Federal and State New Markets Tax Credits Mastering the Fundamentals of NMTC Incentives Used in Various Financing Structures

Transcription

1 Presenting a live 110-minute teleconference with interactive Q&A Federal and State New Markets Tax Credits Mastering the Fundamentals of NMTC Incentives Used in Various Financing Structures WEDNESDAY, OCTOBER 10, pm Eastern 12pm Central 11am Mountain 10am Pacific Today s faculty features: Marc Schultz, Partner, Snell & Wilmer, Phoenix David Taylor, Manager, RubinBrown LLP, St. Louis Tom Nelson, Shareholder, Kantor Taylor Nelson Evatt & Decina, Seattle Carolyn Vogt, Shareholder, Lane Powell, Portland, Ore. For this program, attendees must listen to the audio over the telephone. Please refer to the instructions ed to the registrant for the dial-in information. Attendees can still view the presentation slides online. If you have any questions, please contact Customer Service at ext. 10.

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5 Federal and State New Markets Tax Credits Seminar Oct. 10, 2012 David Taylor, RubinBrown LLP Carolyn Vogt, Lane Powell Marc Schultz, Snell & Wilmer LLP Tom Nelson, Kantor Taylor Nelson Evatt & Decina

6 Today s Program NMTC Program Overview [David Taylor] Slide 8 Slide 22 Typical NMTC Financing Structure [David Taylor, Carolyn Vogt and Marc Schultz] Slide 23 Slide 43 Benefits And Risks With NMTCs [Tom Nelson] Slide 44 Slide 55 Available State NMTCs [Carolyn Vogt and Tom Nelson] Slide 56 Slide 62

7 Notice ANY TAX ADVICE IN THIS COMMUNICATION IS NOT INTENDED OR WRITTEN BY THE SPEAKERS FIRMS TO BE USED, AND CANNOT BE USED, BY A CLIENT OR ANY OTHER PERSON OR ENTITY FOR THE PURPOSE OF (i) AVOIDING PENALTIES THAT MAY BE IMPOSED ON ANY TAXPAYER OR (ii) PROMOTING, MARKETING OR RECOMMENDING TO ANOTHER PARTY ANY MATTERS ADDRESSED HEREIN. You (and your employees, representatives, or agents) may disclose to any and all persons, without limitation, the tax treatment or tax structure, or both, of any transaction described in the associated materials we provide to you, including, but not limited to, any tax opinions, memoranda, or other tax analyses contained in those materials. The information contained herein is of a general nature and based on authorities that are subject to change. Applicability of the information to specific situations should be determined through consultation with your tax adviser. 7

8 David Taylor, RubinBrown LLP NMTC PROGRAM OVERVIEW

9 Background Program enacted by Congress on 12/21/2000. Final regs issued on 1/28/2005 (complexity). Creates a federal tax credit for qualified equity investments (QEIs) in community development entities (CDEs). CDEs must make a qualified low-income community investment (QLICI), in the form of equity or a loan to a qualified active lowincome business (QALICB), within a 12-month period. All NMTC investments must be made to entities situated in qualified low-income census tracts. 9

10 Program Mission To provide a tax incentive for community development lenders and the capital markets to invest in those low-income communities that historically have had poor access to capital 10

11 Credit Amount Federal tax credit equal to 39% of amount of original investment Credit taken over a 7-year period Credit rate: 5% of the investment in years 1 through 3 6% in years 4 through 7 11

12 Example Of NMTC (Based on $10 million investment) Year Percent Credit 1 5% $500, , , , , , ,000 39% $3,900,000 12

13 Volume Cap On Investments Round/Year Rd & 2002 Rd & 2004 Rd Rd Rd Rd Rd Rd Rd Rd Equity Investment $2.5 Billion 3.5 Billion 2.0 Billion 4.1 Billion 3.9 Billion 5.0 Billion 5.0 Billion 3.5 Billion 3.5 Billion 3.5 Billion 13

