The Financing Gap Problem

Affordable housing means renting or selling housing units at below-market rates. This business structure brings in less revenue than a similar market-rate project. The problem is that affordable housing projects still need to pay market rates for land, building materials, labor, insurance, property taxes, and all the other costs necessary to create, preserve, and operate housing.

Take a simple example. A market rate two bedroom rents for $1,800 per month and costs $1,500 per month to carry, so the owner earns $300. The affordable version of that same unit might be capped at $1,000 per month for a family at 60% of Area Median Income. The costs are still $1,500. Without something to fill that $500 gap, the affordable version never gets built.

That $500 gap between below-market rents and full market costs is why affordable housing finance gets complicated. The math just does not work without help. Programs that target deeper affordability, such as 30%, 50%, or 60% of Area Median Income, make the gap bigger.

This is where Big “A” affordable housing financing comes in. Federal, state, and local programs are designed to plug that gap. At the federal level, HUD and the IRS, through the Low-Income Housing Tax Credit (LIHTC), are the main players.

At a high level, affordable housing capital stacks are built from one or more of three basic types of money:

  1. Debt: Money the project borrows and has to repay. In affordable housing, this includes “hard” debt with fixed monthly principal and interest payments from cash flow, and “soft” or subordinate debt that may allow deferred payments, forgiveness if the project stays affordable, or payment only from surplus cash after operating costs and senior debt. Softer terms make it easier for the project to survive on restricted rents.
  2. Equity: Money that owners or investors put in and only get back if the deal performs. In LIHTC deals, most equity comes from investors who buy Low-Income Housing Tax Credits (LIHTC) and sometimes Historic Tax Credits (HTC) in exchange for an ownership interest. Sponsors may also contribute cash or land as equity.
  3. Subsidies: Dollars or concessions that do not look like normal debt or equity. These include non-repayable grants, forgivable or deeply soft loans from public agencies, property tax relief, and ongoing operating support. HUD Housing Assistance Payment (HAP) contracts are a classic example on the operating side because they boost rental income so projects can serve lower-income tenants than rents alone would allow.

In the rest of this post, we will start to unpack those three buckets in the context of Big “A” affordable housing, beginning with debt.

Big “A” Affordable Housing Financing

Debt

Debt is borrowed money that must be repaid. Almost all affordable housing projects use debt to finance construction or rehabilitation, and most carry a permanent loan once the building is leased up. In affordable housing, we distinguish between hard debt (must be repaid from project cash flow on a fixed schedule) and soft debt (can be deferred, forgiven, or repaid only from leftover cash after other obligations are met). The "softer" the debt's terms, the easier it is for the project to survive on restricted rents.

Affordable housing debt comes from a mix of sources. You will see loans from national and regional banks, community banks, nonprofit community development financial institutions (CDFIs), state housing finance agencies, local housing departments, private activity bond issuers, and in some cases federal programs through HUD or USDA. CDFIs such as Local Initiatives Support Corporation (LISC) and Enterprise Community Loan Fund often step in when a traditional bank will not, or when a project needs more flexible terms than a conventional construction or permanent loan can offer.

Recourse vs. Non-Recourse Debt

If debt is "recourse debt," that means a person or business in the deal is personally liable. If the loan is not repaid, the lender can go after assets beyond the project itself. That usually means the sponsor or a guarantor entity tied to the general partner or managing member. In a true recourse loan, a bad deal can follow the sponsor home to their other real estate, bank accounts, or business assets.

If debt is "non-recourse debt," the lender's remedy for default is limited to the collateral, usually the project property. If the borrower defaults, the lender can foreclose on the property, but cannot chase the sponsor’s other assets.

In affordable housing deals, most permanent loans are structured as non-recourse. That is a big part of why investors and nonprofit sponsors are willing to do these deals. They know that if the project underperforms, they can lose the property, but the lender should not be able to reach their other assets.

