While interest rates for commercial real estate financing remain low, lender underwriting criteria remains very stringent. Lenders require substantial equity, guarantees, as well as strong tenants and general contractors when financing commercial real estate transactions. As a result, creative techniques are required when developing the capital stack of a commercial real estate transaction. One technique to attract equity to a project is to maximize the value of the federal tax benefits of the transaction. A partnership “flip” structure may be used to initially provide an equity investor 99.99% of the profits and losses from the development of the transaction. At a time when the equity investor receives a target yield the interests “flip” and the interests of the sponsor and investor are adjusted to reflect the intended “back end” equity ownership of the equity investor in the project. For the right investor this partnership “flip” structure can enhance the internal rate of return to the investor by combining cash flow with the cash value to the investor of the losses generated by the development of the project.
Developing Real Estate Projects – A New Look at Old Subsidies
The change in focus of the Federal New Markets Tax Credit Program to non-real estate businesses together with the high demand on the Program has deprived the real estate industry of a very valuable financing subsidy. Developers could use the New Markets Tax Credit Program to generate a subsidy of almost 20% of total project costs. The unavailabilty of the Program going forward will necessitate a new look at some old subsidies. For example, residential rental properties financed with volume cap tax-exempt bonds are eligible for the 4% Federal low-income housing tax credit without competition. The trade off for this subsidy is the restriction of the rental units to tax credit tenants for 30 years. However, this credit subsidy may be a very attractive where market and tax credit units are very similar or the project is focused on senior tenants. Similar traditional subsidies worth looking at in a new light include tax increment financing, financing through the EB-5 Program, and the variety of funding and subsidies available for green properties and properties using renewable energy. There may be some very creative uses for established subsidy programs in the development of new real estate projects.
Duane Morris Forms Puerto Rico Renewable Energy Practice Group
Combining the capabilities of several strong practice areas of the firm, Duane Morris LLP has formed a Puerto Rico Renewable Energy Interdisciplinary Practice Group. This interdisciplinary practice group works with developers, lenders, investors, and private equtiy funds in the development of renewable energy projects in Puerto Rico. Dependent upon the importation of fossil fuels, Puerto Rico’s energy costs are very high making renewable energy a very cost effective alternative. In addition, the Puerto Rico Electric Power Authority has encouraged the development of renewable energy projects in the Island though the issuances of power purchase agreements with renewable energy developers. Members of the group consist of Larry Diamond and Marco Gonzalez of the firm’s Puerto Rico Practice Group, Jim McTarnaghan, and Phyllis Kessler of the firm’s Renewable Energy Practice Group, Nat Abramowitz ,who practices in the finance and bond field, and Art Momjian, who specializes in Federal tax credit programs including the federal renewable energy investment tax credit.
Forbearance Agreements in Renewable Energy Financing Transactions
With the expiration of the legislation which provided the 1603 grant in lieu of the energy investment tax credit, renewable energy developers must now “sell” the investment tax credit to a tax credit investor. Recapture of the investment tax credit to a tax credit investor occurs if the energy property is foreclosed by a lender during the 5 year tax credit compliance period. As a result, tax credit investors routinely require a lender to forbear exercising its rights against a borrower during the 5 year tax credit compliance period to avoid recapture of the investment tax credit. Obviously forbearance is contrary to the goals of a lender which wants the right to exercise any and all remedies in the event of a default by the owner of the energy property. As a result of the stress between the positions of the tax credit investor and the lender a variety of alternatives to absolute forbearance have evolved. These alternatives include limiting forbearance to solely the energy property, providing the lender with a security interest in the equity interests of the borrower and permitting the lender to exercise its pledge of the equity interests of the borrower, and the exercise of rights against the energy property only in the event of a major default and after notice and an opportunity to cure to the tax credit investor as well as providing the tax credit investor with a purchase right of the energy property. The syndication of the energy investment tax credit to the tax credit investor creates a conflict between the interests of the investor and the lender which can only be resolved by a negotiated forbearance agreement between the parties.
Renewable Energy Opportunities in Puerto Rico and the Virgin Islands
Caribbean islands such as Puerto Rico and the U.S. Virgin Islands have historically been dependent upon imported energy for their energy needs. As a result electricity prices in these Caribbean islands are more than five times the average in the United States. The high cost of electricity makes renewable energy sources such as solar and winds a cost effective alternative. Duane Morris has been active in Puerto Rico and the Virgin Islands representing both governmental agencies as well as clients doing business in both Islands. With the recent dramatic decrease in the cost of solar technology and the availability of a renewable investment tax credit for both solar and wind projects, there should be execellent opportunities for the development renewable energy projects in both Puerto Rico and the Virgin Islands.
