Financing the Deal: A Banker's Perspective

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Jackie Winchester, Vice President of PNC Bank, presented this at the Heritage Ohio Tax Credit Workshop in Springfield, Ohio on May 6, 2011.

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Financing the Deal: A Banker's Perspective

  1. 1. Springfield HTC Workshop May 6, 2011 Jackie R. Winchester Vice President – Community Development Advisor PNC Community Development Banking (614) 463-8109 [email_address]
  2. 2. Banking Perspective of Historic Tax Credits <ul><li>Commitment to Fostering Community and Economic Development </li></ul><ul><li>Help the Bank meet its Community Reinvestment Act Requirements </li></ul><ul><li>Profit Motive </li></ul><ul><li>“ It just Makes Sense” </li></ul><ul><ul><li>Leverage other private dollars - enhances property values </li></ul></ul><ul><ul><li>Creates affordable and market rate housing </li></ul></ul><ul><ul><li>Augments revenues for federal, state and local government </li></ul></ul>
  3. 3. Project Structure/What the Developer Needs <ul><li>GAP Financing </li></ul><ul><li>Part II certificate showing readiness to start construction </li></ul><ul><li>Additional equity equaling 5% - 10% of project costs </li></ul><ul><li>Complete development budget for the project </li></ul><ul><li>A forward commitment on the permanent mortgage is not required but is preferred </li></ul><ul><li>Developer must show experience in rehabilitation construction and have acceptable credit history </li></ul>
  4. 4. Evaluation Process/Determining Feasibility <ul><li>Size of Allocation: The PNCCDC will consider both small investments and large investments, $500,000 - $20,000,000. </li></ul><ul><li>Debt Coverage*: Minimum of 1.20. * Depending on type of project </li></ul><ul><li>Deferred Development Fee paid out of cash flow prior to the ending of the 5-year compliance period is evaluated. </li></ul><ul><li>Environmental Assessment: Required </li></ul><ul><li>Term of Outstanding Debt: If a portion of the funding is raised through debt, the term of the loan must not be less than 5 years (tax credit compliance period). </li></ul><ul><li>Reporting: Annual tax returns (1065 & K-1) and annual financial statements. </li></ul>
  5. 5. Evaluation Process/Determining Feasibility (Cont.) <ul><li>Project must meet the community development definition: Community development is defined as activities which primarily support affordable housing, and community services which are targeted at low-to-moderate income individuals or which promote economic development through financing of small businesses and farms or which revitalize or stabilize low-to-moderate income geographies. </li></ul><ul><li>CRA Requirements: Investments consistent with the requirement under the Community Reinvestment Act; </li></ul><ul><ul><li>The innovativeness of the project </li></ul></ul><ul><ul><li>Responsiveness to credit and community development needs </li></ul></ul><ul><ul><li>Other economic and community development spin off and market impact </li></ul></ul>
  6. 6. Calculating the Historic Preservation Tax Credit <ul><li>Federal Credit 20% of a project’s qualifying rehabilitation expenditures (QRE’s) </li></ul><ul><li>State of Ohio Credit 25% of QRE and is a refundable tax credit. New legislation allows for the special allocation of the credit. </li></ul><ul><li>10% Federal Credit For restoring older buildings that predate 1936. This is a non-contributing structure by the department of interior. </li></ul>
  7. 7. Calculating the Historic Preservation Tax Credit <ul><li>Acceptable </li></ul><ul><ul><li>Hard construction Cost for Rehabilitation </li></ul></ul><ul><ul><li>Architect’s Fees </li></ul></ul><ul><ul><li>Construction Period Interest Allocated to the Rehabilitation </li></ul></ul><ul><ul><li>Development Fees Allocated to the Rehabilitation </li></ul></ul><ul><ul><li>Environmental Testing & Remediation </li></ul></ul><ul><ul><li>Properly Allocable Legal Expense </li></ul></ul><ul><ul><li>Historic Consultants </li></ul></ul><ul><ul><li>Insurance & Taxes During Construction </li></ul></ul><ul><li>Unacceptable </li></ul><ul><ul><li>Land </li></ul></ul><ul><ul><li>Acquisition Costs </li></ul></ul><ul><ul><li>Site Improvements </li></ul></ul><ul><ul><li>Syndication Expenses </li></ul></ul><ul><ul><li>Personal Property, e.g., Furniture & Equipment </li></ul></ul><ul><ul><li>Financing Fees (non-construction) </li></ul></ul><ul><ul><li>Marketing Costs </li></ul></ul>General Examples of Acceptable and Unacceptable Cost for Historic Basis Purposes
  8. 8. Pricing of Historic Tax Credits <ul><li>Depends on the following factors: </li></ul><ul><ul><li>Developer strength </li></ul></ul><ul><ul><li>Investment size </li></ul></ul><ul><ul><li>Capital contribution pay-in schedule </li></ul></ul><ul><ul><li>Structure of return components </li></ul></ul><ul><ul><li>Local market dynamics </li></ul></ul>Example: $1 million in Qualified Rehabilitation Expenditures X 20% = Your Credit or $200,000. NCCDC with a 99% partnership interest as a limited partner will receive $198,000 in credits. The market is approximately 85 - 95 cents of the dollar. At 90 cents the GP will receive $178,200 for the credits. State Credit Calculation: $250,000 x 99% = $247,500 x $.60 = $148,500. Total investment for Federal and State: $326,700.
