As always, the Low Income Housing Tax Credit market continues to be dynamic. Despite the uncertainties of tax reform in 2017, investor appetite was still quite strong. And now that H.R. 1 has been enacted, the market should solidify further. However, the days of typical pricing in excess of $1 per credit do seem to be gone (again).
Interestingly, LIHTC pricing has not changed as much over the last few months as may have been anticipated. For the most part, investors got ahead of tax reform – after the 2016 election, investors saw that tax reform could be a real possibility, which could result in significantly lower corporate tax rates; thus investors and syndicators began building in reduced pricing in newly-issued term sheets. Average pricing quickly came down by a few pennies at the beginning of 2017. But average pricing has stayed generally in the mid-$0.90s since then.
Over the last few months, we have seen some hesitation from investors in regards to other aspects of potential changes to the tax code. For example, initially the LIHTC itself appeared to be in jeopardy, though in the end both the House and the Senate backed the program. And various other aspects of tax reform presented new challenges, such as elimination of private activity bonds and reduction of the basis boost from 130% to 125% but again the final bill did not include these changes. This demonstrates that support for the program – in Congress as well as among housing authorities, developers, investors, etc. – remains strong. And despite reduced tax rates, which should theoretically reduce the aggregate tax liability of corporations, there is still investor appetite for the credits – even more so for investors looking to satisfy CRA requirements.
One measure from tax reform that may impact pricing going forward is the Basis Erosion and Anti-Abuse Tax (“BEAT”). BEAT penalizes companies that keep foreign profits overseas and impacts their ability to utilize tax credits. Some investors may need to divest their LIHTC portfolio, which could lead to a further erosion in LIHTC pricing. Once all the provisions of tax reform are worked through, we believe the market will ultimately stabilize in the low $.90s range.
All that being said, it is important to keep in mind that credit pricing is just one component that drives the investor’s return – which is ultimately the determinant for the overall economic terms that the project will see. Tax benefits are obviously an important component as well, which is why pricing has fallen in order to accommodate reduced corporate rates. But there are many other factors which determine return as well, including some that are also potentially affected by further changes to the tax code – e.g. bonus depreciation.
At the Sherbert Group, we work with developers and investors to maximize project pricing while still delivering the investor’s required return. Through identification of various overlooked benefits, along with optimization of other terms, we are often able to increase pricing by between $.02 and $.05 per credit. Though by itself this does not make up for pricing reductions due to reduced corporate tax rates, it can make the difference between a marginal project and a strong project.
The Sherbert Group has worked with a number of clients using our methodology of analysis, and we would be excited to discuss your projects with you, or simply to have a general discussion regarding tax reform with your team. If you have any questions about topics in this newsletter, please let us know by emailing Aaron Mayer at firstname.lastname@example.org.