Safeguarding Developer Incentives in LIHTC Developments: Navigating Aggregator Litigation and Emerging Contract Risks

Affordable housing in the United States is going through a pivotal moment. Both last year’s passage of the One Big Beautiful Bill Act (H.R. 1) and what appears to be an emerging political focus on affordability heading into 2026 have thrust affordable housing production into the spotlight. An infusion of new resources into the Low Income Housing Tax Credit (LIHTC) program is sure to spur a surge in project development, promising to address the nation’s chronic housing shortage. However, amid this optimism, a troubling trend continues: a wave of litigation that threatens the economic viability and incentives provided for developers participating in the LIHTC program.

Over the past decade, and with some exceptions, much of this litigation has revolved around entities known as Aggregators — investment firms that acquire portfolios of Investor Limited Partner (ILP) interests in LIHTC partnerships.

Aggregators have typically entered the scene by purchasing investor member or partner interests in affordable housing partnerships with the explicit goal of extracting outsized cash windfalls from the residual value of the properties, despite the original investor member not expecting nor investing in consideration of such potential equity appreciation. In a typical LIHTC structure, a developer acts as the General Partner (GP), contributing development expertise, securing financing, and managing risks, while the ILP — often a syndicator or institutional investor — provides equity in exchange for tax credits and losses over a ten-year credit period. The partnership must maintain affordability restrictions for an additional five years thereafter, which comprises what is commonly referred to as the 15-year Compliance Period, to avoid tax credit recapture.

At the heart of the original business deal is a negotiated split (or share) of residual value upon the ILP’s exit after the Compliance Period. By this point, the ILP has realized its primary benefits: substantial tax credits (often exceeding the initial investment) and deductible losses. The residual — any equity appreciation in the property — serves as the developer’s main economic incentive. Developer fees are frequently deferred, and operational cash flow is often minimal due to rent restrictions and debt service. Without a supermajority share of the residual (commonly 90 percent to the GP and 10 percent to the ILP, or a similar economic sharing agreement), developers may not be incentivized to navigate the LIHTC program’s complexities, including land acquisition, tax credit applications, construction, and guarantees on debt and credit delivery.

Aggregators have disrupted this common structure and balance of benefits by acquiring ILP interests — often for nominal sums — and then litigating (or leveraging the high costs of litigation) to claim a larger share of the proceeds from property sales or buyouts. Their primary tactic: demanding payment based on the ILP’s “positive capital account” balance. Capital accounts are not bank accounts, rather they are accounting entries tracking each partner’s equity contribution as adjusted for allocations and distributions for tax purposes; but, in many LIHTC deals (particularly nine percent ones), ILPs often end with high positive balances after 15 years because tax credit allocations do not reduce them, while allocations of losses and distributions of cash flow do.

Aggregators argue that IRS Regulation 1.704-1(b)(2 )(ii)(b), under Section 704(b), mandates distributions from proceeds generated from a LIHTC property sale be proportional to these positive capital account balances and be treated as liquidation proceeds, seeking to supersede the negotiated residual split in the original parties’ contract. But, courts resolving these disputes thus far have uniformly disagreed and confirmed that a property sale and partnership liquidation are distinct events, and the participating parties’ contractual agreements will govern the treatment of them. Under a properly drafted agreement, proceeds from a sale are first distributed via the partnership agreement’s “capital transaction waterfall,” which honors the negotiated residual split. Only thereafter, in connection with the winding up of the partnership, does liquidation occur where remaining assets (cash reserves and other assets) are distributed in liquidation per positive capital account balances. This interpretation preserves the parties’ intent and avoids rendering contractual waterfall provisions meaningless.

Key rulings underscore this:

• In AMTAX Holdings 436, LLC v. Full Circle Villagebrook GP, LLC (N.D. Ill. June 18, 2024), the court held that sale proceeds fall under the “sales waterfall” of the applicable partnership agreement, not liquidation provisions, emphasizing the separation: “The sale and distributions of proceeds from the sale are distinct and separate from a subsequent dissolution and liquidation.”
• In The Landing, LLC v. MG Affordable Master, LLC (S.D. Ala. Aug. 12, 2024), the court echoed this, ruling that interpreting sales as immediate liquidations would nullify sale-specific provisions: “the sales of the Properties and the distribution of proceeds from the sales ‘are distinct and separate from a subsequent dissolution and liquidation.’”
• An arbitration decision in Multi-Housing Tax Credit Partners XXX v. Finlay Interests GP 40, LLC (JAMS June 6, 2023) reinforced this again, awarding attorney’s fees and costs against the aggregator for pursuing claims “without substantial justification.”

These cases, along with other jurisdictionally diverse cases before them, highlight a consistent judicial consensus: Aggregators’ capital account demands misread agreements and tax rules. Regrettably, this litigation has cost developers millions of dollars in legal fees and delayed exits, eroding program incentives and disrupting LIHTC industry norms and customs.

Despite these legal victories for developers, the Aggregator trend has shifted in a significant and troubling way, evolving beyond Aggregators who have been working themselves through their portfolios of assets over the last decade. Now, some investors and syndicators have adopted Aggregator tactics and arguments in pursuit of the same rejected outcomes pursued by Aggregators over the last decade.

For example, in ongoing litigation in New Jersey involving Alliant Capital, the ILPs argue that sale proceeds from the GP’s Option to buy the property must be distributed under the partnership agreement’s liquidation provisions in accordance with positive capital account balances, not the parties’ 90 percent/10 percent residual sharing agreement established by the capital transactions waterfall. And, in litigation in Iowa, a Wells Fargo affiliated limited partnership had caused ILPs in three LIHTC partnerships to make nearly identical arguments.

Likewise, in Montana, a Wells Fargo-affiliated limited partnership did the same thing, but in November of 2025 the Montana court rejected those arguments and ruled consistent with the uniform body of case law on this issue — confirming that “a capital asset sale provision, and not a liquidation provision, governs the sale” because, in part, partnership dissolution occurs after the sale and distribution of proceeds since the sale and distribution of sale proceeds are “distinct and separate from a subsequent dissolution and liquidation of the Partnership.” See Order for Partial Judgment in RC Development, Inc. v. MPEG Wells Fargo Special, L.P., et al., No. DV-25-3 (Mont. Dist. Ct. Nov. 26, 2025)(citations and quotations omitted).

Additionally, we are now frequently seeing — in negotiations over new syndications on the “front end” of LIHTC partnerships — certain investors’ and syndicators’ draft provisions designed to work around these court decisions. These front-end draft provisions mandate that distribution of sale proceeds occurring according to positive capital account balances shall override negotiated, back-end residuals otherwise intended to be favorable to GPs. Buried in dense legalese, such provisions could shock developers 15 years later, diverting residuals they relied upon as compensation for risks borne.

For developers, vigilance remains paramount. Developers nearing Year 15 should guard against such arguments and seek out counsel about their agreements. On the front end, letters of intent should explicitly affirm residual splits without capital account caveats, and partnership agreements should mirror this, with clear and separate waterfalls for sales and liquidation. Engage counsel early to spot these traps.

The LIHTC program’s success hinges on balanced incentives. H.R. 1 and the emerging political focus on affordability issues this year amplifies opportunities, but unchecked litigation and contract shifts risk deterring developers. By protecting residuals from the outset, developers can sustain participation, ensuring the program’s goal: more affordable housing for those in need.