Reg. § 1.48-11 Qualified rehabilitated building; expenditures incurred before January 1, 1982.
(a) In general Under section , that portion of the basis of a qualified rehabilitated building which is attributable to qualified rehabilitation expenditures qualifies as section property. In general, property which is treated as section property by reason of section is treated as new section property and therefore is not subject to the used property limitation. See . Section and of this section define the term “qualified rehabilitated building”. Section and of this section define the term “qualified rehabilitation expenditure”. of this section provides guidance for coordination of these provisions with other sections of the Code.
(b) Definition of qualified rehabilitated building
(1) In general The term “qualified rehabilitated building” means any building and its structural components—
(i) Which has been rehabilitated (within the meaning of of this section),
(ii) Which was placed in service (within the meaning of ) by any person at any time before the beginning of the rehabilitation,
(iii) 75 percent or more of the existing external walls of which are retained in place as external walls (within the meaning of of this section) in the rehabilitation process, and
(iv) Which meets the twenty-year requirement in of this section.
In addition, a major portion of a building may be treated as a separate building for purposes of this paragraph if the requirements of of this section are met.
(2) Twenty-year requirement
(i) In general A building is considered a qualified rehabilitated building only if a period of at least 20 years has elapsed between the date physical work on the rehabilitation of the building began, and the later of—
(A) The date the building was first placed in service (see ) by any person as a building, or
(B) The date the building was placed in service by any taxpayer in connection with a prior rehabilitation with respect to which a credit was allowed by reason of section .
(ii) Vacant periods The 20-year period includes periods during which a building was vacant or devoted to a personal use and is computed without regard to the number of owners or the identity of owners during the period.
(iii) Physical work on a rehabilitation For purposes of this section, “physical work on a rehabilitation” begins when actual construction begins. The term “physical work on a rehabilitation” does not include preliminary activities such as planning, designing, securing financing, exploring, researching, developing plans and specifications, or stabilizing a building to prevent deterioration (e.g., placing boards over broken windows).
(iv) Special rule If a part of a building meets the twenty-years requirement in subdivision (i) of this subparagraph and a part (for example, an addition) does not, a rehabilitation of that part that meets the requirement may qualify for a credit only if that part constitutes a major portion (as defined in of this section) of the building.
(3) Rehabilitation
(i) In general For purposes of this paragraph, rehabilitation includes renovation, restoration, or reconstruction. However, the term “rehabilitation” does not include enlargement (within the meaning of of this section), new construction, or the completion of new construction after a building has been placed in service. For purposes of this , whether expenditures are attributable to the rehabilitation of an existing building, or to new construction, is determined upon all the facts and circumstances.
(ii) Substantial rehabilitation For a building to be considered rehabilitated, the rehabilitation must be substantial. Whether a rehabilitation is substantial is determined upon the basis of all the facts and circumstances. In general, to be substantial, the rehabilitation must do one of the following:
(A) Materially extend the useful life of the building;
(B) Significantly upgrade its usefulness (for either the same or a new use); or
(C) Preserve it in a way that significantly improves its condition or enhances its historic value.
A substantial rehabilitation may vary in degree from gutting and extensive reconstruction of a building's major structural components to the cure of a substantial accumulation of major disrepairs. It may also include renovation, alteration, or remodelling for the conversion of a structurally sound building to a design and condition required for a new use. Cosmetic improvements alone, however, do not qualify as a substantial rehabilitation.
(iii) Aggregation of rehabilitation In the case where qualified rehabilitation expenditures are incurred with respect to a rehabilitation of a building by more than one person (e.g., a lessor and a lessee, several lessees, or several condominium owners), the substantial rehabilitation requirement in this shall be applied by aggregating all the rehabilitation work done by such persons.
(iv) Special rule by qualified rehabilitation expenditures treated as incurred by the taxpayer In the case where qualified rehabilitation expenditures are treated as having been incurred by a taxpayer because of the application of of this section, the substantial rehabilitation test in of this section will be applied by aggregating the rehabilitation work done by the transferor and the transferee.
