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Commercial Real Estate Glossary
Last updated on Feb 19, 2023
3 min read

LIHTC: Low Income Housing Tax Credits in Commercial Real Estate

Low Income Housing Tax Credits, or LIHTC credits, are federal tax credits designed to encourage private businesses to invest in affordable housing. LIHTCs apply to multifamily apartment developments and eligible mixed-use commercial projects.

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In this article:
  1. What are Low Income Housing Tax Credits (LIHTC)? 
  2. LIHTC Qualification Criteria
  3. How Multifamily Assets Qualify for the LIHTC Program
  4. LIHTC Commercial Limits for Mixed-Use Projects 
  5. LIHTC Commercial Limit Workarounds for Developers
  6. Questions? Fill out the form below to speak with a commercial real estate loan specialist.
  7. Related Questions
  8. Get Financing

What are Low Income Housing Tax Credits (LIHTC)? 

Low Income Housing Tax Credits, or LIHTC, are federal tax credits designed to encourage private businesses to invest in affordable housing. In the last three decades, the LIHTC program has assisted in the financing of nearly 2.5 million affordable rental units across the U.S. While LIHTCs apply to multifamily apartment developments and not purely commercial real estate developments like office buildings or retail projects, many developers of mixed-use projects do use LIHTC credits. 

LIHTC Qualification Criteria

How Multifamily Assets Qualify for the LIHTC Program

In order to qualify for the LIHTC program, developers need to set aside a minimum of 40% of a project's units for tenants earning no more than 60% of the area median income, or AMI (40/60). Or, alternatively, they must set aside 20% of a project's units for tenants earning no more than 50% of the area median income (20/50). 

LIHTC Commercial Limits for Mixed-Use Projects 

While LIHTC credits are used in many mixed-use projects, there are relatively strict limits when it comes to commercial space. First, no more than 10% of a building's eligible costs can go towards constructing commercial space. In addition, no more than 20% of the project's income can derive from a commercial source. If this rule is broken, the IRS considers the building a commercial space instead of a residential one and the project could lose many of its tax credits.

LIHTC Commercial Limit Workarounds for Developers

If you want to develop a mixed-use project and use LIHTCs, you might find these limits overly restrictive. If so, you should understand that there are multiple ways to effectively increase a development’s commercial space well beyond the standard limits while keeping a project's LIHTC credits.

One of the most popular ways to do this is creating a "master lease," in which a developer or an affiliate of the developer signs a lease to take over the commercial space. Then, the developer (or affiliate) becomes a tenant, and pays a specific, set rent (which is under the income restriction) back to the partnership or entity that owns the project. The developer then can rent out the commercial space to shops, restaurants, or offices, and make a profit. At least as long as they receive more in commercial rents than they pay for the master lease. 

Another option is to "condominium-ize" the space. With this option, the ownership of a mixed use project is broken into different pieces, much like a condominium's units are each owned by separate people. In this case, the developer is the sole owner of the commercial part of the project, and is responsible for financing it separately from the residential part of the project tat receives the LIHTC credits. 

Questions? Fill out the form below to speak with a commercial real estate loan specialist.

Related Questions

What is the purpose of Low Income Housing Tax Credits (LIHTC)?

The Low-Income Housing Tax Credit (LIHTC) program is a federal government tax credit that, since 1986, has helped facilitate the construction and rehabilitation of 3.6 million affordable housing units throughout the U.S., according to housing advocacy organization NAHRO. The purpose of the LIHTC program is to incentivize developers to create low-income housing by offering a 10-year credit on federal income tax. Without the incentive, affordable rental housing projects would not be as appealing to multifamily investors, since they otherwise might not generate sufficient profit to justify investment.

How do Low Income Housing Tax Credits (LIHTC) work?

The Low-Income Housing Tax Credit (LIHTC) program was created in 1986 as part of the Tax Reform Act. The LIHTC is not a tax deduction, which would reduce a borrower’s taxable income. Instead, the credit provides a specific dollar amount tax discount, which can be applied to the investor or developer’s exact tax bill. In order to continue to take advantage of the tax credit, a developer must continue to keep their property in compliance. In 2016, the LIHTC program provided investors and developers approximately $8 billion in tax credits.

The LIHTC program is administered by individual states. Each state has a Qualified Allocation Plan (QAP), which details its exact requirements for LIHTC projects, which are typically stricter than the overall federal requirements. The federal government allocates a specific amount of credits to each state, based on the state’s population and a pre-determined multiplier. As both of these numbers can change, the amount of credits a state can get varies significantly.

