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The conversion and reuse of military land and buildings offer opportunities to satisfy unmet requirements for community facilities and services and to create jobs. Specifically, military base reuse offers significant opportunities for affordable housing development and economic development. Perhaps the most fundamental challenge, confronting developers converting military bases to affordable housing involves securing financing for their projects and finding ways to leverage existing federal and state programs to finance reuse developmentsThis article describes four primary subsidies available to developers attempting to convert existing military bases to affordable housing developments: 1. low income housing tax credits, 2. tax-exempt bond financing, 3. historic tax credits, and 4. other subsidies and gap financing.

Copyright Aspen Publishers, Inc. Oct 2003

The conversion and reuse of military land and buildings offer opportunities to satisfy unmet requirements for community facilities and services and to create jobs. Specifically, military base reuse offers significant opportunities for affordable housing development and economic development.

Congress has recognized that it is in the interest of the United States to assist areas experiencing adverse economic circumstances as a result of the closure of military installations. The federal government does this by working with such communities to identify existing needs and to implement a reuse plan that maximizes redevelopment and revitalization. Understanding that affordable housing is integral to economic well being, job recruitment, and talent retention, and is directly linked to transportation and education, Congress, as well as local lawmakers, have established the development of affordable housing as a priority when considering new uses for military installations.

Despite the existence of many opportunities in base reuse for the development of affordable housing, there are also challenges. Perhaps the most fundamental challenge, confronting developers converting military bases to affordable housing involves securing financing for their projects and finding ways to leverage existing federal and state programs to finance reuse developments. Accordingly, this article describes four primary subsidies available to developers attempting to convert existing military bases to affordable housing developments: (1) low income housing tax credits, (2) tax-exempt bond financing, (3) historic tax credits, and (4) other subsidies and gap financing.

LOW INCOME HOUSING TAX CREDITS

The first type of subsidy is the low income housing tax credit (Credit). Created by the Tax Reform Act of 1986, the Credit has assisted in the production of more than one million affordable homes for low-income renters by providing investors in eligible affordable housing developments with a dollar-for-dollar reduction in their federal tax liability. The Credit accounts for most new affordable apartment production and finances up to 40 percent of all multifamily apartment development.

There are three types of Credits available to affordable housing developers:

1. The 9 percent subsidy (9 Percent Credit) is for new construction or substantial rehabilitation that is not federally subsidized. For projects entitled to the 9 Percent Credit, the amount of the credit is approximately 9 percent of the qualified building costs every year for 10 years.

2. The 4 percent subsidy (4 Percent Credit) is for existing or new buildings that have some other type of federal subsidy. For projects entitled to the 4 Percent Credit, the amount of the credit is approximately four percent of the qualified building costs every year for 10 years.1

3. Acquisitions of certain existing building are also eligible for the 4 Percent Credit (Acquisition Credit). To be eligible, the building must have been substantially rehabilitated. In addition, the building must not have been "placed in service" during the 10-year period prior to the acquisition.2

Each state receives an annual allocation of 9 Percent Credits based on its population. The states then, through their state housing finance agencies, award such 9 Percent Credits to developers through the use of a competitive process in accordance with annual "qualified allocation plans" for meeting state housing needs. The required preference factors in allocation are:

1. Reaching the lowest income tenants;

2. Maintaining low income use for the longest periods; and

3. Contributing to a concerted low income community revitalization plan.

In many states, the 9 Percent Credit has been historically oversubscribed. As competition for the 9 Percent Credit has increased, many developers turned to developing projects with tax-exempt bonds coupled with the 4 Percent Credit. As stated previously, the 4 Percent Credit is available for the cost of a new building or substantial rehabilitation developed with a federal subsidy and is automatically available to developers if over 50 percent of project cost is paid for using the proceeds of a tax-exempt bond issuance. The 4 Percent Credit is advantageous to some developers because it offers more flexibility than the 9 Percent Credit to build a mixed-income project.

