Certain low-income housing tax credit (LIHTC) compliance relief that was issued because of the pandemic delayed the scheduled implementation of new inspection requirements.
As of the time of this writing, that compliance relief is scheduled to expire Sept. 30. Hence, LIHTC property owners and managers need to be aware of how agencies will conduct these inspections moving forward.
Treasury Regulation Section 1.42-5 describes the minimum compliance monitoring requirements for each state housing finance agency (the agency). These requirements are contained in the agency’s compliance monitoring plan with respect to how they will monitor and report noncompliance. The first inspection must be completed no later than the second calendar year after the last building in the low-income project is placed in service. After the first inspection, the agency must conduct inspections, at least, once every three years throughout the extended use period.
In February 2016, the Treasury Department released an amended Treasury Regulation Section 1.42-5 and simultaneously published Temporary Regulation Section 1.42-5T and Revenue Procedure 2016-15. Treasury accepted public comment through May 2016 on the temporary regulation and, in February 2019, released new regulation that incorporated the temporary regulation and replaced the requirements of Revenue Procedure 2016-15. Treasury provided agencies a reasonable time to amend their qualified allocation plans to incorporate these changes. That deadline was Dec. 31, 2020. This meant that starting in January 2021, the manner in which agencies were to conduct inspections would be different for the same type of inspection prior to the change.
In response to the pandemic, the Internal Revenue Service (IRS) issued Notice 2020-53, which waived the requirement for agencies to conduct inspections that were due starting April 1, 2020. This relief was extended through Sept. 30, 2021, with IRS Notice 2021-12. As these provisions expire, it is important to take a moment and remind ourselves of how agencies will conduct inspections.
Number of Low-Income Units. Prior to February 2016, the number of units the agency was required to inspect was 20% of the low-income units in the project. Project, in this context, is the election made on line 8b of IRS Form 8609. For example, this property has 12 buildings with four low-income units in each building:
If the owner elects “NO” on line 8b of each building’s IRS Form 8609, then there are 12 projects for the purposes of Section 42 and the agency would have to inspect 20% of the low-income units in each of the 12 projects. One unit in each of the 12 projects would be inspected (4 units times 20%). Conversely, if the owner elects “YES” on line 8b, there is one project with 48 total units, then 10 units (48 x 20%) across all 12 buildings would be inspected.
Starting in January 2021, while the low-income unit selection remains local to the project election, the number of low-income units to be inspected has changed. Instead of 20% of the low-income units in a project, it is the lesser of 20% of low-income units in the project or the number listed in the Table to Paragraph (C)(2)(III) found in in Treasury Regulation Section 1.42-5 as follows:
For projects with between one and 105 low-income units, the number of low-income units inspected will be 20%, rounded up.
For projects with more than 111 low-income units, the number of low-income units inspected is found in the chart.
For projects with between 106-110 low-income units, the 20% and the chart result in the same number of low-income units to be inspected.
Random Selection. Once the number of low-income units to be inspected is identified, selection of the units is next. The manner in which the agency selects the units must be random. Per the February 2019 Federal Register, the IRS’s Summary of Comments and Explanation of Provisions (84 FR 6076), the statistical validity of inspecting only a sample of the low-income units in a project depends on the sample being random and representative. The current guidance recognizes the review of tenant file certifications and a physical inspection may not occur at the same time. In such a case, the agency must select units for the tenant file review randomly and separately select units for the physical inspection.
All Building Rule. Specific to a physical inspection, in the buildings where a unit was not randomly selected, the building itself must still be inspected. In the IRS’s Summary of Comments and Explanation of Provisions (84 FR 6076):
Under the all-buildings rule, if the randomly selected minimum number of low-income units to be inspected fails to include at least one unit in one or more buildings in a project, then an agency may satisfy the requirement by inspecting some aspect of each omitted building. These aspects might include the building exterior, common area, HVAC system, etc. In the absence of U.S. Department of Housing and Urban Development oversight, requiring that all-buildings be inspected serves as a quality control mechanism. In the project above where the low-income sample requirement is 12 units if, for example, through random sampling, a unit was not selected in buildings D and K, the agency would still be required to inspect buildings D and K to satisfy this provision.
Advance Notification Limited to Reasonable Notice. An agency is prohibited from giving advanced notice that a low-income unit has been selected for inspection. The IRS Summary of Comments and Explanation of Provisions
(84 FR 6076) opines the validity would be destroyed if a project owner had an opportunity to selectively prepare the units in the sample for inspection. Consistent with preserving the validity of the inspection process, an agency must select the low-income units to inspect in a manner that will not give advance notice that a particular low-income unit will or will not be inspected. To ensure the integrity of the inspection, the agency may notify the owner of the units selected only on the day of the inspection. However, there is a recognition that, prior to the actual day of the inspection, the owner will need to be notified that an inspection will occur. As such, an agency can provide reasonable notice that an inspection will occur to facilitate collection of documents needed to prepare for tenant file review or, for a physical inspection, to notify tenants. Reasonability has been defined as 15 days, meaning the agency can only provide an owner a 15-day notice of an inspection and is prohibited from disclosing the units selected until the day of the inspection.
The changes to how an agency is expected to now monitor for compliance officially took effect January 2021. However, since April 2020, the requirement for agencies to conduct inspections has been suspended. This results in a unique convergence of timing in that the manner in which an agency conducted inspections before the relief in IRS Notice 2020-53, as extended with IRS Notice 2021-12, is different than how an agency will conduct inspections going forward. If your last building was placed in service in 2018 or 2019 and the agency has not yet conducted the first inspection due to the notices, or prior inspection occurred in the last quarter of 2018, anticipate a visit by Dec. 31, 2021, that will be conducted in accordance with these changes.
At the time of this writing, various housing groups are advocating a further extension of compliance relief. Contact your consultant for the latest updates.