A tenant's income goes up. Their unit can remain qualified. Nobody has to move. The income increase alone does not cost you the unit. The next comparable vacancy can, and the consequence of getting it wrong is not one unit. It can be every over-income unit you have.

26 CFR 1.42-15 contains its own worked example, and it is worth walking through before anything else, because it shows the trap operating on an owner who was mostly doing the right thing.

The Regulation's Own Example

A ten-unit building. Identically sized units. The allocation supports five low-income units, so five have to stay qualified to avoid recapture.

At the end of the first credit year, Units 1 to 5 are occupied by qualified low-income households. Units 6 to 9 are market rate. Unit 10 is vacant.

1 November. Annual income certificates show the households in Units 1, 2 and 3 have gone above 140 percent of the applicable limit. Those three become over-income units.

30 November. Units 8 and 9 become vacant.

1 December. The owner rents Units 8 and 9 to qualified residents who were not current residents, at restricted rents. Correct. Two available comparable units, both let to qualified households.

31 December. The owner rents Unit 10, still vacant from the start, to a market-rate tenant.

Result: Units 1, 2 and 3 all cease to be treated as low-income units. Only Units 4, 5, 8 and 9 remain low-income, the building's qualified basis is reduced, and credit must be recaptured.

And the regulation states the counterfactual. Had the owner rented Unit 10 to a qualified resident who was not a current resident, eight units would have been low-income. At that point Units 1, 2 and 3 could have been rented to market-rate tenants, because the building would still contain five low-income units.

One leasing decision, in either direction.

Why It Works That Way

The mechanism is in the definitions, and they are narrower than people assume.

An over-income unit is a low-income unit where the aggregate income of the occupants increases above 140 percent of the applicable income limitation under section 42(g)(1), or above 170 percent for deep rent skewed projects described in section 142(d)(4)(B).

A comparable unit is a residential unit in the low-income building that is comparably sized or smaller than the over-income unit. Comparability is measured by the same method used to determine qualified basis for the credit year in which the comparable unit became available.

A nonqualified resident is a new occupant or occupants whose aggregate income exceeds the applicable income limitation.

A qualified resident is an occupant whose aggregate income does not exceed the limitation and who is otherwise a low-income resident, or who is a current resident. That second limb matters, and most summaries omit it.

Put together: once a unit goes over-income, it ceases to be treated as a low-income unit if a nonqualified resident occupies any comparable unit that is available or subsequently becomes available in the same building.

The Three Things Operators Get Wrong

It is per building. The regulation states expressly that in a project containing more than one low-income building, the available unit rule applies separately to each building.

Size cuts both ways, and the exposure runs upward. A comparable unit is one comparably sized or smaller than the over-income unit. So when an available unit is rented to a nonqualified resident, the regulation is explicit about the consequence: all over-income units for which that unit was a comparable unit lose their low-income status, meaning comparably sized or larger over-income units are affected. Letting a small unit badly reaches every over-income unit at or above its size.

"Available" has a legal meaning. A unit is not available for these purposes when it is no longer available for rent due to contractual arrangements binding under local law. The regulation gives the example of a preliminary reservation that binds the owner under local law before a lease is signed or the unit is occupied.

Internal Transfers Work Differently

This is the part most likely to be handled on instinct, and instinct gets it backwards.

A current resident is a qualified resident under the rule regardless of their income. So moving an over-income household to another unit in the building does not breach the rule.

What happens instead is a swap of status. When a current resident moves to a different unit within the building, the newly occupied unit adopts the status of the vacated unit, and the vacated unit assumes the status the newly occupied unit had immediately before the move.

The regulation illustrates it. A six-floor building with two over-income units on the sixth floor and two vacant units on the first. A resident of an over-income unit, whose income has risen above the limit, asks to move downstairs. The owner permits it. That resident is a qualified resident because they are a current resident. The newly occupied first-floor unit becomes an over-income unit. The vacated sixth-floor unit takes the status the first-floor unit had. The over-income units in the building continue to be treated as low-income units.

The transfer moves the problem. It does not create one, and it does not solve one.

The Rule Is Not "Rent The Next One To A Qualified Household"

That shorthand is close enough to be dangerous.

The owner must rent to qualified residents all comparable units that are available or subsequently become available in the building, for as long as the over-income unit relies on the rule.

That obligation eases at a defined point. Once the percentage of low-income units in the building, excluding the over-income units, equals the percentage on which the credit is based, failure to maintain the over-income units as low-income units has no immediate significance. The regulation adds that it may still affect whether to rent a particular available unit at market rate later.

In the worked example the owner did let two vacancies to qualified households. It was not enough, because a third comparable unit was still available and went to a market-rate tenant while all three over-income units were still relying on the rule.

So the question is never "did we do the right thing with that vacancy." It is whether each comparable unit that is legally available for rent has been handled correctly for as long as the over-income unit is relying on the rule.

Where This Actually Breaks

Four failure modes, and none of them is a compliance officer making a mistake.

