Another Good Year: Syndicators Still Seeing Strong Investor Demand for LIHTC Funds Even as Yields Fall

9 min read

With just two months remaining, it appears 2014 will turn out to be a banner year for the low-income housing tax credit (LIHTC) market in terms of the total volume of equity raised, even as syndicators are being squeezed on profitability, and yields on multi-investor funds continue to fall.

“I think [total LIHTC volume] is going to be around $11.5 billion,” says Fred Copeman of CohnReznick LLP. “That would be a record.” The current record of about $11 billion was set in 2013, he noted.

Several months ago, when projected after-tax yields on many national multi-investor funds dipped below 7%, some industry participants feared that investment in LIHTC product might wane considerably, especially among so-called economic investors (e.g., insurance companies).

But that hasn’t happened.

“Investor demand is as robust as it possibly could be,” observes Jack Casey of Meridian Investments, Inc. “I don’t know of anybody that is not selling all of their inventory.

“Normally the fourth quarter is busy, but you sometimes have slippage [of fund closings] into the first quarter of the next year. But this year I don’t think you’re going to have any of that. The corporate buyers are spending money as fast as they can, because they see the yield trend. The yields are going to go down. So investors are trying to get the best of what they can get at the moment.”

Strong Demand Everywhere

According to Ben Mottola of Stratford Capital Group, “Investor demand continues to be strong on the multi-fund front as investors try to capture yield prior to year end, with the expectation of decreasing yields for 2015.”

“We are experiencing the highest level of investor demand that we have seen in the last five years,” says Tony Bertoldi of City Real Estate Advisors, Inc. “We believe this is attributable to a number of things, most notably the accounting change for LIHTC and a general improvement in the economy, which has translated to higher earnings and tax liability for our investors.”

Most national multi-investor funds currently in the market have projected yields in the range of 6.25% to 6.75%, about 25 to 50 basis points less than three or so months ago. Yields are even lower on the CRA pools in multi-investor funds with tiered pricing.

“Pretty much all of our larger investors expect to have bigger allocations to invest [in 2015] than this year,” says Hal Keller of Ohio Capital Corporation for Housing. He noted that “CRA investors still dominate the market,” referring to banks that receive credit under the Community Reinvestment Act for investment in LIHTC projects within their assessment areas.

Sources reported that the increased LIHTC investment in 2014 is mostly from financial institutions, whose ongoing need to invest for CRA purposes has been augmented by growing profitability and therefore greater need for tax shelter. “It’s really the growth in appetite of the banking institutions,” says Copeman.

“The banks have stepped it up,” states Casey, who has also seen more regional banks and small banks making their first LIHTC investments.

One major bank investor is Bank of America Merrill Lynch. Executive David Leopold expects the bank’s 2014 LIHTC investment volume to finish “slightly above” its 2013 volume, which was just above $1 billion. About 70% of the bank’s LIHTC volume is through direct investments and approximately 30% through proprietary funds.

Kari Downes of Enterprise Community Investment, Inc. has seen more insurance companies come into the market or increase their appetite. “That’s definitely part of it. But we’re also seeing some financial institutions that are interested in supplementing their CRA investing with some economic investing as well. So you’re seeing it from both sides.”

Many banks are having their cake and eating it, too, by investing in the increasingly prevalent national multi-investor funds that offer “tiered pricing.” These funds have one or more CRA pools that allocate CRA credit to designated bank investors for specific tax credit projects in the fund in exchange for a lower yield – and a higher yield without allocation of CRA credit to investors in the remaining national pool of properties. By investing in both classes, a bank can achieve a higher, blended economic return along with CRA credit, as an alternative to, or supplement to, CRA-oriented direct or proprietary fund investments.

An example is a new national fund by RBC Capital Markets’ Tax Credit Equity Group. Expected to raise nearly $120 million and close by the end of October, it has one base investment class with a projected internal rate of return of 6.5% and two CRA classes with projected IRRs of 6.0% and 5.25%, respectively, according to Tammy Thiessen.

National Equity Fund is marketing its first national multi-investor fund with tiered pricing, a $125 million offering expected to have an initial closing in November, according to Joe Hagan.

Some national multi-investor funds offer varying yields based on the size of the investment, typically providing a higher yield for investments of at least $20 million or $25 million.

