The audio portion of the conference may be accessed via the telephone or by using your computer's

speakers. Please refer to the instructions emailed to registrants for additional information. If you

have any questions, please contact Customer Service at 1-800-926-7926 ext. 10.

NOTE: If you are seeking CPE credit, you must listen via your computer — phone listening is no

longer permitted.

Financing Multi-Family Housing:

Structuring the Low Income House

Tax Credit and Tax-Exempt Bonds Documenting Transactions for Investors and Developers

Today’s faculty features:

1pm Eastern | 12pm Central | 11am Mountain | 10am Pacific

THURSDAY, AUGUST 25, 2016

Presenting a live 90-minute webinar with interactive Q&A

Philip C. Genetos, Partner, Ice Miller, Chicago & Indianapolis

Janice E. Hetland, Partner, Lathrop & Gage, St. Louis

Tips for Optimal Quality

Sound Quality

If you are listening via your computer speakers, please note that the quality

of your sound will vary depending on the speed and quality of your internet connection.

If the sound quality is not satisfactory, you may listen via the phone: dial

1-866-873-1442 and enter your PIN when prompted. Otherwise, please

send us a chat or e-mail sound@straffordpub.com immediately so we can address the

problem.

If you dialed in and have any difficulties during the call, press *0 for assistance.

NOTE: If you are seeking CPE credit, you must listen via your computer — phone

listening is no longer permitted.

Viewing Quality

To maximize your screen, press the F11 key on your keyboard. To exit full screen,

press the F11 key again.

FOR LIVE EVENT ONLY

Continuing Education Credits

In order for us to process your continuing education credit, you must confirm your

participation in this webinar by completing and submitting the Attendance

Affirmation/Evaluation after the webinar.

A link to the Attendance Affirmation/Evaluation will be in the thank you email that you

will receive immediately following the program.

For CPE credits, attendees must participate until the end of the Q&A session and

respond to five prompts during the program plus a single verification code. In addition,

you must confirm your participation by completing and submitting an Attendance

Affirmation/Evaluation after the webinar and include the final verification code on the

Affirmation of Attendance portion of the form.

For additional information about continuing education, call us at 1-800-926-7926 ext.

35.

FOR LIVE EVENT ONLY

Program Materials

If you have not printed the conference materials for this program, please

complete the following steps:

• Click on the ^ symbol next to “Conference Materials” in the middle of the left-

hand column on your screen.

• Click on the tab labeled “Handouts” that appears, and there you will see a

PDF of the slides for today's program.

• Double click on the PDF and a separate page will open.

• Print the slides by clicking on the printer icon.

FOR LIVE EVENT ONLY

Presented by: Janice E. Hetland August 25, 2016

FINANCING LIHTC PROJECTS WITH 4%

CREDITS AND TAX-EXEMPT BONDS

© 2 0 1 6 L a t h r o p & G a g e L L P

The statutory authority for Federal Low Income Housing Tax Credits (“LIHTC”) is set forth in Section 42 of the Code, as supplemented by its implementing Treasury Regulations

LIHTC is a permanent tax credit under the Code and was enacted into law to spur development of affordable housing for low and very low income households

Under Section 42, there are two potential sources of LIHTC:

– (i) the 70% present value LIHTC (the “9% Credit”)

– (ii) the 30% present value LIHTC for federally subsidized buildings (the “4% Credit”), which since July 31, 2008 is available for buildings financed by private activity bonds, exempt from tax pursuant to Section 103 of the Code, the proceeds of which bonds are used, directly or indirectly, with respecting to such building, or its operations.

Statutory Authority for Federal Low-Income

Housing Tax Credits

6

© 2 0 1 6 L a t h r o p & G a g e L L P

TYPICAL LIHTC STRUCTURE

7

Investor Limited Partner

Limited Partnership Developer Fees

Subordinate Mortgage Loans

General Partner

Leases to tenants

First Mortgage Loan

0.01% interest

99.99% interest; pays equity for LIHTC Credits

© 2 0 1 6 L a t h r o p & G a g e L L P

Under Section 42 of the Code, each State annually receives a volume cap allocation of 9% Credit (the “LIHTC Volume Cap”).

