Rehabilitating historic buildings has become increasingly popular in recent years, due in large part to the substantial federal tax incentives available to renovators of such properties.
Nevertheless, this process is fraught with uncertainties, ranging from the difficulties of estimating rehab expenses and future income to wide fluctuations in government support for historic preservation activities.
Some of the "best tax treatment for real estate in the Internal Revenue Code" is available for developers who rehab certified historic properties, said Aubra Anthony, deputy general counsel of the National Trust for Historic Preservation, in a presentation to an audience of builders, attorneys, government officials, and preservationists at a conference in Baltimore on reusing old buildings.
The national trust sponsored the meeting as did the Conservation Foundation and the American Bar Association's section of urban, state and local government law.
Many of the hefty tax benefits available for rehabbing historic properties were included in the tax act of 1981. One of the most important of these is a 25 percent investment tax credit for expenditures incurred in renovating certified historic properties, generally ones that are at least 50 years old. In addition, last year's tax act shortened to only 15 years the period over which rehab costs on income-producing property can be fully depreciated.
Investment tax credits directly lower an individual's taxes. Deductions, on the other hand, reduce the amount of income against which the taxes are calculated.
To qualify for the 25 percent investment tax credit, a building must be on the National Register of Historic Places, in an historic district on that register or in a certified local district. The National Register now contains 27,000 listings; 2,700 of those are historic districts.
The rehab work must conform to 10 specific standards set by the U.S. Department of the Interior. They are intended to maintain the structure's architectural and historical integrity. In addition, 75 percent of the existing exterior walls must be retained.
In a 24-month period, rehab expenditures must exceed the adjusted basis in the property, which is the cost of the building and its capital improvements, minus depreciation.
Developers who want to obtain the 25 percent tax credit must have their project approved by their state's historic preservation office and by the National Park Service.
For newer commercial structures, lower tax benefits are available. For properties at least 30 years old, a credit of 15 percent may be taken; and for buildings at least 40 years old, the reduction is 20 percent.
Developers, however, do not have to meet the stiffer standards for the certified historic properties, thus reducing the time to plan and carry out the renovation work.
Rehab expenditures on these properties also can be depreciated over a 15-year period, but the total that can be written off is reduced by the amount of the credit taken.
While these tax benefits have increased the attractiveness of doing historic preservation, they have not guaranteed the economic success of every such venture. "The ITC [investment tax credit] will not make a bad investment a good one," commented Anthony. "A dog will remain a dog."
Determining whether a particular rehab project is a good investment can be more difficult than with new construction, according to several of the developers who spoke at the conference.
It is hard to predict what a builder will find in an old structure before the actual work begins, said contractor George Underhill of Louisville, Ky. Demolition costs can be high. And it can be expensive to bring construction equipment into a built-up area. Saving attractive old architectural details can be time-consuming and costly.
The project's construction supervisor and architect must be flexible enough to deal with surprises that come up during renovation, Underhill said. Much more preconstruction planning is required for rehab projects than for new construction, Underhill has found.
Even if a builder is able to estimate the "hard" costs for the actual construction accurately, "soft" costs can be difficult to forecast, explained builder Alan Trellis of Columbia, Md .
"The 'hard' part is not hard to estimate," he said. "You shouldn't be off by more than 5 to 10 percent. Look at your soft costs. That's where I really made mistakes and learned. I got closed, pointed and commissioned to death.
"I've sent a lot of lawyers' kids through school."
Ellis warned the other developers not to prejudice their feasibility studies in order to make uneconomical projects appear to be possible. "Your numbers depend on your assumptions," he said. "I can bias 15 different little assumptions in one direction. You've got to be certain you don't bias yourself and keep playing with nubmers and convince yourself."
Ellis' company uses a 52-item checklist to derive cost estimates on its rehab projects.
In spite of the greater difficulties involved in renovating older buildings, Louisville builder Underhill has found that such work can be less expensive then new construction and just as profitable, especially with the rehab tax credits.
Other developers have found that, even when some rehab projects are more expensive than new consturction, the older properties' special charm can provide an advantage in a tight market.
Small towns interested in revitalizing their downtown areas to make them competitive with suburban shopping malls should make use of the special characteristics they offer over the newer structures, emphasized Mary Means of the National Trust. "K mart can't compete against the backdrop, the atmosphere of downtown preservation," she said.
Intent on maintaining the tax incentives that encouraged developers to choose historic rehabilitation over new construction, preservationists were dismayed earlier this year when new, substantial tax incentives became law.
Provisions included in this year's tax bill, the Tax Equity and Fiscal Responsibility Act of 1982, reduced the depreciable basis on certified historic rehab projects by one-half of the amount of the ITC taken. The amount depreciable for buildings at least 30 or 40 years old remains the same.
"To say that this rule is a disappointment to preservationists is an understatement," said Anthony. "We didn't really have the chance in Congress to make the case for historic preservation."
With this move, Congress reduced the attractiveness of rehabbing historic properties and also decreased the difference between certified and noncertified older properties. Under last year's rules, certified buildings received 15 to 20 percent more in cost recovery reductions than noncertified ones. Because of the paperwork involved in carrying out a certified historic rehab, more developers now may opt not to go through the certification process.
Anthony expressed concern that developers will avoid the standards and possibly "mutilate historic buildings" because they will not have to meet the requirements involved in a certified rehab. "We want a person to go through the process of certification and certified rehab instead of using the 20 percent ITC," he emphasized.
Anthony is hopeful this change can be reversed in next year's Congress and that further inducements for historic preservation can be built into the tax codes.
Preservationists will work for the elimination of several provisions of current legislation, he said, including the 75-percent-of-wall-area rule and the substantial rehab minimum investment requirement. They will also push for an exceptoin to allow industrial revenue bonds to be used to finance certififed historic rehab projects beyond the 1986 limit now set by Congress.
The national trust is completing work on the first national study of attitudes toward the historic preservation rehab tax incentives. Preliminary results indicate a "strong and growing interst in doing certified rehab because of the incentives," according to Anthony.
Preservationists hope the report will provide ammunition to push Congress to make the legislative changes they favor. They soon will be able to channel their support for politicians who favor historic preservation through a new political action committee, Americans for Historic Preservation. The new PAC will be separate from the national trust, which is barred from engaging in partisan political activities because of its nonprofit status.
Rehab enthusiasts realize the vital role of continued tax benefits in encouraging historic renovation. As Anthony said: "The tax tail often wags the economic dog. The tax incentives can change behavior patterns and direct money into rehab projects."