The information presented here is intended solely for informational purposes and should not be construed as accounting advice from the author or Reznick Group. Reznick Responds is published every other month, so be sure to send accounting questions that you would like to have addressed in this column to [email protected].

Q I am thinking of converting an old school into affordable housing for the elderly. I have heard that the building may qualify for rehabilitation tax credits but I really don’t know anything about how they work. What are my next steps?

A The first step is to determine if the property does qualify for the rehabilitation credit. There are two types of rehabilitation credit established in Internal Revenue Code Sec. 47. The first is the 20 percent credit available for the rehabilitation of a certified historic structure, and the other is the 10 percent credit available for the rehabilitation of any other structure that was first placed in service before 1936.

The 10 percent credit is not available for residential buildings, so the only rehabilitation credit available for residential rehabilitation is as a certified historic structure. A certified historic structure is a building that is listed in the National Register of Historic Places or is located in a registered historic district and contributes to the historic significance of the district. If the owners are not sure of the historic status of the building, they should contact the State Historic Preservation Office (SHPO).

If the building is in a historic district, the owner must submit part one of the Historic Preservation Certification Application to the SHPO, which reviews the application and forwards it to the National Park Service (NPS) with its recommendation to either approve or deny the request. The NPS ultimately decides if the building is a certified historic structure.

If the building is not in a historic district or listed on the National Register, then the application is used to request that the building be listed or included in a historic district. A consultant who knows the application process can be invaluable to the owner. Once the owner knows that the building qualifies, the next step is to determine that the plan of rehabilitation will meet the NPS requirements.

Rehabilitation of the building in accordance with the NPS standards can add both complication and cost to the construction. The historic tax credit (HTC) is intended to compensate the owner for the complications introduced by the NPS requirements. The planned rehabilitation must not damage, alter, or remove exterior or interior features that the NPS considers significant to the historic character of the building. Special care should be taken if the owner plans to make building additions or changes to windows and doors.

Because of these risks, the owner should seriously consider submitting part two of the application – titled “Description of Rehabilitation” – through the SHPO to the NPS to obtain their approval before the start of the renovation. An architect who has experience with historic rehabilitation is a valuable development team member.

The HTC is available in the year the building is placed in service. If a building is placed in service in phases, the credit is available as each phase is ready for its intended use (placed in service). The credit is allocated to the owners of the building based on the way that they share in profits on the placed-in-service day, so it is critical to have the investor as an owner at the time the building is finished. The credit does not depend on occupancy as the low-income housing tax credit (LIHTC) does, so the owner’s primary goal is just to place the building in service to generate the credit for the investor.

In most cases, investors are willing to pay nearly a dollar (or more) for each dollar of HTC, because the full credit can be claimed in year one. This is in contrast with the LIHTC, which is available over the 10-year credit period and depends on qualified first-year occupancy to determine the credits that are available immediately.

The HTC is equal to 20 percent of the qualified rehabilitation expenditures (QRE). These expenditures are depreciable improvements made in connection with the renovation of a residential or non-residential building. They do not include the cost of acquisition, building additions or enlargements, personal property, or depreciable improvements made outside the building, such as sidewalks and parking lots.

When the rehabilitation is complete, the owner submits part three of the application – the “Request for Certification of Completed Work” – through the SHPO to the NPS for approval that the rehabilitation has met the standard approved in part two of the application. The application does not determine the amount of HTC that is available, like the final cost certification and Form 8609 does for the LIHTC.

The amount of the QRE is determined by the owner and is reflected on its tax return, though in most cases the HTC investor will require a certification of the costs by an accountant. Many times, the historic QRE and the costs that constitute eligible basis for the LIHTC are the same costs, so to some degree there is a double benefit. The amount of the HTC reduces the rehabilitation depreciable basis in most transactions, resulting in a reduction of the LIHTC, but the combination of credits can produce more equity for a project (see example on page 46).

A number of factors like location in a qualified census tract or difficult development area or the use of tax-exempt bond financing can influence this analysis negatively or positively.

In addition to this simple structure where one investor uses both the HTC and the LIHTC, the Internal Revenue Code contains provisions that allow the HTC to be passed through to the tenant in the building. In this case, we are not thinking of the low-income tenant but rather a master tenant who leases the building on a long-term basis and then sub-leases to the qualified low-income tenants. The lease structure, which opens the possibility to get the HTC to one investor and get the LIHTC to a separate investor, is technical and complicated, so a knowledgeable tax accountant or lawyer should be consulted.

Historic rehabilitation is not suitable for every transaction, but the equity available from the HTC is another tool that a developer can use to close the financing gap. The National Park Service Web site ( has a number of tools available to help owners decide if historic rehabilitation works for their deals.

Reznick Group has more than 25 years of experience providing accounting, tax, and business advisory services to clients nationwide. The expertise of the firm is broad, ranging from real estate and management advisory to auditing and tax preparation. Ranked among the top 20 public accounting firms in the nation, Reznick Group is on the move – continuing to grow nationally, expanding its services, and building upon its leadership as industry experts.

Beth Mullen is a principal in the Real Estate Consulting Group of Reznick Group, based in Sacramento, Calif.