Authored by John Hoffman
The 20 percent and 10 percent federal historic rehabilitation tax credits have been key financial incentives utilized to help finance the renovation and preservation of buildings throughout the country. These tax credits have been subject to change as part of the ongoing tax reform process.
Very recently, the Senate and House of Representatives passed the Tax Cuts and Jobs Act and the president signed it into law this morning. The new law will have implications for the preservation and rehabilitation of our existing buildings across the country.
Here is a short summary of the major takeaways as it relates to preservation and federal tax considerations:
20 percent federal historic tax credit - This has been preserved, but modified.
- This is for commercial and residential rental buildings that are on the historic register or a contributing building in a historic district. There is no specific age requirement.
- However, the credit is now claimed ratably over five years. Previously, all of the credit was generally available the year in which the renovation was complete. This change will reduce the value of the credit because of the time value of money.
- Whether or not the credit is available all in one year or spread over five years will depend on when the property was owned by the taxpayer (needs to be prior to January 1, 2018) and when the rehabilitation is complete.
- It is expected that the pricing that tax credit investors pay will go down, likely in the range of 15 percent to 25 percent.
- There was talk of eliminating the basis reduction requirement but this was not in the final legislation.
10 percent federal rehabilitation tax credit - This has not been extended.
- This is for commercial buildings that were originally built before 1936 and are NOT on the historic register, nor are they a contributing building in a historic district.
- Whether or not the credit is available will be determined depending on when the property was owned by the taxpayer (needs to be prior to January 1, 2018) and when the rehabilitation is complete.
- 10 percent credits are rarely monetized, but the credits are often used by developers and property owners themselves and/or on smaller projects.
State historic rehabilitation tax credits – They will be affected by federal tax reform.
- In many states that have a state historic tax credit, there are federal tax implications often incurred by the various parties in the rehabilitation when the state credit is sold or allocated. Because of the lower tax rates, the new federal tax law could reduce those potential tax liabilities, thereby making state credits more valuable to the project.
- Many state credit regulations follow the 20 percent federal credit guidelines, so consequently there could be changes to state credits.
Corporate tax rate – this has moved from 35 percent down to 21 percent.
- Many tax credit investors are larger C-corporations subject to this new rate.
- This lower rate will likely reduce the value of tax losses.
- This lower rate may reduce the overall amount of taxes that corporations pay and therefore reduce corporations’ appetites for tax credits in general.
- Fifteen year qualified leasehold improvement property, qualified retail improvement property and qualified restaurant property are all eliminated.
- Qualified improvement property has been retained and slightly modified. It also changes from 39 year to 15 year, so this provides taxpayers accelerated depreciation deductions on a significant amount of the rehabilitation costs. This category is bonus depreciation eligible, but generally bonus depreciation is opted out to maximize the credit.
- The ramifications of 50(d) income will be determined as taxpayers and their advisors analyze further in the coming weeks.
- Recapture rules remain unchanged.
- The substantial rehabilitation test remains unchanged for both the 20 percent and 10 percent credit. Generally speaking, the qualified rehabilitation expenditures (QREs) must exceed the tax basis at the start of the renovation.
- We expect there will be a technical corrections bill negotiated and forthcoming.
- There is a separate provision relating to the Base Erosion and Anti-Abuse Tax Act (BEAT) and this could affect investors for these credits.
- The full implications of the tax reform are far reaching and complex and it will take considerable analysis and time to determine the ultimate changes that could affect the tax credits and ultimately the financial capital stack of existing and proposed redevelopments.
Feel free to contact Baker Tilly with questions on historic tax credits and tax reform.
The information provided here is of a general nature and is not intended to address the specific circumstances of any individual or entity. In specific circumstances, the services of a professional should be sought. Tax information, if any, contained in this communication was not intended or written to be used by any person for the purpose of avoiding penalties, nor should such information be construed as an opinion upon which any person may rely. The intended recipients of this communication and any attachments are not subject to any limitation on the disclosure of the tax treatment or tax structure of any transaction or matter that is the subject of this communication and any attachments.