There is an important catch. Even “non-recourse” loans usually come with a separate “carve-out” guaranty. The carve-out guarantor agrees to be personally liable if certain bad acts occur, such as fraud, intentional misrepresentation, misappropriation of funds, waste, or voluntary bankruptcy filings. If one of those events happens, the lender can step outside the non-recourse box and pursue the guarantor directly.

In loan documents, recourse shows up in phrases like "Borrower shall be personally liable," while non-recourse notes say things like "Lender’s sole recourse shall be limited to the Property," followed by the bad-acts carve-out guaranty.

Related party debt is a loan where the borrower and lender are closely connected. Most often, the lender is the sponsor or an affiliate that owns or controls the project entity. Think developer-to-project loans, parent-subsidiary loans, or loans between entities with the same board or officers.

In LIHTC deals, related party debt makes tax counsel nervous because the IRS looks hard at whether there is real economic cost and real repayment risk. To keep costs in eligible basis, the underlying expenses have to be bona fide and properly capitalized. If an affiliate “loan” does not behave like true debt, the IRS can treat it as a grant or capital contribution, or challenge inflated costs. In bond deals, IRS adjustments to basis or treatment of subsidies can also affect the 25% bond financing test (formerly the 50% test), so related party notes get extra scrutiny.

Tax counsel and investors will pick apart related party loans. Red flags include missing or vague documents, no repayment obligation, no realistic source of payment, or terms that look more like a gift than a loan. Better practice is simple and boring:

  • A written promissory note with a clear principal amount.
  • A stated interest rate at or above the Applicable Federal Rate.
  • A repayment schedule tied to surplus cash or another realistic source.
  • Evidence over time that payments are actually made when cash is available.

Bonds (Private Activity Bonds)

Private activity bonds, or PABs, are tax-exempt bonds that state and local governments (or their agencies) issue to support private projects with a public purpose, including affordable housing. Tax-exempt means investors do not pay federal income tax on the interest they receive. Because that interest is tax free, investors are usually willing to accept a lower interest rate than on a comparable taxable bond. Lower interest means lower annual debt service for the project, which leaves more room in the budget for operations, reserves, and deeper affordability.

In Maryland, the Community Development Administration (CDA) within the Department of Housing and Community Development is the main issuer of housing PABs. CDA issues Housing Revenue Bonds and Multifamily Mortgage Revenue Bonds that provide construction and permanent financing for affordable rental projects. County housing authorities, such as the Housing Opportunities Commission of Montgomery County, can also issue bonds for projects in their jurisdictions.

The 25% Test (Formerly the 50% Test)

For 4% LIHTC projects, the key rule is the 25% test. If a project meets this test, it can claim 4% credits on 100% of its eligible basis. If it falls below 25%, it can only claim credits on the portion of basis that is actually financed with qualifying bonds. That sharp drop in credits usually creates a major funding gap, so developers treat the 25% test as a practical “cliff test” for deal feasibility.

A project satisfies the 25% test if at least 25% of the aggregate basis of the building and land (the “good bond costs”) is financed with tax exempt private activity bonds that are subject to volume cap. This 25% threshold permanently replaces the old 50% test for buildings placed in service after December 31, 2025, so long as at least 5% of aggregate basis is financed with bonds issued after December 31, 2025.

The shift from 50% to 25% matters most in states where private activity bond volume cap has been the main bottleneck for 4% LIHTC deals. Using fewer bonds per project frees up volume cap for additional projects, so housing finance agencies can finance more 4% deals with the same overall cap. In states that never used all of their volume cap, the impact is smaller, but in bond constrained states this change is now a core feasibility driver and a major reason you will see agencies revising bond and credit policies.

Volume Cap Allocation

Each state receives an annual allocation of private activity bond authority. For 2026, the cap is about $135 per resident or $397.6 million, whichever is greater (see IRS Rev. Proc. 2025-32). States decide how to allocate this cap among all eligible uses, including affordable housing, industrial development, student loans, and other purposes. In some states, requests for multifamily housing bonds far exceed the available cap. In others, the cap goes unused.

