Section 45D provides a new markets tax credit (NMTC) for qualified equity investments made to acquire an equity position in a corporation or partnership that is a "qualified community development entity ("CDE"). This credit was enacted as part of the Community Renewal Tax Relief Act of 2000, P.L. No. 106-554 (2000). A qualified CDE is any domestic corporation or partnership: (i) whose primary objective is providing investment capital for low-income communities or persons; (ii) maintains accountability to residents of such communities by providing them with a required level of representation on any governing board of or any advisory board to the CDE; and (iii) is certified by the Treasury as a qualified CDE.
Substantially all the investment proceeds must be used by the CDE to make qualified low-income community investments including: (i) capital or equity investments in, or loans to, qualified active low-income community businesses; (ii) certain financial counseling and other services to businesses and residents in low-income communities; (iii) the purchase from another CDE of any loan made by such entity that is a qualified low-income community investment; or (iv) an equity investment in, or loan to, another CDE. A "low-income community" is a population census tract with either: (i) has a poverty rate of at least 20% or (2) median family income which does not exceed 80% of the greater of metropolitan area median family income or statewide median family income (for a non-metropolitan census tract, does not exceed 80 percent of statewide median family income). In the case of a population census tract located within a high migration rural county, low-income is defined by reference to 85% instead of 80% of statewide median family income. A high migration rural county is any county that, during the 20-year period ending with the year in which the most recent census was conducted, has a net out-migration of inhabitants from the county of at least 10% of the population of the county at the beginning of such period.
The amount of the credit allowable to the investor (either the original purchaser or a subsequent holder) is (i) 5% for the year in which the equity interest is purchased from the CDE and for each of the following two years, and (ii) 6% for each of the following four years. The credit is determined by applying the applicable percentage to the amount paid to the CDE for the investment at its original issue, and is available for a taxable year to the taxpayer who holds the qualified equity investment on the date of the initial investment or on the respective anniversary date that occurs during the taxable year. The credit is recaptured if, at any time during the seven-year period that begins on the date of the original issue of the qualified equity investment, the issuing entity ceases to be a qualified CDE, the proceeds of the investment cease to be used as required, or the equity investment is redeemed. The Service has issued proposed regulations on the recapture issue. See also section 45D(g)(3).
The maximum annual amount of qualified equity investments is capped at $3.5 billion per year for calendar years 2006 through 2009. Lower caps applied for calendar years 2001 through 2005. For calendar years 2008 and 2009, Congress increased the maximum amount of qualified equity investments by $1.5 billion (to $5 billion for each year).
The Treasury must allocate these amounts among qualified CDEs, giving "priority" to CDEs "with a record of having successfully provided capital or technical assistance to disadvantaged businesses or communities" and CDEs intending to invest substantially all of their assets in equity interests in or loans to businesses owned by unrelated persons.
Over the 7 years for which the credit is claimed, an investor gets a total credit equal to 39% (5% for each of the first three years plus 6% for each of the next four years) of his investment. Basis in a qualified equity investment is reduced by the amount of the credit determined under Section 45D. However, basis reduction is not required for purposes of reporting the exclusion of gain with respect to small business stock under section 1202.
Although financing for real estate projects has over the past year or so substantially dried up or become too expensive, the NMTC may provide opportunities for financing real estate projects that may not have otherwise taken seed. Indeed, the NMTC targets borrowers, nonprofits, and projects that otherwise cannot obtain conventional financing. It requires that "but for" the NMTC financing, the project would not be completed. The majority of CDEs are affiliates of banks, large nonprofit organizations, cities and other municipalities and bonding authorities.