LIHTC Funding in a Shifting Market: Q&A

Brent Watts, president of Cabretta Capital, on the financial sector’s performance and the complexities of housing credit investment.

Brent Watts, President & Founder, Cabretta Capital. Image courtesy of Cabretta Capital

The demand for affordable rental housing has long been a pressing issue throughout the U.S. The low-income housing tax credit program—created in 1986 as an incentive for private developers to invest in the construction and rehabilitation of affordable housing—became permanent in 1993. In exchange for equity contributions to a qualifying development or rehab, investors receive a reduction in their federal tax liability.

A typical LIHTC deal usually begins with the developer securing a traditional loan, either from a private lender or a public agency. The capital structure still requires gap financing, provided by a private or public source. Next, in exchange for tax credits, the developer or private investor supplies the equity.

READ ALSO: LIHTC Funding Recovers. Will It Last?

Market fluctuations have always played a role in shaping housing credit investment, but despite a slowdown since the onset of the coronavirus crisis, investment continues.

“The tax credit industry has performed very well compared to other sectors of real estate,” Brent Watts, president & founder of Cabretta Capital Corp., told Multi-Housing News.

Specializing in structured tax credit equity and Opportunity Zone funds, the Savannah, Ga.-based company has remained active over the past few months. In a recent partnership with Wendover Housing Partners, Cabretta provided LIHTC financing for Hartland Station, a $28-million affordable housing development in Atlanta, and expects to close on several affordable apartment communities in Georgia and Colorado over the next few months.

In the discussion below, Watts touched on the intricacies of LIHTC funding and how he expects the sector to perform heading into 2021.

Considering lower occupancy rates and construction delays over the past months, what are some best practices for assessing existing LIHTC-financed deals?

Watts: We believe occupancy rates will steadily improve over the next 12 months. There is still a great need for more affordable housing in every market where we operate, if not the whole country. Construction delays were common at the beginning of COVID-19 but have improved significantly as we have become more prepared to work with it. The combination of readily available testing; protective equipment like masks, sanitation, etc.; and a better understanding of guidelines on how to be open and what to do if there is an exposure has improved attendance at the job sites, making for fewer delays.

What can you tell us about alternatives available to fill financing gaps in LIHTC deals?

Watts: Grants, low-interest loans and local incentives are common sources in LIHTC deals to fill the gap. The Affordable Housing Competitive Funding Program through the Federal Home Loan Bank is one example. Another is a local municipality who is willing to work with the partnership to provide property tax relief and/or a waiver of tap fees.

What are some of the factors that influence LIHTC pricing for a certain project?

Watts: Equity pricing is based on several factors, including timing of capital contributions, construction and lease-up schedules, interest rates, debt, and supply and demand. Pricing has been down since the onset of COVID-19, while state equity has not been hit as hard as federal equity.

Considering that the developer can either work with an investor or a syndicator, what are some of the main differences between the two scenarios?

Watts: A direct investor—like a banking institution that needs a specific deal to fulfill its Community Reinvestment Act obligations in that location—may be more aggressive on pricing and terms. Using a syndicator may get you a similar result, but the syndicator may be more likely to produce a consistent result on your next deal. Many experienced developers who have used the same groups over and over have the luxury of knowing what to expect at closing without any surprises. They will also have a lot less work to unwind when it’s time for the next generation to take over.

How would the proposed Affordable Housing Credit Improvement Act of 2019 change the tax-credit equity market?

Watts: I think it would create jobs and a safe, decent place to live for many hardworking Americans. A fixed 4 percent rate for tax-exempt bond transactions would create an unprecedented amount of affordable housing.

What can you tell us about any new challenges sparked by the COVID-19 crisis?

Watts: The pandemic has created lots of new challenges for everyone. Trying to guess when COVID-19 will go away has been the toughest part. I think we’ll be past this slowdown in a year from now. Most projects take 12-14 months to complete, so we feel pretty good about closing new business. But our confidence is still not at 100 percent and won’t be until this is completely past us.

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