The New Markets Tax Credit works by giving an investor a federal income tax credit worth 39 percent of the money they put into a Community Development Entity, which then channels that capital as loans or investments into businesses and projects in low-income communities. The investor claims the credit over seven years, the project keeps roughly a fifth of the financing as a permanent subsidy after the compliance period ends, and the low-income community gets capital that would not otherwise arrive on those terms.
The 39 Percent Credit Over Seven Years
The credit is spread on a fixed schedule. For each of the first three years after the qualified equity investment, the investor claims 5 percent of the original investment amount. For each of the next four years, the investor claims 6 percent. Add it up and the total is 39 percent.1Office of the Law Revision Counsel. 26 USC 45D – New Markets Tax Credit
The credit is claimed on each anniversary of the original investment date, so the investor’s federal tax liability drops by a fixed dollar amount every year for seven consecutive years. Both individuals and corporations are eligible, but in practice most investors are large financial institutions with enough federal tax liability to actually absorb the benefit.2Community Development Financial Institutions Fund. New Markets Tax Credit Program
The Community Development Entity does not keep the investor’s money. It passes it through as loans or investments to qualifying businesses in low-income areas. The credit rewards the investor for routing capital where traditional financing rarely goes.
The program was created by the Community Renewal Tax Relief Act of 2000 and made permanent in 2025 at $5 billion in annual allocation authority. Since inception, the CDFI Fund has made 1,667 awards totaling $81 billion in allocation authority.3Community Development Financial Institutions Fund. The U.S. Department of the Treasury Announces $5 Billion in New Markets Tax Credit Allocations
Who Is in Every Deal
An NMTC transaction always has three parties, and each has a defined role.
The Community Development Entity
The CDE is the intermediary. It receives allocation authority from the CDFI Fund through competitive annual rounds, then deploys that authority by accepting investor capital and pushing it into qualifying projects. To be certified, an organization must be a domestic corporation or partnership with a primary mission of serving low-income communities, dedicate at least 60 percent of its activities to that mission, and maintain accountability by ensuring at least 20 percent of its governing or advisory board represents low-income community residents.4Federal Register. Guidance for Certification of Community Development Entities, New Markets Tax Credit Program
Not every certified CDE holds current allocation authority. Many exist without it. A business seeking NMTC financing needs to confirm that any CDE it approaches actually has authority available to deploy.
The Investor
Investors are typically banks, insurance companies, or other large corporations. They contribute cash to an investment fund entity in exchange for the seven-year credit stream. That fund usually pools the investor’s equity with a leverage loan before making the qualified equity investment into the CDE, a structure explained further below.
The Qualified Active Low-Income Community Business
The QALICB is the operating business or project that actually receives the financing from the CDE. To qualify, a corporation, partnership, or sole proprietorship must meet several tests: at least 50 percent of its gross income must come from actively conducting business within a low-income community, a substantial portion of its tangible property must be located there, and a substantial portion of the services its employees perform must happen there. No more than 5 percent of its assets can be collectibles, and no more than 5 percent can be nonqualified financial property such as debt instruments or stock.1Office of the Law Revision Counsel. 26 USC 45D – New Markets Tax Credit
Which Locations Qualify
A project must sit in a census tract that the IRS considers a low-income community. A tract qualifies under either of two tests: a poverty rate of at least 20 percent, or median family income at or below 80 percent of the applicable area benchmark. For tracts inside a metropolitan area, that benchmark is the greater of the statewide or metropolitan median family income. For tracts outside a metropolitan area, the benchmark is the statewide median.1Office of the Law Revision Counsel. 26 USC 45D – New Markets Tax Credit
The CDFI Fund publishes a mapping tool that returns the census tract FIPS code for a street address and flags whether the tract meets the distress criteria.5Community Development Financial Institutions Fund. CDFI Information Mapping System
A business located outside a qualifying tract can still participate under the targeted-populations alternative if it can demonstrate that a significant share of its employees, owners, or customers are low-income individuals. The documentation burden is heavier because you need verifiable demographic data about the people you serve rather than a single census tract number.
Businesses That Cannot Participate
Even inside a qualifying tract, several business types are categorically excluded from being a QALICB:6eCFR. 26 CFR 1.45D-1 – New Markets Tax Credit
- Residential rental property. Commercial property rental is permitted if substantial improvements exist on the property.
