It’s the end of tax credits as we know them.

Faced with plummeting prices and an exodus of investors, the market for low-income housing tax credits (LIHTCs) is at a historic nadir. So it’s no wonder that long-time affordable housing developers question the feasibility of remaining active in the sector.

Forced to close the financing gap left by a lack of tax credit equity, most affordable developers are setting increasingly complex budgets, with layers of bond, credit, debt, equity, and soft money vehicles—in addition to federal stimulus programs such as the Tax Credit Assistance Program (T-CAP) and the 1602 Tax Credit Exchange Program—filling the capital voids left by the LIHTC sector.

Launched under the Tax Recovery Act of 1986 as a way to encourage private equity investment in the development of affordable housing, the LIHTC program allows for virtually a dollar-for-dollar reduction in federal taxes when funding a low-income housing development. For the past 23 years, the program has helped finance about 1.5 million affordable apartments—including 74,663 units in 2007—all while allowing investors to stave off equally as much of a tax burden. In 2008 alone, the LIHTC program accounted for $815 million in tax allocations.

In the last 10 of those years, tax credit investors—and those who “syndicate” or broker the credits to raise development capital for firms that have won allocations—became increasingly concentrated among the country’s largest banks, which had taxable corporate profits in need of the LIHTC’s IRS offsets as well as requirements under the Community Reinvestment Act (CRA) to deploy capital back into communities where those banks conducted business. The government-sponsored enterprises (GSEs)—Fannie Mae and Freddie Mac—also became huge consumers of tax credits, investing in the program at such a pace (in 2006, they purchased more than $2.5 billion in credit) that LIHTC often commanded higher-than-face-value pricing.

They have all since vanished. With the demise of the economy in 2007 and 2008—and the subsequent shock to the housing and banking industries in particular—the GSEs and most traditional financial institutions find themselves with no taxable profits in need of LIHTC relief. Their departure from the market means that the housing agencies dispersing credits and the developers competing for them have essentially been abandoned by the traditional equity partners without which the LIHTC program cannot function.

Many in the industry say the demise of the tax credit was inevitable. LIHTC’s dependency on a myopic cast of huge institutional investors spelled trouble from the start. “The syndication and developer communities, as well as state housing authorities, should share some responsibility for allowing the industry to become so concentrated in the banks and Fannie and Freddie,” says Greg Gorman, president of Madison, Wis.-based affordable housing development and adaptive reuse firm Gorman & Co. “I don’t know how we could have disciplined ourselves to not take Fannie’s $1.03 pricing over an industrial investor coming in at $0.88—that is a tough thing to do. But without the investor diversity, the market collapsed.”

Certainly, affordable housing pundits hope the awful state of the LIHTC market soon becomes a thing of the past. A rebound in the economy would create fresh interest in tax-credit-driven equity investments by traditional intuitional players, and signs that major heavyweights such as J.P. Morgan, Citibank, Verizon, and Capital One are actively returning to the market are promising.

Yet today, prices for LIHTC credits in a market devoid of buyers have plummeted to historic lows, with only projects in the sexiest or most urban of markets commanding more than $0.70 to the dollar. Rural developers are finding few takers for credits discounted to $0.50 on the dollar or less. “There are investors at particular price points in California, Texas, New York, and other urban seaboard markets,” says Mike Jacobs, Midwest regional vice president for Chicago-based tax credit syndicator National Equity Fund. “If you are in the Midwest, there are no price points. The average price for a low-income housing tax credit in the Midwest is zero.”

The demise of the LIHTC syndication market and subsequent stall in affordable housing financing has posed a weighty problem as cities, states, and the federal government struggle to replenish the ever-dwindling supply of affordable housing in the country. Out of the economic ashes, however, a slew of regulators, creative developers, and other alternate financing vehicles have emerged looking for ways to resuscitate the stagnant affordable finance business. The result: A level of diversification that has forced affordable housing financiers to get creative, more nimble, and stronger in making the books work. From government programs to innovative land strategies, the industry must find a way to fund new affordable housing projects—or else.