Because volume cap is limited, the change from 50% test to 25% test has a big impact on 4% LIHTC deals. A project now needs bonds equal to at least 25% of aggregate land and building basis instead of 50%. For a $30 million project, that means $7.5 million in bonds instead of $15 million. The same pool of PAB volume cap can now support roughly twice as many projects in bond-constrained states. The tradeoff is that more 4% projects means more credits are available to investors to purchase, which can put downward pressure on credit pricing.

Interest Rate Environments and Bond Duration

In some interest rate environments, tax exempt bonds do not save very much compared to plain taxable debt. If bank loans are at 6% and bond debt is at 5.75%, the tax benefit is real but the spread is small. When the pricing is that tight, the main reason to issue bonds is often to qualify for 4% credits, not to chase a huge rate savings.

In those cases, developers may structure short term, cash backed bonds. The bonds finance construction and remain outstanding at least until the project is placed in service for LIHTC purposes. Once the buildings are placed in service and the 25% test is safely met, the bond loan is often prepaid and replaced with a simpler permanent loan. Federal tax rules focus on whether the bonds were tax exempt, counted under volume cap, used to finance the project, and redeemed within a “reasonable period,” rather than requiring a fixed minimum number of years.

Bond Documents

Bond documents look a lot like conventional loan documents, just with more parties involved. A trust indenture (or funding loan agreement) between the issuer and the trustee sets the basic terms of the bonds and pledges the loan repayments to the bondholders. A separate loan agreement and promissory note document the loan from the bond issuer or governmental lender to the project borrower.

The loan is secured by a recorded mortgage or deed of trust against the property, just like any other construction or permanent loan. The issuer assigns its rights under the note, loan agreement, and mortgage to the trustee under the indenture. If you are used to regular real estate loans, you can think of the trustee as the “lender” of record, holding the mortgage for the benefit of the bondholders.

Equity

In a LIHTC deal, the limited partner or non-managing member (the investor) contributes capital in exchange for an ownership stake in the project entity. The investor becomes a real partner and receives an allocation of tax credits and losses under the partnership or operating agreement. The investor is usually a bank or large corporation that can actually use the tax credits to reduce its federal tax bill. Many affordable housing sponsors are nonprofits or smaller for profits, so they need this outside investor to unlock the value of the credits.

We are careful not to say that the investor “purchases” the tax credits. The structure relies on Subchapter K. The investor buys a partnership interest, not a strip of credits, so that credits and losses can be allocated to the investor under the partnership tax rules.

You will sometimes hear people distinguish between “equity” (from the tax credit investor) and “capital contributions” (from the sponsor or affiliates). That is mostly industry shorthand. Both are capital contributions to the ownership entity, just from different sources and on different terms.

Credit pricing and how much equity you really get

The amount of equity you raise depends on “credit pricing” or the “equity factor,” which is usually quoted as dollars of equity per $1.00 of credits. Recently, typical credit prices range from $0.70 to $0.85 per $1.00 of credit, with variation by region, deal type, and investor appetite.

So if a project is expected to generate $10 million in credits over 10 years, it might raise around $7 million to $8.6 million of investor equity, depending on pricing. That equity is usually contributed in stages tied to milestones, such as construction closing, 50% completion, and placed in service.

The new 25% bond test is likely to increase the number of 4% LIHTC deals in states where bond volume cap was the main constraint. More 4% deals means more credits coming to market. If investor demand does not grow at the same pace, this extra supply can put downward pressure on pricing, especially in weaker economic periods when corporate tax liability is lower.

Partnership agreements in practice

The partnership or operating agreement does the hard work. It spells out:

  • How credits, losses, and cash are allocated.
  • When equity installments are funded and what conditions must be met.
  • When and how cash distributions are made.
  • When and how the investor can exit (often after year 15).
  • What happens if the project misses benchmarks or falls out of compliance.

These agreements are heavily negotiated but follow familiar patterns. Investor counsel focus on protections that preserve the credits and their expected return. Sponsor counsel focus on preserving control over day-to-day operations and long-term mission.

Subsidies

Subsidies are financing sources that do not behave like normal rent or normal debt. For operating subsidies, the classic example in affordable housing is Section 8 Housing Assistance Payments (HAP).