TAX-EXEMPT BOND FINANCING

The second type of subsidy is tax-exempt bond financing coupled with the 4 Percent Credit. State and local governments generally can raise money to finance the development of affordable rental housing by private, nonprofit, and for-profit housing developers by issuing tax-exempt bonds, also called "private-activity" bonds. Most simply understood, the purchasers of the bonds lend the state or local government money for an extended period (for example, 15 to 30 years) with the expectation that the loan plus interest will be repaid over this period. The governments then use the proceeds from the sale of the bonds to make low interest loans to developers.

With tax-exempt bonds, the interest received by the purchaser is exempt from federal and, in many cases, state income taxes. Each state has a specific annual cap, established by the federal government, on the amount of federally tax-exempt debt it can issue. Moreover, an allocation of private activity bonds automatically entitles a developer to the 4 Percent Credit. Applications to the bond allocation authority for private-activity bond financing also entail a competitive process similar to that used for the 9 Percent Credit. However, historically, the bond allocation process is less competitive than the process for allocation of the 9 Percent Credit. In contrast to private-activity bonds, tax-exempt bond financing is issued by a government agency on behalf of a nonprofit organization exempt from federal taxation under Section 501(c)(3) of the Internal Revenue Code. Interest paid to bond purchasers is exempt from federal taxation, as with private-activity bonds, but Credits are not automatically available.

Unlike private-activity bonds, there is no state cap on how much can be issued in a given year, so there is not the same competition as for those bonds. Nonprofits have a lifelong cap of no more than $150 million in bond proceeds outstanding at any one time on all multifamily housing developments they control.

HISTORIC TAX CREDITS

The third type of subsidy is the federal historic tax credit. In 1977, to encourage the preservation of historic properties, the federal government created a tax incentive program to reward private investment in rehabilitating structures listed either on the National Register, or located in a registered historic district that are determined to be "significant" to that district. The incentives include a one-time tax credit equal to 20 percent of most hard and soft construction costs incurred renovating a certified historic property, or a separate 10 percent tax credit that applies to non-historic structures built before 1936.

For both types of historic tax credit, the rehabilitation must be substantial. That is, during a 24-month period selected by the taxpayer, rehabilitation expenditures must exceed the adjusted basis of the property (i.e., the purchase price of the building, plus capital improvements, minus depreciation). The building must be depreciable too, meaning it must be used in a trade or business, including office space, for commercial, industrial or agricultural enterprises, or for rental housing. The historic preservation tax credit program is jointly administered by the National Park Service (a division of the US Department of the Interior) and the Internal Revenue Service, which acts on behalf of the Department of the Treasury. The National Park Service, in turn, works in partnership with the State Historic Preservation Officer in each state.

The historic tax credit is often claimed in conjunction with the low-income housing credit for the same building. However, unlike the low-income housing tax credit, the historic tax credit program does not restrict tenant income.

OTHER SUBSIDIES AND GAP FINANCING

Depending on the specifics of the property, tax credits can generate 50 percent to 60 percent or more of the cost of development. However, in order to fully finance affordable housing projects, additional financing must be obtained. The remaining financing typically comes from market-rate first mortgages and low- or no-interest second mortgages, often from HOME funds (as described subsequently) or other public sources. Thus, the fourth category of subsidy is less structured and includes a variety of types of financing provided through federal, state and local programs, consisting of grant awards, silent seconds, and low interest rate loans (typically called "Gap Financing"). The following is a description of the types of Gap Financing most often used by affordable housing developers:

State Funds

Several states have state-based programs from which funds for affordable housing development may be available. For example, the Multifamily Housing Program (MHP) is administered by California's Department of Housing and Community Development (HCD). HCD uses bond proceeds to make below-market, deferred payment loans to developers of affordable housing. Typically, an MHP loan is made for a term of 55 years, with a 3 percent simple interest rate accruing on unpaid principal balance. Only 0.42 percent payments are due annually, with the balance of principal and interest due and payable upon completion of loan term.

