The New Markets Tax Credit (or NMTC) Program is a community development program run by the Community Development Financial Institutions Fund, an agency of the U.S. Department of Treasury. The program encourages private investment in financially distressed U.S. communities by offering investors federal income tax credits in return for investments made in such communities. A typical NMTC transaction will involve an investor (the recipient of the tax credits) making a qualifying equity investment (or QEI) into a community development entity (or CDE) which in turn will use the proceeds of the QEI to make a low-interest loan to a qualifying borrower located in a qualifying low income U.S. community. For a company seeking a source of funds for businesses located in qualifying low income communities, the NMTC program may offer an attractive source of such funds.

We have identified in this Legal Alert the potential benefits from participating as a borrower in an NMTC financing as well as the issues for a borrower which have, in our experience, derailed potential NMTC financings. If, after your review of this high level summary you would like further detail on the program requirements, we would be happy to provide you with additional information.

Potential Benefits from the NMTC Program

NMTC loans can provide a source of low-cost, long-term financing or refinancing for a company’s plant or other project located in a low income community and an opportunity to strengthen the company’s ties with that community through representation of the members of such community on the board of the CDE lender. For example, a company may wish to consider an NMTC loan as a means by which to: (1) monetize any company-owned real estate located in a low income community by providing low cost financing for a buyer of that property (e.g., many paper manufacturers have sold off their legacy timberland assets in sale transactions financed through the NMTC program); (2) refinance existing debt on a plant or distribution center located in a qualifying low income community (e.g., many maturing industrial development bond financings for such properties are not able to be refinanced with replacement IDB’s due to current bond market conditions but such projects may qualify for refinancing under the NMTC program), or (3) finance the company’s capital expenditures at a plant or distribution center located in a low income community (e.g., using NMTC loans to finance installation of a new or upgraded manufacturing line). Because the tax investor obtains the benefit of the tax credits (totalling 39% of its investment and recognized 5% each in years 1 through 3 after closing and 6% each in years 4 through 7 after closing), the interest rate charged for an NMTC loan is often significantly lower than market interest rates for conventional financings. Also because an NMTC loan must remain outstanding for the entire 7-year period over which the tax credits are recognized by the tax investor, NMTC loans often bear interest at a fixed rate based on the current U.S. Treasury 7-year securities rate at closing. Finally, due to the peculiarities of the NMTC program, a borrower is permitted to make distributions to its shareholders or parent company without the restrictions typically found in conventional credit facilities.

Gating Issues for Potential NMTC Borrowers

The following is a short list of high level requirements that a company should consider before seeking an NMTC financing:

  • Qualifying Low Income Community – The assets/business to be financed/refinanced must be located in a qualifying low income community, which generally requires that the poverty level for such community be at least 20% or that the median family income for such community not exceed 80% of the statewide (or metropolitan area) median family income (but some Allocatees may be able to make NMTC loans only in so-called “super-distressed” areas). We recommend that a company seeking an NMTC financing verify whether the assets or business to be financed are located in a qualifying area prior to taking any other steps since the failure to meet this criteria can be fatal. Note that while the CDFI Fund makes available on its website a list of qualifying areas by census tract, matching the census tract to street address and neighborhood can, depending on the area involved, require further verification.
  • Finding a usable NMTC Allocation – Identifying a CDE recipient of NMTC allocations (an “Allocatee”) is relatively simple as the CDFI Fund website includes a database of Allocatees and related information; however, due to the popularity of the program and the restrictions that may be placed on an Allocatee with respect to the use of the allocations, finding an Allocatee with usable allocations is more challenging.
  • Lengthy Process/Uncertain Timing – Finding the tax credits, finding a tax investor and negotiating and closing an NMTC deal usually takes longer than obtaining conventional financing (i.e., typically 3 to 6 months), and NMTC financing may be risky for deals that need to close by a specific date as the complexity of these transactions and the number of players in a typical deal means that a deal often takes longer to close than anticipated at the outset.
  • Qualifying Borrower Business – The assets/business to be financed/refinanced must meet certain tests; in addition to requirements that prevent the borrower from accumulating and holding more than 5% in cash and other investments, engaging in any “sin” business (e.g. massage parlors, country clubs, golf courses, etc.), or holding more than 5% in assets that constitute “collectibles” (artwork, etc.), the program also requires that a borrower generate some level of operating revenue within a certain time after closing and maintain a certain minimum percentage of its property in the low income community ranging from (A) 85% in the case of a borrower with no employees, (B) 50% in the case of a borrower who performs at least 40% of its services in the applicable community or (C) down to 40% in the case of a borrower who performs 50% or more of its services in said community or who generates at least 50% of its revenue in said community and performs at least 40% of its services in that community.
  • Borrower’s Legal Structure and Separateness – NMTC lenders will typically require that the borrower be a tax-paying entity and a bankruptcy-remote, stand-alone legal entity for both NMTC program and credit risk reasons (this means a special purpose subsidiary may need to be formed to own the assets/business involved). For this reason, lines of business or divisions of companies which are already treated separately in the books and records of the company or which are easily separated from the rest of the Company operations are recommended.
  • Tax Indemnity – CDE lender and tax investor will usually require an indemnity by the borrower for any losses suffered due to borrower violations of NMTC program requirements and indemnified amount also would include any recapture of the tax credits due to such violations or due to a prepayment of the loan (see next bullet point) or for other specified reasons, resulting in a potentially very large amount being owed by borrower in addition to principal and interest (i.e., loss of 39% tax credits plus any interest and penalties owed to IRS by tax investor).
  • Prepayment Risk – Since the tax investor will be able to obtain the benefits of the tax credits only if its investment in a low income community remains outstanding over the entire 7-year recognition period for the credits, NMTC loans cannot be prepaid without penalty unless the associated investment can be redeployed by the CDE lender within the time period permitted by the program, and the borrower will be obligated to indemnify the tax investor and the CDE lender for any loss resulting from any failure to redeploy such credits (including recapture of all tax credits already realized by the tax investor and loss of any remaining unrealized tax credits). Due to this particular issue, businesses involving asset classes typically financed with loans subject to longer terms and which typically tend to be subject to a more stable or relatively small fluctuations in value – such as real estate or timberlands – are best suited for this type of deal
  • Increased Transaction Costs - Transaction costs can be expensive due to involvement of tax counsels (for both borrower and lender) in addition to regular corporate counsel as most tax investors will expect tax counsel to give a tax opinion regarding the deal’s and its participants’ compliance with the NMTC program requirements as well as due to need to monitor the borrower’s compliance with the NMTC program during the 7-year term of the NMTC loan.


While an NMTC financing can offer very attractive economics to a borrower, it is a complex, tax-driven product which is not without its risks, both in terms of getting the necessary allocation of tax credits from a CDE as well as credit approval for the deal from the tax investor and the CDE lender, negotiating and documenting the deal, and complying with the requirements of the NMTC program over the 7-year life of the deal. That said, to the extent that a company has a long-term project located in a financially distressed community that needs to be financed, refinanced or expanded, the lower interest rate and longer term for an NMTC financing may be a sufficient benefit to offset the cost and risks involved in seeking or using NMTC financing.