Affordable Housing:

1. Affordable Housing: LIHTC Accounting Overview

2. Tax Credits 101

3. Overview of Low Income Housing Tax Credits

4. What is a Low-Income Housing Tax Credit? Authorized under Section 42 of the Internal Revenue Code Designed to help fund low-income housing Investors purchase tax credits from developers of low-income housing. The money paid by investors is contributed to the project as equity.

5. Types of LIHTCs 9% Credit New construction or substantial rehabilitation – awarded through competition 4% Credit New construction or substantial rehabilitation awarded in conjunction with tax-exempt bonds

6. How Do You Get Tax Credits? Developer applies to housing credit agency (HCA) for reservation of credits 9% credits are awarded through competition 4% credits are awarded “as of right” in conjunction with tax exempt bonds

7. Role of Housing Credit Agency“HCA” HCAs are responsible for selecting developments to allocate the Credit, “underwriting” the Credit (sizing it according to financial needs of the project), reporting Credit activity to the IRS, and monitoring for compliance with federal regulations.

8. Qualified Allocation Plan “QAP” HCA guidelines must be published in annual Qualified Allocation Plans (“QAPs”), which detail selection criteria and compliance monitoring rules. Most HCAs select projects through competitive cycles (at least one per year), with various threshold and scoring criteria. Selection criteria includes project characteristics, owner characteristics, location, market feasibility, energy efficiency, income targeting, and affordability periods.

9. Tax Exempt Bonds Tax-Exempt Bond Financed Developments • Developments with at least 50% of aggregate basis financed with tax-exempt bonds are eligible. • Credits are awarded “as of right.” • Projects do not compete. Must meet QAP and underwriting criteria. • Applicable Tax Credit Percentage is published monthly by U.S.Treasury, and is a “floating” rate at or below 4%. August 2014 applicable tax credit percentage is 3.25% • Frequently used to finance acquisition and rehabilitation of existing properties (e.g., “Preservation” deals). • Project size usually 100 units or more

10. Low Income Use Restriction • Minimum Requirement: rent and income restrictions must remain in place for a 15-year Compliance Period, plus an additional 15-year Extended Use Period. • Property owners may elect to “opt-out” of the Extended Use Period with HCA approval under certain circumstances; Qualified Contract. • Many QAP’s have longer use restrictions and prohibit opting out early.

11. Eligible Basis Eligible basis = adjusted basis of building at end of 1st year of credit period Includes common areas 30% boost in QCTs or DDAs Projects located in HUD-designated Qualified Census Tracts or difficult to develop areas receive a 30% increase on eligible basis

12. Eligible Basis (cont.) Costs that ARE included: • Engineering & architecture • Survey • Appraisal • Construction costs • Market study • Impact fees/permits • Inspections • Tenant relocation • Accounting & legal • Environmental • Depreciable land improvement • Developer fee • Construction period interest, loan fees, insurance, real estate taxes

13. Eligible Basis (cont.) Costs that ARE NOT included: • Land • Permanent loan fees • Marketing and lease-up costs • Tax credit fees • Reserves • Syndication fees • Commercial or income-producing space

14. Community Service Facilities • Generally, costs included in basis are limited to space used exclusively for low-income tenants. • In qualified census tracts, basis may include costs of providing a community service facility for use primarily by low-income residents of the area. They do not have to be tenants. There are limitations on the percentage of basis that may be eligible for tax credits for community service facilities. Consult your tax credit advisor.

15. Rent Rules Rent + utility allowance (gross rent) cannot be >30% of household income Qualifying income based on family size and # of bedrooms Gross rent does not include Section 8 or other subsidies Rent limits change annually when HUD publishes new Area Median Incomes (AMIs)

16. Income Limits Minimum set aside: certain % of units restricted for % of AMI 20/50: 20% of units at 50% of AMI 40/60: 40% of units at 60% of AMI NYC only: 25/60: 25% of units at 60% of AMI

17. Recapture for Non-Compliance Decrease in qualified basis Not meeting minimum set-aside Low-income occupancy decreases Sale or foreclosure Eminent domain Damaged building out of service (e.g. Sandy casualty losses)

