While KMK continues to grow its expertise in leading New Markets Tax Credits financing deals for many types of significant projects and as we expand our work in EB-5 financing deals, P3s and PRIs, we are surprised by the number of communities in some parts of the country still unfamiliar with the tremendous financing horsepower of NMTCs. Here is a quick highlight of this extremely valuable financing tool.
The Federal New Markets Tax Credit (“NMTC”) Program (“NMTC Program”) provides additional sources of financing for qualified real estate and operating business projects. The project must be located in a low-income community as designated by U.S. Census data and cannot be engaged in certain prohibited activities (e.g., renting real estate solely for residential purposes, principally engaging in farming activities, or operating a tanning bed facility, massage parlor, golf course, race track or liquor store). In exchange for injecting capital into qualifying projects, investors receive a tax credit against their Federal income taxes totaling 39 percent of the investment amount claimed over a period of seven years (five percent for each of the first three years; six percent for each of the remaining four years). The money is invested in a qualified active low income community business (“QALICB”) through a series of transactions, and the business achieves approximately 15 to 22 percent (subject to a number of different factors) of the total investment in “free money” for its project that would not otherwise be made available without the NMTC Program.
As a developer or business hoping to pursue NMTC financing, the first step is to convince one or more specialized financial institutions, known as community development entities (“CDEs”), to allocate NMTC authority to your deal. CDEs register with the Community Development Financial Institutions Fund (“CDFI Fund”) of the United States Department of the Treasury and apply to the CDFI Fund for NMTC allocation on an annual basis. The American Taxpayer Relief Act of 2012 included an extension of the NMTC Program for the 2012 and 2013 rounds of allocation. For 2012 and 2013, the permitted tax credit allocation authority is $3.5 billion per year. The CDFI Fund announced awards of the 2012 round of allocations to CDEs in April 2013; CDEs will submit applications for the 2013 round of allocations this fall.
While that sounds like a lot of available allocation, the process for obtaining allocation is very competitive. More and more CDEs are expected to apply for NMTC allocation authority each year, and in turn those CDEs are expected to be more selective in choosing their projects. This competitive environment means that a hopeful QALICB must be able to seek out the most appropriate CDEs and secure commitment of allocation as expeditiously and efficiently as possible. Most often, syndication of credits from various CDEs is required to achieve the desired amount of allocation. Different CDEs operate in different markets around the country and with different organizational goals and missions. Preference is given to “shovel-ready” deals that can close quickly. Understanding this landscape is critical to a developer or business hoping to secure an award of NMTC allocation.
Typically, the investors in NMTC transactions are larger financial institutions such as banks. Investors that routinely invest in NMTC transactions have sophisticated and dedicated NMTC Program teams. They also have contacts with various CDEs and are able to assist a business in making the right connections to bring NMTC allocation to a deal. In addition, they often have credits of their own to contribute to a deal to achieve a desired amount of allocation authority. Thus, strong relationships with investors also are critical to a hopeful QALICB.
Once a business has secured a commitment of credits from a group of CDEs, the NMTC transaction can proceed. The three main categories of entities involved in a NMTC transaction – investor, CDE and QALICB – negotiate a series of contracts to document the loans, tax credit allocation and various guaranties. No two NMTC transactions are structured exactly the same. But generally, the investor will invest its equity into the deal at a negotiated amount for the actual tax credits it expects to receive (market rate is currently about 80 cents per each dollar of tax credit). For example, if $10 million in NMTC authority is allocated to a NMTC transaction, the investor will expect to receive $3.9 million in tax credits and, based on current market pricing, will invest approximately $3.12 million into the deal. This tax credit equity will be combined with leverage loans from other traditional financing sources (often from the same investor), or even equity from the QALICB itself, to make a series of low-interest loans to the QALICB. Interest only is paid on these loans for the duration of the seven year compliance period, at which point the investor typically transfers its tax credit equity to the QALICB and the deal is unwound. In our example of $10 million in NMTC allocation authority, the QALICB is likely to net around $2 million in “free money” after paying various fees to the CDEs, investor and professionals at closing, as well as other reporting and audit expenses throughout the compliance period.
Because of their ability to generate additional cash for a project that would not otherwise be available, federal NTMCs can be a valuable financing tool for businesses. In addition, many states have developed their own state NMTC programs, which can offer attractive financing options in conjunction with or independent of the Federal NMTC Program. But NMTC transactions are complicated and time consuming, and it is essential to have proper guidance from experienced NMTC advisors from the time of allocation through closing to ensure a successful transaction.
For more information on this significant opportunity, contact Geoff Leder at email@example.com or 513.562.1403.
Geoff Leder's practice includes representing a variety of corporate, individual and non-profit clients in all aspects of the development, disposition, acquisition, leasing, finance and construction of commercial real ...
Mark Sims practices in the Business Representation & Transactions Group and works primarily in the federal income tax, business planning and healthcare areas. Mark's federal tax practice involves individual, corporate, S ...
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