The Critical Verdict: Market Studies Form the Essential Underpinning for Successful LIHTC Projects

13 min read

Market studies for proposed low-income housing tax credit projects have become more sophisticated and refined in recent years – and more necessary with the ever-growing LIHTC inventory.

A market study is required by state housing credit agencies for every new proposed LIHTC project. While all state agencies have their own requirements for market studies, most have adopted in whole or part the model content standards of the National Council of Housing Market Analysts (NCHMA). (See pp. 44-45 for chart on state-by-state market study requirements.)

A market study is a comprehensive written assessment of the feasibility – the likelihood of success – of a proposed multifamily housing project in a given location. The conclusion is based on the evaluation of a wide range of collected data and information on the characteristics of the project, neighborhood, and economy, and on the current and projected near-term supply and demand of affordable rental housing units. Among other things, the analysis estimates the number of qualified renter households within the designated primary market area and identifies other existing and planned multifamily properties that would compete for tenants (“comps”).

Market studies are generally prepared by professional market analysts. Clients/users include developers, state housing credit agencies, syndicators, tax credit investors, and lenders. The studies are usually ordered by developers to submit with tax credit applications. But they are also commissioned by some housing credit agencies and by syndicators and investors. A market study is distinguished from an appraisal, which is an estimate of the market value of a proposed project.

Market studies for LIHTC projects are important for several reasons.

“Because the resources for affordable housing development are so limited, the market study is the tool that enables us to pick the best of all the proposed projects and provide the biggest bang for the public fund,” says market analyst Mary Ellen Shay, President of Sacramento, Calif.-based M.E. Shay & Co. and the current chair of NCHMA. “There’s a lot of competition and a good market study can really identify those markets where there is significant need.”

“With the income restrictions on LIHTC properties, if you get the market wrong, if you get the rent wrong, you’re wrong for at least 15 years,” says NCHMA Executive Director Thom Amdur. “So it’s paramount that the owner, the investor, and the lender understand the potential rent and the renter base at any particular property.”

Critical components of the market study are determining the achievable restricted rent for a proposed LIHTC project and the depth of the market for those units. The proposed monthly rent should enjoy a sufficient competitive advantage to justify the use of the tax credit. According to market analyst Bob Lefenfeld, of Columbia, Md.-based Real Property Research Group, Inc., while housing tax credit income and rent limits are computed by region or county, the maximum tax credit rents may be near or exceed the actual market rents in any given market area. In addition, he said that analysts must make sure that the estimated number of units addressing households at a certain income level does not require an excessive capture rate in order to assure that all of the units will be leased. Lefenfeld suggested that tax-exempt bond-financed projects targeting renter households at 60% of AMI can be especially vulnerable if located in an area where there has been aggressive LIHTC development at that price position.

Changing Trends in Market Studies

According to industry officials, today’s market studies for LIHTC projects are more sophisticated and refined from those of five or so years ago.

“The market methodology is evolving quickly in response to the every-growing need for different types of housing projects and the availability of more precise demographic data,” says Shay.

Changes include:

