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Low Income Housing Tax Credit Program: First Year Credit Weighted Average Calculation

The Low Income Housing Tax Credit Program contains significant guidelines, requirements, and calculations that must be followed in order for the appropriate parties to receive and maintain the maximum amount of tax credits.

The Low Income Housing Tax Credit (LIHTC) is claimed annually over a ten-year period, which begins no sooner than when the building is placed in service, and multiple buildings can be treated as either a single project or multiple projects for tax credit purposes.  This article addresses the first year in which the LIHTC is claimed and the calculation of the applicable fraction used to get to that all-important first year credit amount; specifically, the weighted average applicable fraction.

Acquisition, rehab, and/or construction is coming to an end and qualified units are now being occupied by qualified tenants.  It is now time to start claiming credits.  Credits are a function of the building’s eligible basis (mostly costs capitalized to the building and other depreciable costs), the applicable fraction, and the tax credit percentage (4% vs. 9%).  As mentioned previously, the credits are claimed over a ten-year period, but the first year credit is pro-rated to reflect the number of months of qualified occupancy.  This is accomplished by determining the applicable fraction as of the close of the first year credits are to be claimed.  The applicable fraction is the percentage of a building that is treated as low-income use and generally eligible for the low income tax credit.  It is based on the lesser of: 1) the number of qualified tax credit units divided by the total number of units (“unit fraction”), or 2) the square footage of the qualified tax credit units divided by the total square footage of all the units (“floor space fraction”).  In order for a unit to be qualified as a low-income unit, the unit must be in service as of the beginning of the month, and the unit must have been initially leased up to a low-income qualified household as of the last day of the month.

During the first year in which credits are being claimed, the applicable fraction must be determined each month by calculating the lesser of the unit fraction or floor space fraction.  The month’s fraction amounts are then totaled for the year and averaged over the entire year. This weighted average applicable fraction is then used in the calculation of the credits to be claimed in the first year.

Communication between all parties, including the development team, management team, construction team, and tenant and qualified individuals, is vital to the success of maximizing the amount of credits available throughout the compliance period.  Along with the calculation of the first year tax credit amount, cost certifications and audited financial statements should be properly planned for as these are usually requirements of the partnership agreement and state housing agency.

Author: Rebecca Machinga, CPA, CGMA | rmachinga@withum.com

Please reach out to a Withum real estate professional for additional help in determining the maximum amount of tax benefits related to credits.

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