Because of the strong investor demand, some syndicators have expanded the size of their current national funds, even though the yield is less than on previous funds. For example, The Richman Group has boosted the size of its new national fund to $254 million from an anticipated target three months ago of $200 million, according to Stephen Daley. The fund has a projected yield of 6.75%. Daley said five of the fund’s 12 investors are new to The Richman Group, a combination of banks and insurance companies. “Some of them have been dormant for a while,” he noted.

The ravenous appetite of investors for multi-investor funds isn’t without challenges, though.

“Syndicators are still struggling to acquire a full pipeline [of LIHTC projects] and are having difficult conversations with investors about revising their pricing expectations while often losing deals by a few cents at the lower tier,” says CREA’s Bertoldi.

Sources report intense competition to secure new deals. This has always been the case in major CRA markets, but now it has spread to a greater number of secondary and tertiary markets.

Bank of America’s David Leopold described the market as “very competitive. It’s a market in which demand for quality investments exceeds the supply of transactions in the primary market.”

“In the last year, the competition for the economic or non-CRA product has intensified dramatically,” says Enterprise’s Kari Downes.

The prices syndicators are paying to developers for new deals are up from three months ago.

“Prices are up a bit, probably a couple of cents, on average,” according to Marc Schnitzer of R4 Capital.

“Credit pricing ranges from the high 80s [cents per dollar of tax credit] to well over $1.10 in hot CRA markets,” says Jeff Goldstein of Boston Capital.

“CRA transactions outside the primary markets still generally command pricing in the low- to mid-90s,” states Victor Sostar of First Sterling, “with primary markets commanding pricing well above $1.05. There is no indication that pricing will change significantly over the next six months.”

Steve Kropf, of Raymond James Tax Credit Funds, said “pricing is trending up slightly in non-CRA markets – it’s now in the mid- to high-80s – and the spread between these markets and the hot CRA geographies has tightened.”

“The majority of the current deals we see tend to be in a range of 90 cents to $1.03, net price per credit,” said Boston Financial Investment Management’s Todd Jones. “While we have seen a few deals at less than 90 cents, they are few and far between.”

Direction in Yields, Accounting Change Impact

A number of sources expect the next national multi-investor funds coming out in early 2015 to have even lower yields.

“There has been a clear downward trend in national fund yields during the second half [of 2014], with yields on recently launched funds in the 6.50% to 6.75% range,” says Kropf. “We expect this downward trend to continue into next year, as pricing to developers remains historically high and markets remain competitive nationally.”

A barometer of future LIHTC demand will be the reaction of existing investors – especially economic ones – to new funds with even lower yields. “It appears that [national multi] yields have certainly dipped below 7% across the board, but it remains to be seen how strong the market will be as it dips lower toward 6%,” says Michael Gaber of WNC.

Industry officials had mixed comments about the impact so far of the change approved last December by the Financial Accounting Standards Board that allows corporations to switch their method of accounting for non-guaranteed LIHTC investments from the equity method to a new proportional amortization method. Only a few said they have seen some companies begin to invest in LIHTC because of the accounting change. Most haven’t seen the change itself cause a huge boost in LIHTC investment so far, noting that yield levels still need to be attractive to investors.

“We are seeing several existing investors increase their investment levels due to the adoption of the proportional amortization method of accounting,” says Marge Novak of Great Lakes Capital Fund. “We are also seeing several investors who previously invested only in guaranteed product moving away from guaranteed investments toward non-guaranteed LIHTC investments. We are not seeing investors coming into the market solely on the basis of the new accounting changes.”

Outlook for 2015

As for the future direction of the LIHTC market, the industry faces some uncertainties.

A key one is whether and/or when Congress will pass tax extenders legislation, something many believe will occur in the post-election lame duck session. Industry officials hope lawmakers will approve an extension of the minimum 9% credit rate for the 70% present value housing credit, and perhaps also a new, minimum 4% rate for the 30% present value credit for tax-exempt bond-financed acquisition costs.

Overall, though, sources are reasonably optimistic about 2015.

“I don’t see anything on the horizon that would slow the increase [in LIHTC equity volume],” says Copeman. “There’s no looming regulatory change or legislative threats or something happening in the asset class. There’s nothing out there that I see that would slow down the growth in the appetite.”