state of the states - novogradac & company llp...state of the states moderator panelists warren...

State of the StatesMODERATOR PANELISTS

Warren SebraNovogradac & Company LLP

Andrew SparaciaglobalX

Katrina ThompsonBarnes & Thornburg LLP

Steve StogelDFC Group Inc.

Renee KuhlmanNational Trust for Historic PreservationSteve Mount

Squire Patton Boggs (U.S.) LLP

States with Tax CreditsState Historic Tax Credits (HTCs)

Indicates a Historic Tax Credit Program for that state

Legislation introduced to create an HTC Program for that state

www.novoco.com/resource-centers/historic-tax-credits

Visit our HTC Resource Center for up to date information on state Historic Tax Credit Programs

Historic Tax Credit Activity in the States

FY02-FY16 State Rankings by HTC Qualified Rehabilitation Expenditures (QREs)

State Ranking QREsMO 1 $5,092,675,463MA 2 $3,500,894,212NY 3 $3,398,655,820PA 4 $3,198,260,007VA 5 $3,150,292,726IL 6 $2,822,203,751

OH 7 $2,490,798,983CA 8 $2,340,730,545LA 9 $2,151,478,178MI 10 $1,838,059,365

FY02-FY16 State Rankings by # of Projects

State Ranking # of projects

MO 1 1438

VA 2 1286

OH 3 982

LA 4 782

NC 5 653

PA 6 613

MD 7 505

NY 8 491

MA 9 452

GA 10 410

Historic Tax Credit Activity in the CitiesFY02-FY16 City Rankings by HTC Qualified Rehabilitation

Expenditures (QREs)State City Ranking Project #s QREs

MO St. Louis 1 900 $3,156,015,506IL Chicago 2 90 $2,476,742,452

NY New York 3 116 $2,069,019,977PA Philadelphia 4 304 $2,007,855,954LA New Orleans 5 655 $1,908,222,608VA Richmond 6 692 $1,661,257,557

MD Baltimore 7 409 $1,486,977,275OH Cleveland 8 178 $1,357,611,796MA Boston 9 136 $1,272,504,617MO Kansas City 10 181 $1,265,066,165

FY02-FY16 City Rankings by # of ProjectsState City Ranking Project #s QREs

MO St. Louis 1 900 $3,156,015,506VA Richmond 2 692 $1,661,257,557LA New Orleans 3 655 $1,908,222,608

MD Baltimore 4 409 $1,486,977,275OH Columbus 5 341 $164,415,635PA Philadelphia 6 304 $2,007,855,954OH Cincinnati 7 288 $437,092,927MO Kansas City 8 181 $1,265,066,165OH Cleveland 9 178 $1,357,611,796GA Savannah 10 148 $77,883,421

Elements of State Tax Credit Programs

Caps Transferability Rate

Eligible Claimants

Rehabilitation Standards

Minimum investment

Elements of State Tax Credit Programs

• Annual Aggregate Cap• Individual Aggregate Cap

Caps

• Outright sale• Disproportionate allocation• Refundable• Carry-back

Transferability

• Percentage of QREs (typically ranges from 5-30%)• Scope of eligible buildings (commercial and residential)• Specified standards (NPS; ties to federal credit requirements)• Range of eligible claimants

Rate and Eligibility

Tax Credit Deal Structure

Structure Considerations• Transaction Cost Efficiency

• Transaction Simplicity/Complexity

• Rev Proc. Compliance

• Tax/COD Issues at Exit

– Leveraged HTC equity goes to the project in form of an NMTC loan

• Control Issue

Structure Considerations• Potential Leverage Sources

– Need for 7 year forbearance, no direct lien on project’s assets

• True debt analysis

– Project needs to show ability to repay all “debt”

• Leveraging market rate vs soft debt

– Refinancing assumptions for market rate debt

– Potential longer repayment terms for soft debt

Georgia Rehab Tax Credit• Annual State Cap-$25 million cap on credits allocated to projects receiving more than $300,000 in credits.

Applications received that breach this cap are given priority in following year.

