State Tax Credits: Capital Stack Supercharger

(The following article first appeared in Affordable Housing Finance)

Over 25 states now have state tax credit programs for affordable housing in place, with up to half a dozen more taking steps to implement their version of the federal Low-Income Housing Tax Credit (LIHTC). Taken together, state programs represent a $1 billion-plus market for affordable housing development.

It’s easy to understand the surging appeal. State tax credits are frequently a decisive layer in the capital stack. “State tax credits were initially seen as gap fillers in financing affordable housing deals and expanding production,” explains Thomas Paramore, Head of Housing and Community Investments at Boston Financial, one of the nation’s oldest and largest LIHTC syndicators. “With the cost of capital and construction costs remaining stubbornly high, and continued pressure on operating budgets due in part to surging insurance premiums, state tax credits have become an increasingly essential tool.” 

Jennifer Schwartz, Director of Tax and Housing Advocacy for the National Council of State Housing Agencies, agrees: “Having that other source of equity in addition to the federal LIHTC is critical.”

Commonwealth of Massachusetts

There is no need to convince affordable housing developers like Adam Stein, Executive Vice President at Boston-based WinnCompanies, an AHF top 15 affordable housing owner.

His company is helping lead the $66 million renovation of Mission Main, an iconic public housing community in the Mission Hill district of Boston. The 535-unit rehab – 445 affordable and 90 market rate units – comprise a 31-month makeover project, including the delivery of residential services for community residents.

“State LIHTC put forward by the Commonwealth of Massachusetts were critical to making the renovation happen,” says Stein. “We’re fortunate the state understands how important it is to leverage its tax credit power to magnify federal dollars for affordable housing preservation and expansion.” Boston Financial provided a $34.6 4% federal LIHTC equity investment, combined with $5.9 million in state LIHTC equity, for the renovation of Mission Main.

State credits are amplified in deals financed with tax-exempt bonds and 4% LIHTCs. There is usually less federal equity as a percentage of the overall capital stack than in 9% LIHTC transactions. 

California

A good illustration is a pair of recent new construction projects developed by The Pacific Companies, one in San Jose and the other roughly 10 miles south of Sacramento in Elk Grove, both expensive areas. For example, San Jose has only 33 affordable apartments for every 100 families that need one. The affordable housing situation in Elk Grove is even more challenging.

The pivotal role of state tax credits play has been magnified in recent months, says Caleb Roope, President and CEO of The Pacific Companies (TPC). “Over the last two years projects have been squeezed more than ever by higher interest rates and longer construction periods.”

“State credits are essential to the financing structure, helping us bridge financing gaps. If not for state credits, communities like Steven’s Creek in San Jose or The Lyla in Elk Grove may never have broken ground,” he adds.

Roope credits his financing partner for empowering the TPC team in funding safe, affordable housing for thousands of deserving individuals and families. “We’ve worked with Boston Financial on dozens and dozens of affordable housing projects that have brought thousands of affordable homes to California.”

Allocation vs. Certification

With so much riding on every available funding dollar, it’s more imperative than ever to maximize the financing power of state tax credits. “States structure tax credits in different ways so it’s good to maintain a flexible position on tax credit allocation and certification,” explains Paramore. “Some states allocate tax credits. Other states allow them to be certificated and sold, which is what happened with TPC’s Steven’s Creek project.”

For Paramore, the goal is always having more funding reach the project. “When a state credit is allocated to an investor, it’s effectively worth only 79 cents to that investor after federal taxes are withheld. When a state credit is certificated and sold, it’s worth a dollar. At the end of the day, more proceeds typically go to projects with a certificated credit.”

“State credits are crucial to developing affordable housing in this economic environment,” Paramore adds. “We applaud states for being creative and proactive in their approach to expanding capital sources while maintaining as much flexibility as possible.”