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Budget Header 2011

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Extend option for cash assistance to states in lieu of housing tax credits

The Low-Income Housing Tax Credit (LIHTC) provides tax incentives for the development of low-income housing. Maximum credit amounts are allocated to states based on population. LIHTC’s are issued to developers through state housing agencies after a competitive application process, with more generous amounts awarded to those projects designed to house a high proportion of low-income families. Housing developers can use credits to reduce their tax own liability or they can sell the credits to other investors—most developers sell the rights to future tax credits as a way to raise capital. The credit is provided over a period of up to 10 years, with the actual amount of the credit depending on prevailing interest rates.

The subsidy for low-income housing is substantial. Developers can claim up to 30 percent of the qualified cost basis of new construction—essentially the cost of the project less the cost of the land—and up to 70 percent of the cost of rehabilitated projects. Research has shown the LIHTC to be a significant factor in the development of low-income housing over the past several decades.  

The American Recovery and Reinvestment Act (ARRA) created a new way for LIHTCs to subsidize low-income housing. Instead of offering state housing agencies the right to distribute tax credits to developers, ARRA allowed states to issue cash grants directly to developers. The criteria for cash grants are the same as for tax credits.

The president’s 2011 budget proposes to extend the cash grant method of subsidizing low-income housing. Under the budget proposal, states could distribute grants in lieu of unused 2009 LIHTCs or a portion of their 2010 credit allocation. This provision is temporary: states would be required to distribute the cash grants by December 31, 2012.

Substituting cash grants for tax credits helps mitigate the effects of weakened investor demand for low-income housing tax credits. With cash grants, developers can still use the subsidy for low-income housing, but don’t have to partner with investors seeking to purchase the rights to LIHTCs. While the switch to cash grants is a particularly effective strategy during periods of low investor demand, the strategy could also improve the subsidy’s effectiveness in periods of normal economic growth.

The net cost of this proposal is small—just $243 million over 11 years—since it simply calls for trading tax cuts in the future for cash transfers in 2010 and 2011.

Additional Resources
The Stimulus Act and the Limits of Tax Credits, TaxVox, February 26, 2009