Housing USA: The Dilemma Facing LIHTC Siting

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There has been a recent debate, inside and out of the Low Income Housing Tax Credit (LIHTC) community, about where affordable housing projects should be built. Following negative press from NPR and ProPublica showing how a majority of units were going into low-income areas, legislators have called for state qualified allocation plan (QAP) adjustments to award credits to developers who build in nicer areas. The thinking is that by placing LIHTC tenants in mid- or high-income areas, they will have better access to good schools, jobs and amenities.

But I wanted to get a sense of how financially feasible this is for developers. When deciding whether to build LIHTC projects in high- or low-income areas, they face the following choice – either foot the higher land costs of the “nicer” area, but also collect better rents on the market-rate and subsidized units alike; or enjoy the lower land costs of building in poorer areas, but also collect lower rents. As I found during interviews, the LIHTC equity is crucial for making projects pencil in either case. And where developers build really just depends on where a state’s QAP incentivizes them to.

Tim Henkel is senior vice president at Pennrose, which builds mostly affordable housing in the Northeast and South. He told me that there are several deciding factors that the firm looks at.

The first is how large the development can be. In distressed submarkets, Henkel tells me, “Everyone’s going to want a development of scale,” typically between 60 to 100 units. But whether or not a project can reach that scale will depend on countless factors, from financing to regulations to land assembly potential.

A second aspect is how the rents that can be commanded from a given area gel with the restriction level attached to LIHTC or Section 8 units, which themselves are tied to area median income (AMI). AMI in a particular area may dictate affordable rents that are at or even above-market for the developments’ location, Henkel says. That is a circumstance that is specific to distressed markets, he adds.

A third factor is local support. In poorer neighborhoods, it’s more common to have some degree of local buy-in for projects, with nonprofits, neighborhood activists and politicians often joining the drumbeat for badly-needed economic development. This was echoed by Konrad Schlater, vice president of Preservation of Affordable Housing, Inc. (POAH). He says that projects in distressed neighborhoods “require a lot of collaboration with different stakeholders,” but that they often get this needed buy-in. In high-demand, well-to-do markets, by contrast, there is generally stronger NIMBY opposition, which raises developer costs of receiving a permit.

Even if some or all of these factors work out, it’s not always possible to build LIHTC projects in distressed markets. In such markets, “we do find deals that work, and they’re a lot harder to do,” says Schlater. “At the end of the day, no matter where you’re building, it’s going to cost the same amount. If you don’t have strong rents in those neighborhoods, you’re not going to be able to carry a lot of private debt.” As such, distressed market projects tend to require what he called soft money, i.e., government financing.

Another impediment is the newly-found selectiveness, mentioned above, of the QAP process. “If affordable housing developers have one mantra, it’s ‘don’t fight the QAP’,” says Henkel.

Increasingly, QAPs have stressed development of affordable projects in areas where incomes are higher. This has been the situation in Texas following the 2014 “disparate impact” case, a subject I recently covered for Tax Credit Advisor. North Carolina offers a specific ten percent credit to developments in high-income markets where either half of the units are allocated to earners at up to 40 percent AMI; or 25 percent are available to earners at up to 30 percent AMI.

In some cases, there are alternative paths for projects that fail the QAP location scoring but otherwise meet the community’s needs. Henkel tells me that Ohio, which has a strong location weighting system, has a Strategic Project Initiative for supporting projects that fail to score. As the Ohio Housing Finance Agency website describes, “Projects had to apply for consideration in one of the allocation pools, meet all threshold criteria and obtain at least 75 percent of the total available points for the applicable sub pool in which they competed.”

Projects in distressed neighborhoods also struggle with crime, Henkel says. This often requires higher spending on security measures.

“We have to invest more people, invest more time in those touches,” he says, stressing that a project must be an “asset to its environment, not a victim to its environment…you have to be careful about creating an oasis in an area that’s struggling.”

As to the fundamental question, would Pennrose undertake a LIHTC project in a distressed area over an upscale one?, Henkel says yes, but that it would not be “100 percent of our strategy.”

Schlater agrees on the mixed approach, saying, “I think there’s pretty compelling arguments to do low-income housing in both.” One low-income area project that POAH undertook was in Chicago’s Woodlawn neighborhood – the redevelopment of the Grove Parc apartment complex. The development consisted of 504 units, but grew to over 1,000 after POAH’s renovation. Schlater says that the project has aided revitalization in Woodlawn, which is deep in southside Chicago.

Which speaks to one positive of building LIHTC in low-income areas (as opposed to just abandoning that idea): it can improve downtrodden neighborhoods. Vox reported on a study by the Stanford Business School, which found, among other revelations, that districts “with a median income below $26,000 see a 6.5 percent increase in property values within 0.1 miles of the LIHTC development site.” This makes sense, given that, despite the stigma, affordable housing projects tend to bring upstanding, rent-paying people into communities. And lower land costs in these areas also can mean that the LIHTC equity stretches further than it would in pricier neighborhoods.

The question of whether to build LIHTC projects in distressed or well-off neighborhoods, then, is contextual. The tradeoff for developers comes down to community support, availability of cheap land, rent levels and other factors. Above all, it comes down to where state QAPs are funneling the money.