• Transaction Cap-$5 million. $10 million in cases where a project creates 200 or more full-time, permanent jobs or $5 million in annual payroll within two years of the placed in service date. $100,000 cap on credits received for rehabilitation of historic homes.

• Credit-25% of qualified expenditures

• No Bifurcation from the federal HTC

• Compliance period-5 years

• Credit may be carried forward 10 years

• Application-Apply for the state credit and federal credit separately. Before claiming credits, taxpayer must submit an application to the Georgia Department of Revenue for preapproval of credits. This application must include precertification from the Georgia Department of Natural Resources certifying that improvements to the certified structure are consistent with the department’s standards of rehabilitation. Qualified rehabilitation expenditures may only be counted once in determining the amount of tax credits, and only one entity may claim credits for qualified rehabilitation expenditures associated with an individual project.

Federal Income Tax Treatment of State Tax Credits

• Transferable credits used by purchaser for value

• Transferable credits used by qualifying party

• Non-transferable credits (also know as “allocable credits”)

Transferable Credits Used by Purchaser for Value

• Seller of credit has ordinary income equal to purchase price (due to zero basis). [CCA 200211042]

• Purchaser has income to extent that amount of state tax offset exceeds purchase price. [Code §61]

• Purchaser is entitled to deduction under Code §164. [PLR 200348002; CCA 200445046]

Non-Transferable Credits (or Transferable Credits Used by Qualifying Party)

• No income on receipt or use, except to extent of refund received for refundable credits. [Rev. Rul. 79-315; CCA 200211042; CCA 200451041]

• No deduction under Code §164. [CCA 200211042; CCA 200451041]

• Allocation of credits to owners of pass-through entity should not be treated as a transfer of credits.

CCA 200704030• “Allocation” of nontransferable credit recharacterized as transfer

for value.

• Investors held not to be true partners for federal tax purposes.

• Transfer deemed to be a disguised sale of credit under Code §707(a)(2)(B).

Virginia Historic Tax Credit Fund 2001 LP v. Commissioner and Progeny

Virginia Historic Tax Credit Fund 2001 LP v. Commissioner

• Virginia Historic Tax Credit Fund 2001 LP v. Commissioner is an important case concerning federal tax consequences of state tax credit transactions

• This case was decided by the Federal Appeals Court for the Fourth Circuit (Virginia, West Virginia, North Carolina, South Carolina and Maryland) on March 29, 2011

• Three subsequent cases have dealt with the same subject matter


• This case concerns the federal income tax treatment of certain aspects of a state credit transaction

• What does federal tax law have to do with state tax credits?

• State law controls the requirements for qualifying for the credit and the manner of using it.

• Federal tax law applies to the cash contributions

Fund

Developer Partnership

282 Investors$6.99m Capital Contribution

1%

May 2002$7,000 option

payment

Nov. 2001- May 2002

$5.13m Capital Contribution

0.01%

$9.2m credits


• The IRS challenged the federal tax treatment of the capital contributions to the upper tier Fund

• There were two prongs to the attack:– The state credit investors were not bona fide partners in the Fund

– The contribution of money and related allocation of state credits was a “disguised sale” under Internal Revenue Code section 707


• The Circuit Court did not discuss the Commissioner’s first argument, i.e., that the investors were not bona fide partners

• Instead, it found that the “capital contributions” by the investors and the related receipt of state tax credits were “disguised sales” pursuant to Code Section 707


• Code Section 707(a)(2)(B) provides that:– If there is a transfer of money to a partnership by a partner

– There is a related transfer of property by the partnership to the partner, and

– The transfers when viewed together are properly characterized as a sale of property,

• Then the IRS can re-characterize the payment and related transfer of property as a sale


• Treas. Reg. sec. 1.707-3 provides a standard for determining if a sale occurred, viz.,– The transfer of money would not have been made but for the transfer of

property, and

– In cases where the transfers are not simultaneous, the subsequent transfer is not dependent on the entrepreneurial risks of partnership operations

• There is a rebuttable presumption that transfers within two years of each other are sales