Developers apply for the 9% Credits from the State, and must satisfy the requirements of Section 42, as well as the requirements of the Qualified Allocation Plan (“QAP”) of the State for the year in question

From the developers submitting applications, the State analyzes the projects submitted and the goals of the State under its QAP, and then issues reservations to the developers of the affordable housing projects which are selected to receive 9% Credits, in the dollar amount of 9% Credits set forth in the reservation

– This Credit amount is often less than the amount for which the developer applied

The 9% Credit is an annual dollar amount, payable annually during the Section 42 Credit Period following completion of the development of the project

– A 10 year period, assuming timely lease up of units to qualified households.

The 9% Credit is only available for buildings which are not directly or indirectly “federally subsidized”.

9% LIHTC Credit

8

© 2 0 1 6 L a t h r o p & G a g e L L P

Under Section 42(b) of the Code, the 4% Credit is available for a building which is “federally subsidized”.

Pursuant to Section 42(i)(2), a building is deemed to be “federally subsidized” for any taxable year, if, at any time during the taxable year, or any prior taxable year, there is or was outstanding any obligation, the interest on which is exempt from tax under Section 103 of the Code, the proceeds of which were used (directly or indirectly) with respect to such building or the operation thereof (“Tax Exempt Bonds”).

The Tax Exempt Bonds are private activity bonds issued to finance the land and qualified basis costs of development of the LIHTC building (or multi-building project), which are issued under State Bond Volume Cap.

4% LIHTC Credits

9

© 2 0 1 6 L a t h r o p & G a g e L L P

New Construction Acquisition/ Rehabilitation

Not Federally Subsidized

9% Credits Acquisition – 4% Rehabilitation – 9%

Federally Subsidized 4% Credits Acquisition – 4% Rehabilitation – 4%

LIHTC Project Components

10

© 2 0 1 6 L a t h r o p & G a g e L L P

As the following slide documents, the 4% Credits raise substantially less LIHTC equity for the Project than do the 9% Credits

– Developers look to 4% Credits for projects which are not awarded 9% Credits, or for potential multi-phase projects where not enough 9% Credits are available

• Often state credit agencies will encourage developers of certain projects to apply for 4% Credits

– Because less equity is raised in a 4% Credit transaction, in addition to the proceeds of the Tax Exempt Bonds and investor equity, there is typically more subordinate mortgage debt on the Project, which is usually payable from cash flow of the Project prior to maturity

• HOME Investment Partnership Act funds

• Federal Home Loan Bank AHP funds

• Other Federal, State or Local funds

– There also is typically more deferred development fees

4% Credit Equity

11

© 2 0 1 6 L a t h r o p & G a g e L L P

Assumptions:

– Project with total development costs of $10 million

– $9 million of costs are eligible basis costs

– 100% LIHTC Units

– Price per LIHTC Credit is $1.00

Calculation of 9% Credit Equity versus 4%

Credit Equity

12

© 2 0 1 6 L a t h r o p & G a g e L L P

Calculation of 9% Credit versus 4% Credit

(cont’d)

13

9% Credit 4% Credit

Qualified basis (100% LIHTC) $9,000,000 $9,000,000

Credit Percentage x 9%* x 3.15%**

Potential Annual Credit $810,000 $283,500

Credit Reserved $650,000 $N/A

Total Credit available during Credit Period $6,500,000 $2,835,000

Credits to Investor (99.99%) $6,499,350 $2,834,717***

Equity received ($1.00/Credit) $6,499,350 $2,834,717

*Permanent rate for 9% Credit pursuant to 2015 Tax Extender

**August 2016 rate; rate changes monthly

***Assuming achievement of 50% Test

© 2 0 1 6 L a t h r o p & G a g e L L P

Costs of the land and eligible basis building costs for each building in the Project must be financed by Tax Exempt Bonds

Critical to verify that the bonds are tax exempt, pursuant to Section 103 of the Code, and private activity bonds, subject to valid State bond volume cap allocation, taken into account under Section 146 of the Code

