What’s in the FAQ Update? Stay on top of CDFI changes
By A. J. Johnson
6 min read
The New Markets Tax Credit program was created by Congress in 2000 to encourage real estate projects and business development in low-income communities. Since its establishment under the Treasury Department’s Community Development Financial Institutions Fund (CDFI), NMTC has been highly successful, generating $118 million in economic activity and creating more than 700,000 jobs. The overall Fund is intended to promote economic revitalization and community development through investment in and assistance to community development financial institutions, and provides NMTC an allocation of tax credits to attract investment from the private sector and reinvest these funds in low-income communities.
In 2011, the CDFI published New Markets Tax Credit, Compliance and Monitoring Frequently Asked Questions, designed to help NMTC users understand the rules governing the program. It was updated this past December, and here we outline the most relevant revisions and changes. It is suggested that all entities using NMTCs or interested in doing so obtain and read the entire publication. Additional guidance can be found on the CDFI Fund’s website, www.cdfifund.gov/nmtc.
Investments in “Non-Real Estate” Business
To encourage investments for working capital and equipment in non-real estate businesses – or Non-Real Estate Qualified Active Low-Income Community Businesses (QALICBs) – the IRS issued final regulation TD 9600 that modified the reinvestment requirements under the NMTC program. A QALICB is defined as any business whose predominant activity (more than 50% of gross income) does not include the development – construction of new facilities and rehabilitation/enhancement of existing facilities, management, or leasing of real estate. So the purpose of the capital or equity investment in, or loan to, the Non-Real Estate QALICB must not be connected to the development, management or leasing of real estate.
TD 9600 is important because it allows a Community Development Entity (CDE) that makes a Qualified Low-Income Community Investment (QLICI) in a Non-Real Estate QALICBs to reinvest certain returns of capital from those investments in unrelated certified Community Development Financial Institutions (CDFIs) that are also CDEs at various points during the seven-year credit period.
Definition of “Affordable Housing”
Many users of the NMTC include affordable housing as part of the development package when developing businesses in low-income areas. In order to have the housing meet NMTC requirements, the housing must be affordable under the following criteria:
- 20% or more of total rental units financed with QLICIs are both rent-restricted, as defined by IRC §42 (the Low-Income Housing Tax Credit Program), and occupied by individuals whose household income is less than or equal to 80% of the area median family income as determined annually by HUD.
- 20% or more of total rental units financed with QLICIs maintain their rent restrictions throughout the seven-year NMTC compliance period. Tenants should be certified as of the later of the date the QLICI is made or at move-in.
The guidance also outlines the requirements for the financing of for-sale housing.
Investment in Distressed Areas
The NMTC program provides incentives for investment in areas of higher distress (“Targeted Distressed Commu-nities”). The updated FAQs clarify the type of documentation that can be used to support investment in such areas. Allocatees should retain all relevant information in support of the decision to invest in such areas, and may include:
- Statistical indices of economic distress such as poverty rates, median family income or unemployment rates at the census tract level based upon the 2006-2010 ACS.
- Materials from other government programs (e.g.,HUD Renewal Communities; EPA Brownfields) demonstrating that the area qualified for assistance under those programs, etc.
The publication also provides links to sites relating to the distressed area designation.
Material Event Definition
The NMTC program requires that allocatees report “material events” so that the CDFI Fund can determine whether or not the event will impact the ability of the CDE to remain certified or remain compliant with its Allocation Agreement. The new guidance includes a discussion of what constitutes a “material event.”
A “material event” is an occurrence that affects an organization’s strategic direction, mission, or business operation and, thereby, its status as a certified Community Development Financial Institution or Community Develop-ment Entity, and/or its compliance with the terms and conditions of the allocation. Examples of material events include:
- A default of the allocation agreement.
- A merger, acquisition, or consolidation with another entity.
- A change in the Controlling Entity identified in any allocation agreement or the Controlling Entity no longer having an ownership or management interest in the Allocatee, and/or no longer having control over day-to-day management and operations of the Allocatee.
- A change in the organization’s legal status; e.g., dissolution or liquidation of the organization, bankruptcy proceedings, receivership, etc.
- An event that materially changes the strategic direction, mission or business of the organization such that the organization no longer meets one or more of the CDFI or CDE certification requirements.
- A change from for-profit to non-profit status.
- A change in the control of the organization.
- A change in the composition of the board of directors.
- Relocation of the organization’s primary office to another state.
- A governmental action against the organization.
The publication provides numerous other examples of material events.
Use of Bond Proceeds
The FAQ outlines the restrictions on using bond proceeds issued under the Community Development Financial Institutions Bond Guarantee Program in NMTC related activities. Bond proceeds may only be combined with NMTC equity at the beginning of the seven-year compliance period. If a CDFI uses bond proceeds to finance a leveraged loan in a NMTC transaction, the CDFI must provide a payment guarantee or similar credit enhancement, and/or other assurances that are approved by Treasury.
The collateral, guarantees, or assurances must remain in place for the entire seven-year compliance period. Bond proceeds may not be used to refinance a leveraged loan during the compliance period, but may be used in a refinancing after the seven years.
The updated FAQ addresses other areas not noted in this article, including dissolution of subsidiaries, termination of allocation agreements, processes for amending agreements and determining if a Qualified Low-Income Community Investment supports businesses that obtain HUB Zone certification.
The updated FAQ document may be found on the New Markets Tax Credit Program and Compliance pages of the CDFI Fund’s website, www.cdfifund.gov/nmtc.