This article was updated February 21, 2023.
The NMTC provides businesses across the United States with flexible financings based on various qualifying factors. Organizations can use the proceeds of NMTC financing to help finance an expansion or relocation, provide equipment financing, or provide working capital.
Explore some frequently asked questions related to the NMTC:
What Is the New Markets Tax Credit?
Passed in 2000 as part of the Community Renewal Tax Relief Act, the NMTC provides a 39% federal tax credit for investments in traditionally underserved, low-income communities. Since its inception, the NMTC has supported a wide range of businesses that range from childcare to technology, education to manufacturing, and beyond.
What Are the Benefits of the New Markets Tax Credit?
NMTC financing is designed to be flexible and innovative. It’s often structured in more favorable terms than traditional financing.
These terms can include:
- Low interest rates
- Higher loan-to-value ratios
- Lower debt service coverage ratios
- Longer maturity dates
- Subordinate or unsecured debt
Additionally, at the end of the seven-year compliance period, the remaining investor equity is typically forgiven, providing additional benefit to the project.
Who Acts as New Markets Tax Credit Investors?
Traditionally, large banks or financial institutions serve as NMTC investors. These banks or financial institutions not only have federal tax liability, but also the resources and staff necessary to manage NMTC investments over the seven-year compliance period.
Some financial institution investors might further syndicate the credit stream to other NMTC investors in exchange for current-year revenue. This is a clean process for the NMTC beneficiary, as the original investor often retains management of the underlying tax credit transactions.
What’s the Economic Impact of the New Markets Tax Credit?
NMTCs are designed to facilitate investment in low-income communities. These communities, in turn, benefit in the form of jobs created or greater access to community goods and services.
The NMTC program has spurred more than $120 billion of investment to over 7,500 projects and created or retained over one million jobs. It has supported the construction of more than 56 million square feet of manufacturing space, 94 million square feet of office space, 67 million square feet of retail space, and provided numerous services to these traditionally underserved communities.
Other Community Development Funding
As communities develop and prosper, further investment and revitalization is spurred. Some qualified institutions and funds are detailed below.
What’s the Community Development Financial Institutions (CDFI) Fund?
The CDFI fund is a division of the US Treasury Department that seeks to promote economic revitalization and community development in low-income communities. As part of its mission, the CDFI fund is tasked with implementing the NMTC program and administers an annual allocation of tax credit authority to community development entities through a competitive application process.
What’s a Community Development Entity (CDE)?
CDEs are financial intermediaries with a track record of making loans and investments in underserved areas. CDEs apply for an annual allocation of NMTCs from the CDFI fund to enable them to facilitate these investments that ultimately generate NMTCs, which are used by investors.
What’s a Qualified Equity Investment (QEI)?
A QEI is an equity investment in a CDE with the provision that the investment is acquired in exchange for cash, and substantially all the cash is used by the CDE to make Qualified Low-Income Community Investments (QLICIs). The amount of the QEI is multiplied by 39% to determine the amount of NMTCs generated.
What’s a Qualified Low-Income Community Investment (QLICI)?
A QLICI is either a loan or equity investment made by the CDE to a qualified active low-income community business (QALICB). QLICIs are predominately structured as interest only loans and are usedby the QALICB to complete the project or underlying mission of the investment.
What’s a Qualified Active Low-Income Community Business?
The QALICB is the ultimate beneficiary of the NMTC financing. It’s the business entity that will use the NMTC proceeds to complete the project that will ultimately benefit the low-income community.
What Projects Qualify for New Markets Tax Credit Financing?
Most businesses or not-for-profit organizations located in a qualified census tract or serving low-income persons, or a targeted population, could potentially qualify for NMTC financing.
Common transactions that are financed with NMTCs include:
- Commercial, office, industrial, and mixed-use real estate development
- Rehabilitation and expansion
- Community facilities
- Not-for-profit enterprises
- Equipment financing
- Tribal-owned developments
- Working capital
Census Tract Qualifications
The most common way to qualify for NMTC financing is being in a low-income community, which is determined by the community’s census. The minimum qualification requires the census tract to have either of the following:
- Poverty rate of at least 20%
- Median family income (MFI) that doesn’t exceed 80% of either the statewide or metropolitan area, depending on whether the census tract is considered metro.
