Summary of New IRS Guidance

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Tax Credit Advisor June, 2006: The following summarizes the criteria IRS agents will look for in applications for tax-exempt status by nonprofits proposing to develop low-income housing credit projects, under the new IRS memo. An applicant must show – in provisions of the documents or written representations – that:

(Affordable Housing, Charitable Purpose, and Conflict-of Interest Issues)

  • Its participation in the project, which must be described in the application, will further its charitable purposes;
  • The project provides decent, safe, and sanitary affordable housing to low-income families;
  • The agreement provides a mechanism to resolve any conflict between the nonprofit’s charitable purpose and its fiduciary obligation to maximize profits to investors, in favor of its charitable purpose;
  • It has a conflict-of-interest policy to protect the applicant in any excess benefit transaction, or if there is benefit to the organization’s officers, directors, trustees, or partners;

(Environmental, Guarantee Issues)

  • It has reviewed an independent environmental report and exercised due diligence to minimize its risks before entering into any environmental indemnification;
  • It will have a fixed-price construction contract with a contractor that is bonded or provides a letter of credit or adequate personal guarantee;
  • Any operating deficit guarantee by the general partner doesn’t exceed five years after break-even nor six months’ worth of operating expenses, and a market study or other due diligence is required; also, an operating debt reserve is permitted;
  • Payments under any tax credit adjuster will be limited to an amount not exceeding the developer and other fees the applicant is entitled to; also, adjuster payments will be treated as a capital contribution to the entity or as a loan, having priority over any other distribution of residual assets from sale or refinancing; (Control Issues)
  • It will have the right to acquire the project at the end of the LIHTC compliance period at a reasonable price;
  • Any mandatory buyout of the investors’ interests for failure to meet certain requirements for project viability will not impose a price that exceeds the amount of capital contributions;
  • In general, any required investor consents for certain actions or events not involving daily operations will not be unreasonably withheld;
  • Any right of the limited partners to remove the applicant as general partner can only be for cause, after written notice and a reasonable cure period.