Low-Income Housing Tax Credit (LIHTC) Transactions

How the LIHTC Program Works

The Low-Income Housing Tax Credit (LIHTC) program, established under Section 42 of the Internal Revenue Code, is the principal federal tax-credit program supporting the development and preservation of affordable rental housing. A project is generally owned through a partnership or limited liability company. A private investor acquires an interest in that ownership entity and makes capital contributions in exchange for allocations of federal housing credits and other tax items. The credits are generally claimed over a ten-year credit period, while the project remains subject to a fifteen-year federal compliance period and a longer recorded extended-use commitment.

State housing credit agencies administer the program through Qualified Allocation Plans (QAPs). Competitive 9% credits require an allocation from the state's housing-credit ceiling. Qualifying bond-financed buildings may receive 4% credits without an allocation from that ceiling, but they remain subject to the applicable QAP, agency underwriting and approval, Form 8609 certification, and Section 42 requirements. Illinois projects are administered by the Illinois Housing Development Authority (IHDA). The potential credit amount is based on qualified basis and the applicable credit percentage, subject to agency feasibility determinations and other statutory limitations.

9% Credits and 4% Credits

LIHTC transactions are built around one of two credit types, each with a distinct financing and allocation structure.

9% Tax Credits

The 9% credit is the higher-value credit category. Section 42 provides a 9% minimum applicable percentage for qualifying new buildings that are not federally subsidized. Competitive 9% credits are awarded from the state's limited housing-credit ceiling under the QAP. Because demand commonly exceeds available authority, applications are evaluated for readiness, feasibility, site control, and alignment with housing-agency priorities.

Nine-percent credits are frequently used for new construction and substantial rehabilitation projects that can secure a competitive allocation. They do not require tax-exempt bond financing and may be combined with permanent debt, HOME funds, CDBG funds, housing-trust-fund loans, deferred developer fee, and other gap sources.

4% Credits and Tax-Exempt Bonds

The 4% credit is outside the competitive 9% allocation process, but it is not automatic. A qualifying project generally must be financed with tax-exempt private-activity bonds, obtain volume-cap authority and issuer and housing-agency approvals, satisfy the applicable QAP and underwriting requirements, and comply with Section 42. The historical aggregate-basis threshold is 50%. A 25% threshold may apply only when at least 25% of the aggregate basis of the building and land is bond-financed, one or more bonds from an issue dated after 2025 finance at least 5% of that aggregate basis, and the building is placed in service in a taxable year beginning after 2025. Tax counsel should confirm the applicable threshold for each transaction. Because qualifying 4% credits are outside the state's Section 42(h)(3) housing-credit ceiling, the principal federal volume constraint is generally private-activity-bond authority rather than the competitive 9% credit ceiling.

Tax-exempt bond financing may be issued by a state or local governmental issuer and sold publicly or privately placed with a bank or other purchaser. Four-percent credits are commonly used for acquisition-rehabilitation, preservation, and new-construction projects where bond authority and the balance of the capital stack are available.

Compliance and extended use. Both credit categories are generally subject to a fifteen-year federal compliance period and a recorded extended low-income housing commitment. The extended-use period begins when the building first becomes part of a qualified low-income housing project during the compliance period and ends on the later of the date specified by the housing credit agency or fifteen years after the close of the compliance period. Housing-agency commitments and other financing sources may require longer restrictions. Federal credit recapture generally applies to noncompliance during the fifteen-year compliance period; after that period, the recorded extended-use commitment and other program documents continue to govern affordability and enforcement.

Transaction Structure and Participants

LIHTC transactions involve a layered capital structure and a defined set of participants, each with their own role, interests, and legal requirements. Understanding the participant structure is essential to understanding the legal work.

Developer / Sponsor

The developer or sponsor initiates and drives the project — identifying the site, securing financing commitments, managing the development process, and operating the property after completion. In a LIHTC transaction, the developer is typically the general partner of a limited partnership or the managing member of an LLC. The developer controls day-to-day operations but is subject to major-decision approval rights held by the investor and the requirements of the investor documents and loan documents.

Tax Credit Investor

The investor purchases an interest in the tax credit partnership or LLC in exchange for capital contributions made over a defined funding schedule. The investor's return is generated primarily by the tax credits (which offset federal income tax liability dollar-for-dollar) and by tax losses from depreciation. The investor has a limited partner or investor member interest — passive for tax purposes — but holds significant legal rights through the investment documents, including approval rights over major decisions, funding conditions tied to construction milestones, and recourse to the developer through guaranties.

Syndicator

In many LIHTC transactions, a syndicator serves as an intermediary between project ownership entities and institutional investors. A syndicator may aggregate investments in multiple project entities through a fund or place a project with a single investor. The syndicator structures and underwrites the investment, negotiates the partnership or operating agreement, manages investor reporting and compliance oversight, and coordinates capital-contribution conditions. In a direct investment, the syndicator and ultimate investor may be the same institution.

Construction Lender

The construction lender provides financing for the development phase. The construction loan must be coordinated with the investor-equity funding schedule, permanent financing, public and subordinate sources, and the conditions applicable to each source. Depending on the credit structure, lender closing requirements may include evidence of a competitive credit award, bond and agency approvals, an investor commitment, and a viable permanent takeout or conversion plan.

Permanent Lender

Permanent financing replaces or converts the construction financing after the applicable conversion conditions are satisfied. Those conditions commonly include completion, required occupancy or stabilization, agency and investor deliverables, title and survey updates, and satisfaction of program-specific requirements. Permanent financing may be provided by banks, mission-driven lenders, community development financial institutions, government-sponsored-enterprise programs, or FHA/HUD programs, each with its own underwriting and document requirements.