Here are four tactics and financing alternatives that can help supplement the slowly-dwindling LIHTC business.

1. Ask Uncle Sam for equity.

What is it? Without equity funding, affordable projects are likely to languish until they come up with the necessary layers of stimulus equity, incremental local subsidies, and soft monies. Enter the federal government. As part of the American Recovery and Reinvestment Act enacted in February, the government launched the T-CAP and 1602 Tax Credit Exchange programs in an effort to shore up LIHTC market woes.

Administered via the U.S. Department of Housing and Urban Development (HUD), T-CAP allows for $2.25 billion in grants to state tax credit allocating agencies for capital investments into LIHTC projects. The 1602 Exchange Program allows the same allocating agencies to return up to 40 percent of their 2009 LIHTCs and any remaining 2008 credits for dollar-for-dollar cash grants from the Treasury Department—so long as those monies are redeployed back into affordable housing projects.

The Pros: While qualifications and application processes for both programs will differ from state to state, experts say that experienced tax credit developers should have little logistical and administrative issues when it comes to tapping federal stimulus funds. “The state housing agencies have some flexibility in how they are going to implement the programs,” explains former New York State housing commissioner Judy Calogero, who is now CEO of the New York-based New York Housing Conference, an affordable housing policy advocacy group. “If you are used to a specific state’s qualified allocation plan for tax credits, the stimulus funds should not be difficult to access—seasoned tax credit developers are going to view the process as fairly straightforward.”

In some respects, T-CAP and the 1602 Exchange Program appear to be essentially a federal bailout of a quasi-government financing program gone awry, but most in the affordable housing sector view the stimulus programs as the saving grace for the LIHTC system. Certainly the programs are expected to be the primary vehicle for gap financing on the equity side of the budget for virtually all affordable projects well into 2010 and beyond (T-CAP requires the entirety of the $2.25 billion to be deployed into affordable housing projects by 2012). “The shift toward government programs as primary sources of capital is the reality of the marketplace now,” Gorman says. “T-CAP and the Exchange Program are and will continue to be big factors in affordable housing finance.”

The Cons: Still, some in the affordable development community feel that government administration of affordable housing equity vehicles—particularly via state tax credit allocating agencies—will limit the ability of non-networked housing providers to access the funds. “The problem with the stimulus money is that it moves through the bureaucracy, and the established players will be the ones that have access to that equity,” says Curtis Palmer, a co-founder and managing principal of Los Angeles-based Multi-Housing Capital Advisors (MHCA), a brokerage and investment consultancy firm.

“In order to reach that money, you already have to be in bed with the housing authority,” agrees Michael Syme, previous general counsel for the Pittsburgh housing authority and now director of the affordable housing practice group at Pittsburgh-based law firm Cohen & Grigsby. Syme, who advises housing authorities across the country, says the speed of stimulus dollar deployment means most housing agencies are already lining up the development partners that will be getting some equity share. “Almost every authority is paired off with someone,” he adds, “but I think that most developers knew that it was coming and are going for it, too.”

Gorman, for one, thinks that the boys’ club generalization isn’t entirely apt. “Every housing authority and locality is going to operate differently, and while it would be naive to say that the process is not political, it is overly cynical to say that unless you are wired politically or have been in the tax credit development business for 10 years, you don’t have a chance at T-CAP.”

Costa Verde Apartment Homes, San Antonio
Costa Verde Apartment Homes, San Antonio

In Action: HUD Secretary Shaun Donovan awarded more than $1 billion in T-CAP funds to 26 state allocating agencies on June 30, the first of two rounds of awards expected in 2009. Monies are allocated to the 50 states, D.C., and Puerto Rico based on agency LIHTC allocation formulas. To qualify, “be in touch with your local housing authority to make sure you are meeting their needs, that you know exactly what they are looking for from T-CAP, and you are asking for everything you are entitled to,” says Mike Moses, vice president of structured finance and business development for Cleveland-based affordable housing development firm The NRP Group. “We are anticipating success on the T-CAP side.”