– 42 (m) letter issued by Bond Issuer

– State Housing Credit Agency generally underwrites the project to determine consistency with the QAP

– Bond Counsel Opinion

– IRS Form 8038

– Election of Applicable Percentage

– Regulatory Agreement reflecting 20/50 or 40/60 election

Components of 4% Credit Transaction

14

© 2 0 1 6 L a t h r o p & G a g e L L P

This determination is made based on the costs of the land and eligible basis of the building (which will include personal property) that is paid from tax exempt bonds

– These costs can include costs for which the developer has already paid, and which are reimbursed from Bond proceeds, provided that the costs are incurred no more than 60 days prior to Bond inducement.

50% Test

– Pursuant to Section 42(h)(4), if 50% or more of the aggregate basis of the land and building are paid from the Tax Exempt Bonds, then the eligible basis costs of the entire development is eligible for the 4% Credits

– Critical Planning Point: If less than 50% of such costs are paid from Tax Exempt Bonds, then only the percentage of costs actually paid by such Bonds are includible in eligible basis for the 4% Credits

“Financed” by Tax Exempt Bonds

15

© 2 0 1 6 L a t h r o p & G a g e L L P

The Bonds need to be issued and spent to finance development costs during the construction period

Based on existing IRS guidance, the Bonds must remain outstanding until after placement in service of the buildings in the Project.

– Ready and available for its specifically assigned function – Occupancy permits – AIA Certificate of Completion

Following placement in service, the Bonds may be paid down or paid off and refinanced by other mortgage debt

– Mortgage loans from state housing credit agencies – FHA insured loans (non-recourse, fixed rate, generally 40 year

term) – Federal Home Loan Mortgage Corporation (Freddie

Mac)/Government National Mortgage Association (GNMA) Bond take out

– Permanent component of Tax Exempt Bonds remaining after pay down from investor equity at completion

“Financed” by Tax Exempt Bonds (cont’d)

16

© 2 0 1 6 L a t h r o p & G a g e L L P

Typically occurs where not enough 9% Credits were awarded to a developer for its project

– In lieu of multi-year phased projects

Critically important that each project financing is totally separate from the other project, with no common financing and no cross collateralization (See IRS Technical Advice Memorandum 9528002 and PLR 9001046), so that the 9% Credit project won’t be deemed to be “federally subsidized

Structure

– Separate buildings/condominium units (See IRS Notice 88-91, inter alia, which concludes a condominium unit is a separate building under Section 42 of the Code)

– Separate ownership

– Separate loans

9% / 4% Projects

17

© 2 0 1 6 L a t h r o p & G a g e L L P

Treasury Regulation 1.103-11 provides that the tax exemption on Bond interest does not apply while the obligation is held by a “substantial user” of the facility

– A “substantial user” is a non-exempt person who regularly uses the facility in its trade or business

Typically occurs when the investor in the owner entity is affiliated with the Bond purchaser (private placement of the Bonds)

Bond interest would be taxable while Bonds are held by such affiliate

Bond documents need to provide for the Bonds to bear interest at a taxable rate during that period

Bond interest would become tax exempt again when transferred to a non-substantial user

This does not affect the 4% Credits available for the Project

Bond Purchaser as Substantial User under

Section 103 of the Code

18

© 2 0 1 6 L a t h r o p & G a g e L L P

Contact Information:

Janice E. Hetland

Lathrop & Gage LLP

7701 Forsyth Boulevard, Suite 500

St. Louis, Missouri 63105

Phone: 314.613.2800

Email: JHetland@lathropgage.com

19

© 2 0 1 6 L a t h r o p & G a g e L L P

Lathrop & Gage LLP provides this material for informational purposes only. The material provided herein is general and is not intended to be legal advice. Nothing herein should be relied upon or used without consulting a lawyer to consider your specific circumstances, possible changes to applicable laws, rules and regulations and other legal issues. Receipt of this material does not establish an attorney-client relationship. Lathrop & Gage LLP is very proud of the results we obtain for our clients, but you should know that past results do not guarantee future results; that every case is different and must be judged on its own merits; and that the choice of a lawyer is an important decision and should not be based solely upon advertisements. This material is based on the law as it existed on August 25, 2016.

