Tax Tips
Rehabilitation Tax Credit - Part I - March 2002
Richard Scrivanich - Partner
Historic Preservation: Good for Your Wallet and the Neighborhood.
The National Park Service, part of the U.S. Department of the Interior, has released a report entitled "Federal Tax Incentives for Rehabilitating Historic Buildings," that summarizes the positive effects of the historic preservation program. Started 25 years ago, the program consists of tax incentives to help preserve historic buildings, and is considered one of the most successful revitalization programs ever created by the federal government.
Background.
Begun in 1976, the original law allowed accelerated depreciation on rehabilitated buildings. This law was made more attractive through law changes over the following ten years. Currently, the tax law allows a general business credit equal to 20% of qualified rehabilitation expenses (QRE) for a certified historic structure, or a 10% tax credit for the qualified rehabilitation of non-historic, nonresidential buildings first placed in service before 1936. The National Park Service is responsible for reviewing and approving rehabilitation projects eligible for the tax incentives.
According to the report, within the last five years, 2,967 historic buildings have been rehabilitated; these include: Chicago office towers, Baltimore row houses, St. Louis warehouses, Mississippi shotgun houses, and Miami Art Deco hotels. The report notes that the tax credit "leverages private investment in depressed neighborhoods, creates jobs, promotes community preservation, fosters heritage education, enhances state and local tax revenues, and increases property values."
Currently, over a million buildings are listed in the National Register of Historic Places. Each year, over 30,000 buildings are added to the list, and 20% of these are eligible for the tax credit. According to the report, these projects bring great economic benefits of over $4.76 billion, and not just to the owners of the buildings. In fact, much of the $4.76 billion is invested in older urban residential neighborhoods and commercial districts. And each project creates 45 new jobs.
The states with the highest activity in the Historic Preservation Program were New York, Pennsylvania, and Louisiana. More than $1.3 billion has been invested in 491 projects in the past five years.
The tax credit.
A tax credit differs from an income tax deduction, and is often seen as more advantageous to the taxpayer. A deduction lowers the amount of income subject to taxation, while a credit lowers the amount of tax owed. Generally speaking, a dollar of tax credit reduces the amount of income tax owed by one dollar. Therefore, the 20% rehabilitation tax credit will reduce the amount a taxpayer owes by 20% of the amount spent in a certified rehabilitation of a certified historic structure.
The 10% rehabilitation tax credit equals 10% of the amount spent to rehabilitate a non-historic, nonresidential building built before 1936.
20% credit.
This credit applies to any project that the Secretary of the Interior (through its arm, the Park Service) designates as a certified rehabilitation of a certified historic structure. This is available for commercial, industrial, agricultural, rental or residential properties, but is not available for properties used exclusively as the owner's private residence.
A certified historic structure is a building that is listed individually in the National Register of Historic Places or a building that is located in a registered historic district, and is certified by the Park Service as a contributing to the historical significance of the district. The structure must be a building; it cannot be another type of structure such as a railroad car or bridge.
IRS requirements.
To be eligible for the 20% credit, the project must also meet certain Internal Revenue Code requirements.
The building must be depreciable.
This means it must be used in a trade or business or held for the production of income. It may be used for commercial, industrial or agricultural enterprises, or rental housing. It cannot be used as the owner's private residence.
The rehabilitation must be substantial.
Substantial means that during a 24-month period (the starting and ending point for the period can be selected by the taxpayer), rehabilitation expenditures must exceed the greater of $5,000 or the adjusted basis of the building and its structural components. The adjusted basis is usually the purchase price minus the cost of land, plus improvements already made, minus depreciation already taken. Once this test is met, all qualified expenditures, including those incurred outside of the measuring period, qualify for the credit.
Phasing requirements.
If the rehabilitation is completed in phases, the same rules apply, except that a 60-month measuring period applies. This rule is available only if: 1) there is a set of architectural plans and specifications for all phases of the rehabilitation, and 2) it can reasonably be expected that all phases of the rehabilitation will be completed.
The property must be placed in service.
Generally the tax credit is allowed in the taxable year that the property is placed back in service.
The building must be a certified historic structure.
If it is not when it is placed in service, the owner must have requested a determination that the building is a certified historic structure from the National Park Service on or before the date the building was placed in service. In addition, the owner must have a reasonable expectation that the determination will be granted.
Qualified rehabilitation expenses.
QREs include those associated with the work undertaken on the building, the architectural and engineering fees, site survey fees, legal expenses, development fees, and other construction related costs, as long as they are added to the basis of the property and are reasonable and related to the services performed.
QREs do not include acquiring or furnishing the building, new additions that expand the existing building, new building construction, parking lots, sidewalks, or landscaping.
Well, since I'm out of time and space at this point, in next month's tax tips we'll wrap our discussion of the rehabilitation tax credit for certified historic structures by looking at how to claim the credit as well as depreciation and other rules which affects buildings that may be eligible for this credit.
In the meantime, if you have any questions concerning this topic or any other tax or accounting matter, please feel free to give me a call at (562) 698-9891.
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