A Cloudy Crystal Ball: LIHTC Industry Hopeful for Return of Insurance Company Investors in 2013, Braced for Political Risks

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Low-income housing tax credit industry participants, buoyed after the recent legislative “fix” of the 9% credit rate, are cautiously optimistic about the outlook in 2013 for raising equity but anticipate political challenges nationally, according to interviews and speakers’ comments at a recent Washington, D.C. conference held by the National Council of State Housing Agencies.

Syndicators hope the higher yields on new multi-investor LIHTC funds will lure many insurance companies back as investors. But several industry officials fret about a “disconnect” between developers and equity providers over housing credit pricing.

Calendar 2012 was a fairly good year for the industry. Some syndicators reported raising more housing credit equity than in 2011, some about the same, and a few a bit less. Nearly all expressed an expectation, target, or goal for similar or larger volume in 2013.

A Rocky Year

For sure, 2012 was a bit rocky, even beyond the uncertainties created by the protracted partisan battles in Washington.

With projected after-tax yields on national multi-investor funds generally in the 6% to 6.25% range for much of the year, most insurance companies stayed on the sidelines, creating what many viewed as a dangerous imbalance in the make-up of the LIHTC investor pool that still continues. Some sources estimated that banks – so-called “CRA” investors, because they are largely motivated to make LIHTC investments by the Community Reinvestment Act – accounted for upwards of 90% of the total LIHTC equity raised in 2012. So-called “non-CRA” or “economic” investors, usually insurance companies, provided the rest. This overdependence on banks has stirred memories of the recent time period when Fannie Mae and Freddie Mac accounted for about 40% of total annual LIHTC investment – a flow that suddenly stopped around late 2008, causing a substantial decrease in the supply of tax credit equity and in housing credit pricing.

In mid-January at the NSCHA conference, Bob Moss of Boston Capital noted that syndicators saw a big falloff in insurance company investors in the fourth quarter of 2012. But he said Boston Capital has seen some insurers return since January 1 due to the higher fund yields.

However, other syndicators and industry experts, in early January interviews and written comments, generally reported that they hadn’t yet seen a large-scale return of insurance companies as tax credit investors, but were hopeful that the higher yields on new national multi-investor funds now on the street will start to prompt many insurers to return to the fold.

“It’s too soon to tell,” said Richard Floreani of Boston-based Carlisle Tax Credit Advisors, which reviews tax credit funds for client institutional investors. “I do think, though, that the yields that tax credits are offering now are attractive to a lot of these non-CRA investors relative to their other asset investment opportunities.” With the fiscal cliff uncertainty behind, Floreani felt “there’s going to be more of an uptick in investment volume as we get underway this year.”

National multi-investor funds in the market in January had projected after-tax yields clustered in the 7.0%-7.50% range – higher than fourth quarter levels (see chart below). The latest edition of the quarterly Corporate Tax Credit Fund Watch, prepared by Ernst & Young LLP, shows 10 national multi-investor funds with yields ranging from 6.70% to 7.5%. Nearly all are at 7.0% or higher (see p. 32 for latest Corporate Tax Credit Fund Watch chart).

“We’ve had pretty good interest so far,” said executive Tony Bertoldi of City Real Estate Advisors, referring to the syndicator’s current $125 million national multi-investor fund that has projected yields of 7.30% for investors ponying up $25 million or more and 7.05% for smaller investments. “The yield is up significantly from our last fund,” said Bertoldi, “which I think is a sign of what’s going on in the market.”

Said Ryan Sfreddo of Red Stone Equity Partners, “With multi-investor yields having risen above 7%, we are seeing growing interest and demand from both existing and prospective investors.”

Credit Pricing Easing

The trend in housing credit pricing to developers, according to Michael Gaber of WNC & Associates, Inc., “has softened and seems to be trending down slightly.”
Ben Mottola of Stratford Capital Group pegged the drop in average credit pricing at 5 to 7 cents per dollar over the past six months for projects going into tax credit funds.

Most syndicators said the pricing in highly popular CRA markets like New York and San Francisco has generally held steady at robust levels. “Hot CRA areas remain strong with pricing to developers of up to $1 per credit or higher,” reported Steve Kropf of Raymond James Tax Credit Funds, Inc.

