The COVID pandemic hasn’t stopped the U.S. House of Representatives from trying to pass legislation. You have probably heard of the Moving Forward Act (MFA), a bill passed by the House that contains a huge collection of infrastructure and tax legislation. As of now, the MFA is stalled in the Senate, so it’s too early to say whether all, or even any of it, will become law. However, since an important tax component is several significant amendments to the Historic Tax Credit (HTC), we wanted you to be aware of the proposal.
Of course, several of the bill’s HTC provisions have been proposed previously, but as a member of the Historic Tax Credit Coalition’s team that drafted and then negotiated these provisions with the House’s tax-writing committee, I can say that I was impressed with the enthusiasm shown for the proposals in the current iteration.
Here are the seven proposed changes to the HTC included in the Moving Forward Act.
Increase in the HTC
The bill increases the HTC percentage to 30 percent for 2020 through 2024. The credit percentage is reduced to 26 percent in 2025, 23 percent in 2026, and back to the pre-bill 20 percent rate in 2027 and thereafter. We had several conversations with the tax writers about how best to define the period that would be eligible for the higher rate. We had originally suggested that the higher rate apply to qualified rehabilitation expenditures (QREs) incurred in the 2020–2024 period. The tax writers first proposed that the new rate apply to credits “determined in” the applicable years, which most likely would have applied to when a facility was placed in service and have provided a windfall to pre-2019 expenditures and a fall-off-the-cliff reduction for buildings rehabilitated through 2024, but placed in service in 2025 or later. However, they settled on “shall apply to taxable years beginning after December 31, 2019,” which may leave developers and investors wondering just what is covered by the new rate. Does it apply to QREs incurred? Or buildings placed in service? Or something else?
Special rate for certain small projects
There will be a 30 percent credit for certain smaller projects. The increased small project credit would cap eligible QREs at $2.5 million (i.e., $750,000 in credits), and would be claimed at the election of the taxpayer. This section applies to taxable years beginning after December 31, 2019, but unlike the temporary increase in the “big” HTC, this is a permanent rate increase for these smaller projects. The election became appropriate because the phase-down of the big HTC from 30% back to 20% can create a gap where the big credit is a better choice, even if it is at a lower rate than 30%.
Modified definition of substantially rehabilitated
The minimum required expenditure to qualify for the HTC is reduced to 50% of adjusted basis (down from the pre-bill 100% requirement). Obviously, this is a significant modification that should enable more projects to qualify for the credit. This section applies to 24- and 60-month periods that begin after 2019, meaning that some projects may prefer to rely on significant expenditures incurred in testing periods that began before 2020.
Temporary extension of period for completing rehabilitation
The 24-month and 60-month testing periods, for demonstrating that the required rehabilitation expenditures have been made, are extended by 12 months. This provision was written to help projects delayed by COVID-19, and applies to testing periods that include March 13, 2020, determined without regard to such amendment.
Eliminate the basis adjustment
The amount of the HTC would no longer be deducted from a building’s basis. Similarly, there would be no 50(d) income for two-tiered transactions. This section applies to taxable years beginning after the date of enactment. Of course, some investment credits (e.g., the Low-Income Housing Tax Credit; LIHTC) do not have basis adjustments, while others (e.g., the several renewable ITCs) have a 50% basis adjustment. This change was suggested to counterbalance the detrimental effect of the recent change that requires the HTC to be claimed over five years, instead of all at once, as used to be the rule. In any case, eliminating the basis reduction would make it far easier to do joint LIHTC-HTC transactions. Currently, if joint LIHTC-HTC transactions are done at all, they hardly benefit from the HTC because the basis reduction reduces the LIHTC in many cases. Alternatively, some sponsors structure these transactions as lease pass-throughs (with a landlord-tenant structure), but this adds significant complexity to the transaction, thereby reducing the interest of some investors.
Tax-exempt use property
The disqualified lease rules would be substantially eased, making the HTC available to many tax-exempt projects, such as museums, theaters, and non-governmental colleges and universities. This is a long-standing request from the tax-equity community. As a result of this change, the following would no longer be a problem: many purchase options held by the tax-exempt, leases in excess of 20 years, leases where the tax-exempt is a former user of the building, and leases in buildings that use tax-exempt financing. Presumably, purchase options would continue to be scrutinized under the more-general rules that assure that an option holder is not the real owner of the building. For example, it seems unlikely that this change would allow a tax-exempt to hold a bargain purchase option. This provision would apply to leases entered into after enactment.
Qualification for public school buildings
Public school buildings that have been used as public schools within the past five years would not be considered tax-exempt use property. This section does not come with an effective date, but it does call for a report from the Treasury on the effect of the section no more than five years after enactment.
As you can see, the provisions in the House-passed version of the MFA could be quite significant. Still, with the current posturing between the two houses of Congress, it remains to be seen whether these provisions will actually become law. We’ll be paying close attention; expect another alert if the House-passed version makes any progress.