20

Ice on Fire Ice on Fire

Of Rental Housing Projects

BOND FINANCING

Ice on Fire

Interest on bonds issued by state and local governments is excludable from federal income taxation

The Tax Code provides a "subsidy" for certain specific eligible projects

Because of income tax exemption, bond purchasers are willing to accept lower interest rate and frequently longer maturities

Two types of bonds

Governmental—not used often for housing projects

Private Activity

Most Typically, For Profit Housing Facility (Tax Credits can also be used and are used to reduce the debt issued

501(c)(3) owned projects (no tax credits): often debt is more highly leveraged. These bonds have many characteristics of governmental bonds

22

Bond Basics

Ice on Fire

Bonds must be issued by a state or local government

Issuer acts as "conduit" and loans proceeds to borrower

Borrower repays bonds with revenues of project

Repayment can be secured by a mortgage on project

Security structure, financial covenants, and security may be similar to conventional loan

Publicly marketed bonds more typically have credit support, such as Letter of Credit, FNMA, GNMA or FHA, or bond insurance. Bonds are rated

Privately placed bonds more often have no credit support

Section 8 assistance contracts can also be used as credit support but typically a lower rating results.

Bond Basics (Cont'd)

23

Ice on Fire

The most obvious role is that of the owner/borrower in fulfillment of its exempt purpose. 501(c)(3) bonds have many benefits over private activity bonds for private developers. The exempt purpose of the 501(c)(3), though, defines the applicable limitations on the operation of the project. If the exempt purpose is the provision of affordable housing, the IRS safe harbor to qualify for 501(c)(3) status is two-pronged:

A. that the project meet the rules for a Qualified Residential Rental Project (20/50 or 40/60 tests described later); and

B. that for 75% of the units rents must be affordable to people whose income is not higher than 80% of area median income.

No rent restrictions per se, but rents must be affordable

Need to assure private uses are acceptable

501(c)(3) Entity Roles

24

Ice on Fire

The second role is as an investor in the partnership

formed to own and develop the project subject to either

the Section 42 rules for credits or the Section 142 rules

for bonds.

This project is financed with bonds in the same manner

as a private developer would

This structure is used where the 501(c)(3) entity qualifies

for certain grants that can be used to fund the project and

reduce either the debt or equity needed.

Often, the tax credit or bond allocation programs provide

preferences for involvement of 501(c)(3)s in the developer

501(c)(3) Roles (cont'd)

25

Ice on Fire

Construction/Rehab costs

New Equipment Costs

Land Acquisition (20%)

Capitalizable Start-up Costs

Interest on bonds during construction

A&E and other similar soft costs

Developer fees

Costs of Issuance up to 2%

Reimbursement after Notice of intent

Eligible Project Costs

26

Ice on Fire

Single building

Multiple buildings

Scattered Sites

Types of Projects

27

Ice on Fire

No Credit Support

Housing Structures

Issuer

Borrower Trustee Bond

holders

Collateral

28

Ice on Fire

Credit Support from MBS

Housing Structures

Issuer

Borrower Trustee Bond

holders

Mortgage

GNMA

FHA MBS

29

Ice on Fire

No allocation process for 501(c)(3) owned projects. No tax credits and no private activity bond volume

Where a project has at least 50% of its eligible basis financed with tax exempt private activity bonds, the project may receive 4% credits outside of the 9% credit volume limitation

Bond volume is allocated annually by a state or local agency, often the same state agency that allocates the tax credits.

Bonds fund the portion of the project costs not funded with equity raised from 4% tax credits and other sources the developer can access

Allocation formula may give preferences for areas in need, non-profit participation, higher standards than 20/50 or 40/60 or agreement to maintain restrictions for longer period

Allocation agency can also be the issuer

Allocation Processes for Bonds

30

Ice on Fire

501(c)(3) bonds typically fund virtually of the project

costs, except to the extent of any grant funding

Private activity bonds for private developers typically

fund 60-65% of the project costs, with LIHTC funding

of 30% and other sources of 5-10%.

