Tax Law

Utilizing the New Market Tax Credit

The Internal Revenue Code contains various tax incentives for taxpayers willing to invest in low-income communities. IRC Section 45D provides once such incentive for taxpayers who make qualified equity investments in a selected community development entity ("CDE"). The new market credit entitles the taxpayer who holds a qualified equity investment (an investment in a qualified CDE) to a 5-percent credit for the year in which the equity interest is purchased from the CDE and the first two anniversary dates thereafter, and a 6 percent credit for the next four anniversary dates. IRC § 45D(b). The credit is applied to the amount paid to the qualified CDE for the investment at its original issue.  

In addition to the requirements set forth in IRC Section 45D, Treasury Regulation Section 1.45D-1(d)(2)(i) requires that a CDE receiving returns on investments (including principal repayments from amortizing loans) must reinvest those proceeds into other qualified low-income community investments during the 7-year credit period. If the proceeds are not reinvested, then the credit may be subject to recapture under IRC Section 45D(g)(3)(B). As a result of this requirement, the new markets tax credit investments most often relate to real estate projects "because real estate remains in the low-income community and loans for real estate can extend through the end of the 7-year period in which investors may take the credit on their investment. The 7-year credit period and the reinvestment requirements make it difficult for CDEs to provide working capital and equipment loans to non-real estate businesses because these loans are ordinarily amortizing loans with a term of five years or less." T.D. 9600. To make non-real estate investments more feasible, the IRS has changed the reinvestment requirements for non-real estate investments.

Effective September 28, 2012, the IRS has issued final regulations which permit a CDE that makes a qualified low-income community investment in a non-real estate business to invest certain returns of capital from those investments in unrelated certified community development financial institutions (certified CDFIs) that are CDEs under IRC Section 45D(c)(2)(B) at various points during the 7-year credit period. The regulations also allow an increasing aggregate amount to be invested in certified CDFIs and treated as continuously invested in a qualified low-income community investment in the later years of the 7-year credit period.  The final regulations define  a non-real estate qualified active low-income community business as any business whose predominant business activity does not include the development (including construction of new facilities and rehabilitation/enhancement of existing facilities), management, or leasing of real estate. The purpose of the investment or loan must not be connected to the development (including construction of new facilities and rehabilitation/enhancement of existing facilities), management, or leasing of real estate. Treas Reg § 1.45D-1(d)(10).

This change in the new market tax credit provides an expanded opportunity for taxpayers to utilize the new market tax credit as non-real estate investments become available.

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Taxation of Securities Transactions, authored by Andrew W. Singer, Esq. and Martin L. Fried, is also available in print at the LexisNexis® Store.


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