The 25% Bond Test Explained: Why 4% LIHTC Deals Are Surging (And What It Means for Pricing)

For years, the 4% low-income housing tax credit was married to a special bond test meant to ideally distribute the partnership of federal funds and municipal debt obligations: the 50% test. A development could only claim 4% credits on its full qualified basis if at least half of its aggregate basis was financed with tax-exempt private activity municipal bonds. In states where bond authority was constrained by volume, that requirement quietly capped how many affordable housing deals could get done in a given year. This is without getting into reallocated or recycling bonds. Let’s try to keep this simple.

As of January 1, 2026, to great applause and great murmuring, that rule changed. And the affordable housing market is still absorbing the consequences. The One Big Beautiful Bill Act permanently lowered the bond financing threshold from 50% to 25%, and the effect has been immediate: a pricing dislocation that developers and investors need to understand before they finalize a capital stack. More taxable bonds (at a taxable rate) in the stack for many projects that were originally penciled for tax-exempt bonds.

What the 25% Bond Test Actually Changed

Let’s step back a moment, The 4% LIHTC has always been tied to tax-exempt bonds. It’s why they’re colloquially known in industry speak as “bond deals”.

To qualify for credits across a project’s entire qualified basis, federal law required that tax-exempt private activity bonds — drawn from each state’s annual volume cap — finance at least 50% of the combined cost of the building and land. Fall short of that threshold, or the threshold set by QAP, and the project lost access to the credit on its full basis.

Now that threshold has been cut in half.

Beginning in 2026, a development needs only 25% of its aggregate basis financed with private activity bonds. One technical wrinkle matters for planning: at least 5% of aggregate basis must be financed with bonds newly issued after December 31, 2025, so both the 5% and 25% conditions have to be satisfied for a deal to qualify. So can’t go fully recycled, up to 80% recycled material is OK.

The change sounds modest. Its consequences are not.

Why 4% Deals Are Surging

The private activity bond volume cap is the binding constraint here. Each state receives a limited annual allocation, and across much of the country that allocation has been oversubscribed for years.

Under the old rule, every 4% deal consumed bond authority equal to half its basis. That math meant cap ran out quickly, and otherwise-viable projects simply could not get the bonds needed.

At 25%, each deal consumes less of the cap. The same pool of bond authority can now support more transactions, in theory, since a significant share of the bonds previously locked up meeting the 50% test is technically freed for other deals. States that were perennially oversubscribed should now have capacity, and developers who had shelved 4% projects are considering bringing them back. That is the uptick, more deals possible in theory.

The Pricing Dislocation

More 4% deals mean more credits flowing into the market looking for equity. The investor base that buys those credits, however, also sees that there may be more or at least more diverse supply of credits. When the supply of credits rises faster than the pool of capital chasing them, pricing softens, especially when coupled with rising interest rates, investors can be more selective or require higher yield, and the equity raised per credit has come under greater pressure.

This is the dislocation at the center of the 2026 market. It is not a sign of weakness in the underlying program; it is a supply-and-demand adjustment working through a system that just had its production ceiling raised. Sponsors who modeled their capital stacks on the pricing of two or three years ago may find the equity proceeds available today fall short of those assumptions, particularly in markets without deep investor competition.

What’s Cushioning the Market

Several forces are working to absorb the new supply. The Federal Housing Finance Agency doubled the LIHTC investment caps for Fannie Mae and Freddie Mac to $2 billion each for 2026, adding substantial new buying power, with a meaningful share directed toward harder-to-serve and rural markets. The return of 100% bonus depreciation improves investor yields, which helps pricing a bit. And the accelerated sunset of certain clean-energy tax credits may push some corporate investors back toward LIHTC.

None of these fully offsets the new supply, but together they may soften some of the pressures. The market is widely expected to absorb the additional 4% volume, just at renewed pricing equilibrium that reflects the dynamic relationship between credits and capital.

What This Means for Your Capital Stack

The most important planning insight is that a lower bond requirement does not automatically make a deal easier to finance. If a state housing agency allocates only the 25% minimum, the project takes on greater taxable financing which could create a gap that has to be satisfied from somewhere else. In many 2026 deals, soft money, not bond cap, is emerging as the needed relief valve.