18. Role of the Investor Purchases tax credits and tax benefits Current price is approximately $.90 for $1.00 of tax credits Investors may pay more for credits in areas eligible for CRA credit Investors may pay less for credits in areas deemed higher risk Becomes 99.99% limited partner in project ownership entity

19. Typical Ownership Structure

20. Financial Model

21. Project Summary & Assumptions Construction start & placed in service dates Occupancy (lease-up) Debt & equity Operating income & expenses Development budget (sources & uses) Tax credit assumptions (4%-9%, 30% basis boost, tax credit pricing)

22. Project Income Unit mix • Bedrooms • Number of units • Target median income % LIHTC rent limits Proposed rents • Cannot exceed LIHTC rent limits • Market study Vacancy allowance Tenant paid utilities

23. Project Expenses Administrative • Management fees (% of effective gross income) • Monitoring fees • Annual audit/tax Utilities Operating expenses • Realistic per unit cost Replacement reserves • Typically $250 - $300 per unit per year

24. Operating Pro Forma

25. Development Budget - Uses Acquisition costs • Land • Existing building (rehab) Construction costs (hard costs) • General requirements • Builder’s profit & overhead • Hard cost contingency Soft costs • Development related • Financing (construction/perm)

26. Development Budget – Uses (cont.) Soft costs • Syndication • Tax credit related Developer fee • Max developer fee limits (state) Reserves • Operating • Rent-up • Escrows

27. Development Budget - Sources Construction financing • Construction • Permanent Debt • Permanent debt • Cash flow financing • Grants Equity • LIHTC equity • State tax credit equity Deferred developer fee

28. Tax Credit Equity

29. Investor Metrics Investor IRR • Schedule of benefits • Losses • Depreciation • Tax credits • Distributions (cash flow) • Capital contributions • Quarterly compounding Capital account • Minimum gain

30. The 10% Test

31. Why Conduct a 10% Test? If a project is not placed in service in the year of credit allocation, the project must apply for a Carryover of the Allocation. This process is specific only to competitive LIHTCs. LIHTCs in conjunction with tax exempt bonds are exempt. The 10% Test is part of the Carryover Allocation Application to demonstrate progress toward project completion. Typically, the HCA requires an Independent Accountant’s Report. The form of report is dictated by the HCA and may vary from state to state.

32. What is a 10% Test? A 10% Test supports Accumulated Basis* in a project. Accumulated Basis must be at least 10% of the Reasonably Expected Basis* of the project on a specific date. *Accumulated Basis: Total costs incurred to date which represent project’s depreciable basis plus land. *Reasonably Expected Basis: Project’s depreciable basis plus land costs. This amount is generally stipulated by the Owner as part of the Carryover Allocation. * Note: terminology varies by HCA

33. The 10% Calculation dl Accumulated Basis (land + depreciable basis) Reasonably Expected Basis (total expected land + depreciable basis) 10% <

34. What is involved in a 10% Test? The Independent Accountant will test, on a sample basis, costs presented by the Owner as Accumulated Basis. Testing could include: • Sampling of invoices or other documentation. • Confirmation of costs incurred with third party vendors. • Recalculation of fees to determine inclusion in accordance with terms. Relevant project documents will be obtained, reviewed and retained as part of the engagement documentation. Additional specific procedures required by the HCA, if applicable.

35. 50% Test: Projects Financed with Tax Exempt Bonds

36. Background on Bond Financing HCAs allocate competitive LIHTCs to projects based on their annual LIHTC volume cap allocation received from the U.S. Treasury. An exception to this rule relates to projects financed with Tax-Exempt Bonds. LIHTCs awarded as of right to projects financed with Tax-Exempt Bonds do not count against the HCAs’ LIHTC volume cap allocation. As of right 4% LIHTCs are non-competitive. Projects must only meet requirements under the State’s QAP and tax exempt bond rules.

37. What is the 50% Test? The 50% test is calculated by dividing the Bond Proceeds by the Aggregate Basis of the Project. For these purposes: • Bond Proceeds: Include only the amount of bonds used to finance the acquisition, hard construction and soft costs of the project. Generally this will equal the mortgage amount. Bond Proceeds do include interest earned on the bonds or bond reserve funds. • Aggregate Basis: Includes the Project’s depreciable basis and land costs.