14 Community Development Financial Institutions Fund Better known as the fund, or CDFI Division of U.S. Department of Treasury Administers the new markets tax credit program Also issues guidance on applications, certifies entities and monitors compliance 14

15 Community Development Entity (CDE) Vehicle in which investments are made to obtain new markets tax credits Bridges the private equities market with low-income communities Can be domestic corporation, partnership or LLC Must be formed as a for-profit entity 15

16 CDE, Cont. Must use substantially all (85% of aggregate gross assets/direct tracing) of cash invested in CDE to make qualified low-income community investments (QLICIs) Must meet three requirements: Primary mission is to serve or provide investment capital for low-income communities or low-income persons. Has a board that maintains accountability to residents of such communities Certified by the CDFI Fund 16

17 Qualified Low-Income Community Investment A loan or capital / equity investment in a qualified active lowincome community business (QALICB) The purchase of a loan that is a QLICI Financial counseling and other services to businesses in, or residents of, low-income communities Any equity investment or loan to any CDE 17

18 Qualified Active Low-Income Community Business (QALICB) A corporation (including NFP), partnership or sole proprietorship Meets two eligibility requirements: Must be situated in a qualified census tract Must have a substantial connection to that low-income community explained as... 18

19 QALICB Requirements At least 50% of gross income is derived from active conduct of business in a low-income community (LIC). A substantial portion of tangible property is in a low-income community. A substantial portion of services performed for the entity by employees is within a low-income community. <5 % of average basis of property is attributable to non-qualified financial property. 19

20 Low-Income Communities Low-income communities (LICs) are: Census tracts with at least 20% poverty Census tracts where the median family income is at or below 80% of the greater of: Statewide median income Metropolitan area median income 20

21 Applying For NMTC Allocation In order to apply for an allocation of credits, an applicant must meet three requirements: Primary mission is to serve, or provide investment capital for, low-income communities or low-income persons. Has a board that maintains accountability to residents of such communities Certified by the CDFI Fund as a CDE Legally incorporated domestic corporation or partnership 21

22 Applying For NMTC Allocation (Cont.) Applications are submitted to the CDFI Fund (details can be located at Electronic applications only CDFI Fund reviews and makes approval decisions on all applications applications were due in September. Awards are anticipated next spring. 22

23 David Taylor, RubinBrown LLC Carolyn Vogt, Lane Powell Marc Schultz, Snell & Wilmer LLP TYPICAL NMTC FINANCING STRUCTURE

24 Non-Leveraged Entity Chart Investor Equity $10,000,000 N MTC's $3,900,000 Investm ent F und Qu alified Equ it y $10,000,000 Investm ent (QEI) Su b-cde CDE F ee $400,000 Com m unity Developm ent Entity (CDE) Qu alified Low Incom e Com m unity $9,600,000 Investm ent (QLICI) Qualified Active Low Incom e Com m unity Bu sin esses (QALICB) 24

25 Leveraged Entity Chart Lever age Loan In vestor Equ ity Debt $3,042,000 N MTC's $6,958,000 $3,900,000 Investm ent F und Qu alified Equ ity $10,000,000 Investm ent (QEI) Su b-cde CDE F ee $400,000 Com m unity Developm ent Entity (CDE) Qu alified Low Incom e Com m unity $9,600,000 Investm ent (QLICI) Qualified Active Low Incom e Com m unity Bu sin esses (QALICB) 25

26 An NMTC Financing Is A Commercial Loan Plus Credit Structure Elements A new markets tax credit transaction is structured in many respects like a typical secured loan transaction (the QLICI loan), with additional loans and equity investments layered in (the leverage loan and qualified equity investment). Federal tax rules governing the use of new markets tax credits provide an overlay of requirements, within which the loans and equity investments must be negotiated Lane Powell PC 26

27 NMTC Rules NMTC rules govern compliance with program requirements relating to: Qualified equity investment (QEI) and use of proceeds from the QEI Qualified low-income community investment (QLICI) Qualified active low-income community business (QALICB) Recapture of the tax credits 2012 Lane Powell PC 27

