Streamed: Tuesday April 5, 2022
Duration: 22 minutes
About This Webinar
Learn more about how the new markets tax credit can help to alleviate to your tax burden all while contributing to community development.
Welcome, everyone. We’re looking forward to presenting the new markets tax credit to you. Essentially, this is the government essentially giving you a major part, 39%, of your cost in certain properties. So imagine, you can go ahead and buy a property and it really only costs just 61% of the cost. That’s not to mention other benefits that we can combine with this.
So one of the things that I want to say to everybody is a lot of times people say, “How do the big boys, how do the big corporations, the Fortune 500, how do they make these profits in the billions and not pay any taxes?” I’ll tell you how. There’s two purposes to the tax code. One is to collect revenue. Everybody knows about that one. But the other one is in a democracy, when the government would like us to do something, like invest in a certain type of property in a certain type of neighborhood, they can’t order us to do it. But they want us to do it, so how can they achieve it? They can give us tax benefits. This dramatically lowers our cost, and we have multiple avenues and multiple benefits.
On that happy note, and I’m real excited about this, I want to introduce my friend and colleague, the head of our tax department, tax attorney and accountant Cliff Capdevielle. Cliff, take it away.
Thanks, Steve. Today, we’re going to talk about the new markets tax credit. As you mentioned, this is a credit that’s worth up to 39%. In addition to that, you can stack it with other credits and government incentives. We’re going to talk about that. But this is a credit that is focused on low income communities, and it’s been around for a little over 20 years. It was just renewed for another five years, so it is available. We’re going to talk about how you can qualify and how you can use these credits. In general, it’s a 39% credit when you make qualified equity investments in qualified community development entities. We’re going to talk about what that means in some detail.
Investment types are quite broad. So this includes not just real estate investments, it also includes financing for small businesses, increasing home ownership opportunities, and improving community facilities, such as daycare centers. We’re going to talk about what kind of retail investments are available here. But in general, it’s designed to improve the lives of residents in low income communities.
What is a low income community? It’s a census tract where the poverty rate is at least 20% and the median family income is below 80% of the statewide median income for a family. It’s a community by community calculation. What’s interesting about this credit, it is very much designed to be available for those people, investors, the community development entities who know a lot about the individual communities. So you’ll see as we go through this that a lot of these investments are really in the million to $2 million range. They’re very targeted. For the most part, these community development entities have a lot of experience in these low income communities. That’s really why the benefit is so valuable is because these community development entities are really experts how to get money and resources to these communities.
What is a qualified equity investment? So a qualified equity investment is an investment in which at least 80% of the cash is used by the community development entity to make qualified low income community investments. A lot of jargon here, but essentially what this means is that the investment is for an approved purpose. That is typically in the form of equity, which means stock, typically in a corporation. In exchange for that investment, the qualified community development entity is allowed to push those tax credits to the individual investors.
This is a general business credit, under Section 38 of the Internal Revenue Code. It’s a credit of up to 39% of the investment, which is huge, Steve. As you know, credits are much more valuable than deductions. This is claimed over seven year period, so that is essentially equally claimed over the seven years of the investment [crosstalk 00:06:11].
The reason it’s so much more valuable is if you’re in the 30% tax bracket and you have a $100,000 tax deduction, you save $30,000 in taxes. If you have a credit, it’s dollar for dollar. So if you have a $100,000 tax credit, you save $100,000 in taxes. That’s why a credit is so much more valuable than a deduction. Essentially, what’s happening here is the government is partnering with you in the cost, but that’s it. They’re just greatly reducing the cost. That’s a tremendous difference when a property only costs you 61% of the price. Not to mention that you’re doing something for the social good, you’re helping people as well. So this is a situation where it’s win-win. And this is the way that I was introducing earlier that the government gets us to do something they want us to do and can’t order us. That’s a tremendous savings in cost. Cliff, go ahead please.
In addition, Steve, the new markets credit is not a standalone credit. You can stack this credit with other credits. We’ve talked in previous presentations about the rehab credit, the historic building tax credit. We’ve also done presentations on accelerated depreciation methods and cost segregation. All of these things go hand in hand, and they’re really tremendous incentives to invest in these communities. Investors obviously understand that and are taking advantage of these credits.
A lot of times when people look at somebody else, they say, “Oh, I wish I had the money to do that. You know it takes money to make money. I sure wish I could do that.” There’s an awful lot of people that don’t realize with this credit and the other credits, and we’re only teasing you because later on in the presentation going to see other credits that go along with this. There’s an awful lot of people that thought they could never afford this type of investment that can, courtesy of the government.
So how does this work? Let’s take a typical investment, $2 million, into a project. You would receive that 39% credit over the course of the investment ranging between $100,000 and $120,000 per year, Steve. That’s a credit, and that is in addition to the, as I mentioned, the other deductions and credits that are available. So a $2 million investment in a project generate up to $780,000 in tax credits.
How does this work? A taxpayer holding a qualified equity investment can claim a new market tax credit in the year in the amount applicable to the percentage paid to the CDE, the community development entity. That means that it doesn’t have to be annualized, but typically it’s going to be on each anniversary date of the investment.
As you mentioned, Steve, the new market tax credit can be used with other tax credits. So we’ve done presentations on the rehabilitation credit, which is pursuant to the Internal Revenue Code, Section 47. You can use both credits on the same project. In addition, you’re allowed to use accelerated depreciation methods and cost segregation on the same investment. And you know, Steve…
So with accelerated depreciation, what that means, it’s the time value of money. That’s how banks make money. Where instead of having to wait so many years for recovery on your investment, you get to go ahead and get the value much, much sooner. Time value of money. You can invest that money and make other money. That’s the strength of a time value of money.
