A Less Taxing Endeavor

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A Less Taxing Endeavor

Making adaptive reuse projects affordable

Felicia Oliver
Editor, HousingZone.com

Tax incentives in the form of credits, abatements and TIFs (tax increment financing) are almost essential to moving forward on an adaptive reuse project of sizable scope.

By definition, adaptive reuse projects require some demolition of the old infrastructure, not to mention extensive retrofitting to current building codes that may not have been in effect when the building was first constructed.

Andy McDonell, project manager for Brinkmann Constructors, general contractor for the Pet Milk Building adaptive reuse project in St. Louis, said the change in use creates the need for some fairly drastic reconstruction, which is not cheap.

"[The Pet Milk Building] wasn't built for residential -- for corridors and layout for kitchens and that type of thing," said McDonell. "Without the tax credits, the cost of construction to change those features of the building into something for residential -- you just couldn't do it."

But the government makes tax incentives available to developers and owners of qualified buildings to offset these costs. Even if your company is not the owner or developer on a project, these cost savings can benefit you as a general or subcontractor. At the very least, the savings in overhead may be just what it takes to get the project moving forward, and your company hired.

Federal tax credits

Federal Historic Preservation Tax Incentives [1] reward private investment in rehabilitating income producing, certified historic properties such as office and apartment buildings and retail stores.

The National Park Service administers the National Register of Historic Places [2]. If you own a building that is listed on the National Register, or located in a historic district listed on the National Register, you may be eligible for a 20 percent tax credit on your qualified rehabilitation costs.

Gordon Goldie, a real estate and construction tax partner with accounting and management consulting firm Plante & Moran, said qualified costs are those most directly related to the renovation. Unqualified costs are those tied to building acquisition, personal property (i.e., appliances and furniture), and site improvements such as a parking lot, fencing and landscaping.

To qualify for the tax credit, a developer is prohibited from drastically altering the exterior appearance of the building. Certain other eligibility requirements must be met as well. See the Federal Historic Preservation Tax Incentives online brochure for more information.

As evidenced from the Pet Milk Building case study, extra time should be allotted for completion of a project if you are applying for historic tax credits. The National Park Service had to approve the exterior windows chosen for the renovation before they could be manufactured - much less installed - so as not to jeopardize the eligibility of those costs.

"You're technically allowed to go ahead and do the project," Goldie said, "and then submit the application as you're finishing, but you do it at your own risk. …[The National Park Service] may come back and say, 'We don't like the windows you used. ' They may either disallow the whole project or they might disqualify those costs."

There is also a 10 percent tax credit available for the rehabilitation of non-historic, non-residential buildings built before 1936.

"You don't even have to bother with all the requirements to get the [National] Park Service approval for your plan for the building," Goldie said. "You essentially just report it on your tax return and claim the credit. It's a lot easier."

According to the National Park Service Web site, the two credits are mutually exclusive. Only one can be used per project.

The New Markets Tax Credit is a credit for qualified equity investments in designated Community Development Entities, or CDEs.

"A developer can identify a source [CDE] of New Markets Tax Credits and negotiate with that source to have them allocate the credits to your project," said Goldie. "There's a limited number of these credits available, so it's a competitive process. And essentially all of the qualified equity investment must be used by the CDE to provide investments in low-income communities."

The New Markets Tax provides a particular incentive toward mixed-use projects, because no more than 80 percent of a project can be residential in order to receive the credit, according to Tim Frens, also a partner at Plante & Moran.

An important distinction between the historic and rehabilitative tax credit, and the New Markets tax credit, is who's eligible to take the credit.

"The historic tax credit actually goes to the developer who does the project," said Goldie. "In the New Markets, the credit actually goes directly to whoever invests in the project…the investor gets the credit for making the investment. And they get a credit equal to 39 percent of the investment they make into the project. [But] they don't get the credit all at once; they get it over a seven-year period."

For more information, see the Community Development Financial Institutions Fund Web site, a sub site of the U.S. Treasury Department. Here you will find a recent list of New Market Tax Credit CDEs [3], also known as allocatees.

State tax incentives

Goldie said there are a few states that have introduced or implemented "piggyback" New Markets legislation, i.e., state tax credits if your project has qualified for federal credits.

"Michigan has introduced legislation, but hasn't passed it," said Goldie. "I think California is in the same boat. I think Louisiana might have actually passed legislation."

The amount of the credit can vary quite a bit, according to Goldie.

"The credit could be as much as 20, 25 or 30 percent of the project cost," Goldie said. "You could get a 20 percent credit for federal, and on top of that a 20-30 percent credit for state purposes."

But some states put a cap on cumulative credits for a particular project.

"Michigan credits 25 percent of your qualified cost, but you have to subtract any credit you get from federal," Goldie said. "So if you get a 20 percent federal credit you only end up with a 5 percent state credit."

The National Trust for Historic Preservation's Web site lists information on states that provide historic tax credits.

Tax abatements -- a temporary suspension, exemption or reduction of property tax payments -- are commonly issued on a state and local level, since this is the level of government at which property taxes are normally levied.

"It's common that the state has some sort of program to provide for tax abatement for rehab of a historic building or a rehab of an obsolete building," said Goldie. "

Tax abatement qualifications vary from state to state, and are also listed at the National Trust for Historic Preservation Web site.

Brownfield credits are available, on a state-by-state basis, to renovation projects that ameliorate environmental contamination.

"Certain states have different definitions of brownfields," Goldie said. "Michigan has more loosely defined the term "brownfield" to include property that is either obsolete or blighted in certain areas of the state."

See your state or local municipality Web site for more information on specific brownfield tax credits and other financial incentives available in your area.

The other incentive provided for the treatment of brownfields, as well as for infrastructure improvements such as service road expansions in front of a property, changes in the utility lines, etc., is tax increment financing (TIF). A TIF taxes the increase in property value resulting from property improvements.

There are many possible sources of tax and other financial incentives for adaptive reuse projects. Research into what fits your particular project's requirements and situation is needed.

"There are hurdles that small project developers may face in attempting to take advantage of these incentives," Goldie said. "[These] developers should consult with their accountant to maximize their benefit.

Cultivate relationships with city and state officials, real estate agents, and others with comparable knowledge about your community that you can use to navigate the potential resources that will make your adaptive reuse project possible.