The Low-Income Housing Tax Credit (LIHTC) is a federal tax credit program designed to encourage private investment in affordable housing for low-income families. It was created as part of the Tax Reform Act of 1986 and is administered by the Internal Revenue Service in coordination with state housing agencies. The program provides a dollar-for-dollar reduction in a taxpayer's federal tax liability in exchange for providing financing for the development of affordable rental housing.
The LIHTC is the largest federal affordable housing program in the United States and has created over three million affordable rental units since it began. Unlike a tax deduction, which reduces the amount of income that is subject to tax, a tax credit directly reduces the amount of tax owed.
The problem of housing affordability is really about price: when there isn’t enough housing to match demand, prices go up. The LIHTC is supposed to correct this by creating rental housing units that lease for less than market prices. Instead, the LIHTC fuels housing inflation, lacks measurable benchmarks for efficiency and accountability, and is so complex that the subsidies are consumed by process and transaction costs.
Subsidizing housing inflation: state and local regulations create housing scarcity
The Tenth Amendment limits federal power over local land use policy. According to the United States Census Bureau, there are 89,004 local governments in addition to the 50 state governments. Each of these jurisdictions makes their own rules about land use and zoning which affect the production of new housing. Federal Reserve Bank of Boston research determined that “density restrictions play a key role in limiting the multifamily housing supply.”
Increasing density–fitting more people into a smaller area–is an important way to create affordable housing, especially in growing cities, where regulatory constraints on production reduce housing supply and lead to higher prices. City governments control density through zoning, and by reducing restrictions on multifamily housing, developers can supply more units which, in turn, have a beneficial impact on rents.
Instead, rather than take the basic economic law of supply and demand into account through smarter zoning policy, the housing cost solution from lawmakers has been to increase federal outlays for the LIHTC to offset the inflation they have created. As a result, low-income households in search of affordable housing have few viable options.
Federal outlays offset only a portion of the housing inflation government has created in the first place. In California, the cost of new, LIHTC-subsidized housing has reached $1 million per unit. Sadly, rather than demand more efficiency, lawmakers have been content to simply throw more money at the problem.
Some in Congress seem to grasp how local regulations combined with LIHTC subsidies can lead to housing inflation. Last September, Senate Finance Chair Ron Wyden (D., Ore.) said, “[the housing problem's] root cause is the U.S. simply isn’t building enough housing” and that “the cost of housing is also getting pushed up by the snarls of state and local red tape. Zoning rules too often ban the kind of construction that’s badly needed. It’s been that way for decades, and the shortage is affecting cities of all kinds.”
Indeed, smaller apartment units have become increasingly more difficult to build thanks to local zoning rules. Design review, redundant utility requirements, and inclusionary fees have added time and cost to construction and thus to price. In most growing jurisdictions, the entitlement and permitting process have erected barriers to the market that mean less competition and higher prices.
Sen. Wyden recognizes that local rules push prices up for people who need housing, but he called for an expansion of the number and kinds of tax credits to fuel development of subsidized housing. New credits do not address the underlying problem of zoning and the proposal ignores the role LIHTC funding plays in rising costs. Both parties in Congress make this mistake and thus do nothing to streamline the “snarls of state and local red tape” Wyden identified. Without meaningful changes at the state and local level to allow more production of all types of housing, adding more money through the LIHTC program is just doing the same thing over and over and expecting a new result.
An ever-increasing supply of LIHTCs enables state and local governments to please incumbent homeowners with rules limiting new housing, thereby pushing up the value of their investments. As an inevitable result, many hardworking people cannot afford the policy-driven spike in housing costs.
Lack of transparency and accountability
State finance agencies report LIHTC activity to the Department of Housing and Urban Development’s (HUD) database and the Internal Revenue Service. The Government Accountability Office (GAO) released two reports–one in 2016 and one in 2018–that each uncovered myriad problems with the costs of projects and how data was collected and reported to the IRS.
In the 2018 report, the GAO found that “the variation in per-unit cost between the least and most expensive project ranged from as little as $104,000 per unit (Georgia) to as much as $606,000 per unit (California).” That report also points out “weaknesses in data quality and federal oversight constrain assessment of LIHTC development costs and the efficiency and effectiveness of the program.” A Treasury Department Inspector General report found similar problems in 2022.
The HUD database has serious problems as well. An analysis of the database turned up thousands of blank fields in the over 50,000 rows of projects in the database. According to officials at HUD, “the IRS is not allowed to share taxpayer provided information, including information submitted on forms 8609 and 8610, to HUD or anyone else without a specific statutory exception.” HUD requires the Housing Finance Agencies to fill out a separate form to populate their database. But the poor quality of these reports means it is almost impossible to draw any clear conclusions about costs, time to production, or even whether the units created are still in service.