Housing Assistance Payment contracts

Project-based Section 8 HAP contracts provide a monthly payment directly to the owner to fill the gap between what tenants can afford (often around 30% of their income) and the contract rent for the unit. The tenant pays their income-based share. HUD pays the rest.

These contracts often run 15–20 years, with renewal options, and they create a steady, predictable revenue stream. That stability lets projects serve extremely low-income households (around 30% AMI and below) that would never be able to cover full operating costs through their own rent payments.

Using Section 8 to cross-subsidize

Pairing Section 8 with different affordability levels is a core financing strategy. For example, a project might set:

  • 20% of units at 30% AMI with Section 8 HAP, and
  • The remaining units at 50% or 60% AMI without Section 8.

The HAP-assisted units generate enough total revenue (tenant share plus HUD payment) to fully support those units and help cover shared operating costs. That extra stability makes it easier for the project to carry deeper affordability in the 30% AMI units while keeping the whole building financially viable. This kind of layering is common in supportive housing and projects targeting extremely low-income residents.

Grants

Grants are funds the project does not have to repay, usually from a government or a nonprofit. For LIHTC, the key question is whether any part of the grant is federally funded. Under IRC § 42(d)(5)(A), costs paid with the proceeds of a federally funded grant are excluded from eligible basis, which reduces the amount of credits the project can generate. Purely state or local grants that do not trace back to federal sources generally do not cause this basis reduction. From an accounting perspective, grants also differ from debt and equity because they do not create a repayment obligation or an ownership interest, and they may be taxable income to the recipient.

Because of the basis reduction risk and possible tax hit, LIHTC deals try to avoid direct federal grants at the project owner level. Instead, you often see the money come in as a loan, usually through a nonprofit sponsor.

Back-to-back loan structures

A common workaround is the “back-to-back” structure. A foundation or public agency makes a grant to the nonprofit sponsor, and the sponsor then lends those funds to the project partnership or LLC. This lets qualifying loan proceeds finance costs that stay in eligible basis, gives investors comfort that funds are committed on defined terms, and allows sources that can only fund nonprofits to be pushed down into a for profit ownership entity.

For this to work, the loan still has to look like real debt. In practice that means a written promissory note, a stated interest rate (often at or above AFR), repayment terms tied to surplus cash or another realistic source, and a track record of making payments when cash is available. The same related party concerns that apply to other affiliate loans apply here, and tax counsel will usually walk through them in detail.

Tax Exemptions and PILOTs

Some affordable housing projects receive property tax exemptions or negotiate Payments in Lieu of Taxes (PILOTs) with local governments. These arrangements reduce operating expenses, improving cash flow and project feasibility.

PILOTs are negotiated agreements where the project owner makes annual payments to the local government in lieu of regular property taxes, typically at a reduced rate. These payments may be fixed, based on a percentage of revenue, or follow other formulas. PILOTs are particularly common in states where local governments want to support affordable housing but cannot fully exempt properties from taxation. Tax exemptions and PILOTs should be factored into pro formas early in project planning, as they significantly impact operating budgets and debt service coverage ratios. Not all jurisdictions provide PILOTs or property tax exemptions. In Maryland, a project typically needs to be owned by a nonprofit to be eligible.

Little “a” Affordable Housing Financing

Little “a” affordable housing keeps units reasonably priced through ownership structures and mission-driven capital, often without those big programs. Big “A” Affordable Housing relies heavily on government programs like LIHTC and tax-exempt bonds. The tools are different, but the goal is the same: lower housing costs without blowing up the pro forma.

Community land trust financing

Community land trusts (CLTs) separate land from buildings. The CLT, usually a nonprofit, owns the land and leases it to homeowners or resident organizations through long term ground leases, often 99 years. This lowers the price that buyers or residents pay and keeps homes affordable over time through resale restrictions in the ground lease.