Bottom line: T-CAP and the 1602 Exchange Program promise billions of dollars in bailout capital to help buttress LIHTC projects, but access to those funds will be at the discretion of state housing authorities.

2. Borrow from Uncle Sam, too.

What is it? Another problem facing the affordable finance sector is that the lending markets are likewise as anemic as the tax credit market. With big banks largely out of the picture as they recover from the credit crunch, developers again are forced to turn to the GSEs, which are offering products available in the form of Fannie Mae’s and Freddie Mac’s Forward Commitment lending programs, which offer construction and perm debt financing at competitive rates to projects that have been awarded 9 percent LIHTCs.

What’s more, affordable housing developers also continue to rely on the Federal Housing Administration’s (FHA) 221(d)(4) program, which offers long-term (up to 40-year) insured mortgage loans to facilitate the new construction or substantial rehabilitation of multifamily rental or cooperative housing, as well as the less common USDA 538 product available specifically for rural affordable housing developments.

“Opportunities on the debt side depend on the project, location, and what your options are,” says Ginger McGuire, senior vice president of Columbus, Ohio-based affordable housing financial advisory firm Lancaster Pollard Mortgage Co.

The Pros: In many cases, the GSEs are the only option. “The reason affordable developers are increasingly turning to the GSEs is to have the loan processed more quickly than the FHA or USDA could do it,” McGuire says. “Speed of execution with Fannie and Freddie is going to be better than any other government program.”

Moses of The NRP Group, which has closed financing on five affordable deals this year and will likely close on an additional 12 to15 deals by the end of 2009, says his firm currently uses Freddie Mac more than Fannie Mae, but nonetheless concurs that the loan-servicing efficiency of the GSEs is worth the premium on their debt products. “We don’t currently utilize the HUD programs. If you have the time and the expertise and the patience, it is a great program—nonrecourse and the whole ball of wax—but the length of time of execution for us is a bit of a hamstring, especially if you are simultaneously going after soft monies.”

The Cons: Speed of execution is the big issue, particularly for the FHA and USDA. In addition, the USDA 538 has discontinued offering a credit that reduces interest by 250 basis points on loans administered under the program. Meanwhile, the GSEs typically have higher pricing levels that can challenge smaller developers, and the FHA’s 221(d)(4) has a reputation for onerous administrative burdens and less-than-timely speed of execution.

The Tuscany Apartments, Los Angeles
The Tuscany Apartments, Los Angeles

In Action: The Tuscany Apartments in Los Angeles is a notable finance and disposition deal in 2009 for MHCA, which often works with lenders and tax credit buyers. Company head Palmer notes that even within the federal lending space, affordable developers are forced by the current mark to remain nimble, balancing the various interest, underwriting, and execution attributes of products such as forward-funded and unfunded loans, the FHA 221(d)(4) program, and other debt vehicles suitable for affordable housing.

Bottom line: When your bank says no, the U.S. government says yes. Though often timely to execute and complex to pencil out, the GSEs are offering competitive debt vehicles in a market with little other lending action.

3. Find the givers in the community.

What is it? As the economy continues to take its toll on local and regional governments, private entity financiers and even market-rate developers have surfaced with donations in the form of cash, land, and property to help jump-start affordable housing communities with tangible assets and in-the-black ledger sheets.

“Land and property contribution is a threshold step that we increasingly see in affordable housing finance,” Gorman says. “A lot of churches, as well, are land-rich and cash-poor, so contributing property for larger affordable housing efforts or doing a long-term land lease makes all kind of sense for them.”

Additional state and local forms of affordable housing finance—from grant monies to low- or no-interest loans to green or historical tax subsidies­—also continue to be a go-to source for most affordable housing developers in the know.

In Irvine, Calif., Jamboree Housing Corp. was able to partner with market-rate developers to help purchase and hold on to a $3.5 million land parcel for three years, while additional funding became available via $7.7 million from the City of Irvine and a $6.3 million grant from California’s Proposition 46, which allocates $2.1 billion in bond proceeds as part of the state’s affordable housing trust fund.