Crowd funding: A tool for non-profits developing new projects
The origin of the concept of crowd funding is attributed to 1997 efforts by fans who underwrote an entire U.S. tour for the British rock group Marillion. Fans of the band raised $60,000 with donations following a fan based internet campaign. More recently, the web based company Kickstarter elevated the original Marillion concept into a sophisticated model of raising funds for a variety of business ventures. At the Kickstarter site donations from the public are requested in return for gifts, memberships or pre-ordered products; however, donors are not given an interest of any kind in the venture. Another aspect of crowd funding is tied into the JOBS Act which allows for a wider pool of smaller investors with fewer restrictions. Crowd funding is a potential vehicle for non-profits to develop projects with the support of their donor base. As an example, a non-profit developing a renewable energy project may use crowd funding to appeal to supportors for donations in exchange for renewable energy certificates generated by the renewable energy facility. In states where the purchase of renewable energy certificates is not compulsory by utilities these certificates may not have much economic value but evidence an individual’s commitment to clean energy. This is one example of crowd funding as a potential tool for non-profits.
Renewable Energy Benevolent Investor Structure for Tax-Exempt Entities
With the expiration of the 1603 grant at the end of 2011, the development of renewable energy facilities has become more challenging. The Affordable Housing, Community Development, and Tax Credit Syndication Group of Duane Morris has developed a benevolent investor structure to provide renewable energy facilities to tax-exempt entities. Under the benevolent investor structure the renewable energy facility is purchased by a pass through entity, owned by a group of investors, which supports the tax-exempt entity, (collectively the “Benevolent Investor”). The Benevolent Investor enters into a power purchase agreement with the tax-exempt entity pursuant to which the Benevolent Investor provides power to the tax-exempt entity at below market rates. The tax benefits in the form of the renewable energy investment tax credit and the bonus depreciation, together with the income from the power purchase agreement and renewable energy certificates and rebates, if available, provide the Benevolent Investor with a positive return on its investment in the renewable energy facility. The Benevolent Investor has the option after the expiration of the tax credit compliance period to donate the renewable energy facility to the tax-exempt entity.
IRS Rules Value of Power Purchase Agreement May be included in Tax Credit Basis
The Internal Revenue Service recently issued Private Letter Ruling 201214007 which concluded that in the acquisition by the taxpayer of a wind energy facility accompanied by a facility specific power purchase agreement the taxpayer was not required to allocate any portion of the purchase price to the power purchase agreement. The Internal Revenue Service reasoned that where a power purchase agreement is fulfilled by a specific energy facility, the power purchase agreement had no value separate from the energy facility. In the facts presented to the Internal Revenue Service the owner of the energy facility could not satisfy the power purchase agreement from any other energy source other than the specific energy facility. The effect of the Private Letter Ruling is to permit an increase in the tax basis of the facility which results in an increase in the renewal energy investment tax credit and the basis of the energy facility for purposes of depreciation.
Adam Taliaferro elected to Board of Trustees of Penn State University
Adam Taliaferro, a member of the Affordable Housing, Community Development, and Tax Syndication Practice Group of Duane Morris LLP, was elected to the Board of Trustees of Penn State University. Adam Taliaferro is based in the Firm’s Cherry Hill Office. He was the subject of the 2001 book, Miracle in the Making: The Adam Taliaferro Story (Triumph Books), which chronicled his recovery from a spinal cord injury he sufferred playing football his freshman year at Penn State University. Adam consults with professional athletes in the sponsorship of affordable housing and community development projects. His practice also includes the representation of clients with regard to the evaluation of National Football League contracts and he has created National Football League contract proposals for clients.
Bill Hankowsky guest speaker at Duane Morris Real Estate Reception
On May 2, 2012 Bill Hankowsky Chairman, President, and CEO of Liberty Property Trust was the guest speaker at the annual Duane Morris Affordable Housing, Community Development and Real Estate Reception held at The Morris Restaurant in Philadelphia. Liberty Property Trust is real estate investment trust with office and industrial space in more than 20 markets throughout the United States and the United Kingdom. The reception was attended by over 100 people. Mr. Hankowsky shared his insights with respect to the impact of technology on the future development and use of real estate as well as the benefits of the green development of real estate projects. The Affordable Housing, Community Development, and Tax Credit Syndication group of the Corporate Department and the Real Estate Department of Duane Morris host a Community Development and Real Estate Reception in the Firm’s Philadelphia Office in the Spring and in the Firm’s New York office in the Fall. Last Fall the guest speaker at the Firm’s Reception was Maxine Griffith who heads the seven billion dollar development of Columbia University’s new Manhattanville Campus in West Harlem, New York.