Syndicators / investors typically require a construction/completion guarantee from the sponsor as a condition of making an equity investment in a LIHTC project.
But, for sale what does that mean for the sponsor?
The essence of a construction guarantee for a LIHTC project is that the Sponsor agrees to fund any costs in excess of the budget to complete the project. This is a typically an unlimited guarantee.
This guarantee is put in place to protect the investor(s), because the tax credits will not be available until the project is complete and qualified residents occupy the housing. Financing sources are often fixed amounts, and any excess project cost is the responsibility of the Sponsor. This guarantee generally remains in place until the project achieves Stabilization (generally 3 months at greater than 92% occupancy achieving a 1.15 DCR).
Here are some example scenarios in which a Sponsor may need to fund cost overruns:
Scenario 1: During site preparation, it is discovered that the soil compaction is not as strong as estimated. Additional foundation systems are required to physically support the buildings. The costs of the work exceed the available contingency.
Scenario 2: Construction is completed on time and within the budget (including contingency), but the lease-up takes far longer than anticipated. Stabilization is delayed by several months. The costs to operate the building and pay the required construction loan exceed the budgeted amounts.
Usually any remaining paid developer fee is first utilized to cover these overruns. When those funds are depleted, then the Sponsor is anticipated to directly cover the costs.
Keeping a LIHTC Project on Track
The secret to keeping your LIHTC project within budget and on schedule is to plan as much as possible, such as thoroughly reading environmental reports and soil reports, communicate thoroughly with all construction team members on all potential issues, and to leave room for a small margin of error so that even if a few unexpected surprises show up, the deal nor the Sponsor will be harmed. Most deals also include either a GC payment and performance bond or letter of credit and both the architect and GC have substantial experience with the proposed product type.
Do You Have the LIHTC Guidance You Need?
The construction/ completion guarantee is just one of six common guarantees for LIHTC projects, so it’s a good idea to partner with LIHTC consultants who can help you navigate the complexities of LIHTC projects.
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