L.A. Bucks Down Trend in Rehabbing : New Tax Laws Curb Incentives in Other Parts of Nation
Historic rehabilitation projects are alive and well in Los Angeles, even though rehab work in most other major cities has fallen off dramatically.
The old Pacific Stock Exchange Building on Spring Street, St. Vincent’s Jewelry Center on Hill Street, and the Grand Central Market on Broadway are just a few of the buildings currently being renovated in downtown Los Angeles.
At least six other large structures in and around the core of the city are expected to be rehabilitated by their current owners or sold to renovators in the next few months, local real estate experts say.
Nationally, however, the number of new rehab jobs has plunged. Tax reform has made it tougher to claim tax credits for rehabbing old or historic structures, and some investors are shying away from renovation projects because their market for commercial space is already overbuilt.
Local Economy Strong
Los Angeles is apparently immune to the problems facing rehabbers in other parts of the nation for a variety of reasons. The local economy is strong, businesses are expanding, and availability of new office space is growing tighter.
The local rehab market has also gotten a boost from an unexpected source--the passage of Proposition U.
The initiative, approved by voters last November, effectively halved the amount of new office space that can be built in most parts of the city. As a result, a growing number of developers are renovating existing structures to meet demand for new office and retail space.
“It’s an interesting byproduct of the slow-growth movement,” notes Bill Delvack, a Los Angeles attorney who has worked on several historic renovation projects. “Slow growth requires us to economically reuse existing buildings.”
Also encouraging the local rehabilitation boom is the fact that a large part of downtown--including much of Broadway and Spring--is a National Register Historic District. “That designation tends to make it easier to get rehabilitation tax credits,” Delvack said.
‘Interest in Preserving’
Angelenos’ love affair with older buildings--as well as with tax write-offs--are also contributing to the boom.
“People here have a strong interest in preserving and restoring older structures,” says Stan Ross, co-managing partner of the Los Angeles-based real estate and consulting firm Kenneth Leventhal & Co. “And they also have a reputation for wanting to wring out the last drop of write-offs from any type of tax shelter.”
A growing number of developers are taking a building that previously had only one use and converting it into a mixed-use development, Ross said.
One such project is the 88-year-old Dodsworth Building at the corner of Fair Oaks Avenue and Colorado Boulevard in Pasadena.
Los Angeles-based BWC Development Co. linked the four-story Dodsworth with an adjacent two-story structure, redesigned the layout of shops and restaurants on the ground level, and renovated office space on the upper floors. The renovation cost more than $2 million.
Leased by Next Month
Tenants have flocked to the Dodsworth. “We finished the job early this year, and began looking for tenants in February,” said Terry Tornek, BWC’s director of development. “We’ll have the entire place leased up by next month.”
Rehab activity in the Northeast of the nation also remains brisk because the regional economy is strong, vacancies are low, and buildable space is hard to find.
The outlook for the rest of the country isn’t nearly as bright. Rehab work and new construction alike have slowed in most of the Southwest, South and Farm Belt because economies are soft and most markets have a glut of office and retail space.
“A lot of rehabbers are swimming upstream against overbuilding and declining demand,” says Charles Froland, vice president of research services for San Francisco-based real estate giant Grubb & Ellis Co. “And with retail spending down, there’s less incentive to convert structures into shops or restaurants.”
The drop-off is particularly apparent in St. Louis, a city that has led the nation in both commercial and residential rehab projects each year since 1981. Fewer than 400 homes are expected to be renovated in the city this year, about one-fourth the number in recent years. Commercial rehab activity has also slumped.
Nationwide, applications for the tax credits have dropped to about 140 a month from 260 a month one year ago, said Doug Dunn, vice president of Preservation Action, a Washington-based preservation group.
Surprised Some Experts
The drop-off has surprised some real estate experts. Many had predicted rehab activity would actually be boosted by tax reform because the legislation still allows investors to claim a 20% tax credit for renovating buildings considered “historic” by the National Park Service’s National Register of Historic Places division. Rehabbers of non-historic buildings erected before 1936 can qualify for a 10% credit.
The decline in new rehab deals stems largely from disincentives created by other features of the law. The maximum credit investors can take against their income has been scaled back to $7,000 a year.
The ability to take any credit at all is gradually phased out for investors with adjusted gross incomes that exceed $200,000, and is eliminated for those making more than $250,000.
Incentive Lacking
“In the past, 40% of all the investors who applied for the credits made $200,000 a year or more,” said Preservation Action’s Dunn. “Those people can’t get the rehab tax credit anymore, so they don’t have much incentive to invest in old buildings.”
The motivation behind the changes have puzzled some real estate experts, and angered others. “The credits were originally enacted so investors would take on rehab projects that otherwise wouldn’t make economic sense,” says Los Angeles attorney Delvack.
“A lot of our most cherished buildings wouldn’t have been renovated if the tax credits hadn’t been available, and a lot of others probably won’t be renovated because of the new tax law.”
Preservationists had hoped Congress would relax some of the rules concerning the credits when it began the legislative process of fine-tuning the historic tax bill earlier this year. However, Delvack said, lawmakers have so far declined to do so.
