The 4% LIHTC Term Sheet Series, Part Three: Capital Contributions, the Conditions to Funding, and Stabilization

This is the third article in a series on the equity term sheet in a 4% low-income housing tax credit transaction financed with tax-exempt private activity bonds. Part One covered why the transaction exists and the fourteen components a complete term sheet contains. Part Two covered the credit sections, the pricing sentence, and the capital adjusters.

This article covers the installment procedures for capital contributions and sponsor comments to the conditions. Stabilization is typically the largest installment and the inflection point where the Investor has the most leverage over the sponsor, at least in my opinion.

Scope. This article addresses 4% transactions financed with tax-exempt private activity bonds. It does not address 9% competitive allocations. Observations below about how particular provisions are drafted come from a review of executed and draft investor letters of intent and term sheets in transactions I have handled and represent my personal opinion. I am not your attorney. Hire me or hire someone to review the work for your particular legal issues. Terms such as “forms” or “investor forms” describe term sheets received from investors for my sponsor clients. No names are revealed and no individual pricing. I do provide ranges for the reader.

Why the provision exists

Part Two described adjusters to the price of the credits and the amount of the credits. In Part Three we will discuss when the capital contributions are made by the Investor to the Company and the typical conditions that precede each installment.

Why are capital contributions paid in installments? The project is under construction and the Investor wants as little risk as possible, balanced against keeping the sponsor funded and the construction loan closeable.

There is no law governing when installments must be paid. They are a product of contract. The historic credit is the closest analogue. In Historic Boardwalk Hall, LLC v. Commissioner, the Third Circuit held that an investor whose return was fixed and whose investment was guaranteed “lacked a meaningful stake in either the success or failure of” the partnership and “was not a bona fide partner.” The Service responded with a safe harbor: the investor must contribute at least 20 percent of its expected capital contributions before the building is placed in service, and 75 percent must be fixed in amount by then. Rev. Proc. 2014-12 §§ 4.03, 4.04. By its terms that safe harbor “does not apply to federal credits other than the § 47 rehabilitation credit.” Id. § 3.

Whether Boardwalk itself reaches a housing credit transaction is unsettled. Klein Hornig’s Section 42 outline states it is “unclear what, if any, application the Boardwalk holding has in the low-income housing tax credit context,” and that “informally the IRS has indicated that the position it took in Boardwalk and in a field service advice memorandum (FAA20124002F) was not necessarily intended to apply to low-income housing tax credit investments.”

How the section is structured

Typically a capital contribution section has five parts in a term sheet.

The total contribution and the pricing sentence. The projected credits multiplied by the stated price per credit dollar. Part Two covered this sentence.

The division into installments. The total is allocated among four payments in most forms, each tied to a benchmark. The benchmark categories are fairly consistent across the market: closing and admission, construction completion, stabilization and conversion to permanent financing, and receipt of the Forms 8609.

The conditions to each installment. An enumerated list of deliverables and events. The lists are long and not often negotiated. Expect a lot of pushback with terms like “this is our form” and “we do not change this term sheet” or “in my X years of practice, I have never accepted that change”.

The payment mechanic. The form typically requires contribution within X days (typically 10 business days) following the investor’s receipt and approval of documentation evidencing satisfaction of the conditions to that installment and to all prior installments. Although not discussed below with my recommended comments, the timing of payment can be a point of frustration at times. I have often requested, but never obtained a contractual remedy for a late payment. If an investor is late on an installment payment, then sponsors typically have little recourse other than call a default, sue the investor and hold the project up for a couple of years. As you might suspect, this is not a very good option for a developer that needs to finish the project.

The “not before” dates. Most installments after the first installment carry a date before which the investor will not fund, without regard to whether the conditions have been met. These protect the investor’s yield against early funding. They are not negotiable in my experience. The good news is they are related to basic math usually fully expressed in the financial model.

The third installment is usually the largest and typically the most critical, at least in my experience. The most important definition is typically:

Stabilized Occupancy shall mean, for a period of three consecutive months occurring immediately prior to Mortgage Loan Commencement, the achievement of each of the following: (a) physical occupancy of 90% or greater by residents paying contract rents under written leases; (b) economic occupancy of 80% or greater, measured as actual rental collections divided by gross potential rent; and (c) a minimum monthly debt service coverage ratio of 1.15x on all must-pay debt, calculated on full principal and interest payments and projected forward for each year of the compliance period. No interest-only payment period will be recognized in sizing debt at admission or in the Stabilized Occupancy test. Evidence of Stabilized Occupancy is subject to the review and approval of the Special Limited Partner.

When the contributions are paid

Below are averages from 4% term sheets I have negotiated.

Installment	Average
First, at closing	15%
Second, at construction completion	21%
Third, at stabilization and conversion	60%
Fourth, on the Forms 8609	3%

The first and fourth installments are conventional and I would suggest are fairly standard across the industry.

