The Low-Income Housing Tax Credit (LIHTC) program is a cornerstone of affordable housing finance, enabling developers to build and rehabilitate affordable rental housing nationwide. Yet, navigating its complex requirements—especially those related to bond financing—remains challenging for developers, investors, and tax professionals alike. One headline rule that deserves clarity is the permanent 25% bond threshold or “bond test” in LIHTC eligibility.
In this article, we break down what it means that the LIHTC bond threshold is permanently 25%, explore how permanent 100% bonus depreciation and timing rules interplay, and discuss related tax provisions—including cost segregation, Qualified Production Property (Section 168(n)), and enhancements to Section 179 expenses—that influence affordable housing finance decisions.
Understanding the LIHTC Bond Threshold: What Is the 25% Rule?
The LIHTC program issues credits based on the qualified basis of a project, which has nuanced rules depending on whether the project is financed with tax-exempt bonds. The bond financing test requires that at least a percentage of the project's aggregate basis be financed with tax-exempt bond proceeds to qualify for 4% credits (the “bond credit”).
Historically, this bond threshold was at least 50%.
- Prior to 2018, a minimum of 50% of the project's aggregate basis had to be financed by tax-exempt bonds. The Tax Cuts and Jobs Act (TCJA) temporarily lowered this threshold. Under current law, as clarified by the Consolidated Appropriations Act of 2021, this threshold is permanently lowered to 25%.
The Permanent 25% Bond Test: Key Takeaways
Rule Old Threshold New Permanent Threshold Minimum Tax-Exempt Bond Financing Required (% of Aggregate Basis) 50% 25%This lower threshold means more projects can access the 4% LIHTC credits, broadening affordable housing finance opportunities for developers who use bonds along with other financing sources.
Why Does This Matter? Implications for LIHTC Eligibility and Strategy
The bond threshold reduction allows greater flexibility in how tax-exempt bonds are used, reducing the financing burden on the project. Yet, developers and investors must still plan carefully to ensure compliance.
- Increased eligibility: Projects with as little as 25% of their aggregate basis financed by tax-exempt bonds now qualify for 4% credits, opening up avenues for creative capital stacking. Lower cost of capital: Tax-exempt bonds generally offer lower interest rates, allowing a bigger piece of the capital stack to be lower cost—even if it’s just 25% of costs. More efficient syndication: Investors can better evaluate deals knowing that bond financing can be a smaller, yet still qualifying, piece of the structure.
Permanent 100% Bonus Depreciation and LIHTC Bond Test Interactions
The 100% bonus depreciation provision, effective for qualified property placed in service after September 27, 2017, allows immediate expensing for personal property and certain building components—streamlining tax benefits for developers. This interacts with LIHTC projects in several ways:
- Since bonus depreciation is 100% through 2022 and phases down gradually after, properties placed in service before 2023 enjoy the full benefit. Shorter-life components—such as personal property or land improvements—are depreciated faster, enhancing cash flows. However, only the building depreciable basis counts towards the LIHTC qualified basis. Cost segregation that allocates costs to shorter life assets can reduce the qualified basis eligible for credits.
Sanity Check Math for Timing
Imagine a project with $10 million total basis, of which $3 million is personal property eligible for 100% bonus depreciation. For LIHTC purposes, only $7 million counts towards qualified basis for the credit calculation.
In bond-financed projects, the permanent 25% test applies to aggregate basis, including personal property, but only building basis generates credits. This distinction matters when structuring deals and allocating costs.
Cost Segregation: Unlocking Shorter-Life Components and Its Effect on LIHTC
Cost segregation is a critical tax planning tool within affordable housing finance—especially in LIHTC developments.
What is cost segregation? The process of identifying components within a building and allocating costs from the standard 39-year depreciation to shorter lives (e.g., 5, 7, or 15 years), allowing accelerated depreciation.
Benefits in LIHTC Bond Projects
- Accelerated tax deductions: By shifting costs into shorter lives, developers benefit from earlier depreciation write-offs, improving early-year cash flow. Bonus depreciation: When combined with permanent 100% bonus depreciation, personal property components generate immediate deductions. Bond test and qualified basis coordination: While personal property reduces qualified basis for LIHTC, the 25% bond threshold includes total aggregate basis—favoring projects with efficient cost segregation.
Important: Cost segregation studies should be done early—optimally pre-placed-in-service—to ensure the tax allocations align with LIHTC eligibility and bond compliance rules.
Qualified Production Property (Section 168(n)): Manufacturing Buildings in Affordable Housing Finance
Section 168(n) defines Qualified Production Property (QPP), which includes certain manufacturing buildings and equipment used in production.
Manufacturing buildings placed in service after September 27, 2017, now qualify for 15-year depreciation life and are eligible for bonus depreciation.
Why Does QPP Matter in LIHTC Bond Projects?
- Shorter depreciation period: Manufacturing buildings get faster depreciation—potentially increasing early tax deductions on portions of the project designated as qualifying manufacturing areas. Improved cash flow: Developers incorporating manufacturing or production components (e.g., on-site laundromats, maintenance shops) can enhance tax benefits further. Interaction with LIHTC qualified basis: These shorter-life assets typically reduce LIHTC basis but can improve overall project economics through accelerated tax deductions.
Developers planning manufacturing-related components must carefully segment costs and understand the impact on both bond financing compliance and LIHTC eligibility.
Section 179: Larger Limits and Phaseouts Benefiting Affordable Housing Investors
Section 179 allows taxpayers to immediately expense the purchase of qualifying property—such as equipment and certain improvements—up to a dollar limit. Recent expansions and inflation adjustments have increased these limits:
Tax Year Maximum Section 179 Expense Limit Phase-out Threshold 2023 $1.16 million $2.89 million 2024 (estimated) Indexed upwards Indexed upwardsImplications for LIHTC Bond Projects:
- Section 179 expensing can complement bonus depreciation, especially for assets placed in service just below the bonus depreciation thresholds or projects electing out of bonus depreciation. Phaseout rules reduce potential immediate expensing for larger, multi-project portfolios, so careful annual planning is required to optimize tax benefits. Like cost segregation, timing and classification of property are vital to maximize Section 179 benefits without sacrificing LIHTC qualified basis.
Summary: Anchoring Affordable Housing Finance Around the Permanent 25% Bond Test
The permanent 25% bond threshold is a significant policy development that offers more projects access to 4% LIHTCs when paired with tax-exempt bond financing. Yet, it must be understood alongside other critical tax rules and planning tools:
Effective planning for affordable housing deals starts b2bnn.com well before closing. A close review of placed-in-service dates, bond financing proportions, and strategic asset classification is necessary to maximize benefits and maintain compliance with LIHTC rules and bond financing requirements.
Final Checklist for Developers and Investors
- Confirm that at least 25% of aggregate project basis is financed by tax-exempt bonds to meet the permanent bond test. Work with cost segregation experts early to identify shorter-life assets qualifying for bonus depreciation and Section 179. Consider the impact of 100% bonus depreciation timing rules on placed-in-service dates. Determine if portions of the project might qualify as Qualified Production Property under Section 168(n). Plan Section 179 elections within annual limits and phaseouts, coordinating with other tax benefits. Evaluate and preserve qualified basis for LIHTC calculation while optimizing tax deductions.
By anchoring affordable housing finance strategies around the permanent 25% bond test and complementary tax provisions, developers and investors can build stronger, more efficient deals that serve communities and deliver sustainable returns.
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