IRS Issues Memo on Tenant Income Increases, Conflicts with Other Housing Programs

The IRS recently released a memo, entitled “Low-Income Housing Credit—Noncompliance Resulting from Conflicting Program,” directed to examiners auditing LIHTC issues. The memo addressed whether a building could continue to qualify as low income under Section 42 of the Internal Revenue Code (IRC) if an owner doesn’t renew a tenant’s lease because the tenant’s increase in income was above the amount allowed under requirements of a local, state, or other federal program.

The tenant’s increase in income in this scenario, however, doesn’t conflict with LIHTC rules because the Available Unit Rule under IRC Section 42(g)(2)(D) states that if the income of the occupants of a low-income unit increases above 140 percent of the income limit (or 170 percent in deep rent-skewed developments), the unit will continue to be treated as a low-income unit if the occupants initially met the income limitation and the unit continues to be rent restricted. If the income of the occupants of the unit increases above 140 percent of the applicable income limitation, the unit will cease to qualify as a low-income unit if any residential rental unit in the building (of a size comparable to, or smaller than, such unit) is occupied by a new resident whose income exceeds the income limitation.

Prior 2007 Memorandum

An earlier IRS memo issued in August 2007 with the same title reached a different conclusion. The 2007 memo said that if an owner doesn’t renew a tenant’s lease despite the fact that the initial occupancy satisfied the income limitation elected for the project and the tenant’s later income increases didn’t conflict with LIHTC requirements due to the rules in IRC Section 42(g)(2)(D), the owner would violate LIHTC rules.

This memo reasoned that the project isn’t in compliance at all times during the 15-year compliance period because the owner gave precedence to another housing program’s income requirements that are in conflict with LIHTC rules. The memo concluded that no credit is allowable in the year under audit and the owner is also subject to the tax credit recapture. The IRS is now recommending that the 2007 memo be withdrawn.

Current Memorandum

According to the IRS, a building can still be a qualified LIHTC building if an owner doesn’t renew the lease of a tenant when the tenant’s income exceeds the applicable income limitation elected, even though IRC Sections 42(g)(2)(D)(i) or (ii) would allow the unit to continue to qualify as a low-income unit on renewal.

However, there must be good cause to terminate a lease or not renew a lease. According to the IRS, the fact that Sections 42(g)(2)(D)(i) and (ii) allow a unit to continue to qualify as a low-income unit despite the tenant’s increase in income above the applicable income limitation means an increase in income, by itself, is not good cause to end the leasing of the unit to such tenant.

The IRS also instructs agents not to be involved in determining whether or not good cause exists when an owner fails to renew the lease of any tenant. Instead, an appropriate party such as a tenant or housing credit agency can enforce the extended use agreement to the extent there is a question of whether there was good cause for nonrenewal of a lease. There should be a cause of action with respect to the nonrenewal of a lease because under IRC Section 42(h)(6)(B)(i) the extended low-income housing commitment agreement between the taxpayer and the housing credit agency must prohibit the eviction or the termination of tenancy (other than for good cause) of an existing tenant of any low-income unit.

Good cause should be determined under the applicable state or local law, and the fact that a local, state, or other federal program’s income requirements conflict with LIHTC rules may be relevant for this determination.

• Office of Chief Counsel IRS Memorandum POSTN-109692-15