Examining Low Income Housing Property Tax Exemptions in the Carolinas

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Across the country, states and local governments are struggling to increase the availability of low to moderate income housing in their communities. Encouraging the development of such housing is a complex, multifaceted challenge that requires cooperation among state and local officials, as well as engagement from the development community. Both North Carolina and South Carolina have enacted tax abatements or exemptions to incentivize the creation and availability of more affordable housing. Each state’s approach is distinct and continues to evolve. The following summarizes each program:

North Carolina

In North Carolina, all property is subject to taxation unless it is: “(1) Excluded from the tax base by a statute of statewide application enacted under the classification power accorded the General Assembly by Article V, § 2(2), of the North Carolina Constitution, or (2) Exempted from taxation by the Constitution or by a statute of statewide application enacted under the authority granted the General Assembly by Article V, § 2(3), of the North Carolina Constitution.”[1] N.C. Gen. Stat. § 105-278.6(a)(8) provides one such exemption:

1. Real and personal property owned by:
   . . .

(8) A nonprofit organization providing housing for individuals or families with low or moderate incomes shall be exempted from taxation if: (i) As to real property, it is actually and exclusively occupied and used, and as to personal property, it is entirely and completely used, by the owner for charitable purposes; and (ii) the owner is not organized or operated for profit.

Since the relevant statute does not define “ownership” for property tax exemption purposes, the North Carolina Court of Appeals has held that legal title is not determinative as to the question of ownership interest under N.C. Gen. Stat. § 105-278.6(a)(8). See In re Appeal of Fayetteville Place, LLC, 193 N.C. App. 744, 668 S.E.2d 354 (2008). In this case, the North Carolina Court of Appeals concluded that a property tax exemption should not be denied simply because title to the property in question is held by a non-qualifying entity, if that entity is in turn owned by a qualifying entity. [2]  Instead, “[w]here [an entity qualifying for a tax exemption] possesses a sufficient interest in the property, the property is said to belong to [that entity] even where legal title to the property is held by another. Id.

• Ownership

When considering that North Carolina’s exemption statutes do not define exactly what constitutes ownership, the North Carolina Court of Appeals offered a test for determining what type of ownership is necessary to qualify for a property tax exemption in the Appeal of Blue Ridge Housing case. [3] The Appeal of Blue Ridge Housing concerned the property tax exempt status of Cane Creek Village (hereafter, the “Property”), a 24-apartment low-income housing project in Bakersville, Mitchell County, North Carolina. In that case, title to the Property was held by Blue Ridge Housing of Bakersville LLC (“Blue Ridge Housing”). That limited liability company had two members, who are both qualifying and non-qualifying owners. In particular, the membership interests in Blue Ridge Housing was structured as follows: (i) Northwestern Housing Enterprise, Inc. (“NHE”), a nonprofit corporation owned 0.1% of Blue Ridge Housing, and (ii) North Carolina Equity Fund III Limited Partnership (“NCEFIII”), a for-profit low income housing tax credit investor, owned 99.9% of Blue Ridge Housing. As managing member of Blue Ridge Housing, NHE made all operational decisions with respect to the Property, whereas NCEFIII had no operational or management authority.

In 2000, the Mitchell County Assessor granted the exemption application for the Property as provided in N.C. Gen. Stat. § 105-278.6(a)(8), since that provision exempts property “owned by … a nonprofit organization providing housing for individuals or families with low or moderate incomes.” In 2011, the County Assessor reconsidered the Property’s exempt status as part of his statutorily required review of the county’s exempt properties. [4] During such reconsideration, the County Assessor determined that the Property did not qualify for an exemption because it was not “owned” by a nonprofit entity. Otherwise stated, the County Assessor concluded that the Property should never have received tax-exempt status because NHE did not have a sufficient ownership interest in the owner to qualify for the property tax exemption under N.C. Gen. Stat. § 105-278.6(a)(8).

Blue Ridge Housing appealed the County Assessor’s decision first to the Mitchell County Board of Equalization and Review (“BOER”), which upheld the County Assessor’s decision, and then to the North Carolina Property Tax Commission (“Commission”). The Commission reversed the BOER’s decision and ruled that the Property did qualify for the property tax exemption. The County then appealed the Commission’s decision to the North Carolina Court of Appeals. On appeal, the Court of Appeals affirmed the Commission’s decision and ruled that the Property should have retained its property tax exemption.

• Membership Interest and Right of First Refusal 

When reviewing the ownership structure of the Property for purposes of the property tax exemption, the North Carolina Court of Appeals considered the following facts. On November 17, 1998, NHE and NCEFIII entered into an operating agreement (“Operating Agreement”) for Blue Ridge Housing, with NHE and NCEFIII being the only two members. The Operating Agreement required NCEFIII to maintain its ownership interest for 15 years and provided NHE with the right of first refusal to purchase NCEFIII’s 99.9% ownership interest at the end of the 15-year term. NHE expressed its intention to buy NCEFIII’s ownership interest at the end of the 15-year term. The project was financed through the investment by NCEFIII. NHE was the managing member of Blue Ridge Housing.

