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Earning Historic Tax Credits The Tax Fundamentals

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Title: Earning Historic Tax Credits The Tax Fundamentals


1
Earning Historic Tax Credits The Tax
Fundamentals
  • Incentives for Historic Preservation in Detroit
  • June 5, 2008
  • Detroit Athletic Club

2
Key Federal Tax Incentives
  • Rehabilitation Tax Credit (IRC Section 47).
  • Low-Income Housing Tax Credit (IRC Section 42).
  • New Markets Tax Credit (IRC Section 45D).
  • Qualified Conservation Contributions (IRC Section
    170(h)).

3
The Rehabilitation Tax Credits Internal Revenue
Code Section 47
4
Two Types of Rehabilitation Tax Credits
  • Older (pre-1936), non-historic and
    non-residential buildings 10 percent of
    qualified rehabilitated expenditures.
  • Historic buildings 20 percent of qualified
    rehabilitation expenditures.

5
Important Dates in the History of the
Rehabilitation Tax Credits
  • 1976 First federal tax incentives for historic
    preservation (accelerated depreciation/
    amortization).
  • 1978 First federal tax credit for rehab of
    historic buildings (10).
  • 1981 Three tiered tax credit (25, 20 and 15),
    including first credit for rehab of
    older,non-historic buildings.
  • 1986 Current two tiered structure passive loss
    limitations imposed.

6
The 20 Rehabilitation Tax CreditFundamentals
  • Tax Aspects Administered by the IRS.
  • Preservation aspects jointly administered by NPS
    and State Historic Pres. Offices (SHPOs).
  • Tax Credits dollar for dollar reduction in tax
    liability (contrast with deduction).
  • RTC is the most important (in dollar volume)
    federal preservation program.

7
The 20 Rehabilitation Tax CreditStatistics
  • 1,045 proposed projects approved by NPS in 2007.
  • In 2007, 45 of HTC projects were for
    multi-family housing 21 for office 27 for
    commercial 7 mixed use/other
  • Top states ranked by Part 3 approvals MO (189),
    OH (115), VA (89), NC (51), (FY 2007 statistics).
  • MI tied LA ranking 8th with 27 certified projects
    (Part 3 approvals issued in FY 2007)
  • Average Cost of Projects Certified nationwide in
    2007 4.16 million, producing on average
    832,000 in credits. Average cost of Michigan
    projects certified in 2007 2,545,993 producing
    on average 509,199 in credits

8
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10
What Types of Buildings Qualify?The IRS Rules
Depreciable Building Requirement
  • Must be a building. Building is defined as a
    structure or edifice enclosing a space within its
    wall and usually covered by a roof.
  • Building must be depreciable. Depreciable
    buildings are generally those used for
    nonresidential (i.e. commercial) or residential
    rental purposes. (See Section 168(e))

11
What Types of Buildings Qualify?The NPS Rules
Certified Historic Structure Requirement
  • Option 1
  • Building is listed in the National Register of
    Historic Places.

12
What Types of Buildings Qualify?The NPS Rules
Certified Historic Structure Requirement
  • Option 2
  • Building is located in a registered historic
    district and certified by the Sec. of the
    Interior as being of historic significance to
    the district.

13
What Types of Rehabilitations Qualify?The IRS
RulesSubstantial Rehabilitation Requirement
  • The QREs incurred during any 24-month period
    selected by the taxpayer and ending in the
    taxable year in which the building is placed in
    service must exceed the greater of
  • 5,000, or
  • The adjusted basis of the building.
  • A 60-month period may be used where written
    plans completed before the rehab begins show that
    the rehab is expected to take place in phases and
    is reasonably expected to take more than 24
    months.

14
What Types of Rehabilitations Qualify?Definition
of QREs
  • Qualified Rehabilitation Expenditures (QREs) is
    the tax term given to those development costs on
    which rehabilitation tax credits can be claimed.
  • QREs are any amounts chargeable to a capital
    account made in connection with the renovation,
    restoration or reconstruction of a qualified
    rehabilitated building (including its structural
    components), except as provided by law.