The Pros: It’s an innovative, creative way to circumvent dealing with the current financial markets.

“You can talk LIHTC, and you can talk about local subsidies, but land brought to the transaction in a lot of cases free and clear is a chunk of money you don’t have to bring to the deal,” says David Bowers, vice president and Washington, D.C., impact market leader for Columbia, Md.-based Enterprise Community Partners.

Enterprise launched a faith-based development initiative three years ago in which the organization partners with houses of worship that have underdeveloped parcels of land as well as a strong interest in developing affordable housing for their communities. “It’s been an exciting approach for us—we have about 200 units under development and another 300 units in the development pipeline under that program,” Bowers says.

The Cons: Tapping into local sources of funding—be it municipal trust fund allocations or land grants from houses of worship—requires patience. There’s a reason the words local and provincial carry a less-than-delicate connotation. To overcome cronyism and open doors, seasoned developers target local and regional hard and soft monies, while the larger LIHTC equity and debt components are coming to fruition.

“We have regional teams focused on the soft dollars and funds available at the city, state, and regional levels,” Moses says. “Just because we have a 9 percent deal doesn’t mean our job ends. We want to access as much money as we can so we can lower our rents and create a more successful property for everybody.”

Granite Court, Irvine, Calif.
Juan Tallo Granite Court, Irvine, Calif.

In Action: Opened in March 2009, Jamboree Housing’s Granite Court community in Irvine, Calif., is offering 71 one-, two-, and three-bedroom apartment units to families earning between 30 percent and 60 percent of the area’s median income. The land for the community was procured via a partnership with private market-rate developers. Additional financing sources were decidedly local, including $2.5 million in funding from the Orange County Housing and Community Services Department and $6.3 million in state affordable housing trust fund allocations.

Bottom line: State and local subsidies and affordable housing capital sources are becoming invaluable as layers of gap financing for affordable housing projects mired in the LIHTC recession.

Though few and far between, a generous local benefactor with the means and ability to donate land or soft monies can also change the course of an affordable housing project that would otherwise be doomed to failure.

4. Seek out a historical site.

What is it? Like other such products, the Federal Historic Preservation Tax Incentives Program helps offset the unusually expensive price of renovating and rehabbing historical structures, while also encouraging private equity investment into complex affordable and adaptive reuse construction.

Administered by the National Park Service, historic tax credits generated a record $5.64 billion in private equity investment in 2008 alone, helping to preserve hundreds of historical structures in cities and states nationwide while also generating an estimated 5,220 units of affordable housing.

The Pros: Layering historic tax credits can be a solid option, so long as the developer nails the age-old real estate maxim: location. “Historical is ultimately just a question of opportunity,” lawyer Syme says. “If you have that property available, it can be a go. If you are seeking the opportunity in your market, you always have to additionally draw the distinction between what is historical and what is just old.”

Determining that distinction is the purview of seasoned affordable housing developers such as Gorman & Co., which has found market opportunity in the niche expertise of leveraging adaptive reuse into affordable housing projects with historic tax credit financing.

There are also a number of indirect community benefits to the use of historic tax credits. Redeveloping a historic site can help revive blighted cities, clean-up local environmental hazards, and reinvigorate stale housing stock in dilapidated neighborhoods.

The Cons: This particular finance source has not been as proliferate for some developers. Though currently seeing a pricing preference among investors in the marketplace, historic tax credits for affordable housing projects can be problematic from an administrative and construction logistics standpoint. The challenges of simultaneously seeking investors and underwriting for both LIHTCs and historic credits—not to mention the construction rigors and exactitude of restoration—can often add significant costs to the development process, as opposed to helping to cover them.

Having placed more than $400 million in lending to support roughly 7,800 units in the D.C. metro, Enterprise’s Bowers struggles to recall any communities where historic tax credits came into transactional play. “We have really not done much—one or two deals tops.”