Noting that credit pricing is “all over the board,” Marc Schnitzer of R4 Capital, Inc. said, “You can find 9% deals in markets that don’t attract a huge amount of CRA interest as low as the mid- to upper-80s [cents per credit dollar]. Or, in markets with a lot of CRA interest, well north of a dollar…And 4% deals are somewhere in the 90s generally.”

Craig Wagner and Tony Alfieri of RBC Capital Markets’ Tax Credit Equity Group reported current credit pricing from 81 cents to $1.05 depending on a variety of factors. “We see credit pricing falling slightly on deals targeted for proprietary [fund] investors and more dramatically in the case of deals targeted for investors in multi-investor funds,” they wrote.

But even with softening prices some sponsors said it is still challenging to land deals for prices that can generate a 7% yield to multi-investor fund investors. “As a syndicator we’re trying to get closer to the 7% range,” said Sarah Laubinger of Boston Financial Investment Management. She explained that many direct investors and syndicators trying to fill single-investor funds are paying aggressive prices for some properties that equate to yields as low as 4%.

“In some parts of the country it feels like we’re in a market correction,” she said. “Pushing internal rates of return up so that we can see some of the insurers come back is important. But in some markets we are still seeing developers receive LOIs (letters of interest) – whether from a syndicator or direct buyer – at 10 cents higher than what you’d pay if you are looking for a 7% return.”

Said Fred Copeman of CohnReznick LLP, “It’s pretty clear from the investors that I have talked to that if we can get yields into the sevens the market will be strong. But there’s a disconnect at the moment. And I think developers know kind of intuitively that they have to back off on pricing. But they’re not going to be the first ones to offer it up – it’s going to be somebody else.”

Market participants are confident that banks will continue to invest heavily in LIHTC product in 2013.

In 2013, Patrick Nash of JPMorgan Capital Corporation expects the bank to invest about 80% of the nearly $1 billion in record volume that it did in 2012. “If the market dynamics change,” he added, “resulting in greater, better pricing, we can always within reason meet that demand.”

Political Hazards Ahead

Conference speakers warned that the LIHTC program could face some political risks in 2013.

Moss believed that Congress will write tax reform legislation – a process that could put the LIHTC program at risk of elimination or being cut back. Robert Rozen, of Washington Council Ernst & Young, felt the odds for tax reform legislation in the near term have declined – in part due to continuing sharp disagreements among Washington politicians about raising revenues and cutting spending. “But if there is tax reform,” Rozen said, “we face a significant threat.”

“We have to be very vigilant in this moment,” said Paul Weech of the Housing Partnership Network.

Rozen said the recent fiscal cliff legislation didn’t solve the nation’s fiscal problems and that over the next few months a divided Congress will have to wrangle over the federal debt limit, deciding what to do about the hefty sequester spending cuts slated to hit March 1, and funding the federal government after the current continuing resolution lapses in late March.

Some speakers also worried that a deficit reduction-focused Congress may attempt to make more cuts to federal funding for housing, further shrinking the already-reduced amount of federal, state, and local gap dollars available for LIHTC projects.

Industry Presses for LIHTC Accounting Rule Change Ahead of Key Meeting

The affordable housing industry has put on a full-court press to try to obtain more favorable accounting treatment for low-income housing tax credit investments held by corporate investors ahead of a key meeting of the Financial Accounting Standard Board’s Emerging Issues Task Force (EITF) scheduled for March 14.

At the meeting the EITF is to consider a change in the accounting treatment as outlined in a white paper commissioned by an informal industry task force led by Raymond James Tax Credit Funds, Inc. The industry favors a change by FASB to its current rules to allow public companies to report the costs of and benefits from their LIHTC investments in the same part of their financial statements – either both above the pre-tax line, or both on the tax line. This would be permitted if they were allowed to use an accounting methodology similar to the effective yield method of accounting. Companies now have to report the costs of LIHTC investments on the pre-tax line but the benefits on the tax line. The industry says the proposed change would make LIHTC investments more attractive to corporate investors.

A number of companies, organizations, and trade associations have signed on to a letter to be submitted to FASB and the EITF expressing support for the proposed accounting rule change. “In addition to better accounting,” the letter says, “we believe the proposed change will have a material impact on the amount of capital that will invest in affordable housing, where there is considerable need.”