Developers must apply to HCD to receive MHP funds. MHP funds are awarded to local public entities, for-profit and nonprofit corporations, limited equity housing cooperatives, individuals, Indian tribes, and limited partnerships in which an eligible applicant or an affiliate is a general partner. Applicants or their principals must have successfully developed at least one affordable housing project.

Locally Administered Federal Funds

HOME Funds. The HOME Investment Partnership Program (HOME) provides grants to states and local governments referred to as Participating Jurisdictions. Since the first year of funding, recipients of HOME grants have constructed and rehabilitated approximately 450,000 affordable housing units and provided approximately 84,000 tenants with direct rental assistance.

Participating Jurisdictions include states, cities, urban counties, and consortia of local governments. To receive HOME funds, Participating Jurisdictions must develop a HUD-approved plan describing their affordable housing needs and priorities. Once HOME Funds are awarded, the Participating Jurisdiction can then loan the funds, often on below-market terms, to an eligible developer.

HOME funds may be used towards a wide range of eligible affordable housing activities. These activities include:

1. Rehabilitating or building housing for rent or homeownership;

2. Site acquisition and improvements;

3. Demolition of dilapidated housing and payment of relocation expenses;

4. Financial assistance to eligible new homebuyers or homeowners for the purchase of a home or the rehabilitation of an existing property;

5. Tenant-based rental assistance including security deposits; and

6. Administrative, planning, and operating expenses of community housing development organizations.

CDBG Funds. The Community Development Block Grant (CBDG) program is administered by HUD's Office of Community Planning and Development. At least 70 percent of the CDUG funds received by a jurisdiction must be spent to benefit people with low and moderate incomes. CDUG funds are probably the most flexible federal funds available to cities, states, and community-based organizations. Funds can be used for a wide array of activities, including housing rehabilitation (loans and grants to homeowners, landlords, nonprofits, and developers), new housing construction, downpayment assistance and other help for first-time homebuyers, lead-based paint detection and removal, the purchase of land and buildings, the construction or rehabilitation of "public facilities" such as shelters for people experiencing homelessness or victims of domestic violence, making buildings accessible to the elderly and disabled, "public services" such as job training, transportation, healthcare, and child care (public services are capped at 15 percent of a jurisdiction's CDBG funds), capacity building for non-profits, rehabilitating commercial or industrial buildings, and loans or grants to businesses. As with HOME funds, once the jurisdiction receives CDBG funds, it can either grant or loan the funds, often with below-market terms, to a developer.

Tax Increment Financing. Tax Increment Financing (TIF) describes locally administered programs whereby property tax revenues from a city's general fund are reallocated to a smaller, more local jurisdiction-a TIF district. TIF allows a locality to designate an area for improvement and then earmark any future growth in property tax revenues to pay for initial and ongoing economic development and affordable housing expenditures. Once an area becomes eligible for TIF, the initial assessed property value is held constant for a period of years. The TIF authority uses its powers of land assembly and sale, site clearance, relocation, utility installation and street repair to improve the district and offer subsidized financing to business people and developers. As private investment is attracted to the area, the assessed property value and its taxes are expected to rise. The difference between the base value and new assessed value is the "tax increment." Instead of channeling the increment to the locality's general fund, these funds are channeled to the TIF authority and used to finance any debt the authority accumulated when making improvements.

Housing Trust Funds and Inclusionary Zoning Funds. State and local housing trust funds and inclusionary zoning funds are two additional sources of financing for affordable housing developments. Housing trust funds typically involve public/private partnerships and are dedicated to building and sustaining revolving loan funds and/or grant making programs that complement and leverage other housing resources throughout a region. Similarly, inclusionary zoning funds reallocate resources and provide additional dollars to housing developers. In certain states, developers can, as an alternative to providing affordable units, pay in-lieu fees, which are deposited into a local housing fund and used to finance affordable housing developments in the area.

CONCLUSION

The synergy between military base reuse and affordable housing is self-evident. As always, the challenge is leveraging existing programs to achieve the community and developer's shared goal of building high quality affordable housing.