In my experience the third installment is the largest installment. Many times the second and third installments together carry 80 percent or more of the equity, which is why the conditions to those two payments are worth the negotiating time.¹

Below are the installments from the form investor term sheet and the conditions. Below each section are some recommended comments from the sponsor perspective.

Companion document Example: 4% LIHTC Equity Term Sheet This part dissects the installment conditions and the Stabilized Occupancy definition. Open the illustrative investor form alongside it; pricing is left as fill-in variables. →

First Installment

First Installment: [$X], or [X]% of the total capital contribution

• Fully executed Partnership Agreement and admission of the Limited Partner
• Valid tax credit reservation and determination letter under Section 42(m)(2)(D)
• Evidence that the Project meets the requirements of the applicable qualified allocation plan under Section 42(m)(1)(D)
• Issuance of the tax-exempt bonds and receipt of bond counsel opinions
• Fully executed construction loan and equity bridge loan documents
• Written permanent loan commitment in form and substance acceptable to the Limited Partner
• Closing or binding commitment of all subordinate and soft sources, less required retainage
• Acceptable owner’s title insurance commitment, pro forma policy and endorsements
• Unqualified tax opinion of Limited Partner’s counsel and satisfactory local counsel opinion
• Notice to proceed or commencement of construction
• Payment of the closing draw with supporting documentation

Comment. This installment draws few comments. It funds at financial closing, and the first draw typically reimburses the sponsor for the soft costs it has carried through the months of anticipation leading up to that date. Everyone at the table wants the same result on the same day. You should make sure your legal fees are the first draw at the closing table. Everyone has to eat, right?

Second Installment

Second Installment: [$X], or [X]%

• Lien-free substantial completion of the improvements in a workmanlike manner, certified by the Project architect, with a schedule of remaining punch list items
• Architect’s certificate of substantial completion (AIA Form G704)
• Temporary certificates of occupancy for all buildings
• ALTA/NSPS as-built survey
• Updated title policy or date-down endorsement, including zoning endorsement and deletion of survey exceptions
• Final inspection by the Limited Partner’s construction consultant
• Draft cost certification from the Project accountant
• Evidence that not less than 150% of the estimated cost to complete outstanding punch list items has been withheld from this installment
• Evidence of satisfactory radon testing where the Project is located in Radon Zone 1 or 2
• Verification of insurance in accordance with Section 13
• No sooner than [DATE]

Comment. The objective throughout this section is to replace subjective conditions with objective ones.

Temporary certificates of occupancy. First and foremost, get temporary certificates of occupancy for the second installment. Some investors insist on full certificates of occupancy, which most times is just not practical. Understand your environment and when things happen. You cannot obtain a temporary certificate of occupancy in Colorado without landscaping complete, and landscaping is not something you finish in December. Your civil engineer can give you the list of every item your jurisdiction requires for a temporary certificate. Get that list before you agree to the condition.

Substantial completion. Substantial completion should be tied objectively to the architect’s certificate on AIA Form G704. You should fight very hard against “in the sole but reasonable discretion of the investor”. Pick anything but that standard. I have gone as far as to pay for the lender to engage a construction supervisor who makes the determination. At least have a professional making industry decisions versus the random vice president who is getting pressure to “move away from this project” because the bond market shifted.

As-built survey. I am not entirely sure why investors continue to insist on this as a condition to the second installment. Most as-builts are not started until construction closeout, which is months after substantial completion. Move it to the fourth installment. This is not a hard one to negotiate, and I am not entirely sure why it is not already customary that it resides there.

Third Installment

Third Installment: [$X], or [X]%

• Achievement of Stabilized Occupancy
• Mortgage Loan Commencement
• Satisfactory completion of all punch list items
• Permanent certificates of occupancy for all buildings
• 100% initial occupancy by tax credit qualified residents
• Final cost certification from the Project accountant
• Verification that the bond financing test has been satisfied
• Updated title policy or date-down endorsement
• Evidence of filing for Forms 8609
• Verification of insurance and that all prior installment conditions remain satisfied
• No sooner than [DATE]

Comment. This is the paradise lost installment. Bank investors are at their least flexible during this installment, and the conditions they impose often do not track how a project actually stabilizes. You have to win the negotiating battle at the term sheet level. This is the most important part of the term sheet you will negotiate.

Stabilization. Stabilization is the biggest issue. Under the form, the sponsor has several tiers and hurdles to clear, set out in the definition above. First and foremost, make the definition an objective mathematical formula. Fight to remove the last sentence, “subject to the review and approval of the Special Limited Partner.” Everything above that sentence can be calculated. That sentence returns the calculation to the investor’s discretion.