• The regulations list ten factors that indicate if a sale occurred. The Court discussed the following factors it deemed to be potentially applicable to this fact pattern:

– The timing and amount of the subsequent transfer are determinable at the time of the earlier transfer

– The transferor has a legally enforceable right to the subsequent transfer

– The partner’s right to receive the property is secured in any manner

– The transfer of money is disproportionately large in relationship to the partner’s general interest in partnership profits

– The partner has no obligation to return the property to the partnership


• The disguised sale rules would not apply unless the state tax credits were “property”

• The Court found that the state credits were “property” based on an analysis of traditional definitions


• The Court considered the factors listed above, and concluded that a disguised sale had occurred

• The Fund therefore had taxable income


• The Virginia Historic Tax Credit case has been followed by three subsequent cases:– Tempel v. Comm'r , 136 T.C. 341 (2011), aff'd sub nom. Esgar Corp.

v. Comm'r, 744 F.3d 648 (10th Cir. 2014)

– Route 231, LLC v. Comm'r, 810 F.3d 247 (4th Cir. 2016))

State Tax Credit Purchasers/Investors

Not all state historic rehabilitation tax credits are created equal:

1. Transferability– Certificates

– Allocated

– Refundable

2. Recapture– Developer or End User

3. Carry Forward

Pricing• Certificate vs. Allocated

• $.80’s vs. $.70’s

Terms• Certificate vs. Allocated

• Pay in schedule

• Closing costs

• Due diligence

Types of Investors• Corporate vs. Individuals

• Direct Buyers vs. Investor Funds

Types of Income That is Offset• Income Tax

• Premium Tax

• Franchise Tax

• Bank Tax

Federal Investor vs. State Purchase/Investor

• Income Allocation

• Underwriting Issues

• Credit Underwriting

Key Legal CitationsRevenue Procedure 2012-14

Three times the Revenue Procedure made note of state tax credits:

i. This Revenue Procedure does “not apply to . . . state credit transactions.”

ii. "It does not indicate the circumstances under which the Service may challenge....the circumstances under which a transfer of state credits by a partnership may be treated as a disguised sale...."

iii. "The Treasury Department and Service do not intend the inclusion of any particular criteria in the Safe Harbor to be an indication . . . of our views of the significance of that criterion with respect to any . . . state tax credit transactions..”

Issued late 2013, and amended early 2014, to provide a “safe harbor” for partner status

Negotiation with Treasury and IRS were done by the Historic Tax Credit Coalition.

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Key Legal Citations (Continued)Gateway Hotel Partners, LLC v. Commissioner, TC Memo 2014-5

Final decision just entered. The structure the MO HTC certificate was a distribution ofproperty against a GP capital account. Partial win for the taxpayer.

Route 231 LLC v. Commissioner TC Memo 2014-30 Held the VA conservation tax credits, transferable as allocations, were property, and a “disguised sale” occurred.

Tempel v. Commissioner, 10th Circuit, 2014Upheld the IRS that Colorado easement tax credits were taxable on property with zero basis on the date of the gift.

SWF Real Estate, LLC, TC Memo 2015-63Held the VA Conservation Credits were a disguised sale, and year of realization was the year the credit documents were recorded and funded, not the next calendar year when the certificates were issued under economic benefit test.

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Emerging Legal PrinciplesTax Principles Emerging

State Tax Credits have a Federal Tax Incidence

Income Realization by the Development Partnership or a Partner must follow

Special Allocation of Income under 702

The total gain needs to be 100 cents as state tax credits have a zero basis

The 704(b) Rules apply

No Loser Rule

Year of Realization

HTCs received over multiple years

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State of the StatesMODERATOR PANELISTS

Warren SebraNovogradac & Company LLP

Andrew SparaciaglobalX

Katrina ThompsonBarnes & Thornburg LLP

Steve StogelDFC Group Inc.

Renee KuhlmanNational Trust for Historic PreservationSteve Mount

Squire Patton Boggs (U.S.) LLP

state of the states - novogradac & company llp...state of the states moderator panelists warren...

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