Third Circuit Hears Oral Argument in the Historic Boardwalk Case

On June 25th in Philadelphia Pennsylvania a three judge panel of the Third Circuit Court of Appeals heard oral argument on the appeal by the Internal Revenue Service of the Tax Court decision in the Historic Boardwalk case. The Tax Court had upheld the allocation of a Federal Historic tax credit to the tax credit investor member. One of the primary issues on appeal is whether the tax credit investor member had risk in the transaction. The Service argued that the tax credit investor was not at risk in the transaction and consequently was not a “partner” in the Historic Boardwalk investment entity and entitled to the allocation of the Federal historic tax credit. While it is clearly the intent of Congress that the Federal historic tax credit serve as an incentive for the rehabilitation of historic buildings, there is very little guidance on how the tax credit can be syndicated to investors. The historic tax credit industry has developed a structure in which the investor is a “partner” in the ownership entity, receives a preferential return, and is bought out of the investment entity through a put/call agreement after the expiration of the tax credit compliance period. The decision of the Court of Appeals may affect the structure of the syndication of future historic tax credit transactions.

Finding New Markets Tax Credit Allocation in Strange Places

With the demand for New Markets Tax Credit allocation at a historical high, available New Markets Tax Credit allocation is appearing in strange places. The downturn in the economy has hurt not only conventionally financed projects but also projects financed through government subsidized programs including the Federal New Markets Tax Credit program. Upon the foreclosure of a New Markets Tax Credit subsidized loan, the community development entity lender is obligated to redeploy the proceeds from the foreclosure in a new “qualified low-income community investment” to a new “qualified active low-income community business”. The requirement that a community development entity lender redeploy the proceeds of a previously extended New Markets Tax Credit subsidized loan presents an opportunity to sponsors to “reuse” New Markets Tax Credit allocation for a project. The new loan must satisfy the flexible lending product requirements of community development entity but may not contain a forgivable B note or a 7 year maturity.

Twinning the New Markets Tax Credit

While the Federal New Markets Tax Credit Program and the Federal Low-Income Housing Tax Credit Program are mutually exclusive – the former available for non-residential property and the latter available for residential rental property – the New Markets Tax Credit may be combined with other federal tax credits such as the Historic tax credit and the Renewable Energy tax credit. In the twinning structure – which is distinct from each tax credit being generated by a separate investment – the equity which generates the Historic or Renewable Energy tax credit is contributed as a qualified equity investment by an investor in a community development entity with an allocation of Federal New Markets Tax Credit authority. The result of twinning is to generate a New Markets Tax Credit on the Historic or Renewable Energy tax credit equity. While the pricing of a twinned credit will be more than the Historic or Renewable Energy tax credit without the New Markets Tax credit enhancement, the benefit may not always be significant when you factor in: (a) added transactional costs as a result of the complexity of the transaction; (b) the payment of the customary fees to the community development entity based on the amount of the “qualified equity investment”; and (c) the limited market of investors for the twinned credit. In a nutshell, a financial analysis of the net benefit of twinning the credits should be performed before pursuing the twinning of two federal tax credits.

New Markets Tax Credit Allocation as Inexpensive Private Equity

While the demand for New Markets Tax Credit allocation is at a historical high the Duane Morris New Markets Tax Credit practice group has been successful in assisting clients identify allocation available from community development entities in which the benefit provided to the sponsor is in the form of a subordinate interest free loan in the amount of the net tax credit equity. This subordinate loan payable in 7 years and may be converted into an equity interest in the sponsor. While this form allocation may not be desirable to non-profit sponsors, the allocation provides for-profit sponsors with what is tantamount to inexpensive private equity. Projects which have the best opportunity to receive this form of New Markets Tax Credit allocation: (a) are located in non-metropolitan census tracts; (b) create significant permanent jobs: and/or (c) are supermarkets in a food desert.

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.

Release of 2012 NMTC Application to be Delayed by the CDFI Fund

The CDFI Fund had indicated that it would disseminate the 2012 NOAA and the New Markets Tax Credit allocation application absent the enactment of legislation to extend the Federal New Markets Tax Credit Program. It had been anticipated that the time table for the 2012 NOAA, and the distribution and return of the application for New Markets Tax Credit allocation would parallel the schedule employed by the CDFI Fund last year. However, the New Markets Tax Credit Coalition recently reported that the CDFI Fund advised it that release of the 2012 New Markets Tax Credit allocation application will not occur by the end of May as originally anticipated. Further, the New Markets Tax Credit Coalition was advised that the release of the 2012 NOAA and application is unlikely to occur by the end of June. The delay of the release of the 2012 NOAA and the New Markets Tax Credit application by the CDFI Fund may result in awards being made as late as the summer of 2013.

The Future of NMTC Targeted Population Transactions

In 2011 the Service released final regulations which provide how “targeted populations” may be treated as “low income communities” where projects are eligible for the New Markets Tax Credit. Similarly the CDFI Fund amended the form of its allocation agreement to elevate the “targeted populations” criteria to one of its four primary criteria. The result is that satisfaction of the “targeted population” requirements under the Code may alternatively qualify a project as located in a “low-income community” and the satisfaction of the requirements under the allocation agreement may elevate the project to “highly distressed” status. Historically “targeted population” transactions have been challenging because of the added requirements of initially qualifying individuals as “low-income individuals” and insuring that future individuals will qualify as “low-income individuals” during the 7 year tax credit compliance period. While the final Treasury regulations and the revision to the allocation agreement will encourage the use of the “targeted population” criteria, the qualification and compliance requirements of using the “targeted populations” criteria will continue to be a hurdle for both community development entities and tax credit investors for all but the most compelling projects.

Food Deserts: A New Markets Tax Credit Oasis

In its 2011 allocation agreement the CDFI Fund added the “Food Desert” as one of the two secondary criteria which a community development entity may use to qualify a site as “highly distressed” under the Federal New Markets Tax Credit Program. This change in the allocation agreement is significant in light of the President’s proposal to extend the Program for two additional years and designate that at least $500 million ($250 million per year) will support financing healthy food options in distressed communities as part of the Healthy Food Financing Initiative. The 2011 allocation agreement defines a Food Desert, as either: 1) a census tract determined to be a Food Desert by the U.S. Department of Agriculture (USDA), as identified in USDA’s Food Desert Locator Tool; or 2) a census tract that qualifies as a Low-Income Community and has been identified as having low access to a supermarket or grocery store through a methodology that has been adopted for use by another governmental or philanthropic healthy food initiative. In addition, the 2011 allocation requires that QLICI activities increase access to healthy food. As a result, with the extension of the Federal New Markets Tax Credit program there will be an increased focus by community development entities on the development of affordable food centers in food deserts.

Pennsylvania Senate Approves Historic Tax Credit Bill

The Pennsylvania state Senate on April 2, 2012 approved the “Historic Preservation Incentive Act”. Pursuant to this Act a taxpayer may apply to the Pennsylvania Department of Community and Economic Development for a tax credit certificate which would provide a state tax credit equal to up to 25% of the “qualified expenditures” (as defined under Section 47(c)(2) of the Internal Revenue Code) incurred by the taxpayer. The issuance of state tax credit certificates by the Pennsylvania Department of Community and Economic Development is: (a) limited to commercial buildings; (b) provided on a first come first serve basis; (c) limited to not more than $10,000,000 of tax credit certificates in any fiscal year; and (d) limited to not more than $500,000 in tax credit certificates to a single taxpayer in any fiscal year. The Act also provides that the applicant taxpayer may assign a tax credit certificate to another taxpayer. The bill is currently pending before the state House.

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.