28 Financial Projections And Due Diligence Months before the legal team begins drafting the transaction documents, the CDE, project sponsor and potential investor analyze the financial and structural aspects of the proposed low-income community project and its financing. Due diligence and planning elements include: Scope of the project, construction plans and funding Job creation and community impact Revenue sources for the QALICB; ability to meet debt service QALICB requirements and tax analysis Size of leverage loan (if any) and amount of credit allocation Investor tax credit pricing 2012 Lane Powell PC 28

29 Transaction Elements When the CDE, investor and project sponsor have completed initial due diligence and agreed on the primary elements of the transaction structure, preparation of the deal documents can begin. All of the deal-specific elements of the transaction occur on the date of closing, beginning at the top of the NMTC structure with the leverage loan and investor equity funding of the investment fund, followed by the QEI, loans made to the QALICB and disbursements by the QALICB Lane Powell PC 29

30 Leverage lender organizational documents Leverage Lender Investor 1. Investor counsel tax opinion 2. Put/Call Agreement 1. Leverage loan agreement (forbearance) 2. Leverage loan promissory note 3. Pledge agreement 4. UCC-1 1. Sub-CDE operating agreement (Fund and CDE) 2. CDE indemnity agreement 3. Resolutions 4. Legal opinions Qualified Equity Investment (QEI) Equity investment at closing Investment Fund Sub-CDE Equity investment at closing 1. Fund organizational documents 2. Fund LLC operating agreement CDE Suballocation agreement Fee Agreement Community Development Entity (CDE) Qualified Low Income Community Investment (QLICI) 1. Loan agreement, promissory note 2. Deed of trust, UCC-1 3. Account pledge and control agreements 4. Environmental indemnity 5. Construction monitoring & disbursement agmt. 6. QALICB indemnity agreement 1. Loan guaranty 1. QALICB formation docs 2. Resolutions 3. Legal opinions Qualified Active Low Income Community Business (QALICB) Leases Project Sponsor (QALICB member) 1. Resolutions 2. Put/Call Agreement 3. Indemnity Agreement 2012 Lane Powell PC 30

31 The Closing Checklist (A sample page from a much longer checklist) REAL ESTATE DOCUMENTS 1. Appraisal Rec d 5/29 QALICB X X 2. Title Report Rec d 5/29 QALICB X X 3. Base Lease - Sponsor to QALICB Rev d 9/18 Firm 1 X 4. Operating Sublease -- QALICB to Sponsor Rev d 9/18 Firm 2 X NMTC INVESTMENT DOCUMENTS 5. Fund Operating Agreement Rec d 8/29 Firm 1 X X 6. CDE Operating Agreement Rev d 9/6; cmts 9/13 Firm 2 X 7. Loan Servicing Agreement Rev d 8/13 Firm 1 X 8. CDE Indemnification Agreement In process Firm 1 X 9. QALICB Indemnification Agreement Rev d 9/14; to discuss Firm 1 X 10. Investment Fund Put/Call Agreement Rev d 9/13; to discuss Firm 1 X 11. CDE Fee Agreement Rev d 9/6 Firm 2 X LEVERAGE LOAN DOCUMENTS 12. Fund Loan Agreement Rev d 8/27; to discuss Firm 1 X 13. Fund Loan Note Rev d 8/27 Firm 1 X 14. Fund Pledge Agreement Rev d 8/27 Firm 1 X 15. UCC-1 Financing Statement Rev d 8/27 Firm 1 X QLICI LOAN DOCUMENTS 16. Construction Loan Agreement Rev d 9/13; cmts 9/20 Firm 1 X 17. Promissory Note A Loan Rev d 9/13 Firm 1 X 18. Promissory Note B Loan Rev d 9/13 Firm 1 X 19. Leasehold Deed of Trust Rev d 8/31 Firm 3 X 20. UCC-1 Financing Statement In process Firm Guaranty of Payment and Completion Rev d 9/13 Firm 1 X 22. Environmental Indemnification Agreement Rev d 9/13 Firm 1 X 23. Account Pledge Agreement (Disbursement Account) Rev d 9/13 Firm 1 X 24. Account Pledge Agreement (Reserve Account) Rev d 9/13 Firm Financial Projections Rev d 9/10 Accountants X 2012 Lane Powell PC 31

