In a tight property market, adaptive reuse is an appealing strategy for real estate investors. The search for underperforming or misaligned properties to revitalize often leads to historic properties. Whether they’re in poor condition due to lack of maintenance, or equipped with outmoded facilities and systems, historic properties sometimes require a significant investment to restore them to beneficial use.
There are many benefits to rehabilitating a historic building, but the challenges of undertaking such a project in today’s economic climate may seem prohibitive. The combination of rising interest rates, high construction costs, volatile supply chains, and workforce constraints poses a serious threat to project viability. These same conditions may make it hard for owners/developers to find new sources of equity for their capital stacks, limiting opportunities for bridge funding to offset the viability gap.
Fortunately, for qualifying properties, Historic Tax Credits (HTCs) can provide a solution.
Benefits of Historic Tax Credits
HTCs are an additional form of project capital and a financial benefit uniquely available to designated historic buildings. Federal HTCs can contribute 20% towards all qualifying rehabilitation costs, and when bundled with State HTCs can contribute a further 20-25% towards all qualifying rehabilitation costs, depending on the state. Together, Federal and State HTCs can provide up to 40-45% capital contribution towards the cost of rehabilitation works.
HTCs alone can bridge the gap between the cost of works required due to deficiency/condition/obsolescence, the premium potentially required to meet historic preservation standards, and the amount of capital available. In addition, HTCs can be bundled with Low-Income Housing Tax Credits, New Market Tax Credits, Renewable Energy Tax Credits, Tax Increment Financing, Opportunity Zone Incentives, grants, and other financial incentives, creating a very attractive financial incentive package—so attractive, in fact, that a submarket has evolved consisting of investors and developers specifically pursuing historic buildings in order to leverage the benefits from Historic Tax Credits. In addition, banks and other financial investors purchase historic tax credits to offset their significant tax liabilities. An owner undertaking a rehabilitation project using HTCs can use this as a mechanism to free up capital earlier in the project.
HTC Eligibility and The National Register of Historic Places
Historic Tax Credits are available for buildings listed on the National Register of Historic Places (NHRP). Even if a property is not currently listed on the NHRP, if it is architecturally and historically significant and over 50 years old, there is an opportunity to apply to have the building listed on the NRHP to create eligibility for HTCs. (A certified NRHP property can also boost tourism interest and generate revenue as a historic destination.)
Contrary to popular belief, NRHP listing alone places no federal restrictions on an owner’s private property rights. An owner may do with the property as they wish, within the framework of local laws or ordinances. If HTCs are being used, there is a federal review to ensure that rehabilitation projects meet the Secretary of the Interior’s historic rehabilitation standards. Any other ordinances and restrictions are typically enforced at a local level, but the financial benefit from HTC’s will often outweigh any perceived burden.
Assembling a Project Support Team
The processes, nuances, regulations, and time frames of a project with HTC funding can be difficult to navigate. Mishandling due to inexperience can create costly, time-consuming setbacks. Owners or developers embarking on a historic rehabilitation project should enlist the help of an experienced team as early as possible, preferably during predevelopment or even during the pre-acquisition process. The team may include a historic preservation consultant, historic buildings condition assessor/engineer, tax credit attorney, financial advisor/CPA, and lenders—all with expertise in historic tax credit projects, and, ideally, a network of potential tax credit investors.
A qualified professional team experienced in HTC projects can assist with:
- Assessing baseline repair/rehabilitation works;
- Identifying and maximizing eligibility for tax credits and other financial incentives;
- Structuring of the transaction;
- Financial modeling;
- Ensuring compliant architectural and engineering plans and scope development;
- Securing HTC’s and meeting preservation standards;
- Managing construction risk; and
- Maximizing return on the tax credit investments.
Bigger and Broader Benefits
The financial benefits of HTCs may increase in the future. Potential legislation in progress, if enacted, would increase Federal HTCs from 20% to 30% (permanently for small projects, temporarily for all other projects), lower the rehabilitation test to increase eligibility, and make it easier for nonprofits to access HTCs. The Revitalizing Economies, Housing, and Business Act (REHAB) would provide a 15% tax credit for properties over 50 years old, based solely on age, not historic status. And the Revitalizing Downtowns Act would provide a 20% tax credit for converting office to residential, commercial, or mixed use, provided projects include 20% affordable housing.
Beyond financial benefits, rehabilitating historic properties provides positive impact to communities, often providing the catalyst to spark social, economic, and/or environmental revitalization. And, rehabilitation is more environmentally friendly than demolition and new construction; it is akin to the recycling of buildings. Owners/developers who rehabilitate historic properties, and investors who support their efforts, demonstrate responsible custodianship and create a win-win for all parties involved.