(v) Examples The provisions of this subparagraph (3) may be illustrated by the following examples:
Example 1. Taxpayer A is the owner of a 30-year old building. The building is air conditioned by means of window air conditioning units. A replaces the window units with a central air conditioning system and no other rehabilitation is performed by A. The expenditures incurred by A did not materially extend the building's useful life, significantly upgrade its usefulness, or preserve it in a manner that significantly improves its condition or enhances its historic value. Although expenditures for replacement of window units with a central air conditioning system may constitute qualified expenditures as part of an overall rehabilitation, alone they do not qualify as a substantial rehabilitation and the building is not considered rehabilitated within the meaning of this subparagraph.
Example 2. Taxpayer B is the owner of a 10 story office building that is 35 years old. The building is in substantial disrepair and in order to modernize it as an office building B installs new plumbing, electrical wiring, and heating and air conditioning systems. In addition, the layout of each floor is changed by means of tearing down many existing interior walls and partitions and building new walls, partitions, and doors. Old plaster is removed from many walls and replaced by new wall covering. New windows and new flooring are installed throughout the building. The improvements made by B materially extend the useful life of the building and significantly upgrade its usefulness. The building is considered rehabilitated within the meaning of the facts and circumstances test in this subparagraph.
Example 3. Taxpayer C is the owner of a 100-year old building that has substantial historic character, although the building is not a certified historic structure (as defined in section and the regulations thereunder). C uncovers and restores the original woodwork, wall coverings and moldings throughout the building. The windows and doors are replaced with replicas of the original. The improvements made by C significantly preserve the building and significantly enhance its historic value. Thus, the building is considered rehabilitated within the meaning of this subparagraph.
(4) Retention of 75 percent of external walls
(i) In general A building meets the requirements set forth in paragraph (b)(1)(iii) only if 75 percent or more of the existing external walls (as measured by the total area of the existing external walls) are retained in place as external walls in the rehabilitation process. For this purpose, the area of existing external walls includes the area of windows and doors.
(ii) External wall For purposes of this , a wall includes both the supporting elements of the wall and the nonsupporting elements (e.g., a curtain) of the wall. Except as otherwise provided in this , the term “external wall” includes any wall that has one face exposed to the weather, earth, or an abutting wall erected on an adjacent property. An external wall also includes a shared wall (i.e., a single wall shared with an adjacent building), generally referred to as a “party wall”.
(iii) Alternative rule Notwithstanding the definition of external wall contained in of this section, in any case in which the building being rehabilitated would fail to meet the requirements of a qualified rehabilitation building if the definition of external wall in of this section were used, then the term “external wall” shall be defined as a wall, including its supporting elements, with one face exposed to the weather or earth, and a common wall shall not be treated as an external wall.
(iv) Retained in place An existing external wall is retained in place if the supporting elements of the wall are retained in place. An existing external wall is not retained in place if the supporting elements of the wall are replaced by new supporting elements. An external wall is retained in place, however, if the supporting elements are reinforced in the rehabilitation, provided that such supporting elements of the external wall are retained in place. An external wall is retained in place even though it is covered (e.g., with new siding). Moreover, the existing curtain may be replaced with a new curtain provided that the structural framework that provides for the support of the existing curtain is retained in place. An external wall is retained in place notwithstanding that the existing doors and windows in the wall are modified, eliminated, or replaced. A wall may be disassembled and reassembled so long as the same supporting elements are used when the wall is reassembled. Thus, for example, in the case of the brick wall, the wall is considered retained in place even though the original bricks are removed (for cleaning, etc.) and put back to form the wall.
(v) Retention as an external wall For purposes of meeting the 75 percent requirement of this subparagraph (4), an existing external wall must be retained in place as an external wall. If an addition is made that results in an existing external wall being converted into an internal wall, the wall is not retained in place as an external wall.
(vi) Special rule Solely for the purpose of meeting the 75 percent requirement of this subparagraph (4), the walls of an uncovered internal shaft designed solely to bring light or air into the center of a building which are completely surrounded by external walls of the building and which enclose space not designated for occupancy or other use by people (other than for maintenance or emergency) are not considered external walls. Thus, a wall of a light well in the center of an office building is not an external wall. However, walls surrounding an uncovered courtyard which is usable by the building's occupants, (e.g., at lunch time) are external walls.
(vii) Examples The provisions of this subparagraph (4) may be illustrated by the following examples:
Example 1. Taxpayer A rehabilitated a building all of the walls of which consisted of wood siding attached to gypsum board sheets (which covered the studs). A covered the existing wood siding with aluminum siding in a part of a rehabilitation that otherwise qualified under this subparagraph. A satisfied the requirement that 75 percent of the existing external walls must be retained in place as external walls.