  9. 9. Syndication Structuring <ul><li>Limited Partnership/Limited Liability Company </li></ul><ul><li>Placed in Service: The appropriate work has been completed which allows for occupancy of either the entire building, or some identified portion of the building. </li></ul><ul><li>Project Completion Date </li></ul><ul><li>Timing of Pay-ins and Investment Horizon </li></ul><ul><ul><li>Capital Contributions </li></ul></ul><ul><ul><ul><li>Can begin as early as construction start </li></ul></ul></ul><ul><ul><ul><li>Can come in as late as near placement </li></ul></ul></ul><ul><li>Investment Horizon </li></ul><ul><ul><li>Can begin as early as construction start </li></ul></ul><ul><ul><li>Can come in as late as near placement </li></ul></ul>Developer owns 1% Investor owns 99% Pass-through Entity owns Land and Buildings
  10. 10. Guarantee Requirements <ul><li>Historic Tax Credit guarantee </li></ul><ul><li>Construction completion guarantee </li></ul><ul><li>Operating deficit guarantee equaling six months of operating expenses and debt service coverage </li></ul><ul><li>Development Fee </li></ul><ul><li>Reserve Requirements </li></ul><ul><ul><li>Minimum building reserves set by the first mortgage requirements </li></ul></ul><ul><ul><li>Operating reserves equal to six months of operating expenses and debt service </li></ul></ul>
  11. 11. New Markets Tax Credits Fundamentals NMTC Synopsis A federal tax credit available to those that provide equity to certain certified entities that in turn lend or invest in businesses (including non-profits) located in low-income communities.
  12. 12. New Markets Tax Credits How They Work QALICB* CDE CDFI Investor Allocation Qualified Equity Investment Repayments * Qualified Low Income Community Businesses ** Qualified Low income Community Investments QLICIs ** Tax Credits & Return
  13. 13. New Markets Tax Credits <ul><li>Developing or renting non-residential real estate is qualified. </li></ul><ul><li>Financing the developing of residential real estate (including multi-family) is not qualified. </li></ul><ul><li>Lending or investing in developers of residential real estate may be qualified. </li></ul><ul><li>Note : Residential real estate is defined as “any building or </li></ul><ul><li>structure if 80% or more of the gross rental income from such building or structure is rental income from dwelling units.” </li></ul>When is Rehabilitating Real Estate Qualified?
  14. 14. New Markets Tax Credits <ul><li>Potential recapture for 7-year period from the date of investment in a CDE. </li></ul><ul><li>Occurs if: </li></ul><ul><ul><li>The entity ceases to be a CDE; or </li></ul></ul><ul><ul><li>At least 85% of the proceeds of the investment cease to be invested in QLICIs (drops to 75% in year seven); or </li></ul></ul><ul><ul><li>The investment is redeemed. </li></ul></ul>Recapture
  15. 15. Tax Issues <ul><li>Profit Motive </li></ul><ul><ul><li>Economic Profit Independent of Tax Benefits </li></ul></ul><ul><ul><li>Cash Flow Distribution </li></ul></ul><ul><ul><li>CRA Supporting Economic Participation </li></ul></ul><ul><li>Exit Strategies/Investor Buyout Strategy </li></ul><ul><ul><li>Fair Market Value Calculations </li></ul></ul><ul><ul><li>Put and Call Provisions </li></ul></ul>
  16. 16. Due Diligence Items/Checklist <ul><li>Existing Operating Agreement </li></ul><ul><li>Certified Copy of Articles of Organization and all amendments </li></ul><ul><li>Survey </li></ul><ul><li>Plans and Specifications </li></ul><ul><li>Building Permit </li></ul><ul><li>Availability of Utilities Letters </li></ul><ul><li>Deed </li></ul><ul><li>Owner’s Title Policy </li></ul><ul><li>Notice of Commencement </li></ul><ul><li>General Contractor </li></ul><ul><li>Architect </li></ul><ul><li>Corporate Resolutions </li></ul><ul><li>Certificate of Good Standing </li></ul><ul><li>Loan Documents </li></ul><ul><li>UCC, tax lien search </li></ul><ul><li>Litigation search </li></ul><ul><li>Environmental Report </li></ul><ul><li>Insurance Certificates </li></ul><ul><li>Appraisal </li></ul><ul><li>Initial Construction Budget </li></ul><ul><li>Zoning Letter </li></ul><ul><li>Financial Projections </li></ul><ul><li>Financial Statement(s) of Principals/Guarantors </li></ul><ul><li>Federal HTC Part I & II application </li></ul><ul><li>Local Approval </li></ul><ul><li>State Part I Approval </li></ul><ul><li>Federal and State Part III </li></ul><ul><li>Commitment Letter </li></ul><ul><li>Local Counsel Opinion </li></ul><ul><li>Tax Opinion </li></ul><ul><li>Development Agreement </li></ul><ul><li>Unconditional Guaranty </li></ul><ul><li>Estoppel Letter from Lender(s) </li></ul>
  17. 17. Common Pitfalls for First-Time Users of the Federal Historic Tax Credits <ul><li>Having inadequate contingency in the development budget </li></ul><ul><li>Presenting final drawings and commencing construction prior to receiving Part II </li></ul><ul><li>Allowing the general contractor to value engineer without regard to NPS standards </li></ul><ul><li>Using third-party consultants inefficiently </li></ul><ul><li>Delaying contact with potential investors </li></ul><ul><li>Coordinating equity with debt </li></ul>

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