Dana Wade LIHTC Walker Dunlop

Shortage of Tax Credits, Higher Interest Rates Plague Affordable Housing

by Sarah Daniels

Forty-year-high inflation rates that are outpacing wage growth and eating away at personal income are exacerbating already outsized resident demand for affordable housing financed by the federal Low-Income Housing Tax Credit (LIHTC) program.

But it seems that obstacles to supplying new units to meet that demand are only multiplying. Those range from a shortage of housing tax credits needed to fund new supply to resistance to multifamily development at the local level. Meanwhile, higher mortgage rates are making home buying more difficult and expensive. In turn, that is creating more apartment renters, thereby putting upward pressure on rental rates.

In September, for example, the average monthly rent price nationwide hit $1,759, an increase of 7.8 percent from the prior year, according to Realtor.com’s monthly rental report. That’s also nearly 25 percent higher than September 2019, the organization reports. What’s more, from 2015 through 2020  — long before mortgage rates spiked — the U.S. lost 4.7 million apartment units with rents less than $1,000 per month, according to U.S. Apartment Demand Through 2035, a report by the National Multifamily Housing Council and National Apartment Association.

“Demand for affordable units is only going to become more acute between now and the end of the year. And it will stay that way in 2023,” says Dana Wade, chief production officer of the Federal Housing Administration (FHA) Finance team for Bethesda, Maryland-based Walker & Dunlop. “While LIHTC has been and will continue to be an extremely useful program to build more affordable housing, there just aren’t enough tax credits available to close the affordability gap.”

Tax Credit Shortfall

For roughly three decades, the LIHTC program has provided banks and corporations with tax credits in return for significant equity investments in affordable housing. Over that time, that public-private partnership has created some 3.4 million affordable apartment units, according to the U.S. Department of Housing and Urban Development.

The initiative comprises a 9 percent tax credit, which finances 70 percent of construction, and a 4 percent tax credit, which finances 30 percent of construction. While Congress temporarily increased the amount of 9 percent housing tax credits by 12.5 percent in 2018, the supply reverted to the status quo at the end of 2021.

On the bright side, Congress also increased the amount of proceeds developers could raise by “fixing” the 4 percent tax credit, which prior to the action was a floating rate typically less than 4 percent. That action, along with an increase in affordable housing rental rates, has made 4 percent tax credit deals more financially feasible and thus is driving more developer demand for the credits.

On the downside, 4 percent LIHTC deals must be paired with state-issued private activity bonds, and those bonds must fund at least 50 percent of the project’s cost in order for developers to get the full financing benefit of the tax credits. But many states lack the bond volume cap capacity to meet developer requests for the financing. Ultimately, that means less construction of new affordable units and fewer property recapitalizations to keep existing units affordable.

“Almost half the states across the country have hit their bond allocation caps,” Wade says. “That used to happen in high-cost states (like California) that had an acute shortage of affordable housing supply because of high demand. But now it’s happening across the country — in states like Tennessee, Florida, South Carolina and Texas.”

Widening Gap

What’s more, affordable housing developers are generally receiving fewer loan proceeds because of a higher cost of debt. That is leading to a wider debt-and-equity financing gap to fill with grants, low-priced loans and other funding that comes from state, local and federal sources.

These challenges are occurring just as tens of thousands of units are coming to the end of their mandatory affordability compliance period over the next few years. That could lead to a further erosion of affordable housing if investors, who lack financing sources to keep them in the LIHTC program, move them into the market-rate pool, Wade adds.

“All of these macro-economic factors are making deals harder to pencil out,” she explains. “As a developer financing a project, you always have a choice, and if there are no incentives to maintain affordability, you’ll look at market-rate as an alternative.”

Pushing for Solutions

Wade and affordable housing advocates hope that a recent congressional hearing on affordability will help stimulate discussion and passage of the stalled Affordable Housing Credit Improvement Act. Among other measures, the broadly supported bi-partisan bill would increase the annual allocation of housing credits by 50 percent over two years.

It would also expand the ability of states to create affordable housing by lowering the amount of costs that private activity bonds are required to cover in a 4 percent tax credit deal. Lowering the threshold to 25 percent from the current level of 50 percent, for example, would finance an additional 1.5 million affordable homes over the next 10 years, according to the Affordable Housing Tax Credit Coalition, an industry association based in Washington, D.C.

Additionally, recent Internal Revenue Service regulatory rulings on the average income test, LIHTC program deadlines and the ability to use federal COVID-19 recovery funds with housing tax credits have helped dislodge stalled developments, the organization noted.

Those changes, along with a potential increase of housing tax credits, are needed if the U.S. is to have any hope of closing the home affordability gap, Wade acknowledges. But local jurisdictions have a role to play, too. At this point, she says, multifamily developers must overcome restrictions on land use, building heights and density in many cities. To some degree, the outlook is changing.

“Communities are beginning to recognize the benefits of having affordable housing development, and often the projects blend quite well into the community,” Wade states. “We see a lot of areas that don’t have enough individuals to fill jobs, and affordable housing can help bring people closer to where they work.”

— By Joe Gose. Walker & Dunlop is a content partner of REBusinessOnline. For more articles from and news about Walker & Dunlop, click here.


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