Example 2. Taxpayer B rehabilitated a building the external walls of which had a masonry curtain. The masonry on the wall face was replaced with a glass curtain. The steel beam and girders supporting the existing curtain were retained in place. B satisfied the requirement that 75 percent of the existing external walls must be retained in place as external walls.
Example 3. Taxpayer C rehabilitated a building which has two external walls measuring 75′ × 20′ and two other external walls measuring 100′ × 20′. C tore down one of the larger walls, including its supporting elements, which accounted for more than 25% of the building's external walls and constructed a new wall. C has not satisfied the requirement that 75 percent of the existing external walls must be retained in place as external walls.
Example 4. The facts are the same as in example 3, except C does not tear down any walls, but makes an addition that results in one of the smaller walls becoming an internal wall. In addition, C enlarged 8 of the existing windows on the larger walls, increasing them from a size of 3′ × 4′ to 6′ × 8′. Since the smaller wall accounts for less than 25 percent of the total wall area, C has satisfied the requirement that 75 percent of the existing external walls must be retained in place as external walls in the rehabilitation process. The enlargement of the existing windows on the larger wall does not change the result.
(5) Major portion treated as separate building
(i) In general Where there is a separate rehabilitation of a major portion of a building, such major portion shall be treated as a separate building. Thus, such major portion may qualify as a qualified rehabilitated building if the requirements of this paragraph are met with respect to such major portion. Expenditures for property that services both a major portion of a building and another portion must be specifically allocated to each portion to the extent possible. If it is not possible to make such an allocation, the expenditures must be allocated to each portion on some reasonable basis. What constitutes a reasonable basis for an allocation depends on factors such as the type of improvement and how the improvement relates functionally to the building. For example, in the case of expenditures for an air conditioning system or a roof, a reasonable basis for allocating the expenditures would be the volume of the major portion served by the improvement relative to the volume of the other portion of the building served by the improvement.
(ii) Major portion defined Whether a part of a building constitutes a major portion of the building is determined upon the basis of all the facts and circumstances. A major portion must generally consist of clearly identifiable parts of a building (e.g., a wing of a building or the first 5 stories of a 7 story building). The following factors shall be taken into account:
(A) Whether the portion comprises an entire leasehold interest or an entire ownership (e.g., condominium) interest;
(B) Whether the portion (as measured by volume) is sufficiently large that it would be reasonable to treat it as a separate building; and
(C) Whether the portion is functionally different from other parts of the building.
(6) Special rule for rehabilitation done in phases If rehabilitation which is not continuous is determined under this subparagraph to be a single rehabilitation done in phases, the requirements of this are to be applied with respect to the overall rehabilitation and not merely to a phase of the rehabilitation. In such case, a phase of a single overall rehabilitation will not be considered as “prior rehabilitation” for purposes of subparagraph (2)(i)(B) of this . Whether rehabilitation which is not continuous is a single rehabilitation that is done in phases is determined on the basis of all the facts and circumstances. Generally, however, to constitute a single rehabilitation that is done in phases, there must exist, prior to the time any rehabilitation work is commenced, a set of written plans describing generally all phases of the rehabilitation of the building and a reasonable expectation that all phases of the rehabilitation will be completed. Such written plans are not required to contain detailed working drawings or detailed specifications of the material to be used. In addition, the period between the time that physical work on the first phase of the overall rehabilitation begins and physical work on the last phase of the overall rehabilitation begins must be reasonable. In determining whether the rehabilitation is completed within a reasonable time, the fact that a building is occupied during the rehabilitation, the necessity of acquiring a lease (of additional portions of the building), and unforeseen delays shall be taken into account. Other factors that are relevant in determining whether rehabilitation is a single rehabilitation include the length of time between each phase of rehabilitation activities and the extent of rehabilitation activity in each phase.
(7) Special rule for adjoining buildings that are combined For purposes of this , if as part of a rehabilitation process two or more adjoining buildings are combined and placed in service as a single building after the rehabilitation process, then all of the requirements of a qualified rehabilitated building in section and this section may be applied to the constituent adjoining buildings in the aggregate. Any party walls or abutting walls between the constitutent buildings that would otherwise be treated as external walls (within the meaning of of this section) would not be treated as external walls of the building; the substantial rehabilitation test in of this section would be applied to the aggregate rehabilitation work with respect to all of the constitutent buildings.