15
What Types of Rehabilitations Qualify?
Definition of QREs
  • QREs include costs related to
  • walls, partitions, floors, ceilings
  • permanent coverings such as paneling or tiling
  • windows and doors
  • air conditioning or heating systems, plumbing and
    plumbing fixtures
  • chimneys, stairs, elevators, sprinkling systems,
    fire escapes

16
What Types of Rehabilitations Qualify?
Definition of QREs (contd)
  • QREs include costs related to
  • construction period interest and taxes
  • architect fees, engineering fees, construction
    management costs
  • reasonable developer fees

17
What Types of Rehabilitations Qualify?
Definition of QREs
  • Costs EXCLUDED from QREs
  • Land and building acquisition
  • Enlargements that expand total volume (cf.
    remodeling that increases FMR)
  • Personal property (furnitureand appliances,
    cabinets andmovable partitions, tacked
    carpeting)
  • New building construction
  • Sitework (demolition, fencing,parking lots,
    sidewalks, landscaping)

18
The 20 Rehabilitation Tax CreditCalculating the
Allowable Credit
  • Credit equals 20 of all QREs incurred
  • Prior to the start of the 24-month period
    selected (so long as they were incurred in
    connection with the rehab process that resulted
    in the substantial rehabilitation of the
    building)
  • During the 24-month period and
  • After the last day of the 24-month period but
    before the last day of the tax year in which the
    measuring period ends.

19
The 20 Rehabilitation Tax CreditWhen is the
Credit Allowed?
  • Credit is generally allowed in the year in which
    the building is placed in service (provided
    substantial rehabilitation test has been met).
  • Placement in Service means that the all or
    identifiable portions of the building is placed
    in a condition or state of readiness and
    availability for a specifically assigned
    function.
  • Progress Expenditure Election available for
    properties with a normal construction period of
    2 years or more

20
The 20 Rehabilitation Tax CreditRecapture
  • Credit previously allowed is recaptured if any
    portion of the project which includes QREs is
    disposed of prior to the fifth anniversary of
    placement in service.
  • Amount subject to recapture decreases by 20
    during each year of the five year period.

21
The 20 Rehabilitation Tax CreditRecapture
  • Disposition includes any sale, exchange,
    transfer, gift or casualty. Subsequent rehabs
    that do not comply with the Secretarys Standards
    can trigger recapture.
  • Reduction of a partners interest can be deemed a
    disposition (33 rule).

22
Single Entity Structure
Tax Credit Investor LLC
Tax Credit Investor
Managing Member (Developer Affiliate)
HistoricTax CreditEquity
99.99 Credits, Profits Losses and Cash Flow
.01 Credits, Profits Losses, Fees andCash Flow
DeveloperEquity
Tax Credit, LLC (Property Owner)
Developer
Dev.Fee
DebtServicePayments
RentalPayments
LoanProceeds
Construction/Perm Lender
23
Historic Tax Credit Syndication The Credit
Pass-Through Structure
  • Landlord LLC owns fee simple, undertakes rehab,
    enters into Dev. Agreement, and earns the
    Historic Tax Credit.
  • Master Tenant, LLC leases the entire project from
    the Landlord LLC for a fixed annual rental
    payment.

24
Historic Tax Credit Syndication The Credit
Pass-Through Structure
  • Master Tenant, LLC operates the property,
    subleases to end users and enters into the
    Property Management Contract.
  • Landlord makes special tax election to pass the
    Historic Tax Credit through to the Master Tenant
    LLC.

25
Master Lease/Credit Pass-Through Structure
Tax Credit Investor LLC
Managing Member (Developer Affiliate)
.01 Credits, Profits Losses, Fees andCash Flow
DeveloperEquity
99.99 Credits, Profits Losses, Fees and Cash
Flow
HistoricTax CreditEquity
99.99 Credits, Profits Losses, and Cash Flow
Master Tenant, LLC (Master Tenant)
Landlord, LLC (Property Owner/Lessor)
Pass-through of Historic Tax Credits Share of
Residual
Lease Payment Equity Investment
DebtServicePayments
RentalPayments
LoanProceeds
Construction/Perm Lender
26
Sample Sources and Uses
27
Sample Transaction Calculating the HTC Equity
Qualified Rehab Expenditures
24,060,799
Credit Rate
20.00
Total Calculated Credit
4,812,160
Tax Credit Investor Allocation
99.99
Total Credit to Investors
4,811,679
Credit Price Per Each 1 of Credit
0.98
Equity Contributions by Investors
4,727,474


28
More Information?
  • David F. Schon, Esq.
  • dschon_at_nixonpeabody.com
  • Andrew S. Potts, Esq.
  • apotts_at_nixonpeabody.com

29
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