Most CDEs go a step further in their allocation agreements with the CDFI fund and commit to allocating at least 85% of their NMTC allocation to projects in severely distressed census tracts. Meeting those requirements is therefore typically necessary to attract allocation. For a census tract to be considered severely distressed, it must be:
Characterized by One or More of the Following
- Poverty rate greater than 30%
- MFI doesn’t exceed 60% of either the statewide or metropolitan area, depending on whether the census tract is metro or not.
- Unemployment rate of at least 1.5 times the national average
- Located in a county not contained within a metropolitan statistical area
Characterized by Two or More of the Following
- Poverty rate greater than 25% or the MFI doesn’t exceed 70% of either the statewide or metropolitan area, depending on whether the census tract is designated as metro or non-metro or an unemployment rate of at least 1.25 times the national average.
- Small Business Administration historically underutilized business zones (HUBZone)
- Brownfield site as defined under 42 US Code Section 9601(39)
- Area encompassed by a Housing Opportunities for People Everywhere (HOPE VI) redevelopment plan
- Federally designated Indian reservations, off-reservation trust lands or Alaskan Native village statistical areas, or Hawaiian homelands
- Areas designated as distressed by the Appalachian Regional Commission or Delta Regional Authority
- Colonia area as designated by the US Department of Housing and Urban Development
- Federally designated medically underserved area, to the extent QLICI activities will support health related services
- Federally designated OZ, Promise Zone, Base Realignment and Closure area, State Enterprise Zone Program, or other similar state or local programs targeted toward particularly economically distressed communities
- County where the Federal Emergency Management Agency (FEMA) issued a major disaster declaration, and is eligible for both individual and public assistance, provided that the initial investment be made within 36 months of the disaster declaration
- Census tracts identified as Food Deserts under the Healthy Food Financing Initiative (HFFI) definition per the US Department of Agriculture’s Economic Research Service so that QLICI activities increase access to healthy food
The CDFI Fund has a mapping tool to help projects initially identify whether they are in a qualified or severely distressed census tract. As many factors might also influence the ultimate ability to attract NMTC financing, consultation with a NMTC professional is advisable.
Targeted Population Qualifications
Businesses not located in a severely distressed census tract can also qualify for NMTC financing by meeting the targeted qualifications test, which looks at the ownership or impact that a project has on low-income persons. Low-income persons are defined as those individuals whose income doesn’t exceed 80% of the applicable MFI.
The project must also be in a census tract where the MFI doesn’t exceed 120% of the applicable MFI.
Qualifiers of Passing the Targeted Populations Test
This includes meeting one of the following requisites by at least 60%.
- Ownership by low-income persons
- Employees are low-income at time of hire
- Projected income from sales, services, or other transactions with low-income persons
Businesses That Don’t Typically Qualify for NMTC
- Massage parlors
- Gaming facilities
- Liquor stores
- Racetracks
- Tanning facilities
- Golf courses
- Some agricultural businesses
When Does the Application Process for New Markets Tax Credit Financing Begin?
There’s no set time to apply for NMTC financing.
CDEs are interested in learning about compelling new projects. There are times of the year when there’s more activity in the industry, which means more opportunity to attract allocation for projects ready to close.
For example, the CDFI Fund has traditionally announced allocation awards once per year. The first several months after an announcement are often a busy time within the NMTC industry. Successful CDEs immediately start trying to deploy their allocation and CDEs are looking for pipeline projects that they can talk about in their next application for allocation.
When Must New Market Tax Credit Proceeds Be Spent?
NTMC proceeds must be spent within a relatively short period of time post-closing, generally 12 to 18 months. Most CDEs require NMTC financing to be the final piece in the capital stack and the project must be shovel ready.
Sometimes projects aren’t able to close when the CDE is ready to bring allocation. Other times, CDEs committed to projects don’t obtain allocation or can’t yet move forward when the project is ready.
As a result, there’s no set application time to apply, as it’s more about being able to move forward when a CDE is ready.
Is There a Minimum or Maximum NMTC Project Size?
Every situation is different. NMTC financing generally requires a minimum of $5 million in total project costs, due to transaction costs and other factors.