(c) Definition of qualified rehabilitation expenditures
(1) In general Except as provided in subparagraph (2) of this paragraph, the term “qualified rehabilitation expenditure” means any amount—
(i) Properly chargeable to capital account (as described in subparagraph (2) of this paragraph),
(ii) Incurred after October 31, 1978, for depreciable or amortizable property (or additions or improvements to property) with a useful life of five years or more, and
(iii) Made in connection with the rehabilitation of a qualified rehabilitated building.
(2) Chargeable to capital account For purposes of of this section, amounts paid or incurred are chargeable to capital account if under the taxpayer's method of accounting they are property includible in computing basis under . Amounts treated as an expense and deducted in the year they are paid or incurred are not chargeable to capital account.
(3) Incurred by the taxpayer
(i) In general Generally, to qualify for a credit under section (a)(1)(E), qualified rehabilitation expenditures must be incurred by the taxpayer after October 31, 1978. An expenditure is incurred for purposes of this paragraph on the date such expenditure would be considered incurred under the accrual method of accounting, regardless of the method of accounting used by the taxpayer with respect to other items of income and expense. If qualified rehabilitation expenditures are treated as having been incurred by a taxpayer under paragraph (c)(3)(ii)) of this section, the taxpayer shall be treated as having incurred the expenditures on the date such expenditures were incurred by the transferor.
(ii) Qualified rehabilitation expenditures treated as incurred by the taxpayer
(A) Where rehabilitation expenditures are incurred with respect to a building by a person (or persons) other than the taxpayer and the taxpayer acquires the building, or a portion of the building to which the expenditures are allocable, the taxpayer acquiring such property will be treated as having incurred the rehabilitation expenditures actually incurred by the transferor (or treated as incurred by the transferor under this ) with respect to the acquired property, provided that—
(1) The building, or the portion of the building, acquired by the taxpayer was not used after the rehabilitation expenditures were incurred and prior to the date of acquisition by the taxpayer, and
(2) No credit with respect to such qualified rehabilitation expenditures is claimed by anyone other than the taxpayer acquiring the property.
For purposes of this , use shall mean actual use, whether personal or business.
(B) The amount of qualified rehabilitation expenditures treated as incurred by the taxpayer under this paragraph is the lesser of—
(1) The qualified rehabilitation expenditures incurred before the date on which the taxpayer acquired the building (or portion thereof), to which the expenditures are attributable, or
(2) That portion of the taxpayer's cost or other basis for the property which is attributable to the qualified rehabilitation expenditures described in of this section incurred before such date.
For purposes of of this section, the amount of rehabilitation expenditures treated as incurred by the taxpayer under this shall not be considered to be part of the cost of acquiring a building or any interest in the building. The portion of the cost of acquiring a building (or an interest therein) which is not treated under this paragraph as qualified rehabilitation expenditures incurred by the taxpayer is not eligible for a rehabilitation investment credit. See of this section.
(C) See of this section for rules concerning the application of the substantial rehabilitation test to expenditures treated as incurred by the taxpayer.
(iii) Examples The provisions of this subparagraph may be illustrated by the following examples:
Example 1. In 1978, taxpayer A, a cash basis taxpayer, commenced the rehabilitation of a 30-year old building. In June 1978, A signed contract with a plumbing contractor for replacement of the plumbing in the building. A agreed to pay the contractor as soon as the work was completed. The work was completed in September 1978, but A did not pay the amount due until November 1, 1978. The expenditures for the plumbing are not qualified rehabilitation expenditures because they were not incurred after October 31, 1978.
Example 2. B incurred qualified rehabilitation expenditures of $300,000 with respect to an existing building between January 1, 1980, and May 15, 1980, and then sold the building to C on June 1, 1980. If the property attributable to the expenditures was not placed in service by A during the period from January 1, 1980, to June 1, 1980, C will be treated as having incurred the expenditures.
(4) Incurred for 5-year property An expenditure is incurred for depreciable or amortizable property if the amount of the expenditure is added to the basis of property which is depreciable or amortizable under section . The determination of whether property has a useful life of five years or more is made by applying the principles of . In the case of expenditures for property made by a lessee, see sections and and the regulations thereunder for rules relating to whether improvements made to leased property are depreciable or amortizable.