Yeah, Steve, we start to sound like the late night infomercial in some way, but there’s more. So in addition to using the rehabilitation credit, the new markets credit together, and the accelerated depreciation methods, you can also stack this with an empowerment zone investment, enterprise zone investment. Pretty soon these investments are tremendously valuable.
What is the qualified community development entity? Typically, this is managed by a developer, is registered with the Community Development Financial Institutions Fund. There are some particular requirements. So the primary mission is serving or providing investment capital in low income communities. You’re required, of course, to maintain accountability to those residents, and you have to be certified. Now, sounds like a lot of work, but for a developer who’s interested in this kind of project, this can be tremendously valuable. Of course for the individual investor, that certification is not required. The individual investor can invest directly with that [crosstalk 00:12:42].
For the amount of work, essentially, you’ll be receiving the benefits as the investor, and your tax attorney will do the work for you.
Absolutely. So Steve is available to consult with if you’re a developer interested in learning more about the application process for community development entity or if you’re an investor looking to make an investment in a community development entity. At the end of the presentation, we’ll tell you how to learn more about that.
So what is a qualified low income community investment? This is going to be capital. It’s typically an equity investment, so that’s going to be stock or a loan, which is essentially an indirect investment into another CDE, another community development entity. It’s also services can qualify. So financial counseling or other services which are aimed at improving the lives of low income communities, low income community businesses and residents.
So how does this work? Well, chart shows you in the bottom left, you can see if you’re private investor, it’s very simple. You simply invest in a community development entity, and then you’re entitled to claim that tax credit on your tax return. Of course, Steve is available to talk to you about that, how to claim that credit on your tax return and take advantage of that. From the community development entity perspective, if you’re a developer and you’re interested in getting into this business, you see your various options. You can make direct investments in businesses, which is the most common, you can make loans, or you can invest indirectly in other community development entities.
There’s also a real chance here for the business person to make a profit because, Cliff, going back to the food desert you were talking about, I’ve seen surveys where in certain neighborhoods, other than fast food, you can’t even buy a vegetable. You can’t buy any real food. Of course, if you live in the community, if there’s no food, you do buy the fast food, but that’s not good. So here you have an opportunity for business people to go in. There’s such a need and there aren’t the stores fulfilling it. So everybody does well and everybody makes a profit.
Yeah, absolutely. As we mentioned, in addition to the new market credit, you can stack this with the opportunity zone investment. Steve, you want to talk a little bit about opportunity zones.
Yes, this is the one I was restraining myself on because I so wanted to introduce it. I said, “No, no, no, I don’t want to get ahead of our presentation.” This is a benefit coming in and coming out. So you own this property and get this tremendous tax advantage. But eventually, as a business person, you want to go ahead and sell. Well, the beauty of the opportunity zone is the opportunity zone was created by Congress in the Tax Cuts and Jobs Act. What it does, it encourages investment in certain properties, and there’s multiple advantages here. One, you can have capital gains from some other investment, even a non-real property investment. That’s the beauty of it because in the 1031 changes in law, now we have to only do real property for real property, but this is kind of a backdoor way using an opportunity zone. So we get to defer capital gains until 2026.
Then we go ahead and we hold onto this property, and let’s go back to our food store. Let’s assume that now when you’re ready to sell this investment, it has greatly increased. You go ahead and sell it. But one of the advantages that Congress gave us with the opportunity zone is as long as you’ve held the property sufficiently long, you can legally avoid capital gains. And that is tremendous. That is a tremendous opportunity. Also, even with the opportunity zones, we don’t have to have 100% investment in this property. We only need as much as 63% and this will work.
So again, this is the stacking that Cliff was talking about, where you get multiple benefits. So think about all these tax savings, which is a tremendous decrease in your cost, multiple advantages. And even on the way out when you make this huge profit, the government says, “Thanks for investing here. No tax on your capital gains.” That is just exciting and tremendous.
What is the process? We’ve talked about this a little bit, but essentially once a community development entity is formed, there’s a new market tax credit allocation application. If that’s approved, then the CDE, community development entity, receives those tax credit allocations. And then the CDE can then source those allocations to the private investors. Private investors then place their money based on the tax credit allocations received. So from the investor’s point of view, this is pretty straightforward. From the developer’s point of view, there is that application process. But as I said, this is certainly not insurmountable for most [crosstalk 00:20:58].
There’s a highly technical term for those of you that are really into technical terms, this is sweet.
It sure is.
I like the fancy terms.
There’s got to be a catch. This is a great opportunity for investors. It is limited, so… Steve, typically in any given year the government sets aside $5 to $7 billion for the New Markets Tax Credit Program, which sounds like a lot of money, but it’s typically oversubscribed. So how do you figure out who’s accepting money and how do you get your hands on these credits? Well, you’ve got to get connected to a community development entity. So if you’re an investor and you’re interested in community development entities in your area, send us an email, we’ll send you a list of the community development entities in your city or county that you’re interested in investing in. If you’re a developer and you’re interested in learning more about the application process to become a community development entity, shoot us an email and we can help you with that.
One of the things we pride ourselves in, we put things in simple English for you. I want to quote from my other friend and colleague, tax attorney Liz Prehn, we’ll tell you what time it is, we won’t tell you how to build the clock. We’ll show you how to get the benefits. We’ll do all the work for you.