How New Markets Tax Credits Work
The federal government authorizes the New Market Tax Credit (NMTC). The U.S. Congress authorizes the amount of annual credit authority (or allocation authority) for the NMTC . Then, the Community Development Financial Institutions Fund (CDFI Fund) under the U.S. Department of the Treasury competitively reviews applications and awards allocation authority to qualified Community Development Entities.
The Community Development Entities (CDEs) determine what projects get funded. CDEs can receive Qualified Equity Investments from investors up to the amount of the allocation authority that the CDE has received. CDEs then use the Qualified Equity Investments to make a loan or equity investment in a project or business called a Qualified Active Low-Income Community Business. The financing proceeds can be used for a variety of purposes. The proceeds are often used to construct or rehabilitate real estate projects.
Developers and business owners get flexible financing. CDEs are required to offer financing with non-traditional or more flexible terms than conventional financing. As a result, borrowers benefit from below market interest rates and underwriting terms. Many CDEs will only fund transactions that either could not qualify for any conventional financing, or could not qualify for enough conventional financing to cover the entire cost of the project.
Low-income communities benefit from investments. CDEs in part select NMTC projects based on the expected community impact. Communities benefit from newly created construction and permanent jobs, improved access to goods and services and new recreation and entertainment options. In addition,increased foot traffic in previously underserved markets can encourage future development.
Investors get a 39 percent tax credit over a seven-year period. The NMTC is based on the amount of the Quality Equity Investments the CDE receives. Investors receive 5 percent per year in the first three years and 6 percent per year in the final four years. The Quality Equity Investments can be made up of an equity investment from the tax credit investor plus “leverage loans” from banks, affiliates of the Qualified Active Low-Income Community Business or other third parties such as cities or state agencies.