What Is the 50% Test for Affordable Housing?

In the world of affordable housing, it is true that tax-exempt bonds can serve as the financial backbone for development projects. But to secure the associated 4% Low-Income Housing Tax Credits (LIHTCs), there is one rule that cannot be ignored: the 50% test.

This test is not a technicality—it’s simply a pass/fail benchmark that decides whether or not the tax credit is even available. The formula is clear: at least 50% of the development’s eligible basis—land and depreciable assets—should be financed by proceeds from tax-exempt bonds. Anything less, and the credits evaporate.

Why Does the 50% Test Matter?

The IRS imposes the 50% rule in order to make sure that federal tax benefits aren’t claimed unless a significant portion of the project was genuinely funded through tax-exempt sources. In practice, the result is a high-stakes balancing act between debt structure and construction timeline as well as eligible project costs.

From the auditor’s perspective, this test stands as a mandatory compliance checkpoint during financial audits of bond-financed affordable housing.

When Does It Apply?

The 50% test is triggered when a development seeks 4% LIHTC credits and uses tax-exempt bonds under Section 142 of the Internal Revenue Code. It’s most common in new construction but can also apply to acquisitions and rehabilitations if bond financing is involved.

What Is Included in the Test?

The math behind the 50% test is pretty straightforward. However, what’s included matters more than what’s not. The following components are generally considered:

• Eligible Basis: Land and depreciable real estate assets, excluding non-depreciable amenities and syndication costs
• Tax-Exempt Bond Proceeds: Principal amount of bonds actually used toward the qualified development costs

The qualified bond amount should equal or exceed 50% of the project’s total eligible basis in order to pass. Partial allocation or delayed drawdowns may jeopardize this balance.

What Happens If a Project Fails the 50% Test?

It is true that there is no partial credit. If the financing ratio lands even slightly under the required threshold, the entire project could become ineligible for 4% credits. This typically leads to situations below:

• Loss of anticipated equity from credit sales
• Investor withdrawal or restructuring demands
• Extended audit inquiries from compliance agencies
• Reassessment of project viability

It should also be noted that job costing in construction becomes vital at this stage. Improper allocation of soft costs or overstated land values, as well as missed cutoffs in construction accounting methods, could influence the test outcome. Financial and construction accounting services should coordinate tightly to prevent missteps.

Best Practices for Passing the 50% Test

Passing the 50% test is entirely achievable—provided the right steps are taken before the bonds are issued or drawn down.

• Document funding use clearly—especially during initial cost allocations
• Coordinate job costing in construction with a bond-use breakdown from the start
• Schedule periodic internal reviews before external auditors do
• Avoid last-minute substitutions or shifts in construction timelines
• Recheck bonding capacity calculation if multiple projects are bundled

The best accounting for construction companies often comes down to clarity—not complexity. For further assistance with affordable housing audits, contact Dimov Audit today for your initial consultation.