Financing happens at two levels. The CLT itself needs capital to acquire land and, sometimes, to develop or rehab buildings. That money often comes from philanthropic grants, local government support, CDFI loans, or donated land from cities or private owners. When a CLT builds new housing, it may tap some Big “A” sources like HOME funds, but many projects lean more heavily on local and mission driven money. Individual buyers on CLT land typically use conventional mortgages. Because they are buying only the building and not the land, the price is lower than a similar fee simple home. Most lenders will make CLT mortgages once they understand the ground lease, and Fannie Mae and Freddie Mac have specific guidelines that help normalize this space.

Ground leases can worry lenders who are new to CLTs. They want to know what happens if the lease is not renewed or if the CLT dissolves. Well drafted ground leases give lenders the right to cure defaults and assume the lease or take over the CLT’s position in a foreclosure. Getting those protections into the lease and explaining them early makes CLT lending much easier.

Limited equity housing cooperative financing

Limited equity housing cooperatives (LEHCs) are owned collectively by residents. People buy a share in the cooperative rather than a deed to a specific unit, and resale prices are capped, which keeps shares affordable for future residents.

When an LEHC buys a building, it often uses a mix of member equity, CDFI or community bank loans, and government acquisition grants.

NOAH (naturally occurring affordable housing) preservation financing

Naturally occurring affordable housing (NOAH) is older, generally unsubsidized housing that happens to rent below market. The preservation play is to buy these properties and keep them affordable, rather than upgrade them and push rents to full market.

Mission driven developers typically finance NOAH acquisitions with loans from CDFIs or community banks, sometimes layered with acquisition grants or soft loans from local governments. Renovation can be as simple as light repairs funded by conventional debt, or as involved as a substantial rehab that might justify adding LIHTC or other Big “A” tools.

The hard part is balancing capital needs and affordability. Many NOAH buildings have deferred maintenance. If you borrow heavily to fix everything at once, debt service can push you toward higher rents. Bringing in LIHTC can solve the math if the rehab is large enough, but then the property shifts from Little “a” to Big “A,” with all the compliance that comes with that choice. Mission driven owners have to underwrite carefully so rents can cover both debt and ongoing capital needs over time.

Philanthropic and mission driven capital

Little “a” affordable housing often leans on below-market capital from mission oriented sources. Program related investments from foundations accept lower returns to advance a charitable mission. Banks make community development loans and equity investments to meet Community Reinvestment Act requirements. Local housing trust funds provide flexible, patient capital. Faith based and community groups make grants to support specific neighborhoods or populations.

This money is powerful but much less standardized than Big “A” programs. Each funder brings its own goals, timelines, and restrictions. Putting a deal together often means juggling several lenders and investors with different priorities and negotiating intercreditor agreements that spell out who gets paid when and on what terms. Foundations want to see clearly how a program related investment advances their purpose. Banks care about CRA geography and project types that match their exam strategy. The financing math may look familiar, but the relationship work and storytelling matter just as much as the numbers.

Building the Financing Stack

Assembling affordable housing financing is complex and time-consuming. Here's what practitioners need to understand:

Timeline Realities

Affordable housing projects typically take 3-5 years from concept to completion, with much of that time spent on securing financing. Developers must apply for competitive funding sources (9% LIHTC, HOME funds, state housing trust funds) on annual cycles. Missing a deadline means waiting another year. Even non-competitive sources like 4% LIHTC with bonds can take 12-18 months to structure, underwrite, and close.

Gap financing often arrives at the last minute. A project may have its primary debt, tax credit equity, and most grants committed, but discover a $2 million gap just months before financial closing. Developers then scramble to find additional sources, sometimes negotiating with city housing departments, local philanthropies, or flexible CDFIs to plug the gap.

The timing mismatch between funding commitments is a constant challenge. Tax credit equity typically comes in stages (construction closing, 50% completion, placed-in-service), while construction draws happen monthly. Construction lenders must be comfortable with this timing and structure their loans accordingly. Some sources commit early but don't fund until much later, creating risk if terms change or the source becomes unavailable by the time funding is actually needed.

