Historic Tax Credits and Opportunity Fund Investing: The Basics
The Historic Tax Credit (HTC) program is offers a federal tax credit to investors who rehabilitate and re-purpose historic buildings. To encourage investment, the program allows participants to take 20% of a project’s eligible rehab expenses as a credit against their federal income taxes. The program, which began in 1976, has been utilized for the rehabilitation of over 40,000 historic buildings. In contrast, the Opportunity Zones program offers investors a way to defer and/or reduce their capital gains tax liability by investing in properties and businesses located in Qualified Opportunity Zones (QOZs), economically disadvantaged areas certified by the U.S. Department of the Treasury. Both of these tax incentive programs can be combined to maximize investment yields, as long as investors can locate suitable historic property located within a QOZ.
How Historic Tax Credit Investing Works
Typically, the Historic Tax Credit (HTC) investor is a 99% equity investor in the LLC that owns the building. HTC investors are usually banks, and often benefit from the HTC due to the attractive rate of return. Banks or other investors typically exit these investments with a capital gain. In contrast, most larger HTC projects use a “master-tenant” structure, in which they usually exit with a capital loss. The HTC has a 5-year timeline; banks must hold onto the investment for at least 5 years or the credit will be “recaptured” by the IRS. In addition, if the property is foreclosed upon, the credits will also usually be recaptured.
To qualify for Opportunity Fund tax incentives, an investor needs to put in equal or more capital into rehabilitating a property than was used to purchase the property in the first place, which should not be particularly difficult for a full rehabilitation project for a historic structure, especially if the building is intended to rent to relatively affluent residential or commercial tenants.
In a rare case, HTCs could be combined with Low Income Housing Tax Credits (LIHTCs) in an Opportunity Zone, but this would generally be difficult, due to the fact that rehabilitations for affordable housing tend not to be as expensive, as future rental incomes would not generally support the substantial mortgage payments required.
Opportunity Zones Abound With Historic Property Investment Opportunities
In 2017, 475 out of 1035 (or 46%) of completed HTC projects were in Qualified Opportunity Zone (QOZ), and currently, out of the 462 HTC projects in progress, 266, or around 57%, are located in Opportunity Zones. This wide overlap of HTC re-development areas and Opportunity Zones means that there are likely tens of thousands of historic structures ripe for redevelopment within QOZs across the country. For example, New Orleans has a massive overlap of National Register of Historic Places Historic Districts and Opportunity Zones.