Second, economic occupancy will bite you. Make sure late payments are included in the calculation. If they are not, a tenant who pays one day late does not count. If several tenants are habitually late, they never count, and you can almost never evict them. Late paying tenants are the enemy of common sense and of the math known as economic occupancy. Do not expect the investor to read the provision with that practical reality in mind. It will apply the definition as written. Late payments are also typically disqualified under the 90 percent physical occupancy test, because “paying contract rents” is typically interpreted to mean paying rent on time.

Mortgage Loan Commencement. Permanent loan commencement requires construction closeout and lien waivers. Consider who is holding money back for adjusters at this stage: your investor. Consider who will not approve the final loan draw until the investor makes its capital contribution: your construction lender. This is the largest capital contribution in the deal, and your bank investor will not release it easily. What you can control is stabilization. Spend the time on that definition, and make sure your client has it cold in the financial model.

Fourth Installment

Fourth Installment: [$X], or [X]%

• Final determination by the Special Limited Partner that all development completion obligations under Section 9 have been satisfied
• Receipt of Forms 8609 for all buildings and the recorded land use restriction agreement
• Receipt of the Schedule K-1 for the first fiscal year of tax credit occupancy
• Updated title policy or date-down endorsement
• Verification of insurance and that all prior installment conditions remain satisfied

Comment. Paradise found, again. The fourth installment is usually not legally intensive and sits mostly in the court of other professionals. The Forms 8609 are tedious, but they are typically not the attorney’s lane.

What I pay attention to is the general qualifier at the top, the final determination that all obligations under Section 9 have been satisfied. Section 9 is where the operating deficit and liquidity obligations live. Your client may need to advance money at this stage to clear some of those hurdles. Those are objective asks, and they are either met or not met.²

A Texas illustration

National Corporate Tax Credit, Inc. VIII v. JNP Properties, Inc., No. 03-07-00639-CV (Tex. App.—Austin Apr. 30, 2009) (mem. op.), is an unreported Austin case that shows how these provisions operate when a project reaches conversion in difficulty. The transaction was a 1998 partnership formed to develop a low-income housing project. The investor fund committed $7,307,311, payable in installments tied to benchmarks. The final installment of $1,096,097, subject to adjustment, was payable “upon the later to occur of” several conditions, including “funding of the Permanent Loan” and “the attainment of Rental Achievement.” A credit adjuster at $0.71 per dollar reduced that installment to $871,050.

The investor also withheld $400,000 of the final installment as escrow security for the sponsor’s operating deficit obligation. The release provision required the sponsor to notify the investor of any operating deficit with “reasonably detailed information about current Partnership receipts and operating obligations,” and then provided: “Provided Investor is reasonably satisfied with such information, Investor shall release to the Operating General Partner … the amount of such Operating Deficit.”

The permanent loan was scheduled to close on October 31, 2000. The sponsor needed the escrow released to cover closing costs and the permanent lender’s debt service reserve requirement. On the day of closing the investor conditioned release on the sponsor’s execution of an amended operating deficit agreement, and separately sought repayment of a $250,000 obligation traceable to a 1998 assignment of part of the development fee. The sponsor signed the amendment and was later removed as operating general partner.

Let’s focus on the stage for a moment. The investor just needs to release its holdback and the project stabilizes with permanent financing and all is well with the world. Investor has a completed project and receives the benefit of its bargain (the tax credits). The sponsor has a stabilized project that is now (finally) earning money for it and probably is going to get some of its deferred developer fee. What happens? The investor leverages the sponsor out of the transaction. No construction project will come in exactly at the financial model. It just doesn’t happen. Negotiating from that common sense stance can assist you in your negotiations. Please note, I do not fault the investor for exercising its rights under contractual agreements. I point this out to highlight the importance of drafting and negotiating up front because you have NO leverage when the poop hits the fan.

The sponsor sued for reinstatement, arguing that the amendment was procured by economic duress and that its breach was therefore excused. A jury found wrongful economic coercion. The court of appeals reversed and rendered judgment for the investor, holding that the sponsor produced no evidence of duress as a matter of law. Three propositions from that analysis are worth stating.

A threat to do what a party has a legal right to do does not constitute duress. Eggleston v. Humble Pipe Line Co. states the rule as one “of general application in this state, with only a most limited possible modification, that threat to do that which an individual has a legal right to do will not form duress, unless it is a threat of criminal prosecution.” The investor was entitled to seek repayment of the $250,000.

A charge of economic duress must rest on the conduct of the other party rather than on the necessities of the party asserting it. First Texas Savings Ass’n v. Dicker Center, Inc. The court found no evidence that the investor created the circumstances in which the sponsor felt obligated to sign.

