There are multiple opportunities and obstacles facing affordable housing projects during their life span. One of the more complex decisions is to determine how and when to exit the project. There are several items to consider when making this determination in order to effectively and efficiently exit the project with the least amount of legal and tax ramifications. The first step in the process is to review and become familiar with all of the legal documents associated with the project including the partnership agreement, loan documents, development agreements, and other restrictive covenants. These agreements give a baseline as to what, if any, constraints the project will face at the time of disposing either the property or the partnership interest. Analyzing the debt structure of the project and any discrepancies with the original underwriting is a necessary step to take early in the life span of the project. If there is a substantial amount of debt on the project, then a determination needs to be made regarding the payment or forgiveness of this debt prior to end of the project. It is imperative to determine the type of debt on the project and what limitations are associated with the debt. Refinancing the project prior to exiting might also be a viable solution. Once a determination is made that an exit strategy is warranted, then the strategies associated with the project may range from selling the property itself to having one or more of the partners selling their specific interest. Depending upon the strategy taken, the exit taxes, from a federal, state and local perspective may be substantially different. With the various agreements, covenants, financing sources, physical and market conditions of the project, it is never too early to begin planning for the disposition of an affordable housing project. If you would like more specific information on this topic, please download the attached presentation

1. Exit Strategies: Opportunities and Obstacles By: Nancy M. Morton |nmorton@doz.net| 317-819-6141 Jessica Cooper | jcooper@doz.net| 317-819-6152 Corrie McConnell|cmcconnell@doz.net |317-819-6144

2. Agreements to consider Right of first refusal Conversion to market Issues related to deferred development fee Refinance options Discharge of indebtedness Exit strategies Exit taxes Conclusion Outline

3. Initial Considerations What to consider: Agreements affecting year 15 Right of first refusal Evaluate the state of the project Extended use provisions and qualified contract Conversion to market units Re-financing options

4. Initial Agreements Know the exact terms of the agreements and whether a right of first refusal agreements is in place. Are there any buy-sell agreements? Provisions in the partnership agreements, lender agreements, or regulatory agreements that may contain restrictions and/or requirements on the disposition of the property.

5. Right of first refusal IRC 42(i)(7)(A) provides that a project, after the close of the compliance period, will not lose its federal tax benefit with respect to any qualified low-income building merely by reason of a right of first refusal held by the tenants or residential management corporation of the building or by a qualified nonprofit organization or government agency that purchases the property for a defined minimum price.

6. Defined minimum price IRC 42(i)(7)(B) defines a minimum price as the sum of the principal amount of the outstanding indebtedness secured by building (other than any indebtedness incurred within the five-year period ending on the date of the sale to the tenants), plus all federal, state, and local taxes attributable to the sale.

8. Market conditions

9. Current fair market value of property

13. Legal action by the housing credit agencies for breach of contract

14. Refusal by HFA to allocate tax credits or other local, state or federal resources to future development by the owner

17. Extended low-income housing contract No LIHTCs are allowed with respect to any building for the taxable year unless an extended low-income housing commitment is in effect at the end of such year.

20. The market rent levels

23. At a minimum, this means that the obligation must have a definite maturity date and the partnership must be able to establish that it is likely to be paid on or before such date.

26. Discharge of Indebtedness

27. Taxable Income Discharge of indebtedness is included in gross income under IRC 61(a)(12) Cancellation of Debt (COD) results in ordinary income

28. Options for Excluding Income The discharge occurs in a title 11 case The discharge occurs when the taxpayer is insolvent The indebtedness discharged is qualified farm indebtedness For a taxpayer other than a C corporation, the indebtedness discharged is qualified real property indebtedness The indebtedness discharged is qualified principal residence indebtedness which is discharged before January 1, 2013

30. General Business Credit

31. Minimum Tax Credit

32. Capital Loss Carryovers

33. Basis Reduction – see IRC 1017

34. Passive activity loss and credit carryovers

37. Basis adjustments are recovered in the manner described in Reg. 1.743-1Application of Exclusion Rules

38. Application of Exclusion Rules Three most helpful exclusions for real estate developers… Bankruptcy Insolvency Qualified Real Property Indebtedness In the case of partnerships, IRC 108 provisions are applied at the partner level

39. Deferral of COD Income IRC 108(i) – Deferral and ratable inclusion of income arising from business indebtedness discharged by the reacquisition of a debt instrument Created by the American Recovery and Reinvestment Act of 2009 Rev. Proc. 2009-37 provides guidance

42. Some partners might want the 108(i) election, while others might benefit from a IRC 108 exclusion provisionDeferral of COD Income

43. DeferralCaution When you make a deferral election for a particular amount of COD income, the income is generally ineligible for the COD income exclusions. Electing to defer will expose the taxpayer to whatever federal income tax regime exists in those years (2014-2018) COD income deferred under IRC 108(i) is accelerated if the partnership liquidates, sells its assets, ceases operations or goes bankrupt Amounts deferred at the partner level due to partnership elections are accelerated if the partnership interest is sold, exchanged, redeemed or abandoned, or if the partner dies or liquidates.

44. COD Arising from Debt Modifications Significant modification of debt terms can be considered an exchange of the old debt for the new New debt generates debt forgiveness income if the issue price of the new debt is less than the balance of the old debt

45. COD Arising from Debt Modifications Reg. 1.1001-3 explains what a significant modification is Some examples… Any change in a debt instrument that results in a substitution of a new obligor, the deletion or addition of a co-obligor. A change in the yield of a debt instrument if the change exceeds the greater of 25 basis points or 5% of the original yield of the instrument.

46. Significant Modification Examples 3. Change in timing of payment – safe harbor is the lesser of 5 years or 50% of the original term Generally, a change from a debt that is substantially all recourse to one that is substantially nonrecourse Change in security or credit enhancement that results in a change in payment expectations

47. Exit Strategies and Taxes

48. Year 15 Issues for a LIHTC project Exit strategies available for investors and general partners and their tax consequences How a LIHTC partnership can better prepare for year 15

50. Among the Partners

52. Potential Buyers

53. General Partner

54. Related Party

55. Residents

57. Gain/Loss on sale of propertyUnrecapturedIRC 1250 Gain (25%) IRC 1245 Depreciation recapture – ordinary income

60. Sale to general partnerOriginal partnership remains intact No real estate transaction costs GP owns both the GP and LP partnership interests and continues to service the debt

64. Typically, the project must also meet the 10-year rule, as described in IRC 42(d)(6) to be able to claim acquisition credits.Per IRC 42(d)(2)(B)(ii), a federal assisted building is any building that is substantially assisted, financed or operated under section 8 of the U.S. Housing Act of 1937. Under the amended IRC 42(d)(6) by the Housing and Recovery Act of 2008, federal or state assisted buildings are exempt from the 10 year rule. Exit strategies – end of compliance period

65. Re-syndication Re-Syndication May need to be structured to generate acquisition credits or there might not be enough tax credit equity Depends on availability of tax credits Must conform to the qualified allocation plan for the respective state where the project resides

68. Reducing the Investor interest in the partnership in years prior to the potential exit year

73. Compare estimated disposition plans with the original underwriting projections.

74. Compare all available exit strategies and estimate potential exit taxes including all state and local taxes.