How New Markets Tax Credits Work
1. The federal government authorizes the credits.
- The amount of annual credit authority (or allocation authority) is authorized by Congress.
- The Community Development Financial Institutions Fund (CDFI Fund) under the Department of the Treasury reviews applications and awards allocation authority to qualified Community Development Entities (CDEs) through a competitive process.
2. But the CDEs determine what projects get funded.
- CDEs can receive investments called Qualified Equity Investments (QEI) from investors up to the amount of the allocation authority that the CDE has from the CDFI Fund.
- CDEs use the QEI dollars received from investors to make a loan or equity investment in a project or business called a Qualified Active Low-Income Community Business (QALICB). The projects and financing must be consistent with the way the CDE described their business plan in their application. The financing proceeds can be used for a variety of purposes, and is often used to construct or rehabilitate real estate projects.
3. Developers and business owners get flexible financing.
- CDEs are required to offer financing that has terms that are non-traditional or more flexible than conventional financing.
- Borrowers benefit from below market interest rates and underwriting terms that they could not receive from conventional financing.
- Many CDEs will only fund transactions that would not have been done “but for” the NMTC, in other words, a project either could not qualify for any conventional financing, or could not qualify for enough to cover the entire cost of the project without the subsidy created by NMTC.
4. Low income communities benefit from investments.
- NMTC projects are selected by CDEs in part based on the community impact that will be achieved.
- Communities benefit from newly created construction and permanent jobs, improved access to goods and services including both retail and human services, and new recreation and entertainment options.
- Increased foot traffic in previously underserved markets can encourage future development.
- The tax credit is based on the amount of the QEI that is made into the CDE; investors receive 5% per year in the first three years and 6% per year in the final four years.
The QEI can be made up of an equity investment from the tax credit investor plus “leverage loans” from banks, affiliates of the QALICB or other third parties such as cities, state agencies or other funding sources.