The 2018 GAO report dings the LIHTC approach for not requiring state agencies that allocate credits to collect or report cost information that would allow some assessment of how, why, and where costs are rising. And the GAO pointedly calls out Congress for not designating anyone or any agency to track this information at the state or federal level.
The LIHTC program is too complicated
The snarls of red tape at the state and local levels are challenging enough, but the LIHTC project application process adds another time consuming and expensive layer of costs. One developer who strives to build market-rate housing at competitive prices for consumers in high density and appealing neighborhoods in Seattle told me, “I don’t want to do LIHTC. There are a whole bunch of federal and state requirements.” He isn’t alone.
Another developer tracked his experience and said:
"The full tax credit application–often called the ‘core app’–is, and I can’t stress this enough, absolutely horrible. It’s like having the DMV, the IRS, and your dumb cousin as development partners. So many studies, reports, and consultants need to be engaged to finalize your LIHTC application. The workbook itself is a never-ending Excel spreadsheet.
Missouri’s state auditor found that much of the money intended to help people who need housing ends up consumed by the process. The auditor “determined the state's LIHTC model is costly and inefficient,” and found that “only $.35 of every tax credit dollar issued is actually used to build low income housing.”
State and federal agencies have concluded the process is inefficient and lacking in oversight. The problem is simple: all the rules and transactional costs for a program intended to help families with housing turn dollars into cents. While distributing tax credits at the local level allows officials to tailor them to local needs, the multiple layers of government and stifling regulations results in fewer housing units built.
Reforming the LIHTC
Should they choose to do so, policymakers have options to fix the problems with LIHTC:
● Require substantial and measurable reduction of state and local regulations to receive federal funding. The Tenth Amendment limits federal power over local land use policy. However, by measuring factors like population and job growth, issued permits, and rent and price growth, the federal government could apply and allocate tax credits where local governments have truly scaled back limits on new housing but are still facing price pressures. Meanwhile, intransigent local governments would have to face their own voters and explain why they’ve chosen to place a higher value on nettlesome rules and regulations than on policies to lower housing prices by increasing housing supply.
● Require the Treasury Department and IRS to take responsibility for transparency and data collection. Taxpayers, members of Congress, advocates, developers, state and local governments, and people who need housing should be able to know where the LIHTC is being used and whether it is effective. If it isn’t, the LIHTC needs to be improved to make it more efficient. Such changes are impossible without accountability, and accountability flows from good data collection and evaluation. Treasury and the IRS in collaboration with HUD–which currently has almost no role or function in managing LIHTC–should report annually to Congress on how many units have been created, where, by which entities, and how much those units cost. Congress should hold Treasury and HUD accountable for working to lower total development costs and improve delivery of housing.
● Consider making the program a simple annual deduction. HUD should survey developers and builders who have used LIHTC, asking them what could be done to make the LIHTC more attractive, especially in higher growth areas. One idea is to allow developers to claim a deduction on their taxes based on rent reductions that create rents at 60 percent Area Median Income or lower. Also, developers could deduct the interest they pay on loans taken during construction from their total deductions over a period of 12 to 15 years, enabling them to access capital during construction.
Alternatives to LIHTC
At the end of the day, however, the tax code is not the best tool to address housing inflation. According to Brian Roach of the Global Development And Environment Institute at Tufts University, “the U.S. federal tax code contains over three million words–about 6,000 pages,” and “Americans spend billions of hours each year working on their taxes, not to mention the costs of accountants and tax preparers.” It is precisely the wrong place to find simple paths to affordable housing.
Two much more straightforward policy ideas stand out:
● Make Housing Choice Vouchers (Section 8) more like cash. The most recent HUD budget included $1.6 billion for 200,000 housing vouchers, yet year after year, many vouchers go unused. The HUD's Office of the Inspector General found that “as of November 2020, there were more than 191,000 unused and unfunded vouchers,” worth about $1.8 billion dollars. The report found that rules for both housing providers and prospective qualified residents made it difficult to utilize vouchers. One simpler solution and longstanding FREOPP recommendation would allow households that qualify for a voucher to use their voucher pay for their current housing immediately, with rent payments being made directly on behalf of the resident.
● Consolidate all housing funding. The federal government’s main housing agency, HUD, awards about $40 billion dollars per year and the LIHTC program costs the federal government about $13 billion annually. Consolidating all this funding into a single budget item could reduce overhead and increase accountability. Accomplishing simplification, efficiency, and better direction of resources requires eliminating the dozens of housing programs and the complicated LIHTC system. This wouldn’t be an easy task. But even with all this current spending, according to the United States Census Bureau, there are still 19 million renters who spend more than 30 percent of their gross monthly income on housing.
It’s time to realize all this money hasn’t helped solve the problem of housing inflation and to get serious about stopping it.