38. The 50% Test • 50% < Bond Proceeds ____________________ Aggregate Basis (of building and land)

39. Other Bond Nuances For a bond financed project to obtain LIHTCs the bonds must be volume cap bonds, a separate application and allocation process from an issuing agency. Tax exempt bond volume cap is allocated annually by the U.S. Treasury to issuing agencies. The Project must meet the 95/5 Test. This test is often called the “good cost / bad cost” test and is typically performed by an Independent Accountant. For these purposes some examples are: • Good Costs: Building and land, common space, resident recreation and parking facilities related to the rental residential units. • Bad Costs: Commercial space, financing fees, bond issuance costs, some costs incurred prior to bond inducement.

40. Meeting the 50% Test If the Project meets the 50% Test, the Project may claim 100% of the 4% credits on the total amount of eligible basis.

41. What Happens if a 50% Test Fails? If the Project does not meet the 50% Test the Project is limited to 4% credits on the amount of eligible basis times the final ratio. This has a severe impact on the available credits!

42. To prevent failing 50% Test Alternative methods for calculating capitalization of project costs; i.e., construction interest capitalization, 266ii election, etc.. This is typically the first alternative evaluated. Reduction of Aggregate Basis costs via funding at General Partner level through GP guarantees of maximum project costs for construction. Obtain an additional allocation of volume cap bonds to increase the numerator in the calculation. These bonds would be used to pay qualified costs and typically repaid with permanent sources such as equity or other debt. Reduction of developer fee until the 50% ratio is met -- typically the last resort!

43. Reporting for 50% Tests 50% Tests are reported in different ways depending on the HCA. Reports are generally required to be prepared by an Independent Accountant. Two options are typical: • Report as part of the final 8609 cost certification: In this option there is a separate provision in the HCA’s reporting format which includes a calculation and report on the 50% status. • Report in a separate letter: In this option there is a separate report stipulated by the HCA which specifically addresses the 50% test.

44. The Independent Accountant’s Report Report typically in form of an Agreed Upon Procedures (AUP) report performed by an Independent Accountant Specific procedures required by the HCA are reported upon by the Independent Accountant

45. 8609 Cost Certification

46. What is a Cost Certification? • CPA’s audit of project costs. Required by HCA’s to certify eligibility for LIHTCs. • Each HCA has specific information required to be included. Typically required: schedules of total and eligible costs by project and building, calculation of credits, sources and uses of funds, gap analysis and project proformas. • Upon final issuance of the cost certification, as a part of the final application package, which usually includes additional materials, forms 8609 will be issued to the owner.

47. New Construction vs. Acquisition Rehab • New Construction: Involves construction of a project “from the ground up.” In these circumstances, there was either vacant land with no existing building, or all existing structures were demolished and a new structure constructed. • Acquisition / Rehabilitation: Involves acquiring an existing project and rehabilitating the structure. This can involve rehabilitation around tenants, tenants do not vacate units, or vacate units on a daily basis; or units can be taken out of service, tenants are relocated during rehabilitation. • The nature of the construction/rehabilitation has direct effects on the ability to capitalize costs as eligible as well as the method for determining credit rates.

48. Acquisition Rehab – Additional Considerations • Minimum Rehab Test: Rehabilitation of the Project must meet minimum requirements: $6,200 per unit or 20% of adjusted acquisition basis, or whatever is stipulated in the relevant QAP • Purchase from an unrelated party: Acquisition of the Project must be from an unrelated party for tax purposes. • 10 Year Rule: The project must not have been placed in service within 10 years previous to acquisition (certain exceptions apply).

49. Eligible Costs (Refresher) • Costs that ARE included (wholly eligible): • Engineering & architecture • Survey • Appraisal • Market study • Impact fees/permits • Depreciable land improvement • Tenant relocation • Inspections

50. Acquisition Analysis • New Construction: Generally limited to ineligible land costs • Acquisition/Rehab: Must create or obtain a purchase price analysis to establish basis in acquired assets: • In most cases an independent appraisal is used to support allocation of acquisition cost to land and building (potentially furniture & fixtures and existing leases, etc.) • In complex transactions involving commercial space, long term tenants, or related parties, a 3rd party specialist may need to perform a purchase price allocation • Basis related to acquired building is eligible for 4% acquisition credits.