Conventional debt for 9% LIHTC projects typically

funds 25% of the project costs, with LIHTC funding of

70% and other sources of 5%

Comparison of Financings

31

Ice on Fire

For profit borrowers must apply for "volume"

Volume is allocated by Federal govt. annually to states

based on population. State then allocates the volume

to a single state agency to decide or to bigger cities

and the state agency.

In some states, the housing agency recommends to

the primary state finance agency how the bond volume

should be allocated

No volume necessary for 501(c)(3) Bonds

Multifamily Housing Bonds

32

Ice on Fire

Rehabilitation Requirement for existing property

Rehabilitation expenditures within 2 years must equal or exceed 15% of cost of acquisition of real property financed with bonds. 100% for structures. Proceeds may not be used to acquire equipment other than equipment integrated into the building (HVAC)

Not required for 501(c)(3) Bonds, but then subject to the requirement for Qualified Residential Rental Project, which most 501(c)(3)s must meet to qualify

"Qualified Residential Rental Project"

20-50 set aside (20% of units occupied by tenants with income equal to 50% of area median, adjusted for family size)

40-60 set aside (40% of units occupied by tenants with income equal to 60% of area median, adjusted for family size)

Term of restriction is longest of (a) term of the tax-exempt bonds, (b) term of Section 8 assistance, or (c) 15 years

Complete facilities (living, sleeping, eating, cooking, sanitation); Not used on transient basis

Multifamily Housing Bonds (Cont'd)

33

Ice on Fire

Public Hearing Required by Issuing Agency

2% Limitation on Costs of Issuance

Bond Counsel, Issuer fees, Financial Advisor,

Underwriter's Fee, Underwriter Counsel, Rating

Agency Fees

Funding for Land is limited to 20%

Substantial User or Related person may not hold

Bonds on a tax exempt basis

Multifamily Housing Bonds (Cont'd)

34

Ice on Fire

FHA insurance—normally long term fixed

FHA/GNMA long term bonds—normally fixed

FNMA long term bonds—fixed or variable

Letter of Credit—FHLB enhanced—fixed or variable

Guaranteed by Credit Investor

Rated Only transactions based upon full evaluation of

project features and/or Section 8 HAP contract

Short Term tax exempt bonds solely to secure 4%

credits

Bond Structures

35

Ice on Fire

Volume cap bonds need only be for 50% of project

costs

Volume cap bonds need only be outstanding until in

service date

Where 9% LIHTC is not available and tax exempt

financing is expensive using short term tax exempt

financing to secure the 4% LIHTC may be

advantageous in some cases

Short Term Tax Exempt Bonds

36

Ice on Fire

Inducement Resolution

Allows for reimbursement (acquisition, construction, rehab costs)

Working Group

Borrower—owns the projects, usually manages the project, repays the bonds and provides impetus for decisions, such as notice of marketing, credit support

Issuer—authorizes the bonds payable solely by Borrower

Bond Counsel – delivers the opinion that bonds are valid and interest is tax exempt—i.e., the project qualifies on its face

CPA Involvement

Underwriter/Bank – sells or buys bonds

Underwriter Counsel – prepares disclosure documents

Liquidity/Credit Enhancement – bond insurer, letter of credit, FHA, GNMA, FNMA

Trustee – to act on behalf of Bondholders

Rating Agency?

Financing Basics

37

Ice on Fire

Financial Covenants

Tested periodically to ensure ability to repay debt

Debt Service Coverage: cash flow greater than debt service

Liquidity test: ensures sufficient cash available to operate

Debt to capital: limit amount of debt financing

Capital expenditure limits

Occupancy/Lease Up

Limitations on corporate activity

Mergers, divestitures

Additional debt tests

Ownership changes

Financing Basics (Cont'd)

38

Ice on Fire

Amortization

Variety of repayment options depending on revenue

stream from the financed project & strategic plans

Term tied to useful life of the property financed

Max = 120% of the average useful life

Other considerations:

Existing debt

Future debt

Financing Basics (Cont'd)

39

Ice on Fire Ice on Fire

of Rental Housing Projects

INTRODUCTION TO BOND FINANCING