Measuring Housing Credit Cost-Effectiveness Post-Tax Changes

By Michael A. Spotts

The Tax Cuts and Jobs Act of 2017 (TCJA) had significant effects on the delivery of affordable rental housing. Most notably, the decrease in the corporate tax rate is expected to reduce the amount of Low Income Housing Tax Credit (Housing Credit) equity available for new construction and preservation efforts, potentially reducing production levels by more than 200,000 units over the next decade. The implications of the TCJA and efforts to fill this new gap have rightfully received a great deal of attention among affordable housing practitioners. However, I do want to call attention to an under-explored implication of the TCJA's provisions that could influence how the effectiveness of the Housing Credit is viewed - the law's impact on metrics.

Over the past six years, I have spent a considerable amount of time studying the cost-effectiveness of affordable housing production and the Housing Credit in particular. Through this work, I have observed numerous metrics for evaluating costs - total development costs, total subsidy required, leverage ratios, etc. These metrics have varying relevance in different contexts.

The TCJA's corporate tax rate reduction is having a significant impact on production figures based on Housing Credits per unit (and the inverse, the number of units produced for a given amount of credits). For those less familiar with the Housing Credit, one of the relatively unique elements of the program is that that unlike a grant, the subsidy awarded - an allocation of tax credits that can be claimed over ten years - is generally not equal to the amount of equity that the developer ultimately receives. Equity investors purchase Housing Credits from developers based on their perceived value, which takes into consideration discount rates (equity is provided upfront, while credits are claimed over a decade), macroeconomic conditions, regulatory requirements, and local market factors, among other elements. The amount of equity raised per credit can vary significantly, and can be higher or lower than a 1:1 ratio depending on the context.

A lower corporate rate affects this calculation and reduces the amount of upfront capital available per unit. Estimates of this reduction (at the aggregate level) reach approximately 14%. This reduction began before the TCJA passed, as investors began anticipating and "pricing in" future changes.  

Why does this matter, beyond the bottom-line reduction in units and increased need for subsidy to fill the gap? Perceptions of a program's effectiveness are often shaped by metrics. With equity prices lower, developers will be able to produce fewer units per Housing Credit awarded, even if their development costs have stayed the same or fallen. While the drop in productivity (again, on a per Credit basis) is technically true, any assessment of the effectiveness of Housing Credit allocators and developers must take this extraneous factor into account. 

Cost-effectiveness is critical in a resource-constrained environment. There are many metrics that are effective in measuring development cost trends, and those metrics should be used to inform any policy or programmatic changes. Moving forward, it will be important to avoid drawing conclusions from the wrong metric, and all assessments of the Housing Credit program should be done in the context of the TCJA provisions.