  • Use of more accurate, often customized data. Many analysts use HISTA, a proprietary data product offered by California-based Ribbon Demographics, LLC. This product generates more accurate and precise estimates of the number of qualified renter households in a primary market area for a proposed LIHTC project, by cross tabulating households by income level, household size, age group, and tenure (i.e. whether renter or homeowner). As an example, for a seniors project, an analyst could quickly find out the number of households in a primary market area that rent, are comprised of one or two persons, are 65 or older, and make $10,000 to $20,000 a year. The basis of the HISTA data is a cross tabulation that Ribbon pays the Census Bureau to prepare, with current-year estimates and five-year projections developed for Ribbon by Claritas (now part of Nielsen). Julia LaVigne, Ribbon’s sole proprietor, says HISTA data saves analysts time while providing more accurate estimates of the number of qualified potential renter households than is possible using standard Census Bureau data and making multiple calculations. “You don’t have to go through the tedious process of trying to make estimates,” she says. “The numbers are already there. You can take the tables that we provide and put them straight into your report or spreadsheet.” According to market analyst Rob Vogt, a partner at Vogt Santer Insights in Columbus, Ohio, HISTA data “does a nice job of slicing down to the specific audience that’s going to live in that project.”
  • Greater refinement of projected demand. “Using one of our tools, we can now provide a more detailed breakdown of demand by bedroom type,” Vogt explains. “So we can calculate the capture rate for a one-bedroom unit, the capture rate for a two-bedroom unit, and the capture rate for a three-bedroom unit.” The capture rate is the estimated percentage of age, size, and income qualified households in the primary market area that the project must attract as tenants to fill up within a defined lease-up period.
  • More user-friendly features. Many analysts now incorporate Google Maps into their market studies to give readers a fuller understanding of the proposed project and how it fits into the submarket. These maps might show the boundaries of the primary market area, the location of the proposed project and comparable properties, and other features. Many analysts impose data from databases or other sources on these maps (so-called data mapping), and some also produce heat maps. “You’ve seen maps of the U.S. or a state where a certain percentage rate of population growth is red and a certain percentage growth might be blue,” says market analyst H. Blair Kincer, a partner at Novogradac & Company LLP in Bethesda, Md. “With a heat map, we can show which parts of the market area are growing faster and which are growing slower by shading them different colors…The easier we can communicate the big picture story, the better it is for our clients and the reader.”
  • Greater standardization. Most state housing credit agencies have fully or partially incorporated NCHMA’s model content standards in their LIHTC program requirements. Some require the market study to be prepared by a certified NCHMA member market analyst. In addition, a number of housing industry groups follow or make reference to NCHMA’s model content standards.
  • Deeper analysis. “For many of our clients, we’re going well beyond [the NCHMA standards, doing things like operating expense analysis and a very, very thorough comparable rental analysis,” says Kincer, noting that Novogradac & Company prepares LIHTC project market studies mostly for syndicators, investors, and lenders. “It’s becoming more apparent that in many markets operating expenses are outpacing revenue growth (from rents), which could be an issue. So people want to get their hands around that issue earlier than later.” Several sources said they now provide or require greater analysis and discussion of economic trends in the market area, including whether HUD’s annual area median income limits and the market rents have been rising, falling, or staying flat and what is the likely trend in the near future. Also common are assessment of how a project with a Section 8 contract would likely fare if its project-based rent subsidies were curtailed.

Variations on Market Study Content

While more standardized than ever, market studies for LIHTC projects can vary widely in format and in content, depending on the client.

Most state housing credit agencies require developers to submit a market study when they apply for 9% housing credits. The developer usually selects the market analyst, though many states maintain a list of approved analysts that sponsors must pick from. Some state agencies commission the market study from outside providers that they utilize.

Syndicators usually commission their own market study, separate from the one prepared for the tax credit application. For instance, Enterprise Community Investment, Inc. orders market studies for proposed LIHTC projects in which it considering making an equity investment. The study is typically ordered once Enterprise has issued a signed letter of intent, says John Brandenburg, Vice President, Credit.

“We have a proprietary report format and guidance that we give to our market consultants and they follow that. We have two separate formats – one for senior projects and one for family – that is an Excel template in which the consultants do their writing and analysis.”

Enterprise also reviews the developer’s market study and gives it to its market consultants but doesn’t rely upon it, says Brandenburg.

Boston Financial Investment Management is unusual in that it prepares its own market studies in-house for LIHTC projects in which it is considering an equity investment. According to Bud Clarke, who oversees this department, Boston Financial “is the only syndicator in the business that has invested the financial resources in an independent group of market analysts whose sole function is to analyze real estate markets.”

He said Boston Financial, a member of NCHMA, follows the NCHMA model content standards for its in-house market studies.

Clarke states that the advantages of doing the market studies in-house rather than relying on third-party studies lie in being able to utilize the company’s vast proprietary database of information on the characteristics, operating expenses, and performance of thousands of LIHTC properties that Boston Financial has syndicated and asset manages. “Third-party market analysts don’t have the luxury of that much information on the operating performance of tax credit properties to be able to get that in their market studies and that allows them to benefit from the lessons of past assignments.”