32 Qualified Active Low-Income Business (QALICB) Entities/proprietorships Must be engaged in the active conduct of a trade or business Must be a qualified business Must satisfy certain other requirements 32

33 Entities/Proprietorships Corporations Includes non-profit corporations Partnerships Proprietorships Portions of businesses 33

34 Active Conduct Of Trade Or Business CDE reasonably expects Within 3 years of the CDE s investment Recipient will generate revenue Non-profit corporation Will engage in an activity that furthers its non-profit purposes 34

35 Qualified Business Any trade or business except for prohibited businesses Includes the rental of real property Situated in a low-income community, That is not residential property, On which substantial improvements are made, and Whose lessees are not certain types of businesses. 35

36 Prohibited Businesses Development or holding of intangibles for sales or license Farming Certain luxury or sin businesses Golf course/country club Sun tan facility/massage parlor/hot tub facility Liquor store Casino/racetrack 36

37 Other QALICB Requirements Operating in a low-income community: Definition of low-income community Location of business Three requirements Limits on non-qualified assets Two Requirements 37

38 Location Of Business Gross income requirement 50% test Deemed satisfied if: (1) One of the other tests is satisfied using 50%, or (2) No employees, and meets the tangible property requirement using 85% Tangible property requirement 40% test Services-performed requirement 40% (deemed satisfied if no employees, and meets the tangible property test using 85%) 38

39 Limits On Non-Qualified Assets Collectibles Less than 5% of the average of the aggregate tax bases of the property is attributable to collectibles. Non-qualified financial property (NQFP) Less than 5% of the average of the aggregate tax bases of the property is attributable to NQFP. 39

40 Definition Of NQFP NQFP Debt, stock, partnership interests, options, futures and forward contracts, warrants, NPCs, annuities and other similar property Does not include certain items including reasonable amounts of working capital held in cash, cash equivalents, or DIs (18-month term limit) Proceeds from the CDE investment that are expended to construct real property within 12 months are reasonable working capital. 40

41 Reasonable Expectations Test Deemed treatment as QALICB CDE reasonably expects at time of the CDE s investment that the QALICB requirements will be satisfied throughout the term of the CDE s investment. 41

42 Loss Of Reasonable Expectations Test Benefit Loss of the benefit if the CDE obtains control of the QALICB during 7-year credit period Control means more than 50% of the vote or value. Exceptions True debt tax opinion required 42

43 Put/Call Agreement Agreement between tax credit investor and QALICB affiliate Regarding acquisition of tax credit investor s membership interest in the investment fund Put > Exercised by tax credit investor Less than FMV Call > Exercised by QALICB affiliate FMV 43

44 Tom Nelson, Kantor Taylor Nelson Evatt & Decina BENEFITS AND RISKS WITH NMTCs

45 NMTC Benefits: QALICB Benefits of NMTC financing Available Flexible terms Minimum term of 7 years Allows project to proceed ( but for ) 45

46 NMTC Benefits: QALICB (Cont.) Exempt QALICB Tax credit equity Fee load 20% rule Variable 46

47 NMTC Benefits: QALICB (Cont.) For-profit QALICB Tax credit equity Fee load Exit tax 47

48 Recapture Events Is recapture a risk? Risk of recapture Consequence 100% recapture Causes Negligence, intentional disregard Cure 48

49 Recapture Events (Cont.) Events triggering recapture CDE ceases to qualify as a CDE. CDE redeems the qualified equity investment. CDE fails to invest substantially all of the QEI in qualified lowincome community investments. 49