The pressures the sponsor faced were, in the court’s words, “not coercive devices applied by [the investor,] but are foreseeable ramifications of a breakdown” by the sponsor in performing its own obligations under the governing agreements. Statements by the sponsor’s principals that they “felt duress” and “had no choice” were not evidence of duress.

The sponsor took nothing, and the fee question was remanded under prevailing party provisions in the parties’ agreements.

Two features of the case bear on the drafting. The provision the investor used was a subjective release standard, satisfaction with the sponsor’s information, attached to money the sponsor needed on a date it could not move. And the point at which it was used was permanent loan conversion, which in the current four-installment form is the third installment.

The case is a memorandum opinion with no reporter citation and, as of this writing, no citing references. It is useful as an illustration of how these provisions function rather than as a statement of Texas law beyond the duress holding, which rests on the older authority cited above.

Conclusion

The conditions to funding installments of capital contributions are where a sponsor and its counsel should pay particular attention and attempt to convert a document full of subjective calls into a document full of objective decisions and arithmetic. The first and fourth installments are largely mechanical. Pay attention to stabilization (stomps foot twice).

The next article addresses the guaranty package and the guarantor covenants.

Citations

Cases

• Dale v. Simon, 267 S.W. 467 (Tex. Comm’n App. 1924, judgm’t adopted) (a threat must overcome the will of the victim and cause him to do that which he would not otherwise do and was not legally bound to do).
• Eggleston v. Humble Pipe Line Co., 482 S.W.2d 909 (Tex. Civ. App.—Houston [14th Dist.] 1972, writ ref’d n.r.e.) (a threat to do that which an individual has a legal right to do will not form duress unless it is a threat of criminal prosecution).
• First Tex. Sav. Ass’n v. Dicker Ctr., Inc., 631 S.W.2d 179 (Tex. App.—Tyler 1982, no writ) (a charge of economic duress must be based on the acts or conduct of the opposite party and not merely on the necessities of the purported victim).
• Historic Boardwalk Hall, LLC v. Commissioner, 694 F.3d 425 (3d Cir. 2012) (an investor lacking a meaningful stake in the success or failure of the partnership was not a bona fide partner and could not be allocated § 47 rehabilitation credits), cert. denied, 569 U.S. 1004 (2013), rev’g 136 T.C. 1 (2011).
• Nat’l Corp. Tax Credit, Inc. VIII v. JNP Props., Inc., No. 03-07-00639-CV (Tex. App.—Austin Apr. 30, 2009) (mem. op.) (no evidence of economic duress where an equity investor conditioned release of an escrowed portion of the final capital contribution on execution of an amended operating deficit agreement at permanent loan closing).

Statutes

• 26 U.S.C. §§ 42(h)(4)(B), 42(m)(1)(D), 42(m)(2)(D) (tax-exempt bond financing test; qualified allocation plan requirements for bond-financed projects; issuer determination for bond-financed buildings).

Administrative Authority

• Rev. Proc. 2014-12, 2014-3 I.R.B. 415 (safe harbor for allocations of § 47 rehabilitation credits; § 4.03 investor minimum unconditional contribution of 20 percent of total expected capital contributions before the building is placed in service; § 4.04 at least 75 percent of expected contributions fixed in amount by that date; § 3 scope limited to the § 47 credit).

Secondary Authority

• Affordable Housing Investors Council, Underwriting Guidelines (Apr. 2026), https://www.ahic.org/docs/2026_AHIC_Underwriting_Guidelines.pdf (§ III.E capital contribution benchmarks, “not before” dates, and holdbacks in the installment in which a downward adjuster is applied). The guidelines state that nothing in them should supplant individual analysis by an investor or be construed as mandating any particular deal term.
• Klein Hornig LLP, The Low-Income Housing Tax Credit (LIHTC) Section 42 Outline, 2024 Edition (Nov. 2024) (application of Historic Boardwalk Hall in the low-income housing credit context; the Service’s informal indication regarding FAA 20124002F; observation that most low-income housing credit investments are not structured to comply fully with the Rev. Proc. 2014-12 safe harbor).

Footnotes

1. Some term sheets divide the schedule into five or more installments. The most common reason is a separate draw keyed to a stated percentage of construction completion, usually 50 percent, certified by the architect or the investor’s construction consultant, which permits the investor to meter equity against work in place rather than fund the entire construction phase against a single completion certificate. Others divide the back end, separating the stabilization payment from a reserve funding payment or from the payment conditioned on receipt of the Forms 8609. The conditions do not change. They are distributed across more payments, and a sponsor’s comments should follow the condition rather than the installment number. ↩

2. AHIC advises that “[e]nough equity should be held back in the final installment (or the installment in which the downward adjustor is applied) to cover possible downward adjustors.” AHIC, Underwriting Guidelines § III.E. In the term sheets I have negotiated, the final installment averages roughly 3 percent. ↩