Reasonably Expected Basis and Carryover Allocation Basis Under Internal Revenue Code Section 42
Under Internal Revenue Code Section 42, a development which is allocated low-income housing tax credits (LIHTC) must be placed in service in the year in which the LIHTCs are awarded, unless it executes a Carryover Allocation Agreement (“CAA”) under IRC Section42(h)(1)(E) or (F). For instance, if a development receives an award of LIHTCs in April of 2026, it must be placed in service by December 31, 2026.
In today’s world, that’s not a realistic timeframe to get to closing and complete construction. If a CAA is executed by the owner of the development which was awarded LIHTCs in April of 2026, then that development has until December 31, 2028, to be placed in service. To have a valid CAA, the development must pass the 10% Test.
Reasonably Expected Basis
To pass the 10% Test, more than 10% of reasonably expected basis (REB) must be incurred by the development by a set deadline. REB is not the same as eligible basis, which is used to calculate the LIHTCs at the end of the first year of the credit period, and is actually more inclusive. Treasury Regulation Section 1.42-6 states that REB includes land and all depreciable property reasonably expected to be included in the development as of the close of the second calendar year following the calendar year of the allocation.
REB clearly differs from eligible basis by including land. REB also includes commercial costs which are excluded from eligible basis. If the development qualifies for a 130% increase in eligible basis because it is in a qualified census tract (QCT) or a difficult development area (DDA), that increase is excluded from REB.
Carryover Allocation Basis
Carryover allocation basis (CAB) is calculated under Treasury Regulation Section 1.42-6 as the amount of land and depreciable property that will be part of the development that has been incurred by the deadline. In order for a cost to be included in CAB, the owners must have basis in the land or the depreciable property reasonably expected to be part of the development. These costs can only be included in CAB if they are paid or incurred under the owner’s method of accounting. For example, an accrual-basis owner can include costs that have been incurred but have not been paid. If the development qualifies for a 130% increase in eligible basis because it is in a QCT or a DDA, that increase is excluded from CAB.
Example
Assume an owner executes a CAA in 2026. The owner reasonably expects the development to have basis in the following by December 31, 2028.
Land $500,000
Residential buildings $12,500,000
Commercial buildout $500,000
Other depreciable property $1,000,000
Total REB in this scenario is $14,500,000. Assuming that the owner is an accrual basis taxpayer, the owner must incur CAB of $1,450,001 or more to pass the 10% Test.
In Summary
Reasonably expected basis and carryover allocation basis differ from eligible basis. Neither factor into the final calculation of LIHTCs. Land and commercial costs are included in REB and CAB even though they are excluded from eligible basis. Any increase in eligible basis for being in a QCT or DDA is excluded from REB and CAB. In order to pass the 10% Test, the development must incur CAB of more than 10% of REB.
McKonly & Asbury, LLP is a leader in accounting for affordable housing developments. IRS and state housing finance agency regulations require specialized knowledge when preparing audits and taxes for affordable housing entities. Our team has the specialized knowledge needed to help ensure you comply with IRS and state housing finance agency reporting requirements. For more information on these services and more, be sure to visit our Affordable Housing page, and don’t hesitate to contact us.
The information presented in this post is intended solely for informational purposes and should not be construed as accounting advice from McKonly & Asbury, LLP.
About the Author
Elizabeth Harriger, CPA, HCCP is a Partner as well as the Director of our firm’s Affordable Housing Services. Elizabeth leads the firm’s Low-Income Housing Tax Credit practice and provides technical review and consultation for a… Read more
