Novogradac Report on Tax Credits Transcript: Mar. 18, 2008

Transcription

1 (Intro music) Hello. It s Tax Credit Tuesday and I m Michael Novogradac. Thanks for tuning in to another edition of the Novogradac Report on Tax Credits. This podcast is brought to you each week by Novogradac & Company, a national accounting, consulting and valuation firm. To learn more about our professional services or to review previous podcasts via our online archive, check us out on the web at www dot novoco dot com. This week we will discuss policy modifications that some state housing agencies are considering to address the volatility in the LIHTC equity market. We ll also consider what effect the changes in the price of housing tax credits could have on the prices of new markets tax credits. Finally we ll share reports from the field regarding the impact that turbulence in the debt market is having on affordable rental housing. First, let s follow up on last week s discussion about lower LIHTC equity prices by examining how some state housing agencies are preparing to handle this shift in the market. As the market responds to tighter underwriting standards and a diminished of low-income housing tax credit equity to previous low investment yields, state housing agencies are taking steps to adjust - 1 -

2 their policies accordingly. Mississippi and Tennessee are two examples of states making changes. The Mississippi Home Corporation announced in a public memo on February 25th that it would utilize 76 cents as the average syndication rate for all applications submitted during its fifth application cycle, which closed on March 7th. By making this adjustment, the Mississippi housing agency underwrote projects submitted during the most recent application cycle with less tax credit equity than it had in previous cycles. This is significant because if a project can t sustain additional debt to fill the gap left by this change, developers may have to defer more of their developer fee. An increase in deferred developer fee could affect a property s ability to repay it and if not repaid within a reasonable amount of time, the unpaid portion of the developer fee could be removed from eligible basis, effectively reducing the amount of tax credits for which the project is eligible. If the project can t service more debt and defer enough of the developer fee at a syndication rate of 76 cents, the project would be deemed financially infeasible by the housing agency, and it wouldn t receive an allocation of tax credits. Mississippi Home Corporation is allowing applicants to submit letters from investors stating that they are willing to invest at a higher rate, but many investors are concerned that the agency may not underwrite their projects at the higher amount even with a letter from the investor

3 Meanwhile in a neighboring state, the Tennessee Housing Development Agency s multifamily division is taking steps to alleviate some of the strain felt by developers in the tightening market. In a special meeting held on February 29 th, senior staff at the Tennessee Housing Development Agency, or THDA, presented ideas and solicited feedback from the development community. The goal of the meeting was to discuss the current conditions in the LIHTC equity market and potential amendments to the qualified allocation plan for 2007 and During the meeting, THDA staff reported that they were prepared to recommend to the agency s board of directors several modifications to the qualified allocation plan, or QAP. These QAP recommendations include: allowing a reduction in the number of units of a planned development without reducing the total credits allocated, and increasing the per-unit tax credit cap. Tennessee housing agency staff also said they would recommend providing more quote lee-way end quote to applicants who receive a reservation notice. THDA would not specify exactly what that lee-way would entail, however, this recommendation seems to be indicative of the agency s apparent goal of working with developers to weather an increasingly unsettled market and minimizing disruptions to the production of tax credit housing

4 THDA staff also indicated they may also recommend to the board of directors a plan to modify the point system outlined in the QAP. The next meeting of the board of directors of THDA is scheduled for this Thursday, March 20 th. We ll continue to follow this story and alert affordable housing professionals of new developments on our web site at www dot taxcredithousing dot com. In the mean time, if you know of other state agencies that have made or are considering similar QAP or application changes, please send us an at CPAs at novoco dot com. You can also look for an in-depth discussion of tax credit equity pricing at our upcoming conference in New Orleans on May 15 th and 16 th. In spite of the negative news, there are a number of investors with an expanding appetite for tax credits and some former equity investors reentering the market. The recent focus on the equity market is not isolated to investors, developers or state agencies. The subject landed on the cover of the Wall Street Journal s B section on March 12. Another Dow Jones publication, Barron s, also discussed Fannie Mae s LIHTC investments. While many of the points raised in both stories are valid, they also contain some factual inaccuracies, some of which are substantial. We will address these points in more detail in the May issue of the Journal of Tax Credit Housing. In a related topic, there has also been a lot of discussion regarding what impact, if any, lower housing tax credit prices will have on the NMTC market place

5 As a point of reference, let s first consider the relative sizes of LIHTC and NMTC markets. Overall, the 9 percent LIHTC market is about 6 billion dollars in credits. Adding tax-exempt bond financed projects raises the amount of available credits to roughly 7 billion dollars. At 95 cents per credit, the equity market was approximately 6.7 billion dollars. At 80 cents, which is closer to the prices being reported in recent months, the equity market is about 5.6 billion dollars. In comparison, the NMTC market is considerably smaller. The annual NMTC market is approximately 1.4 billion dollars in tax credits and about 1 billion in tax credit equity, or less than 20 percent of the amount of tax credit raised in the LIHTC market at the lower prices. When determining how lower credit prices could affect the NMTC market, there are several theoretical questions to consider. For example, it should be asked: to what extent will the rising yield in LIHTC investments lead NMTC investors to invest less in NMTCs and more in LIHTCs? New markets tax credit investments have traditionally generated higher yields than LIHTC investments, and despite lower price levels for housing credits, it s likely that this will continue to hold true. It is also worthwhile to consider to what extent current NMTC investors are finding that they are in AMT and no longer need tax credits. Similarly, to what extent have current NMTC investors found - 5 -