The Court of Appeals, in Blue Ridge Housing, observed that the non-profit managing member, NHE, was created for the purpose of assisting the Northwestern Regional Housing Authority (“NRHA”) to provide low-income housing in northwestern North Carolina. Even though NRHA created NHE, no portion of NHE was owned by NRHA. NHE was a non-profit corporation, and therefore could qualify for a property tax exemption if it owned low-income housing directly, pursuant to N.C. Gen. Stat. § 105-278.6(a)(8). But, the Court of Appeals had to consider the issue of ownership since NHE owned only a diminutive percentage of Blue Ridge Housing. Noting that prior cases had not provided a test for defining ownership for purposes of property tax exemptions, the Court of Appeals established a test in the Blue Ridge Housing case. The Court of Appeals reasoned that:

If 100% ownership interest ultimately vests in an entity otherwise satisfying statutory exemption requirements, then the property is exempt from taxation. When an otherwise qualifying entity has an ownership interest in less than 100% of the property, we balance the actual ownership interest with other factors indicative of ownership. If other factors strongly suggest ownership, they can outweigh even a diminutive actual ownership interest. 

Id.

Such factors may include: (i) the entity’s control of the property; (ii) the entity’s status as trustee of the property; (iii) the possibility of future increased actual ownership interest by the non-profit member; or (iv) the intent of the participating parties. The Court of Appeals applied this test to the ownership structure for the Property and ultimately held that NHE, the non-profit corporation, “owned” the Property for property tax purposes despite the fact that NHE owned only 0.1% of the limited liability company that held legal title to the Property. Therefore, Blue Ridge Housing and the Property qualified for a property tax exemption as provided in N.C. Gen. Stat. § 105-278.6(a)(8).

South Carolina

• The Exemption

South Carolina provides the potential for a full, all-or-nothing property tax exemption for projects meeting S.C. Code Ann. Section 12-37-220(B)(11).  This section provides an exemption for “all property of nonprofit housing corporations or instrumentalities of these corporations when the property is devoted to providing housing to low or very low income residents.” In 2017, likely responding to the use of common ownership structures designed to monetize federal low income housing tax credits, the statute was expanded to allow entities owned in part by for-profit entities to qualify for the exemption. Properties now can qualify for the exemption, so long as a “nonprofit housing corporation” serves as the general partner, managing member, or the equivalent of the owner.

In addition to these ownership requirements, the property owner also must satisfy the safe harbor provisions of IRS Rev. Proc. 96-32, which generally require at least 75% of the units to meet one of two affordability thresholds. Typically, the nonprofit housing corporation is tasked with performing the required analysis to ensure its residents qualify as “low income” for purposes of the safe harbor exemption.

Importantly, IRS Rev. Proc. 96-32 makes clear that in addition to meeting the low-income thresholds, the exempt organization also (1) must have a verified charitable purpose, (2) cannot engage in private benefit, and (3) cannot engage in private inurement.

• Claiming the Exemption

In South Carolina, eligibility for the low-income housing property tax exemption is governed by the South Carolina Department of Revenue. Once the property meets the qualifications for tax exemption, the owner must submit a PT-Form 401-O electronically. As part of the application, it must provide proof that the nonprofit housing corporation qualifies as an exempt organization under Section 501(c)(3) of the Internal Revenue Code, and also must provide proof that it meets the safe harbor requirements of IRS Rev. Proc. 96-32. The owner also must provide its organizational and governance documents, including its operating agreement.

South Carolina property taxes are assessed in arrears – this means the qualifying structure must be in place as of December 31 of the year prior to the year in which the exemption first will apply.  Notwithstanding that limitation, IRS Rev. Rul. #96-32 creates a one-year transitional window for a property to meet the eligibility requirements in terms of tenant composition. 

• Potential Upcoming Changes

In response to growing frustration from counties regarding the perceived abuse of this exemption, legislators introduced S.125, which passed the Senate and now sits in committee at the House.  Its operative terms limit the property tax exemption to the percentage of ownership held by the nonprofit housing corporation, unless: (1) the nonprofit housing corporation’s interest exceeds 50%; or (2) 100% of the units are devoted to providing housing to residents who qualify as “low income” under IRS Rev. Proc. 96-32.  The bill requires taxpayers to certify their ownership breakdown and tenant composition each year in order to maintain the exemption.

The bill in its current form appears to create a “race to the exemption” – since the proposed legislation “does not apply to any project that, prior to approval by the Governor… had submitted an application or been approved….”

The legislation has not been approved by the House or adopted by the Governor, but at this point has created new opportunities for taxpayers debating whether and when to seek the property tax exemption.

Conclusion

When filing an exemption application or appealing a denial of an exemption application, having legal representation is beneficial because often attorneys have developed relationships with county assessors and attorneys and are also aware of statutory and administrative nuances in the law. Our seasoned Property Tax Appeals team is here to help at every level. If you are interested in learning more about Maynard Nexsen’s  Property Tax Appeals team, please contact a member of our team:  in North Carolina, reach out to George T. Smith III; in South Carolina, contact Rick Reames III or Jim Rourke.

_{[1]       N.C. Gen. Stat. § 105-274 (2021).
[2]       In re Appeal of Fayetteville Place, LLC, 193 N.C. App. 744, 668 S.E.2d 354 (2008).
[3]       In re Appeal of Blue Ridge Housing of Bakersville LLC, 226 N.C. App. 42, 738 S.E.2d 802 (2013).
[4]       N.C. Gen. Stat. § 105-296(l).}