What Happens When Funding Falls Through

Funding sources fall through regularly in affordable housing. A CDFI might reject a loan application, a tax credit investor might reduce pricing, or a grant program might get cut. Developers must then:

  • Find replacement funding (often more expensive or with stricter terms)
  • Restructure the project (reducing units, amenities, or affordability levels)
  • Abandon the project entirely if the gap becomes unbridgeable, losing all predevelopment expenses already incurred

Well-structured deals include contingency plans. Developers identify backup funding sources during pre-development, maintain relationships with multiple lenders, and build modest contingencies into construction budgets. However, some projects simply aren't viable without all intended sources, and developers must be prepared to walk away.

Why Regular Bank Loans Don't Work

Why can't affordable housing developers just get a conventional bank loan like market-rate developers? Several reasons:

  • Debt service coverage: Banks typically require debt service coverage ratios (DSCR) of 1.15 or higher, meaning the property generates at least $1.15 in net operating income for every $1.00 in debt service. Affordable housing projects often can't achieve these ratios with restricted rents.
  • Loan-to-value limits: Conventional lenders limit loans to 75-80% of appraised value. Affordable housing appraisals are based on restricted rents, resulting in lower valuations and smaller loan amounts.
  • Risk perception: Banks view affordable housing as higher risk due to regulatory compliance requirements, tenant populations, and nonprofit sponsors without deep balance sheets.
  • Regulatory restrictions on rents and operations: Affordable housing regulatory agreements restrict not just rents, but also tenant selection, unit transfers, and property operations. Banks are uncomfortable with these restrictions because they limit the owner's ability to respond to market conditions or financial distress. If the project is struggling, the owner can't simply raise rents or change the tenant mix to improve performance.

This is why affordable housing depends on layering: soft debt that doesn't require immediate repayment, equity from tax credit investors that doesn't require any repayment, and grants that fill remaining gaps. Only by combining these sources can projects achieve financial feasibility.

A typical 50-unit family project might combine: first mortgage (40% of costs), 4% LIHTC equity (35% of costs), state soft loan (15% of costs), local grant (5% of costs), and developer deferred fee (5% of costs). No single source could make the project work, but together they achieve feasibility.

Common Questions

How does the new 25% test affect project financing in practice?

The reduction from 50% to 25% frees up bond volume cap, which has several ripple effects. In oversubscribed states, more projects can be funded with the same amount of total cap. Individual projects need less bond debt, which can reduce interest costs if they replace bonds with other lower-cost sources. However, projects still need to reach the 25% threshold, and when the spread between tax-exempt and taxable interest rates narrows (making bonds less advantageous), developers might issue the minimum bonds needed and finance the rest conventionally.

What's the difference between a 9% credit and a 4% credit, and why does it matter for financing?

The 9% credit provides approximately 70% of eligible basis as credits over 10 years (9% annually), while the 4% credit provides approximately 30% of eligible basis (4% annually). The 9% credit generates much more equity from investors, making it possible to build projects with less debt. However, 9% credits are competitive and limited by state population allocations. The 4% credit is automatically available to projects that meet the bond financing test (the 25% threshold), so the credits themselves are not subject to competitive state allocation like 9% credits. However, in many states, the tax-exempt bonds required to qualify for 4% credits are competitively allocated due to limited bond volume cap. Once a project secures bonds, the 4% credits follow automatically. Because 4% credits generate less equity than 9% credits, 4% credit deals require more debt or other sources to fill the financing gap. We'll explore the strategic choices between these credits in a future post.

How do developers manage compliance with multiple funding sources that have conflicting requirements?

This is one of the biggest challenges in affordable housing development. Different funders may have different income targeting requirements, design standards, reporting schedules, and asset management rules. Developers must negotiate terms during the application process, sometimes persuading funders to align requirements or grant waivers. Large developers employ dedicated compliance staff to track all requirements and ensure the project meets every funder's expectations. When requirements truly conflict (for example, one funder requires all units at 50% AMI while another requires a mix including 60% AMI), developers must choose which sources to pursue.

Can you really make money developing affordable housing, or is it all mission-driven work?