Once the housing project is made available to tenants, investors are then able to claim the LIHTC over a 10-year period.

What are the benefits of Low Income Housing Tax Credits (LIHTC) for commercial real estate?

Low Income Housing Tax Credits (LIHTC) are federal tax credits designed to encourage private businesses to invest in affordable housing. The LIHTC program has assisted in the financing of nearly 2.5 million affordable rental units across the U.S. and can be used for mixed-use projects that include office buildings, retail projects, and multifamily apartment developments. The LIHTC program allows investors in qualified low-income properties to take a dollar-for-dollar deduction against their federal income taxes. In certain cases, the LIHTC program may be combined with the Opportunity Zones program to maximize returns. Other widely used tax credit programs include the HTC (Historic Tax Credit) program, which offers a tax credit based on the percentage of eligible expenses used to rehabilitate a historic building for commercial use, and the New Markets Tax Credit Program, which provides a tax credit for commercial development in low-income areas. In general, these tax credits programs are competitive, and thus, are typically utilized by institutions and funds rather than by individual investors.

The benefits of Low Income Housing Tax Credits (LIHTC) for commercial real estate include a dollar-for-dollar deduction against federal income taxes, the ability to combine with the Opportunity Zones program to maximize returns, and access to other tax credit programs such as the HTC and NMTC programs. It is important to consult with an experienced tax professional in order to better understand how each of these tax benefits may be able to work for you.

What are the eligibility requirements for Low Income Housing Tax Credits (LIHTC)?

In order for a property to be considered eligible for the Low Income Housing Tax Credit (LIHTC) program, it must pass at least one of three affordability tests:

  • 20% or more of the units are occupied by (or reserved for) tenants with an income of 50% or less of the area median income (AMI).
  • 40% or more of the units are occupied by (or reserved for) tenants with an income of 60% or less of the AMI.
  • 40% or more of the units are occupied by (or reserved for) tenants with an income of no more than 60% of the AMI, and the property has no units occupied by tenants with an income greater than 80% of the AMI.

In addition to the above, a gross rent test must also be passed. This test requires that rents for the property do not exceed 30% of either 50% or 60% of AMI (the exact percentage depends on the number of rental units set aside for the credit). LIHTC properties are required to pass these income and rent tests for a period of no less than 15 years — or risk having the tax credits recaptured by the local housing authority.

For more information, please visit apartment.loans/posts/what-is-the-lihtc and www.hud223f.loans/glossary/4-and-9-percent-lihtcs.

How can Low Income Housing Tax Credits (LIHTC) be used to finance commercial real estate?

Low Income Housing Tax Credits (LIHTC) can be used to finance mixed-use projects, but there are relatively strict limits when it comes to commercial space. First, no more than 10% of a building's eligible costs can go towards constructing commercial space. In addition, no more than 20% of the project's income can derive from a commercial source. If this rule is broken, the IRS considers the building a commercial space instead of a residential one and the project could lose many of its tax credits.

For more information, please visit https://www.commercialrealestate.loans/commercial-real-estate-glossary/lihtc-credits.

What are the risks associated with Low Income Housing Tax Credits (LIHTC) for commercial real estate?

The main risk associated with Low Income Housing Tax Credits (LIHTC) for commercial real estate is that if the project exceeds the limits set by the IRS, the project could lose many of its tax credits. According to Commercial Real Estate Loans, no more than 10% of a building's eligible costs can go towards constructing commercial space and no more than 20% of the project's income can derive from a commercial source. If these rules are broken, the IRS considers the building a commercial space instead of a residential one and the project could lose many of its tax credits.

In this article:
  1. What are Low Income Housing Tax Credits (LIHTC)? 
  2. LIHTC Qualification Criteria
  3. How Multifamily Assets Qualify for the LIHTC Program
  4. LIHTC Commercial Limits for Mixed-Use Projects 
  5. LIHTC Commercial Limit Workarounds for Developers
  6. Questions? Fill out the form below to speak with a commercial real estate loan specialist.
  7. Related questions
  8. Get Financing
Categories
  • Commercial Property Loans
  • CRE Loans
Tags
  • Commercial Mortgage
  • commercial real estate loans
  • Commercial Property Loans
  • LIHTC
  • Mixed-Use Projects
  • Low Income Housing Tax Credits

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