By Barbara Anne (“B.A.”) Spignardo
The recent uptick in hotel development is a result of unusual, intricate pieces put together behind the scenes to create a healthy capital stack required to finance such projects. In order to narrow the current loan-to-cost ratio gaps in hotel development finance, it may be necessary to fit together several financing arrangements, such as the use of new market tax credits, EB-5 immigrant investor financing and historic tax credits.
New market tax credits (NMTC) target investment and development in low-income communities. The basic structure of a NMTC transaction involves the formation of a community development entity (CDE), capitalized by Investors with cash. The CDE uses the cash to invest in a qualified active low-income community business. Use of NMTC reduces investors’ tax liability, thereby increasing economic return.
Congress enacted the EB-5 program to use capital contributed by foreign investors. The EB-5 program provides investors with a visa, possibly maturing into a permanent green card, provided the investor satisfies EB-5 requirements. There is a minimum investment depending on the unemployment rate in the targeted location. EB-5 investors must create or preserve at least ten full-time jobs that meet specific requirements for U.S. workers within two years of the investor’s admission to the United States.
Historic tax credits (HTC) provide an opportunity to generate equity to finance development of hospitality properties, for historic buildings located in downtown, low-income areas. HTC permit a dollar for dollar reduction in federal income tax obligations equal to 20 percent of the cost of rehabilitating a certified historic structure, or 10 percent for the rehabilitation of a non-historic and nonresidential building constructed before 1936. To qualify for HTC, both the project and the developer must meet requirements of the National Parks Service, as well as local regulations for the rehabilitation of historic structures.
Each of these pieces that may increase available capital pose certain risks for investors. One prominent risk associated with a NMTC transaction is of recapture of the NMTC by the IRS if the CDE no longer meets the requirements of an eligible CDE, the investments are not “substantially” used for low-income community investments, or the CDE redeems any equity investment. Challenges faced by EB-5 immigrant investors include delayed capital return and job creation requirements. In order to qualify for HTC, there are project and developer requirements that must be satisfied, as well as the possible risk of recapture of tax credits.
Hotel development is re-emerging in reliable locations, however, with creative capital collaborations pieced together to minimize the difference between traditional lender-financing and project costs for such developments. Utilizing alternative financing arrangements such as new market tax credits, EB-5 immigrant investor financing and historical tax credits, each have their own challenges to overcome. However, if a developer is able to overcome the challenges posed by use of such financing arrangements, and piece these financing opportunities together, the rate of new development will accelerate.
NOTE: For more information on the matters discussed in this post, please contact the author. This post does not intend to dispense tax advice, and the author disclaims any such tax advice purported to be obtained from this article. For tax advice regarding the matters discussed in this article, a tax attorney professional should be consulted.
Barbara Anne (“B.A.”) Spignardo is a member of Shapiro, Lifschitz & Schram’s Real Estate and Business groups in Washington, D.C. She can be reached at email@example.com.