Commentary by Paul Edmondson, chief legal officer of the National Trust for Historic Preservation, and John Leith-Tetrault, president of the National Trust Community Investment Corporation. Further analysis will be provided next week.
In a recent decision by the U.S. Court of Appeals for the Third Circuit, the court refused to recognize a partnership formed for purposes of rehabilitating a historic performance arena in Atlantic City, New Jersey, a project made possible through federal historic preservation tax credits. The August 27 decision, in Commissioner of Internal Revenue v. Historic Boardwalk Hall, effectively disallowed the tax credits to the investor participating in the rehabilitation project. The case has implications not only for historic tax credit cases, but other transactions in which a developer and an investor share business and tax benefits through a partnership structure.
The National Trust participated in the appellate litigation as a friend of the court in support of the project’s investor. It is not known at this time whether the investor will appeal.
Pointing out that the historic rehabilitation tax credit itself “is not under attack,” the court rejected the use of contractual guarantees that insulated the project’s investor from all risk associated with its investment in the tax credit project, finding that partnerships must involve some sharing of the risk of loss as well as profit. The Third Circuit, however, did not offer any guidance as to what level of risk is necessary to demonstrate a bona fide partnership interest for tax credit purposes.
In reaching its decision, the court appears to have relied heavily on the conduct of a consulting firm in 1998, which promoted the transaction as a “sale” of tax credits associated with the Boardwalk Hall project. Federal historic rehabilitation tax credits are not transferable by sale, but are often passed along to commercial investors through real estate partnerships.
The federal historic rehabilitation tax credit is one of the most powerful tools not only in historic preservation, but also in providing affordable housing and spurring downtown revitalization. According to a July 2012 economic impact study
by the Rutgers University Center for Urban Policy Research, federal tax incentives for historic rehabilitation since their inception have generated 2.2 million jobs and leveraged nearly $100 billion in private investment to rehabilitate 38,000 historic properties. The program has paid for itself, generating $24.4 billion in federal taxes to more than offset the $19.5 billion credits allocated by the National Park Service.
Although the Third Circuit ruling is a disappointment to those who are engaged in historic preservation—whether as developers, investors, or local preservationists—it is important to note that many hundreds of other tax credit partnerships have passed IRS scrutiny. Moreover, the deal structure used to finance the Boardwalk Hall project is not necessarily representative of others used within the industry.
The National Trust for Historic Preservation and its tax credit investment subsidiary, the National Trust Community Investment Corporation, will be working with the Historic Tax Credit Coalition, leaders on Capitol Hill, and the U.S. Treasury to find ways to provide additional guidance to tax credit investors to help them take advantage of this important preservation incentive. In the meantime, while we recognize that investors are likely to be more cautious as a result of this decision, we are confident that, with careful planning, this key preservation tool can be maintained.