50 Recapture Events (Cont.) CDE ceases to qualify as a CDE Accountability test (LIC representation requirements) Mission test (primary mission redirected to low-income communities/people) 50

51 Recapture Events (Cont.) Redemption of QEI (Net operating income safe harbor) Annual test or cumulative test Safe harbor Events outside safe harbor 51

52 Recapture Events (Cont.) Failure of 85% substantially all test Year 1-6: 85% can include 5% loan loss reserve Year 7: 75% can include 5% loan loss reserve Reinvestment period 12 months 52

53 Recapture Events (Cont.) Non-qualified business (fail 85% test) Disqualified tenant Non-qualified financial property rule violation Mixed-use property that fails 80/20 test Straddle census tract Company whose primary business is sale/licensing of intangibles 53

54 Recapture Events (Cont.) Cure period related to 85% test 6 Months to fix after date became aware (reasonably should have become aware) Once during 7-year compliance period No required IRS notification - Document 54

55 Future Of NMTC Program Renewal bills in Congress Extender bills Bipartisan support Anticipated amount and extension period 55

56 Carolyn Vogt, Lane Powell Tom Nelson, Kantor Taylor Nelson Evatt & Decina AVAILABLE STATE NMTCs

57 State Tax Credit Programs Supplement The Federal Program Spurred by a desire to boost job creation and local investment, a number of states have adopted or are considering state tax credits for investment in low-income communities. 14 states have adopted tax credit programs of this type, and an additional seven have legislation pending. State new markets tax credit programs provide a credit against state taxes and may be administered jointly by the state business development agency and the department of revenue. States that have adopted NMTC programs generally set an annual aggregate limit of $5 to $25 million on the amount of tax credits that may be claimed, with a few providing substantially higher limits Lane Powell PC 57

58 2012 Lane Powell PC 58

59 Amount of Credit (% of QEI) Summary Of State Terms * Compliance Period When Credit is Claimed Name of Program Alabama 50% 7 years Years 2-7 New Markets Development Tax Credit Connecticut * 7 years Years 4-10 Urban and Industrial Sites Reinvestment Tax Credit Florida 39% 7 years Years 3-7 New Markets Development Tax Credit Illinois 39% 7 years Years 3-7 New Markets Development Tax Credit Kentucky 39% 7 years Years 3-7 New Markets Development Program Louisiana 25% 7 years Years 1-3 New Markets Tax Credit Maine 39% 7 years Years 3-7 New Markets Capital Investment Tax Credit Mississippi 24% 7 years Years 1-3 Equity Investment Tax Credit Missouri 39% 7 years Years 3-7 New Markets Tax Credit Nebraska 39% 7 years Years 3-7 New Markets Job Growth Investment Tax Credit Ohio 39% 7 years Years 3-7 New Markets Tax Credit Oklahoma 20% 5 years * Small Business Capital Formation Tax Credit Oregon 39% 7 years Years 3-8 Low Income Community Jobs Initiative Texas Insurance company investors may claim credits up to a maximum of 15% of the tax credit allocation * Program Two: credits may be taken in 2013 for tax year 2012 Certified Capital Company Program Source: Novogradac & Company, Lane Powell PC 59

60 State NMTCs States that have considered, but not adopted, NMTCs Arizona Would generally parallel federal program requirements Credits delivered after Year 2 California Would generally parallel federal program requirements Hawaii Would generally parallel federal program requirements Credit carryforward 60

61 State NMTCs (Cont.) States that have considered, but not adopted, NMTCs (Cont.) Indiana Would generally parallel federal program requirements Credits delivered after Year 2 Credits capped per transaction New Mexico To be determined North Carolina Would generally parallel federal program requirements Credits delivered after Year 2 Credits capped per transaction 61

62 State NMTCs (Cont.) States that have considered, but not adopted, NMTCs (Cont.) Wisconsin Would generally parallel federal program requirements 62