Mr. Glincher

Finance & Investment

New Tax Credits for Hotel Projects

By Andrew Glincher, Office Managing Partner, Nixon Peabody LLP

Unfortunately, these are the locations in which hotel projects are the most speculative and sometimes difficult to finance. They may be just outside the central business district, or in a former industrial area that has seen hard times, but is beginning to reinvent itself and turn things around.

A new federal tax credit program is designed to help developers of projects exactly like that. It is available for a wide range of commercial projects, but hotel developers need to become more aware of it. The New Markets Tax Credit (NMTC) program could easily be the difference between a property being developed or staying on the drawing board - it can provide a financial edge that tips projects toward reality and success.

Simply put, the New Markets Tax Credit program was created by Congress in December 2000 to encourage investments in communities which historically have had poor access to capital. It provides a federal tax credit equal to 39% of the investment - obviously a significant value - spread over a seven-year period. Aimed at spurring community and local business development, this tax credit can help lower interest rates and offer developers far greater financial flexibility.

There is an allocation of tax credits each year, made by the U.S. Department of the Treasury. In this year's round, announced just last month, 41 organizations were selected to receive $2 billion in tax credit allocations, ranging from $5 million to $100 million.

Any taxable investor--including individuals, corporations, partnerships and investment funds - is eligible for The New Markets Tax Credit. Transactions can be structured so that the project developer can use the credit or sell it through the well-established, although highly specialized, market for these credits.

The mechanism for obtaining the credits is, however, somewhat complex. Having seen many entities successfully through this process, it has become clear to us that having the advice of counsel who are knowledgeable and experienced in this area is essential.

The Community Development Financial Institutions Fund ("CDFI"), a branch of the Department of the Treasury, administers the program, prescribes the rules for qualifying for the tax credit and selects the programs to be awarded the credits.

Qualifying investments are determined each year through a competitive process. In order for a hotel project to be eligible, it would have to be located in a community, where there is a poverty rate of at least 20% or a median income that does not exceed 80% of the greater of: a) the surrounding metropolitan area or b) statewide median income. Clearly, there are many good locations and excellent opportunities for development in communities that would meet this criterion.

There are other criteria - requiring a substantial portion of the company's property to be located in the community, for example - that a project like a hotel would clearly meet.

One of the important things the government looks at is the capitalization strategy for the project. For example, to what extent has the applicant already secured commitments from investors? If there are not yet commitments, is there a strategy in place for identifying investors? What is the applicant's time frame for using the credits? An applicant would score well if it could demonstrate a high level of investor commitment. Information on an applicant's track record of obtaining investors in the past and its present commitments is essential for the evaluation process.

CDFI also evaluates the management team, board of directors, advisory board, and other essential staff or contractors of the applicant. And it assesses the potential community impact expected to result from an applicant's proposed investments.

All indications are that the hotel industry is headed into a construction boom. According to a recently published study by PricewaterhouseCoopers, room starts will rise 21.5% this year. The big chains are leading the way, but there will be opportunities for experienced and focused independent entrepreneurs as well - people with a sharp eye on changing demographics, who do their homework about the communities they invest in.

The New Markets Tax Credit can help some of those forward-looking investors turn underutilized properties into successful hotels. And these profitable investments will provide benefits to the communities involved as well.

Andrew Glincher specializes in the negotiation and resolution of business and real estate disputes. Mr. Glincher has represented developers and owners of retail centers, hotels, movie theatres, office and industrial buildings and parks, utilities, restaurants, subdivisions, apartment complexes, assisted living housing complexes, long-term care facilities and condominium projects. Mr. Glincher is admitted to practice in Massachusetts, the U.S. Court of Appeals, Third Circuit, the U.S. District Court, District of Massachusetts and the U.S. Tax Court. Mr. Glincher can be contacted at 617-345-1222 or aglincher@nixonpeabody.com Extended Bio...

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