

Resyndication gap impact dependent on local market conditions.

Income and Rent Limits for Acq/Rehab

Income Limits:

• Existing Tenants may use 2012 hold harmless income limit.

• New tenants generally required to use new income limit at time of certification.

– May be subject to next available unit rule (140% x new limit for existing households)

Rent Limits:

• Both new and existing tenants required to use current limits.

(Resyndication Gap)

Resyndication gap impact dependent on local market conditions. 2016 HUD Rent and Income Limits and Your Tax Credit Property: Back to Basics Webinar

Regulatory Agreements and Rehabilitation Issues

A resyndicated property will likely have 2 regulatory agreements in place at the same time

Typically states take 1 of 3 approaches:

1. Simultaneously adhere to provisions of both regulatory agreements

2. Combine the stricter provisions of each regulatory agreement into one combined regulatory agreement

3. The newer regulatory agreement supersedes the older regulatory agreement (least likely to happen)

Managing old and new LIHTC regulatory agreements for resyndicated properties

Minimum Rehabilitation Expenditures

Minimum expenditures (per IRC 42(e)(3)) must generally be the greater of:

• 20% of the adjusted basis of building at acquisition or…

• $6,700* per low-income unit (increased for cost of living adjustment IRC § 42(e)(3)(D))

Must be made within a 24-month window

*See IRS Revenue Procedure 2015-53

Various Notes and Considerations

Real Estate Considerations (1) Regulatory agreements (A) Different requirements for different programs (i) Rent/income levels (ii) Metrics for determining AMI (iii) Assumed number of persons per unit (iv) Most onerous restrictions must be met (B) Existing TCAC regulatory agreements (i) Remain on title during construction, replaced(?) by new regulatory agreement (ii) CNA and PNA requirements (iii) Transfer approvals (C) Existing bond regulatory agreements (i) If financing with bonds issued by the same issuer, try to amend and restate (ii) If financing with bonds issued by a different issuer: (I) Consent may be required (II) If restrictions are similar, try to have old agreements terminated (III) Beware acceleration of fees (IV) Some issuers require concessions (e.g., add. Monit. fees, reporting obligations)

Real Estate Considerations (continued) (2) Ground leases (A) Ground lessor consent is often required (B) Lenders typically want to amend ground leases with lender protections (3) Other state and local issues: (A) Potential Cal. Gov. Code 65863 notice requirements (B) Potential welfare property tax exemption issues (C) RDAs are gone but their regulatory agreements remain

Lender Pool · Fannie/Freddie -> highly incentivized by FHFA to do affordable housing · FHA -> arduous process but great end results · Banks -> extremely competitive in CRA markets Agency Loan Options · Acquisition Bridge -> Freddie Mac, Banks and Proprietary Funds · Perm Loan -> Freddie TEL forward, Fannie immediate and HUD 223(f) PILOT or 221(d)(4) sub rehab

Common Loan Issues · Subordinate debt · Preservation of 10-yr chain of title · Per unit rehab thresholds

Tips for Maximizing Credits • Try to complete a rehab of a unit within a single calendar month

(no credits lost for rehab)

• If you can’t realistically project a rehab to be completed within a calendar month (say 40-day rehab per unit), make sure your unit isn’t out of service at the end of two months

• If the investor is in place, make sure you certify all tenants as soon as possible to take full advantage of tack-back rule

Record Keeping Tips

• Keep record of who is in the unit at the close of each month

• For any unit that is vacant; if qualified, keep track of who qualified the unit and where they went (Move out? Transfer?)

• When does unit become suitable for occupancy? (If rehab completed prior to end of month even if vacant)

Investor / Developer Discussion

Investor / Syndicator Considerations

• Related Party Notes – Capital Account Issues

• Underwriting of CF During Construction

• Leverage

• Income/Expense Assumptions

• Adequacy of Rehab

• Replacement Reserves

• Coordinating Fund Closing with Credit Delivery/PIS/Tennant Certs

• Market Issues : Rent Levels and Competition

Developer Considerations

• GP/LP Communication before Year 15

• Negative capital accounts

• Subordinate loans – Renegotiate, Resubordinate or Repay

• Related Party Notes – Are notes collectible?

• Income/Expense Assumptions

• Market Issues : Rent Levels and Competition

THANK YOU!

Considering Resyndication – Acq/Rehab Issues MODERATOR PANELISTS

Brent Parker Novogradac & Company LLP

Holly Heer Barnes & Thornburg LLP

Richard Shea CREA LLC

Bill Truax Inflection Development LLC

Visit www.crowdmics.online/novoco2 to send questions to the moderator