Leasing does not know. The over-income status is established at recertification, which sits in the compliance workflow. The vacancy is filled by a leasing agent working from a waiting list and an occupancy target. Unless something connects the two, the leasing decision is made without the constraint being visible.

The unit sizes are not compared. A leasing agent filling a one-bedroom does not intuitively think of it as comparable to an over-income two-bedroom. The regulation does.

Nobody tracks how long the constraint runs. The over-income status is not a one-off event. The constraint can continue across subsequent comparable vacancies until the building has enough other low-income units to meet the applicable percentage without counting the over-income unit.

And it is invisible in the rent roll. An over-income unit looks exactly like a qualified unit until somebody reads the certifications. Holding the over-income status against the unit rather than in a certification file is what makes the constraint available to the person making the leasing decision.

The Average Income Test Version Is Different

Worth flagging clearly, because the two are not interchangeable.

For a project electing the average income test, an over-income unit is one where aggregate occupant income rises above 140 percent of the greater of 60 percent of area median gross income or the imputed income limitation designated for that unit. The disqualifying event turns on whether an available comparable or smaller unit is occupied by a new resident whose income exceeds a separately defined limitation for that available unit.

One useful difference: where multiple units in a building are over-income at the same time, the regulation states that the order in which available units are occupied makes no difference for complying with the next available unit rule.

Those provisions apply to taxable years beginning after 31 December 2022, with an election available for certain earlier years. Treasury finalised them alongside the average income test regulations in October 2022, and later rulemaking has addressed further average income test compliance requirements.

So the first question on any property is which minimum set-aside was elected.

If You Think This Has Already Happened

Some readers will be arriving here after a leasing decision rather than before one. Four things, in order.

Do not act on a conclusion you have not established. Get the dates first: when each unit went over-income, when each comparable unit became available, what size each was, and who occupied it.

Check the building boundary before anything else. The rule applies separately to each building, and a vacancy in a different building of the same project is not part of this analysis.

Check whether the constraint was actually running. If the building already had enough other low-income units to meet its percentage without the over-income units, the regulation says the failure has no immediate significance.

Then take advice on the credit consequence. Loss of low-income status affects qualified basis and can trigger recapture. That is a tax question with a tax answer, and it belongs with your accountant and the allocating agency rather than with a compliance checklist.

What To Put In Place

Flag over-income units in the leasing system, not just the compliance file. The status has to be visible where the leasing decision is made.

Record the comparability set per building. Which unit types are comparable or smaller relative to each over-income unit. A one-off exercise per building layout that removes the judgment call at the point of decision.

Make the constraint a standing rule, not an alert. It persists until the building can meet its percentage without the over-income unit.

Check the building boundary. The same question that governs recertification relief governs this one.

And document the decision at each comparable vacancy. Which unit, what size, who it was let to, and why that was permissible given the over-income units outstanding at the time. That record gives you the evidence to explain the leasing decision later; it cannot be reconstructed reliably from a rent roll alone.

The Cost Of Getting It Wrong

In the regulation's example, the over-income units lose their low-income status, reducing the building's qualified basis, and credit must be recaptured.

That is three units out of five in a ten-unit building. Three units that no longer count toward the low-income percentage.

Which makes this one of the few compliance rules where a single leasing decision has an immediate and calculable financial consequence. The tenant whose income rose does not, by itself, cause the loss. The lease you signed on a different unit, in a different month, by a different person, can cause the over-income units to lose their status.

FAQ

1. What is the LIHTC available unit rule?
Under section 42(g)(2)(D)(ii) and 26 CFR 1.42-15, once a low-income unit becomes over-income, it ceases to be treated as a low-income unit if a nonqualified resident occupies any comparable unit that is available or subsequently becomes available in the same building.

2. What makes a unit over-income?
Aggregate occupant income increasing above 140 percent of the applicable income limitation under section 42(g)(1), or above 170 percent for deep rent skewed projects described in section 142(d)(4)(B).

3. What is a comparable unit?
A residential unit in the low-income building that is comparably sized or smaller than the over-income unit, measured by the same method used to determine qualified basis for the credit year in which the comparable unit became available.

4. Which over-income units are affected by a bad lease?
All over-income units in the building for which the available unit was a comparable unit, meaning comparably sized or larger over-income units.

5. Can I move an over-income household to another unit?
A current resident is a qualified resident under the rule regardless of income. The newly occupied unit adopts the status of the vacated unit, and the vacated unit assumes the status the newly occupied unit previously had.

Sources: 26 CFR 1.42-15, Available unit rule, including the definitions at (a), the exceptions and duration at (c), the internal transfer rule at (d), the per-building application at (e), the consequence of noncompliance at (f), and the worked examples at (h); Cornell Legal Information Institute text of 26 CFR 1.42-15; Section 42 Low-Income Housing Credit Average Income Test Regulations, Federal Register, 12 October 2022. Average income test requirements have been addressed in later rulemaking; confirm the current position for an AIT property. State housing finance agency policy under the applicable Qualified Allocation Plan may impose additional requirements. This article describes general concepts and is not accounting, tax or legal advice. Confirm your position with the agency that has jurisdiction over the building and with a qualified compliance professional.