A few practical implications for sponsors:

• Model the gap, not just the credits. A 25% bond structure leaves greater reliance on taxable financing.
• Treat soft funding as the scarce resource. With bond cap loosened, the competition shifts to gap financing and local subsidy.
• Mind the structuring nuances. Recycled bonds, for example, do not count toward the 25% test even though they can lower financing costs elsewhere — and other long-standing requirements governing how bond proceeds are spent still apply.
• Build conservative pricing assumptions. Plan equity proceeds around today’s softer market, not the pricing of recent years.

What This Means for Investors

For credit buyers, the 2026 environment opens up a wider set of choices. A larger supply of 4% credits at more favorable pricing creates room to be selective on sponsor quality, market, and structure. Economic investors in particular may find yields more attractive than they have been in several years. The trade-off is a market in motion: pricing is still finding its level, and project-by-project evaluation matters more when supply is abundant and the spread between the strongest and weakest deals widens.

How Fallbrook Helps Developers and Investors Navigate the Shift

Fallbrook has facilitated affordable housing tax credit transactions for nearly four decades, since the LIHTC program’s creation in 1986. A market in flux is exactly where an experienced intermediary earns its place, helping sponsors structure capital stacks around realistic pricing, and helping investors find the deals that fit their tax position and yield targets.

Our role is not to predict where pricing settles, but to help both sides of a transaction move through an unsettled market efficiently: matching credits to the capital partners best positioned to absorb them, and bringing the transparency and market-aligned terms that get deals closed. As the 25% bond test reshapes the 4% landscape, the developers and investors who plan early, and partner well, will be the ones who find the most efficient path through it.

Talk to Fallbrook About Your 2026 LIHTC Strategy

To learn more, email team@fallbrookfinancial.com with the subject line “Meet with Chris!”

Sources & Further Reading

This article draws on OBBBA statutory text, Congressional Research Service analysis, and commentary published by leading affordable housing law and advisory firms.

Primary Sources

• One Big Beautiful Bill Act (OBBBA), Pub. L. 119-21 (July 4, 2025). https://www.congress.gov/bill/119th-congress/house-bill/1
• Congressional Research Service: “An Introduction to the Low-Income Housing Tax Credit” (RS22389). https://www.congress.gov/crs-product/RS22389
• Internal Revenue Code § 42 (Low-Income Housing Credit). https://www.law.cornell.edu/uscode/text/26/42

Industry and Advisory Analysis

• Novogradac: “Filling the Gap: Financing Strategies in the Era of the Lower 25% PAB Test.” https://www.novoco.com/periodicals/articles/filling-the-gap-financing-strategies-in-the-era-of-the-lower-25-pab-test
• Nixon Peabody: “Low-Income Housing and Community Development Tax Credits in the Big Beautiful Bill” (July 16, 2025). https://www.nixonpeabody.com/insights/alerts/2025/07/16/low-income-housing-and-community-development-tax-credits-in-the-big-beautiful-bill
• Lument: “Inside OBBBA’s LIHTC Provisions: Drilling Down to the Real-World Consequences” (March 4, 2026). https://www.lument.com/inside-obbbas-lihtc-provisions-drilling-down-to-the-real-world-consequences/
• Baker Tilly: “What the One Big Beautiful Bill Act Means for LIHTC.” https://www.bakertilly.com/insights/what-one-big-beautiful-bill-act-means-lihtc
• Affordable Housing Finance: “House Passes Sweeping Bill With LIHTC Provisions.” https://www.housingfinance.com/policy-legislation/house-passes-sweeping-bill-with-lihtc-provisions

Disclaimer: This article reflects guidance and market data available as of July 2026. LIHTC pricing dynamics, bond financing rules, and investor behavior continue to evolve, and state housing agencies vary in how they allocate volume cap. Nothing in this article constitutes legal, tax, or investment advice. Developers, syndicators, and credit buyers should consult qualified counsel and advisors before structuring any LIHTC transaction.