Using data mapping, Boston Financial has imposed its entire portfolio of properties on maps, enabling analysts to click on a dot that represents a property to access detailed information about that property (e.g., rents, occupancy history, income limits) and on the market. The system can generate reports and maps both for Boston Financial’s portfolio and for any uploaded state agency or HUD database.

Doug Lloyd, a Chicago-based Executive Director at JP Morgan Capital Corporation, a LIHTC investor, and co-chairman of AHIC’s Acquisition and Underwriting Committee, feels that tax credit investors generally believe that market studies for proposed LIHTC projects are valuable but that each investor “probably has a different viewpoint of how important they are.”

“We find them incredibly valuable,” says Lloyd, who noted that JP Morgan Capital Corporation primarily invests in LIHTC properties through single-investor funds. As such, he said his firm reviews the market study that the syndicator has commissioned or done in-house; the developer’s third-party market study (if one has been received); and the appraisal report. It also develops its own “mini” market study, which is prepared internally by the firm’s acquisition team. This study uses third-party demographic and rental data and information from the company’s portfolio as well as that gathered in the team’s site visit, which includes interviews with the developer, property manager, property managers at comparable properties, and the municipal planning and police departments. “We dig through [the different reports] and poke holes in them,” says Lloyd, looking for agreement or differences in identified comp properties, market rents, etc.

Lloyd especially wants future economic, demographic, and rent projections. “As an investor we’d like to know not just where the property is going to be the minute it comes on line at stabilization but we’d like to get a feel that the market is going to be okay for the next couple years. Nobody can predict out 15 years, but looking at all the factors, does the market look pretty good for several years beyond stabilization?”

Lenders may have different requirements when it comes to market studies.

Red Mortgage Capital, an FHA and Fannie Mae multifamily lender based in Columbus, Ohio, requires a market study that satisfies the requirements of FHA’s Multifamily Accelerated Processing (MAP) program, or of Fannie Mae’s requirements, depending on whether it is evaluating an application for an FHA-insured loan (e.g., Section 221(d)(4)) or a Fannie Mae loan, explains Tracy Peters, Senior Managing Director of Red Capital Markets, LLC. The market studies are usually ordered by the developer.

In the case of FHA mortgages, Red Capital generally prefers to see the market studies prepared by NCHMA-certified market analysts, said Joe Mandeville, a vice president of Red Capital Group LLC who co-heads a department that reviews market studies and conducts in-house real estate market research and analysis.

Peters and Mandeville compare the information in the market studies with that in the appraisal report and with market data in Red Capital’s database of $17 billion to $18 billion worth of multifamily loans that the company services. “We can tap into that to make sure that what we’re seeing in the market studies is consistent with what we’re seeing for similar types of properties in similar geographic areas,” says Peters.

Flexibility Is Needed

Sometimes, though, standard market study analysis needs to be tweaked to come up with a more appropriate and accurate assessment of the viability of a proposed affordable housing project.

This is typically the case with the LIHTC projects that Oregon, Wisc.-based Gorman & Company, Inc. develops in “revitalizing” and “challenged” areas, says Chief Operating Officer Tom Capp. Classic market study methodology often won’t work here, he notes, because the proposed project will be a different, new type of housing product in the neighborhood (i.e. high quality new construction with higher rents) compared to the existing housing. “So you often don’t have good comparables and you have to look to analogous areas, analogous situations for comparables, sometimes regionally.”

Similarly, Capps says reference to an area’s historical apartment absorption rates may not be relevant when assessing demand for a downtown or near-downtown development, which often rents up quickly.


Designing a Better Product

Market analysts can also help developers improve the original design for their proposed LIHTC projects.

“One of the questions you always hear,” says Rob Vogt, “is, ‘Why don’t you see a negative market study?’

“The reason is that the analyst has taken the time to talk to the developer to tell him that his or her proposal isn’t going to be supported in this market area as it’s currently laid out. But if you add some three-bedroom units, if you reduce the rent on your two-bedroom units, if you add a bath to that two-bedroom unit, or if you add some dishwashers, then you have a project that can be supported.”

“In probably 80% to 90% of the projects that we work on,” says Vogt, “we provide feedback to the developers to help them refine the project, so that when they submit their tax credit application, it’s a better project, at least from a market perspective.”