Can the New Markets Tax Credit (NMTC) Program Be Used in Opportunity Zones?
The New Markets Tax Credit (NMTC) encourages investment and development in low income communities by offering tax credits to investors who make equity investments in specialized investment vehicles referred to as Community Development Entities (CDEs). Investors can claim a 39% credit (of equity invested) over a 7-year period. The NMTC program has helped create 178 million sq. ft. of commercial space and has financed more than 5,000 businesses. In comparison, the Opportunity Zones program allows investors to defer or reduce their capital gains taxes by investing in an Opportunity Fund, a specialized investment vehicle that has invested 90% of its assets into a Qualified Opportunity Zone (QOZ), one of 8,700 low-income census tracts througout the U.S.
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The New Markets Tax Credit (NMTC) encourages investment and development in low income communities by offering tax credits to investors who make equity investments in specialized investment vehicles referred to as Community Development Entities (CDEs). Investors can claim a 39% credit (of equity invested) over a 7-year period. The NMTC program has helped create 178 million sq. ft. of commercial space and has financed more than 5,000 businesses. In comparison, the Opportunity Zones (O-Zones) program allows investors to defer or reduce their capital gains taxes by investing in an Opportunity Fund, a specialized investment vehicle that has invested 90% of its assets into a Qualified Opportunity Zone (QOZ), one of 8,700 low-income census tracts througout the U.S.
Combining The NMTC and O-Zones Programs
In order to qualify for NMTCs, a Community Development Entity must compete with other CDEs for a limited number of tax credits. CDEs accept money from investors and offer them New Markets Tax Credits in exchange for investing in the Community Development Entity. They use this equity to lend to businesses at low rates to encourage them development of low income communities.
Since approved areas for the New Markets Tax Credit also have low median incomes, there is a natural overlap between many NMTC areas and Opportunity Zones. While the NMTC is claimed over a seven year period, many investors might want to keep their capital in an Opportunity Fund for 10 years or longer. By doing so, they can take advantage of the fact that Opportunity Funds allow investors who keep their investments for at least 10 years to avoid paying any capital gains taxes on the appreciation their investment has experienced while in the Opportunity Fund.
NMTCs and LIHTCs Can Be Combined for Maximum Tax Benefits
Like NMTCs, the Low Income Housing Tax Credit (LIHTC) program is a popular tax credit program which offers investors a dollar-for-dollar federal income tax credit for investing in affordable housing properties. While New Markets Tax Credits are generally for commercial real estate, and LIHTCs can only be used for affordable residential real estate, these programs can actually be combined in certain situations. For example, a mixed-use property that’s legally divided into a “condominium structure” with two ownership entities can have a Commercial Development Entity owning the commercial part of the property (using NMTCs), and the residential part of the property using LIHTCs. In theory, both of these entities could be owned by an Opportunity Fund (given the property was located in a Qualified Opportunity Zone), but this could create significant legal complexities and would require a high degree of tax planning.
Related Questions
What is the New Markets Tax Credit (NMTC) Program?
The New Markets Tax Credit (NMTC) Program is a federal tax incentive program designed to encourage investment in low-income communities. It is administered by the Community Development Financial Institutions Fund (CDFI Fund), a U.S. government agency which promotes economic development in distressed areas throughout the country. The program has issued approximately $25 billion in tax credits since 2003. Specialized investment vehicles called community development entities (CDEs) compete for NMTCs, which are allocated by the U.S. Department of the Treasury. Once a CDE has been allocated NMTCs, they can award investors the tax credits. In order to qualify for NMTCs, a CDE needs to invest or provide loans to a business located in one of approximately 31,000 qualified low-income census tracts. In addition, most CDEs have pledged to place 75% of their investments in the most distressed census tracts, in order to increase their impact on low-income communities.
How does the NMTC Program work?
The New Markets Tax Credit (NMTC) Program works by providing a 39% tax credit to investors who invest in a Certified Development Entity (CDE). The CDE is certified by the CDFI Fund and can bid for New Markets Tax Credits, a limited amount of which are issued each year. The process is competitive, and projects will be assessed on their potential positive impact on low-income communities. The tax credit is taken over a 7-year period, at a rate of 5% each year for the first three years and 6% per year for the remaining four years. In addition, a CDE must re-invest any funds provided by investors within 12 months of receiving them. A for-profit institution, such as a bank or a group of investors, could create a CDE and invest in it, or could find outside investors. While non-profits and for-profit groups can both create CDEs, only for-profit groups can receive and issue New Markets Tax Credits. If a Community Development Entity does not invest “substantially all” of its funds into eligible commercial real estate and businesses with 12 months, or it loses its certification from the CDFI Fund, the NTMC credits that have been issued will typically be subject to recapture. This means that investors will have to repay the full amount of any tax credits back to the federal government.
What are the benefits of the NMTC Program?
The New Markets Tax Credit (NMTC) Program provides a number of benefits to investors and businesses located in low-income communities. For investors, the program provides a 39% federal tax credit over a seven-year period, which can be used to offset taxes owed. For businesses, the program provides access to capital that may not be available through traditional financing sources. The program also encourages investment in low-income communities, which can help spur economic development and create jobs in these areas. Source 1 and Source 2.
What are the eligibility requirements for the NMTC Program?
The New Markets Tax Credit (NMTC) Program is designed to encourage investment in low-income communities through the use of Certified Development Entities (CDEs). To be eligible for the program, a CDE must be authorized and annually re-certified by the Community Development Financial Institutions Fund (CDFI Fund), a U.S. government agency which promotes economic development in distressed areas throughout the country. In addition, the CDE must invest “substantially all” of its funds into eligible commercial real estate and businesses within 12 months of receiving them. The CDFI fund prefers CDEs to invest mostly in highly distressed areas, where poverty rates are upwards of 30% and area median incomes are no more than 60% of the statewide median income.
How can the NMTC Program be used in Opportunity Zones?
The New Markets Tax Credit (NMTC) Program can be used in Opportunity Zones to provide investors a 5-year, 39% tax credit for investing in commercial real estate in certain low-income census tracts. Most Opportunity Zones are also NMTC-qualified census tracts, so this overlap means the two tax incentive programs could fit nicely together. For more information, please see this page.
What are the tax incentives for using the NMTC Program in Opportunity Zones?
The New Markets Tax Credit (NMTC) Program offers investors a 5-year, 39% tax credit for investing in commercial real estate in certain low-income census tracts. Most Opportunity Zones are also NMTC-qualified census tracts, so this overlap means the two tax incentive programs could fit nicely together. In addition to the NMTC Program, Opportunity Fund projects may also make use of other tax credit programs, such as the Low Income Housing Tax Credit (LIHTC) and the Historic Tax Credit (HTC).
The LIHTC program is a federal tax credit program that provides investors a dollar-for-dollar credit against their federal income tax liability. In 2016, the LIHTC program offered investors approximately $8 billion in tax credits. The Historic Tax Credit, in contrast, is designed to give a tax credit to investors who substantially rehabilitate qualified historic properties, typically those built before 1936.
For those looking to invest in affordable housing using the LIHTC program, using an Opportunity Fund to do so can create additional tax benefits, increasing investment yields and overall profitability.