It’s important to discuss your project with an NMTC professional, because there may be opportunities for smaller projects. It might be possible for multiple locations to qualify and obtain financing.
Conversely, there’s theoretically no maximum project size. It’s uncommon to see a project be allocated more than $30 million. CDEs prefer to suballocate only a portion of their award to one project so they can identify multiple points of impact with their allocation.
A $30 million project will usually need to attract NMTC allocation from two or more CDEs. This doesn’t mean larger projects can’t attract more allocation. A project that’s attractive to multiple CDEs may garner more.
Additionally, if total project costs exceed the allocation received, it’s possible that other funding sources might be sufficient to complete the capital stack with NMTC representing only one piece of the capital-stack puzzle.
Where Does the Rest of the Capital Come From if NMTC Equity Only Provides a Portion of It?
The remainder of the capital stack can come from a variety of sources ranging from the following:
- Traditional bank financing
- Cash from operations
- Grant proceeds or other federal, state, and local incentives
- Proceeds from a capital campaign
- Combination of any of the above
While NMTC financing is designed to be very flexible and can be combined with other financing sources, it’s important that all the sources in the capital stack understand and work within the requirements of the NMTC financing structure.
Additionally, NMTC financing requires a source for the leverage loan, which can come from sources similar to the ones described above or even from reimbursement of proceeds expended within 24 months of closing.
If a leverage loan source requires collateral, there are additional considerations because of the NMTC financing structure.
Do All of an Organization’s Locations Qualify for the New Markets Tax Credit?
Only the portions of the organization receiving NMTC financing must be in a qualifying census tract or meet the targeted populations test.
Some organizations may expand operations to a new location. In that case, only the new location would need to qualify. Attorneys may recommend that a new, affiliated entity be created to receive the NMTC proceeds.
That way, it’s easy to isolate the operations of that new entity from the parent organization. This has the added advantage of requiring NMTC reporting and compliance on that new entity as opposed to the entire parent entity.
Similarly, the tax code allows NMTC financing to flow to a portion of the business (POB) of the larger entity. In that situation, the NMTC financing could finance the operations of a discrete portion of a larger entity.
Is New Construction Required to Get NMTC Financing?
No. NMTC financing can be used in a variety of ways.
One is certainly new construction. It’s also possible to use NMTC financing for rehabilitation of existing space, equipment installation, or even working capital.
Some CDEs prefer to finance equipment installation instead of new construction. NMTC financing is designed to be flexible and can accommodate many uses.
Do New Markets Tax Credits Differ from State to State?
The federal NMTC program offsets federal tax liability, so it’s structured identically across all 50 states and territories.
Some states have enacted or are considering NMTC programs. These programs typically mirror many of the provisions of the federal program, but each state program has its own nuances, so the programs requirements may vary from state to state.
How Are New Markets Tax Credits Different from Opportunity Zones (OZ)?
The NMTC program and the OZ program are both designed to drive investment to low-income communities, so the two programs have similar goals.
NMTCs generate tax credits, which can offset an investor’s tax liability. OZ investments allow an investor to defer taxation on capital gains, among other tax benefits, if the investment is held for a long enough period. While the two programs have the same goal of benefiting the low-income community, investor motivations are different for each program.
What Is the Compliance Period for New Markets Tax Credit Transactions?
The 39% tax credit generated by NMTC financing is claimed by investors over a seven-year compliance period.
During this time, NMTC projects must maintain compliance with the NMTC regulations. Common restrictions include, but aren’t limited to:
- Return of principal during the compliance period
- Hold fewer than 5% of assets as cash or cash equivalents
Maintain operations within the tract during the compliance period
What Are the Benefits of the New Markets Tax Credit to the Investor?
In addition to reducing an investor’s tax liability, NMTC investments have other positive impacts. They help investors achieve their Environmental, Social and Governance (ESG) goals by promoting environmentally sustainable outcomes and social support for low-income individuals.
NMTC transactions also qualify as Community Reinvestment Act (CRA) eligible investments and Public Welfare Investments (PWI).
We’re Here to Help
Organizations that aren’t exploring options for business tax credits could be missing out on opportunity. If you would like to explore the benefits of NMTCs for your organization or learn more about state and federal tax credits, contact your Moss Adams professional.