Learn How the Low Income Housing Tax Credit Works

What Is the Low Income Housing Tax Credit?

The Low Income Housing Tax Credit (LIHTC) is a federal tax incentive created by Congress in 1986 to encourage the development and preservation of affordable rental housing. Unlike direct government subsidies that provide money to build housing, the LIHTC works by allowing investors and developers to claim tax credits—essentially reducing the taxes they owe—when they build or renovate rental properties that serve low-income households.

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The program operates through a partnership between federal, state, and local governments. The federal government allocates a pool of tax credits to each state annually. State housing finance agencies then distribute these credits to developers who propose housing projects meeting specific affordability requirements. When investors put money into these projects, they receive the tax credits over a ten-year period, making the investment financially attractive while ensuring housing remains affordable.

According to the National Housing Law Project, the LIHTC has financed approximately 3.3 million housing units since its inception, making it one of the largest federal programs supporting affordable housing production. The program allocates roughly $10 billion in tax credits annually across all states. This means the LIHTC produces more affordable housing units each year than any other single federal program.

The mechanism works this way: A developer identifies a site and proposes building 100 units of rental housing for households earning 50 to 60 percent of the area median income. They apply to their state housing agency for tax credits. If awarded, investors fund the project in exchange for receiving tax credits spread across ten years. These credits make the investment profitable for investors while the developer can charge lower rents because of the tax credit subsidy. The result: affordable housing gets built without direct government expenditure.

Practical Takeaway: The LIHTC is a tax incentive tool that motivates private investment in affordable housing by allowing investors to reduce their federal tax liability. Understanding this basic structure helps explain why many new affordable apartment buildings and renovated housing developments are tagged as "LIHTC properties"—they were funded using this federal incentive program.

How Rent Affordability Works Under the LIHTC

A core purpose of the LIHTC is to ensure that rents remain affordable for households with limited income. The program defines affordability based on Area Median Income (AMI), which the U.S. Department of Housing and Urban Development (HUD) calculates for every county and metropolitan area in the country. For example, in a city where the area median income is $60,000, a household at 60 percent AMI would have an annual income of $36,000.

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Projects receiving LIHTC funds must designate a percentage of units for households earning no more than specified income thresholds. The most common requirement is that at least 20 percent of units serve households at 50 percent AMI, or at least 40 percent of units serve households at 60 percent AMI. Some projects go deeper, serving households at 30 percent AMI or even 20 percent AMI, meaning they house the most vulnerable renters. A household at 30 percent AMI in a $60,000 median income area has only $18,000 annual income—roughly $1,500 monthly gross income.

The affordability requirement extends for a compliance period, typically 30 years. This means a LIHTC property built today must keep rents affordable for low-income tenants through 2053 or 2054. Even after the investor's ten-year tax credit period ends, the property must maintain affordable rents. Some properties have even longer compliance periods if they received additional financing or grants. This long-term commitment distinguishes LIHTC from short-term subsidies.

Rent limits are set annually by HUD and tied to Area Median Income and unit size. For a two-bedroom apartment in a location with $60,000 AMI, the rent limit for a 60 percent AMI unit might be $900 monthly. A tenant earning $36,000 yearly (60 percent AMI) would pay $900 rent plus utilities, leaving roughly $2,100 monthly for all other expenses. This calculation ensures housing costs don't consume more than 30 percent of income, the standard affordability benchmark.

Not all units in a LIHTC building must serve low-income households. A building might have 50 units total: 20 LIHTC units serving households at 60 percent AMI (charging around $900 for a two-bedroom), and 30 market-rate units charging $1,400 for the same size. This mixed-income approach allows projects to be financially viable while housing both low-income and moderate-income residents together.

Practical Takeaway: LIHTC rent affordability requirements are based on Area Median Income percentages and are locked in for 30 years or longer. If you live in a LIHTC property, your rent is capped by law, protecting you from rent increases that would typically occur in regular market-rate apartments. Understanding your area's median income helps you gauge whether a specific LIHTC project serves households at your income level.

The Allocation Process: How Credits Get Distributed to States

Congress sets an annual national cap on the total amount of LIHTC available. In 2024, this cap was approximately $2.7 billion. However, the actual amount available is higher because of a "housing credit ceiling" adjustment that allows unused credits from prior years to be reallocated and an increase factor tied to inflation. The total housing credit amount increased to roughly $3.7 billion for 2024 when accounting for adjustments.

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This national pool gets divided among all 50 states, the District of Columbia, and U.S. territories using a formula. The formula has two components: a per-capita component (based on population) and a resource constraint component (based on poverty population). States with larger populations and higher poverty rates receive larger allocations. For example, California and Texas receive significantly more LIHTC annually than Vermont or Wyoming simply due to population size.

Within each state, a state housing finance agency receives the credits and establishes a process for distributing them. These agencies typically announce an annual funding cycle, releasing a Notice of Funding Availability (NOFA) that explains scoring criteria and submission procedures. Developers submit project proposals explaining why their housing project deserves credit allocation. States then score and rank applications based on published criteria.

Scoring criteria vary by state but commonly include: project readiness (how quickly can construction start), financial feasibility (will the project work financially), low-income targeting (does it serve the lowest-income households), supportive services (does it connect residents with job training or counseling), location (is it in high-opportunity areas or revitalizing neighborhoods), and community need (is there documented demand for housing in that area). Some states prioritize projects serving specific populations like homeless individuals, veterans, or seniors.

States typically hold one or two allocation cycles annually, with deadlines several months before the planned announcement of awards. For example, an application deadline in March might result in awards announced in August. Developers work for months preparing applications, gathering financial commitments, and securing site control before submitting. The entire process from initial concept to tax credit award can take one to two years.

Practical Takeaway: LIHTC gets allocated through state agencies using a competitive process that favors projects serving very low-income households, those that are ready to build quickly, and those meeting state housing priorities. If you're researching whether new affordable housing might be built in your community, you can monitor your state housing finance agency's annual allocation announcements to learn what projects are receiving credits.

Who Builds LIHTC Projects and How They Work Financially

LIHTC projects are developed by a range of organizations: nonprofit housing developers, for-profit development companies, and partnerships between the two. Nonprofit developers like Enterprise Community Partners, Habitat for Humanity, and local community development corporations (CDCs) control roughly 50 percent of LIHTC production. For-profit developers have become increasingly active, now producing roughly 45 percent of LIHTC units. Public housing authorities and other government entities develop a smaller percentage.

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A typical LIHTC project involves multiple funding sources layered together. The developer might finance a $20 million project like this: $8 million from LIHTC (the tax credits sold to investors), $5 million from HUD's Section 811 or Section 811 funding, $4 million from state housing bonds, $2 million from city government grants, and $