6 that their institutions have significant capital needs in other areas such that their NMTC investments will be reduced? You certainly could read the front page of the business section of any major newspaper across the country and learn of major financial firms that have liquidity issues. Many of these financial firms have been previous NMTC investors. We have had a number of discussions with current NMTC investors and at this time, while assumed the reduction in LIHTC pricing will lead to downward pressure on NMTC pricing, most investors do not expect the downward pricing to be that significant. In part, this is due to the versatility of the NMTC and the lack of homogeneity of NMTC investments. As each investment is unique and as such is uniquely underwritten tax credit pricing is but one factor in a more complex risk adjusted yield calculation for investors. One thing is certain, however, this issue is likely to be a hot topic for the next few months. Equity pricing for the NMTC will be a central topic at our upcoming 7th Annual New Markets Tax Credit Spring Conference on June 12 th and 13 th in Washington, D.C. We invite you to join us. Our final topic for this week is the turbulent debt market and the impact that turbulence is having on tax credit financed residential rental properties

7 The current status of the debt market can best be described as uncertain. According to data compiled by Lehman Brothers Holdings, yields on tax-exempt debt rose to the highest level ever relative to Treasuries last month. The good news here if you can find any is that while the spread over Treasuries has been widening, the base rate for Treasuries has been falling. As such the nominal all-in interest rate to borrowers has not appreciated nearly as dramatically. The House Financial Services Committee held hearings last week to examine the state of the municipal bond market, including issuers recent withdrawals from the auction-rate bond market, reports of financial difficulty at bond insurance companies and credit rating agencies use of different standards for municipal and corporate debt. At the March 12th hearing, the House Financial Services Committee heard from witnesses about availability and cost of credit for state and local governments, and the corresponding impact to the economy if states and local jurisdictions have to eliminate or scale back on projects and services. The committee took testimony on how states, local governments and other tax-exempt borrowers, which have about $2.6 trillion of debt outstanding, are being affected by the crisis in confidence in U.S. financial markets

8 So what does all this mean for affordable multifamily rental housing? At the state level, some housing agencies are already facing difficult decisions. In Montana, the state s single family mortgage program is facing suspension as a result of bond market turbulence. Montana Board of Housing Executive Director Bruce Brensdal told CBS affiliate KPAX that that if the bond market remains the way it is, the program could operate for another two weeks to a month before Montana consumers would need to turn to more conventional outlets for home loans. In Connecticut a proposal has been floated to address the mortgage crisis by transferring 40 million dollars in Connecticut Housing Finance Authority funds to a new program that would be controlled by another state agency. This plan raised objections from the housing agency s director who warns the move would violate the terms of the bonds. The authority s acting director, John Craford, says such a violation would almost certainly affect the agency s bond rating and the resulting impact would ripple through other parts of the Connecticut housing market, including the agency's own multifamily programs. The Bond Buyer also reported the effects of the market s uncertainty are also being seen in the Gulf Opportunity Zone. Martin Walke, vice president for economic development at the Louisiana - 8 -

9 Public Finance Authority, told the Bond Buyer that turmoil in the credit market is having an effect on GO Zone bond sales. He said quote "The markets are so crazy right now that even good deals can't get done the professionals involved in these issues seem to be waiting for the market to settle." end quote Turbulence in the bond sector paired with sagging LIHTC prices have resulted in a flagging market for affordable housing transactions. Keeley Kirkendall, executive vice president in charge of affordable housing originations for PNC ARCS, echoed earlier estimates that as much as 50 percent of the LIHTC investor pool, consisting of Fannie Mae, Freddie Mac and several larger institutional investors, has stepped away from the market at least temporarily. Meanwhile, he reports credit prices have decreased from as high as 97 cents down to the low 80s and below, and he says much of the remaining investor pool has taken a wait-and-see attitude. Kirkendall says the debt side of the market is still viable, but he notes that some types of bond transactions are less feasible in today s market than others. For example, he says although private placement bond programs have contracted, agency debt programs are alive and generally operating well. To keep affordable housing projects viable, the reduced capital contributions on the LIHTC side will have to either be made up by developers or public sector money. Kirkendall suggests that states may have to allocate more credits to make deals work, but - 9 -

10 acknowledges that there is no single answer to address the turbulence in today s market, which he describes as quote uncharted waters. close quote However, despite some reluctance to invest in deals, he says he thinks most affordable housing professionals are concerned with helping the market stabilize and improve. He says quote Every body wants to help but nobody wants to be the only helping. The question is how do we as a market work together as an integrated team to solve the problem. end quote. As the debt and equity markets continue to adjust to the new economic environment, the outlook for developers of and investors in affordable multifamily rental housing is in flux. Please join industry experts to discuss these developing issues at Novogradac & Company s Credit & Bond Financing Conference on May 15 th and 16 th in New Orleans. The current state of the markets will also be examined in detail in the May issue of the Journal of Tax Credit Housing. If you re not already a subscriber, you can sign up to receive this new 52-page publication each month filled with the latest affordable housing news and deals. Well, that brings us to the end of this week s report. If you have a question about any of the topics we covered this week, or if you have a suggestion for future podcasts, please take the

11 time to send us an at CPAs at novoco dot com. We always look forward to hearing from you. Don t forget to tune in again next Tuesday when we will discuss a draft outline of a bill being circulated in Congress that would harmonize the use of HUD programs with the LIHTC. There are a number of troubling conflicts that arise when developers attempt to combine tax credits with HUD programs, and this bill would seek to eliminate many of them. This is Michael Novogradac and I ll be back next Tuesday. Thanks for listening. (Outro music) Editorial material in this transcript is for informational purposes only and should not be construed otherwise. Advice and interpretation regarding tax credits or any other material covered in this transcript can only be obtained from your tax advisor. Novogradac & Company LLP, 2009 All rights reserved. Reproduction of this publication in whole or in part in any form without written permission from the publisher is prohibited by law. For reprint information, please send an to cpas@novoco.com