Both. Developers earn fees for managing the development process, which can be substantial on large projects but smaller than market-rate development fees and harder to earn given the longer timelines and complexity. In Maryland, for example, developer fees for projects using state funds and LIHTC typically range from 5% to 15% of total development costs, with the exact percentage depending on project characteristics and funding sources. For projects with competitive state funds and 9% LIHTC, developer fees are capped at $2.5 million. For projects involving "twinning" (combining 9% and 4% credits), the total combined developer fee is capped at $5 million. Some developers defer fees or take them over time to improve project cash flow. Property management companies earn steady management fees (typically 6-8% of collected income). It's possible to build a sustainable business in affordable housing, but it requires efficiency, volume, and a tolerance for complexity. Most practitioners could earn more in market-rate real estate, but they value the mission and community impact.

What happens to a project if it falls out of compliance with LIHTC requirements?

If a project falls out of compliance (for example, renting to over-income tenants or failing to maintain the required number of affordable units), the owner faces recapture of tax credits during the first 15 years after placement in service, meaning investors must pay back a portion of the credits they claimed, plus interest. This creates serious financial consequences and can trigger defaults on investor agreements. Most projects have compliance monitoring systems and work closely with state housing finance agencies to cure issues quickly. Projects typically have a correction period to remedy non-compliance before recapture is triggered. In cases of natural disasters or other extraordinary circumstances, the IRS may grant relief from compliance requirements. The threat of recapture is one reason why tax credit investors require extensive protective provisions in partnership agreements and why compliance is taken so seriously throughout the industry.

How do deferred developer fees fit into the capital stack, and how do deal parties view them?

A developer fee is compensation for putting the deal together. In many affordable housing projects, the sponsor does not receive the full fee at closing. Instead, part of the fee is paid at or near closing, and the rest is “deferred” and shown as a separate line item in the sources and uses.

On the sources and uses chart, the deferred developer fee shows up as a source, because it is money the project owes the sponsor in the future. In the operating pro forma, it shows up as a use of surplus cash, usually behind hard debt and investor distributions. The idea is that once the building is built and leased up, any extra cash after paying operating expenses, reserves, and senior debt will gradually pay down the deferred fee.

Everyone in the deal treats deferred fee as the last, most flexible dollar in the stack.

  • Developers see deferral as a way to close the remaining gap without giving up ownership or control, and as proof that they have skin in the game.
  • Investors and lenders see it as a cushion. If the project underperforms and cannot fully repay the deferred fee, the sponsor has effectively contributed equity, which protects the project and the investor.

There is a limit to how much you can safely defer. State agencies, investors, and lenders will usually stress test the pro forma and cap the amount of fee that can be deferred to what is reasonably expected to be repaid over a defined period, often 10 to 15 years. Too much deferral is a warning sign that the project is not really feasible and that the sponsor is being asked to carry more risk than is realistic.

Why do most CLTs and co-ops not use LIHTC?

In general, LIHTC is built for rental projects with a single tax owner, not for homeownership or resident owned structures like most CLTs and limited equity housing cooperatives.

Two key reasons:

  1. LIHTC is for residential rental property, not tenant owned housing. Section 42 only gives credits for qualified residential rental property. IRS guidance says a qualified low-income building does not include residential rental property owned by a cooperative housing corporation or by a tenant stockholder in that corporation. That knocks out the classic “everyone owns a share and lives in their own unit” coop structure and most CLT homeownership models where the resident is an owner, not a renter.
  2. Credits need to flow through one tax owner. In a typical LIHTC deal, one taxpayer or one pass through entity owns the building and claims the credits, then allocates them under Subchapter K. Splitting ownership among dozens of resident owners in a coop or CLT homeownership model makes it very hard, or impossible, to preserve that single tax owner structure and still satisfy the residential rental property requirements.

There are hybrid approaches where a CLT or coop related entity owns a rental building and uses LIHTC for that rental piece, while keeping separate permanently affordable homeownership units. But the core CLT and LEHC homeownership models are usually a poor fit for LIHTC rules, which is why you mostly see them financed with Little “a” tools instead.