An accounting rule that was specifically developed for reporting low-income housing tax credit (LIHTC) investments has been expanded to include more federal and state tax credit investment programs.
The FASB on March 29, 2023, published a narrowly drawn accounting standard that enables other tax credit programs beyond LIHTC investments to qualify for using the proportional amortization method, a simple model that allows the initial cost of the investment to be spread out in proportion to the tax credits and other tax benefits allocated to an investor.
Prior to the change, only LIHTC investments could use the proportional method, resulting in investments that earn income tax credits and other income tax benefit through other tax programs to have to instead use the equity method, which accountants say is complex and does not fairly represent the economic characteristics or profitability of such investments.
The rule, which was issued as Accounting Standards update (ASU) No. 2023-02, Investments—Equity Method and Joint Ventures (Topic 323), Accounting for Investments in Tax Credit Structures Using the Proportional Amortization Method a consensus of the Emerging Issues Task Force, responds to feedback the FASB received that the change will provide “investors and other allocators of capital with a better understanding of the returns from investments that are made primarily for the purpose of receiving income tax credits and other income tax benefits,” the board said.
Some practitioners have speculated that the guidance could drive more investments into tax credit programs as those structures have increased in recent years.
Specifically, the LIHTC program is designed to encourage investment of private capital for use in the construction and rehabilitation of low-income housing projects, but other federal tax credit programs have similar objectives including: New Markets Tax Credit (NMTC), which is intended to attract financing for the development of projects that will bring economic expansion to specifically designated areas; Historic Rehabilitation Tax Credit (HTC), which aims to encourage the restoration of designated historic sites; and Renewable Energy Tax Credit (RETC), which award either production-based or investment-based tax credits from the creation of energy through renewable projects.
Others have said the change is a good first step, but the FASB did not go far enough. “While the expansion is a welcome sign of positive progress, there is still much that can be done to improve the qualifying criteria so that more types of tax credit investments can qualify,” Brad Elphick, partner at Novogradac & Company LLP, said.
“Overall, the expansion of the proportional amortization guidance is a positive for tax credit investments,” said Elphick. “For nearly a decade, the Low-Income Housing Tax Credit had been the only type of tax credit investment that could use the proportional amortization method, making it more attractive to investors because of the favorable accounting treatment,” he said. “With the expansion to all tax credit investments, the playing field is being leveled. Investments in New Markets Tax Credits, Historic Tax Credits, Renewable Energy Tax Credits plus unknown future tax credits now have the option of using proportional amortization if they meet the qualifying criteria.”
The new provisions come at a time when more entities that are starting to make tax equity investments to meet environmental, social and governance (ESG)-related objectives and for certain regulated entities to meet their Community Reinvestment Act goals. In addition, several state-specific tax credit programs attract tax equity investors, and the Inflation Reduction Act, which was signed into law in August 2022, provides additional federal tax incentives for entities to invest in clean-energy technologies, the FASB said.
Effective Date, Transition, Disclosures
The rule takes effect for fiscal years beginning after Dec. 15, 2023, including interim periods within those fiscal years for public companies. For private companies, it is effective for fiscal years beginning after Dec. 15, 2024, including interim periods within those fiscal years. Early adoption is permitted.
The guidance must be applied either on a modified retrospective or a retrospective basis except for LIHTC investments not accounted for using the proportional amortization method.
It also requires specific disclosures for all investments that generate income tax credits and other income tax benefits from a tax credit program for which the entity has elected to apply the proportional amortization method (including investments within that elected program that do not meet the conditions to apply the proportional amortization method).
Businesses must also disclose information in annual and interim reporting periods that enable investors to understand the following information about its investments that generate income tax credits and other income tax benefits from a tax credit program:
- the nature of its tax equity investments;
- the effect of its tax equity investments and related income tax credits and other income tax benefits on its financial position and results of operations.
The standard includes examples of disclosures that an entity could provide in meeting the disclosure objectives.
This article originally appeared in the March 29, 2023 edition of Accounting & Compliance Alert, available on Checkpoint.
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