Navigating the New Markets Tax Credit ProgramBy Mark R. Baran, JD, LL.M. | April 14, 2017
There is a government-sponsored program that helps investors do well by doing good; that is earn tax credits for investing in low-income communities across America. But this opportunity comes with a catch: the need to navigate a complex series of tax filing, compliance and investment qualification requirements.
The New Markets Tax Credit (NMTC) Program
The NMTC program was established as part of the Community Renewal Tax Relief Act of 2000. The goal of the program is to spark revitalization of low-income and otherwise impoverished areas in the United States. The program is designed to generate $15 billion in private sector investment in low-income US communities through 2019.
According to The US Treasury Department’s NMTC Program Award Book CY 2015-16: In the 13 rounds to date, the Community Development Financial Institutions (CDFI) Fund has made 1,032 allocation awards totaling $50.5 billion in tax credit authority – including $3 billion in Recovery Act awards and $1 billion that was specifically set aside for recovery and redevelopment in the wake of Hurricane Katrina.
The NMTC program provides tax credit incentives for people that invest equity in certified Community Development Entities (CDEs). These credits amount to 39% over a seven-year period. The investor may also receive additional economic benefits, such as interest payments from the investment.
The bad news here is that there is a seven-year long obligation to meet requirements for independent audits, regulatory compliance reporting and often complex tax return filings for newly created CDEs.
CDE investors and borrowers also often need to comply with operating agreements and loan covenants for the duration of the investments as well.
How the NMTC Program Works
The NMTC investment process is complex, so be prepared for lots of acronyms.
Community Development Entities (CDEs) apply to the CDFI Fund each year not for tax credits directly, but for an award of "allocation authority" — that is, the authority to raise a certain amount of capital, or Qualified Equity Investments (QEIs), from investors in the CDE.
In order for the investors to be able to claim the credits over the seven-year compliance period, the CDEs must use "substantially all" of the QEIs from investors to make Qualified Low Income Community Investments (QLICIs) in Qualified Active Low Income Community Businesses (QALICBs) located in Low Income Communities (LICs). (Each of the previous terms—CDE, QEI, "Substantially All," QLICI, QALICB, and LIC—are defined in the Internal Revenue Code and other federal guidance.)
NMTC Tax Credits Available
The payout for investors is the tax credit equaling 39% of the investment paid out over seven years: 5% in each of the first three years, then 6% in the final four years for a total of 39%.
The program is designed to leverage the local knowledge of the CDE to select appropriate investments or small business lending opportunities. These low-income community-based businesses might include inner-city shopping centers, manufacturers, distributors, retail stores, small tech firms or even small-scale entrepreneurs. Residential real estate does not qualify for the NMTC program.
This is a great program for promoting economic development in low-income areas that might otherwise be hard-pressed to attract investment from traditional sources such as risk-adverse commercial banks.
If all this seems a bit overwhelming, the New Markets Tax Credit Coalition has created an informative video that explains how it works. The Office of the Comptroller of the Currency also offers a more detailed overview.
Below is an illustration of how a typical NMTC transaction might work:
NMTC Can Work for Nonprofits Too
Michaels Sanders, lead partner in the Business Tax Group of the Washington DC office of Blank Rome LLP pointed out several years ago, “NMTC is a program nonprofit organizations may use to their advantage consistent with their exempt function.” In the Thomson Reuters article, he provides the example of a university using the NMTCs to develop a law school facility in a highly-distressed community. A fascinating capital improvement funding approach.
NMTC Tax Filing and Compliance Challenges
Navigating the complexities of the NMTC world can be challenging. There is a wide array of complex audits, certifications, compliance and tax filings required. If there is any doubt about the need to engage a competent tax expert, take a quick look at the IRS website page on NMTC.
Investors should seek professional help for a wide array of NMTC-related services, including audit, compliance and tax returns.
For more information on our NMTC accounting capabilities, please contact:
Mark Baran – Principal; Tax Department
Phone: 212.503.8991 | firstname.lastname@example.org
Please refer to your advisors for specific advice.
About Mark R. Baran
Mark Baran is a Principal in the Tax Department at Marks Paneth LLP. He has more than 25 years of specialized tax, transactional and legal experience advising publicly-traded and private companies, regulated financial institutions, investors, high net worth individuals, and government agencies. Mr. Baran provides specialized tax consulting and transactional services to a broad spectrum of clients and industries including the public sector. He routinely provides tax opinions on the tax implications of proposed transactions,... READ MORE +