How to Meet Your Site's First-Year Occupancy Requirements

When you start managing a tax credit site, you must meet certain occupancy requirements in the first year of the site’s compliance period. If you don’t meet these requirements, you’ll run into big problems. For example, the site owner may have to forfeit some or even all of the tax credits it was allocated for your site.

So it’s essential to know what occupancy requirements you must meet each time you begin managing a tax credit site. We’ll tell you about two requirements that apply to all tax credit sites. And we’ll tell you about three other requirements that apply to only some tax credit sites—and how you can find out whether you need to meet them.

REQUIREMENTS THAT APPLY TO ALL TAX CREDIT SITES

Here are two occupancy requirements that all tax credit managers must meet in the first year of the compliance period. Because both requirements have to do with making sure the right number of units are occupied by low-income residents, you may mistakenly believe that the two goals are the same. Remember you must meet both of the following. Managers who think in terms of only one number may end up meeting only one of the goals, and their sites may fall into noncompliance.

Requirement #1: Meet the Minimum Set-Aside

To qualify for the tax credit program, your site must meet its “minimum set-aside.” This means that you must rent a certain percentage of your units to qualified low-income households.

What’s the minimum set-aside? The minimum set-aside is expressed as two numbers separated by a hyphen (for instance, 20-50 or 40-60). The first number tells the percentage of units that you must rent to qualified low-income households. The second number tells the highest income a qualified household can earn, expressed as a percentage of area median gross income (AMGI). So if your site’s set-aside is 20-50, you must rent at least 20 percent of your site’s units to households earning no more than 50 percent of AMGI.

How is the set-aside met? If you have more than one building at your site, the owner must tell you whether you must meet the set-aside on a per-site or per-building basis. It’s possible that you may need to meet a different set-aside for each building.

What if the set-aside isn’t met? If you don’t meet the set-aside by the end of the first year of the compliance period, your building or site won’t qualify for the tax credit program. As a result, the owner won’t be entitled to claim any of the tax credits it was allocated.

Requirement #2: Meet Each Building’s Target Fraction

For an owner to be entitled to claim all the tax credits it was allocated for its buildings, you must rent enough units to low-income households to bring each building’s first-year fraction up to the “target fraction.”

What’s the target fraction? The target fraction is expressed as the percentage of space in a building that you must rent to qualified low-income households to ensure that the owner can claim all its credits. To calculate the target fraction, take the lesser of the unit fraction (the number of low-income units divided by the building’s total units) and the floor space fraction (the floor space of the low-income units divided by the total floor space of all units). For example, if a building has 100 units taking up 78,000 square feet, and the owner’s targeted applicable fraction is 60 percent, you will want 60 units taking up no less than 46,800 square feet (78,000 sq. ft. x 60%), occupied by qualified families no later than the end of the first year of the credit period or on Dec. 31 of that year. Owners set the target fraction with the state housing agency during the development phase.

How is the target fraction met? You must always meet the target fraction on a per-building basis—regardless of the number of buildings at your site.

What if the target fraction isn’t met? If your first-year fraction falls short of the target fraction, your building will still qualify for the tax credit program (assuming you meet the minimum set-aside). But the owner won’t be able to claim all the credits it was allocated for the building. For instance, if the owner’s target fraction is 90 percent, but you establish a first-year fraction of only 80 percent, the owner will lose credits for the 10 percent shortfall.

It’s important to note that the credits generated by units first occupied by eligible residents during the first year of the credit period are more valuable than the credits generated by units first occupied by eligible residents after the first year of the credit period. For a unit first occupied by an eligible household during the first year of the credit period, the owner may take 1/10th of the total tax credit for the unit each year of the 10 year credit period.

If your first-year fraction falls short of the target, the tax credit law gives owners a chance to make up for this shortfall if they rent more units to qualified low-income households after the first year. But if an owner is entitled to claim additional credits because of an increase in the target fraction after the first year, it can claim only two thirds of these credits during each year of the 15-year compliance period rather than the usual 100 percent over the 10-year credit period.

In other words, for units occupied by eligible residents in the first year, the owner may take 1/10th of the total tax credit for the unit each year of the 10-year tax credit period. For a unit first occupied by an eligible household after the first year of the credit period, the owner may take 1/15th of the total tax credit for the unit each year of the 15-year compliance period beginning with the first year an eligible household occupies the unit.

REQUIREMENTS THAT APPLY TO SOME TAX CREDIT SITES

Here are three occupancy requirements that you may need to meet in the first year of your site’s compliance period.

Requirement #1: Meet the Deep Rent-Skewed Set-Aside

If the owner of your site elects the deep rent-skewing option, you’ll need to meet an additional set-aside in the first year of the compliance period. This set-aside, known as the “deep rent-skewed set-aside,” is always 15-40 and applies only to low-income units. So to meet the deep rent-skewed set-aside, you must rent 15 percent of all low-income units at your building or site to households earning no more than 40 percent of AMGI.

If you don’t meet the deep rent-skewed set-aside but do meet the minimum set-aside, your site will qualify for the tax credit program but it won’t qualify for deep rent-skewing.

How to find out if you must meet the deep rent-skewed set-aside. When you start managing a tax credit site, ask the owner whether it plans to choose the deep rent-skewing option. You’re more likely to encounter deep rent-skewing if your site is located in a city where market-rate rents are high. That’s because, in return for tougher restrictions, an owner who chooses deep rent-skewing doesn’t have to make market-rate units available if a low-income household goes over-income. Owners must notify the IRS of their decision when they file Form 8609, as line 10d of that form requires.

Requirement #2: Meet Additional Set-Asides Agreed to with Your State Housing Agency

When owners apply to their state housing agencies for tax credits, they sometimes promise to comply with additional occupancy requirements in return for an allocation. For instance, the owner of your site may have agreed to meet an additional set-aside for a special population group, such as the homeless, disabled, or elderly. Or the owner may have promised to rent a certain number of units to very low-income households.

If you don’t meet these additional set-asides, your state housing agency could take legal action against the owner for not complying with the terms of their agreement.

How to find out if you must meet additional set-asides. If the owner of your tax credit site committed to an additional set-aside, it should appear in the extended use agreement that the owner signed with your state housing agency. Ask the owner to check both its application for tax credits and the extended use agreement to find out what other set-asides you must meet.

Requirement #3: Meet First-Year Requirements of Other Housing Programs

If you manage a mixed-program site—that is, a site that also gets assistance from other federal or state housing programs—you may need to meet additional occupancy requirements during the first year of the site’s compliance period.

Many housing programs have their own minimum set-aside requirements that differ in key ways from the tax credit program’s. For instance, in the tax credit program, the owner chooses its building’s or site’s minimum set-aside with the state housing agency when applying for credits. But if your site is financed by tax-exempt bonds, the bond issuer chooses the set-aside for that program. Also, while the tax credit program’s set-aside applies to all units in a building or at the site, the HOME program’s set-aside applies only to units funded by HOME.

Not meeting the occupancy requirements of other programs won’t affect the owner’s tax credits. But noncompliance may cost the owner the additional assistance that those programs provide.

How to find out whether you must meet other programs’ occupancy requirements. When you start managing a tax credit site, check with the owner to see whether the site gets assistance through any other housing program. Owners don’t always tell tax credit managers about other programs because they don’t realize that those programs may have compliance requirements that you must know about. If you learn that the site gets assistance through another program, ask the owner for the documents it has regarding that program—such as regulatory agreements and financing agreements. And read these documents carefully to become familiar with the requirements.