(5) Made in connection with the rehabilitation of a qualified rehabilitated building Expenditures attributable to work done to facilities related to a building (e.g., sidewalk, parking lot, landscaping) are not considered made in connection with a rehabilitation of a qualified rehabilitated building.
(6) Certain expenditures excluded from qualified rehabilitation expenditures The term “qualified rehabilitation expenditures” does not include the following expenditures:
(i) An expenditure for property which is “section property” (determined without regard to section (E) and (l)).
(ii) The cost of acquiring a building or any interest in a building (including a leasehold interest) except as provided in of this section.
(iii) An expenditure attributable to enlargement of a building (as defined in of this section).
(iv) An expenditure attributable to rehabilitation of a certified historic structure (as defined in section and the regulations thereunder), unless the rehabilitation is a certified rehabilitation (as defined in of this section).
(7) Expenditures for enlargement distinguished
(i) In general Expenditures attributable to an enlargement of an existing building do not qualify as qualified rehabilitated expenditures. A building is enlarged to the extent that the total volume of the building is increased. An increase in floor space resulting from interior remodeling is not considred an enlargement. Generally, the total volume of a building is equal to the product of the floor area of the base of the building and the height from the underside of the lowest floor (including the basement) to the average height of the finished roof (as it exists or existed). For this purpose, floor area is measured from the exterior faces of external walls (other than shared walls that are external walls) and from the centerline of shared walls that are external walls. In addition, a building is enlarged to the extent of any construction outside the exterior faces of the existing external wall of the building.
(ii) Rehabilitation which includes enlargement If expenditures for property only partially qualify as qualified rehabilitation expenditures because some of the expenditures are also attributable to the enlargement of the building, the expenditures must be apportioned between the original portion of the building and the enlargement. This allocation should be made using the principles contained in of this section.
(8) Certified rehabilitation
(i) In general For the purpose of this of this section, the term “certified rehabilitation” means any rehabilitation of a certified historic building in a registered historic district which the Secretary of the Interior has certified to the Secretary as being consistent with the historic character of such building or the district in which such building is located.
(ii) Revoked or invalidated certifications If the Department of Interior revokes or otherwise invalidates a certification after it has been provided to a taxpayer, the decertified property will cease to be section property described in section . Such cessation shall be effective as of the date the activity giving rise to the revocation or invalidation occurred. See section for the rules applicable to property that ceases to be section property.
(d) Coordination with other provisions of the Code
(1) Credit by lessees
(i) Rehabilitation performed by lessor A lessee may take the credit for rehabilitation performed by the lessor if the requirements of this section and section are satisfied. For purposes of applying section , the fair market value of section property described in section shall be equal to that portion of the lessor's basis in a qualified rehabilitated building that is attributable to qualified rehabilitation expenditures.
(ii) Rehabilitation performed by lessee A lessee may take the credit for rehabilitation performed by the lessee, provided that the property (or improvements or additions to property) for which the rehabilitation expenditures are made is depreciable (or amortizable) by the lessee (see sections and , and the regulations thereunder) and the requirements of this section are satisfied.
(2) When credit may be claimed The investment credit for qualified rehabilitation expenditures is allowed generally in the taxable year in which the property to which the rehabilitation expenditures is attributable is placed in service, provided the building is a qualified rehabilitated building for the taxable year. See . Under certain circumstances, however, the credit may be available prior to the date the property is placed in service. See section and (relating to qualified progress expenditures).
(3) Recapture If property described in section is disposed of by the taxpayer, or otherwise ceases to be “section property,” recapture may result under section . Property will cease to be section property, and therefore recapture may occur under section , in any case where the Department of Interior revokes or otherwise invalidates a certification of rehabilitation (see section ) after the property is placed in service because, for example, the taxpayer made modifications to the building inconsistent with Department of Interior standards.
(e) Effective date
(1) General rule Except as provided in of this section, this shall not apply to expenditures incurred after December 31, 1981.
(2) Transitional rule This shall continue to apply to expenditures incurred after December 31, 1981, for the rehabilitation of a building if—
(i) The physical work on the rehabilitation began before January 1, 1982, and
(ii) The building does not meet the requirements of section 48(g)(1) of the Code as amended by the Economic Recovery Tax Act of 1981.
[T.D. 8031, 50 FR 26698, June 28, 1985]