Public Agency and Soft Debt Providers

Many LIHTC transactions — particularly 9% deals — include subordinate financing from public agencies, local governments, or program sources such as HOME Investment Partnerships, Community Development Block Grant funds, state housing trust funds, or local affordable housing programs. These sources each carry their own regulatory requirements, loan documents, approval processes, and closing conditions, and must be coordinated within the overall closing.

The Legal Work in a LIHTC Transaction

LIHTC closings are among the most document-intensive in commercial real estate. Legal work spans multiple disciplines and must be coordinated across all participants simultaneously.

Entity and Investment Structure

Formation of the tax credit partnership or LLC
Limited partnership agreement or operating agreement
Master tenant or master lease structures where applicable
Investor subscription and admission documentation
Co-general partner and co-developer arrangements

Capital Contributions and Credit Delivery

Investor capital contribution schedules and funding conditions
Credit delivery and basis adjuster mechanisms
Pay-in structures tied to construction progress and credit events
Bridge loan documentation where investor equity is funded in advance

Guaranties and Risk Allocation

Completion and construction guaranty
Operating deficit guaranty
Tax credit delivery and recapture indemnity
Environmental indemnity
Guaranty carve-outs, limitations, and burn-off provisions

Loan Documentation

Construction loan agreement and security documents
Permanent loan documentation and program-specific requirements
Subordinate loan documentation for each soft debt source
Intercreditor and subordination agreements among lenders
Title insurance and endorsements for each lender

Regulatory and Program Compliance

Regulatory agreement with the state housing finance agency
Land use restriction agreement (LURA) recorded against the property
HOME, CDBG, and other program-specific regulatory agreements
Section 8 HAP contract coordination where applicable
Declaration of covenants and affordability restrictions

Project and Development Documentation

Development agreement between the sponsor and the tax credit entity
Management agreement with the property manager
Construction contract and design agreements
Ground lease documentation where the site is publicly owned
Organizational diligence across all transaction entities

Year-15 and the Extended Use Period

The end of the initial fifteen-year compliance period — commonly called "Year 15" — is a significant ownership and financing milestone. The extended-use period does not begin at Year 15; it has already been running from the first day during the compliance period on which the building became part of a qualified low-income housing project. At Year 15, federal credit-recapture exposure generally ends, but recorded affordability restrictions and other program obligations continue.

Investor exits are governed principally by the partnership or operating agreement and any separate option or right-of-first-refusal agreement. Section 42(i)(7) provides a federal tax safe harbor for a contractually granted right of first refusal held by qualifying tenants, a resident management corporation, a qualified nonprofit organization, or a government agency to purchase the property after the compliance period at a price not less than the statutory minimum purchase price. The statute does not itself create a self-executing purchase right; the governing documents, notice provisions, transaction facts, and applicable law determine whether and how the right may be exercised.

Year-15 planning may also involve a negotiated investor-interest transfer, a put or call option, refinancing, recapitalization, or resyndication. A new LIHTC transaction may generate rehabilitation equity and impose a new compliance period and extended-use commitment, while existing regulatory agreements and other affordability restrictions may continue and overlap. These transactions require coordination among the exiting and incoming investors, lenders, the housing credit agency, public funders, and tax and compliance counsel.

Layered Credit Transactions

LIHTC transactions are frequently structured in combination with other federal tax credit programs, each of which adds a layer of documentation, investor requirements, and regulatory compliance.

Historic Tax Credits (HTC) may be available for certified rehabilitations of certified historic structures and are often combined with LIHTC on preservation and adaptive-reuse projects. Combination transactions may use a master-tenant or lease-pass-through structure under which the building owner makes the applicable tax election to pass rehabilitation expenditures through to a lessee; that structure is not required in every transaction. The ownership, lease, investor, fee, and basis arrangements must be coordinated with tax counsel.

New Markets Tax Credits (NMTC) may be used for qualifying business or nonresidential components in low-income communities. An NMTC structure generally includes an investor, an investment fund, one or more Community Development Entities (CDEs), and one or more qualified low-income community investments (QLICIs). A QLICI may be a loan, equity investment, or other qualifying investment; the NMTC structure must be coordinated with any LIHTC ownership and financing structure.

LIHTC Counsel at Snow LLP

The firm advises developers, sponsors, nonprofit organizations, and other participants in LIHTC transactions — both 9% and 4%/bond — including new construction, rehabilitation, preservation, and recapitalization. This practice handles the transactional legal work associated with the tax credit structure, the investment entity, the financing stack, and the regulatory framework, and coordinates with tax counsel, syndicators, lenders, and public agency counsel as required by each transaction.

LIHTC closings are complex, multi-party, and time-sensitive. The firm focuses on managing the legal workstreams efficiently, maintaining the closing schedule, and identifying the issues that require attention before they become closing delays.

Illustrative Example

A nonprofit sponsor develops a new-construction affordable housing project financed with 9% credits. The sponsor organizes a limited partnership and serves as general partner, and a tax credit investor is admitted as a limited partner and contributes equity in installments tied to construction milestones and to the units being placed in service. A construction lender funds the build; a permanent lender converts the construction loan after the project stabilizes; and a municipal HOME loan provides subordinate gap financing. The partnership agreement gives the investor major-decision approval rights and funding conditions, supported by completion, operating-deficit, and tax-credit-recapture guaranties from the sponsor. A regulatory agreement and a recorded land use restriction agreement impose the affordability restrictions through the compliance and extended use periods. Each source closes at the same time, and its conditions are coordinated so that construction funds, investor equity, and the permanent-loan commitment align at closing.

This example is a simplified illustration of transaction structure and mechanics. It does not describe an actual engagement, is not legal advice, and does not predict any outcome.

Low-Income Housing Tax Credit Transactions