- Gambling facilities, including racetracks and casinos.
- Golf courses and country clubs, private or commercial.
- Massage parlors, hot tub facilities, and tanning salons.
- Liquor stores whose principal business is selling alcoholic beverages for off-premises consumption.
- Farming operations with combined owned and leased assets exceeding $500,000.
- Companies whose primary activity is developing or holding intangible assets for sale or license.
Mixed-use developments that include apartments need careful structuring so the residential rental piece doesn’t disqualify the deal. Small farms below the $500,000 asset threshold can still participate.
The Leverage Structure and Where the Subsidy Comes From
The leverage structure is what makes the program valuable to a project sponsor rather than just to an investor. The investor’s cash covers only part of the total investment. A leverage loan fills the gap, and the full combined amount generates the 39 percent credit, meaning the investor earns credits on money that is not entirely its own.
In a typical $10 million transaction, the investor might contribute roughly $3 million in equity. The other $7 million comes from a leverage loan, which can be sourced from a commercial bank, bridge financing, grant proceeds, or other public funding. The investment fund makes a $10 million qualified equity investment into the CDE, which generates $3.9 million in credits over seven years. The investor paid $3 million and gets $3.9 million in credits.7Community Development Financial Institutions Fund. Introduction to the New Markets Tax Credit Program
The CDE then lends the $10 million to the project as two separate loans. The A Loan mirrors the leverage loan amount ($7 million in this example) and carries standard repayment terms. The B Loan mirrors the equity amount ($3 million, minus fees) and is the piece that ultimately becomes the project’s subsidy. After the seven-year compliance period ends, the project sponsor typically buys out the B Loan at a low price through a put/call agreement, converting it into what functions as a permanent grant worth roughly 20 percent of the total financing.
That 20 percent net subsidy is the practical headline for sponsors. On a $10 million project, NMTC financing can effectively deliver about $2 million the sponsor never has to repay.
The Seven-Year Compliance Period
Once the deal closes, a seven-year clock starts. During that period the CDE must keep at least 85 percent of the investor’s equity deployed in qualifying low-income community investments, and the QALICB must continue meeting all of its eligibility requirements: maintaining property, payroll, and income within the low-income community, and staying out of the prohibited business categories.8Internal Revenue Service. New Markets Tax Credit
The CDFI Fund measures compliance annually through its reporting system, and CDEs typically require quarterly or semi-annual reports from the QALICB. Expect to document job creation, services provided, and confirmation that operations haven’t drifted outside the qualifying community. Site visits are common. Compliance reporting is a fixed administrative cost for the life of the seven years, and gaps can jeopardize the entire deal.
What Triggers Recapture
If something goes wrong during the seven years, the IRS can claw back every credit the investor has already claimed, plus interest. Three events trigger recapture:1Office of the Law Revision Counsel. 26 USC 45D – New Markets Tax Credit
- The CDE stops qualifying as a CDE, losing its certification or falling out of compliance with the primary mission and accountability requirements.
- The investment proceeds stop being used properly, meaning the CDE fails the “substantially all” test (less than 85 percent of the equity remains deployed in qualifying investments) or the QALICB stops meeting its eligibility requirements.
- The CDE redeems the investment, returning the investor’s equity before the seven-year period ends.
The recapture amount equals all credits previously claimed plus interest at the IRS underpayment rate calculated from the due date of each year’s return. On a multi-million-dollar deal, a recapture event several years in can mean returning years of credits plus significant interest. Investors respond by insisting on detailed compliance monitoring, and transaction documents commonly include clawback provisions that shift recapture risk to the project sponsor if the sponsor caused the failure.
How the Deal Ends
At the close of the seven-year compliance period, the parties unwind the structure. Nearly every NMTC deal includes a put/call agreement negotiated at closing that governs the exit. The investor typically holds a put option allowing it to sell its interest to the project sponsor at a predetermined price, which can be as low as a nominal $1,000 or substantially higher depending on the deal.
If the investor doesn’t exercise the put, the sponsor usually has a call option to buy the investor’s interest. Call prices, unlike put prices, must reflect fair market value, typically set by an appraisal at the time of exercise. Exercise windows for both options generally run three to six months.
When the B Loan is forgiven or bought out at a nominal price, the project sponsor keeps that portion of the financing as permanent capital. Final documentation is filed with the IRS to close out the transaction and confirm that all compliance obligations were met.