In Action: Historic tax credits alone are not enough to fully finance affordable housing projects, further exemplifying the industry need for layered financing sources in order to guarantee project success. Bank of America, for instance, was an interested buyer of the historic tax credits used in part by Gorman & Co. to finance Fairbanks Flats Row Homes, a redevelopment of segregated workforce housing in Beloit, Wis., that was originally built in 1917. In addition to historic tax credits, Fairbanks Flats benefitted from $2 million in LIHTC credits and a $150,000 interest-free loan from the city of Beloit.

Bottom line: Historic tax credits can be complicated and cumbersome. Some say they should simply become history, but the program can benefit the right property—in the right location.

By the Numbers

Despite its heft, the tax credit market has been ravaged, forcing the industry to find alternative financing programs.

No. of affordable housing units not being built due to financing issues at 1,000 projects now on hold
Source: U.S. Department of Housing and Urban Development

~$1 billion
Amount of first-round T-CAP recovery funds released for tax credit-based affordable housing projects
Source: U.S. Department of Housing and Urban Development

No. of years LIHTC program has successfully helped finance affordable housing projects
Source: U.S. Department of Housing and Urban Development

Average sales price of low-income housing tax credits (as of July 2009)
Source: Various

Interest rate on Fannie Mae Forward Commitment loan (as of June 2009)
Source: Grandbridge Real Estate Capital

$5.6 billion
Value of rehab work in 2008 under the Federal Historic Preservation Tax Incentives Program (includes creating 5,220 affordable units)
Source: National Park Service

$5 million
Amount Brad Pitt donated to affordable housing efforts in New Orleans
Source: Make It Right Foundation

No. of affordable housing projects awarded LIHTCs from 1987 to 2006
Source: U.S. Department of Housing and Urban Development

Loan-to-value under Freddie Mac’s fixed-rate, 9 percent LIHTC mortgage
Source: Freddie Mac

Prop. 46
California’s proposition that will allocate $2.1 billion in bond proceeds to affordable housing developers as part of the state’s affordable housing trust fund
Source: California Department of Housing and CommunityDevelopment

Amount of money allocated to the National Housing Trust Fund, which was signed into law in July 2008 but is still unfunded for fiscal year 2010
Source: National Low Income Housing Coalition

Star Power

Celebrities, business bigwigs, and a slew of deep pockets are helping to spur affordable housing development at a time when the availability of tax credits has fallen by the wayside.

Talk about taking creativity to a whole new level. Although typically not a direct source of hard financing, nabbing a local, regional, or national celebrity to advocate for and support an affordable housing project can add a surprising amount of community cache that draws in additional investor attention.

Consider Brad Pitt’s Make It Right Foundation, which committed to bringing 100 affordable, eco-friendly units to the Hurricane Katrina-devastated Lower Ninth Ward of New Orleans. After contributing $5 million of his own cash to the effort in 2007, Pitt was matched by environmental philanthropist Steve Bing. Now, Make It Right’s partners include Ellen DeGeneres; building materials supplier Stock Building Supply; product manufacturers James Hardie and Marvin Windows and Doors; and legions of private donors eager to ally themselves to the cause—and Pitt.

While not every development can sport A-list actor support, many affordable projects gain exposure from star power that includes local or state politicians, television personalities, or pro-athletes. On June 20, the Indianapolis Colts’ head coach Jim Caldwell joined Gorman & Co. and the Wisconsin Housing and Economic Development Authority to roll out the red carpet at the grand opening of Fairbanks Flats, a historic redevelopment of 16 rent-to-own units in Beloit, Wis.

“As a former resident, Caldwell is a huge celebrity in Beloit, and the fact that he showed up at our grand opening was fantastic,” says Greg Gorman, president of the Madison, Wis.-based Gorman & Co. “It certainly raises the profile of an extremely small project.”

So much so that major financial players, including Alliant Capital, which brought in a LIHTC investment; Bank of America, which offered up historic tax credits; and US Bank, which was responsible for the construction and permanent loans, partnered on the redevelopment and helped to pump the success of the project in the local and national media.

—Chris Wood