Adaptive reuse is more than refreshing a dated mall or finding new tenants for an office building. It involves adapting an existing building for an entirely different purpose than for which it was originally intended. For example, think of converting an industrial building to mixed use, an office building to a hotel, a meatpacking facility to a restaurant or an old distribution warehouse to loft space.

With the shrinking supply of undeveloped land and changes in technology, demographics and lifestyle, adaptive reuse has become a popular choice, especially in metropolitan areas. It allows a structure to retain its historic essence while serving a new practical purpose within its community. 

Municipalities are increasingly open to the concept because of lost sales and property tax revenue caused by these trends. Some have developed incentive programs that have less stringent requirements for building code, zoning, density, parking and accessibility.

In addition, historic buildings are appealing to potential tenants as they may be eligible for the Federal Historic Tax Credit (HTC).

To qualify for the HTC, a building generally must: 

• Have been substantially rehabilitated;
• Placed in service before the rehab began;
• Be a certified historic structure; and
• Be allowed to be depreciated (or amortized in lieu of depreciation).

With respect to the credit, “substantially” means that within the applicable period, typically 24 months, although possibly 60 months (for phased rehabs), the qualified rehab costs exceed the greater of the building’s adjusted basis, or $5,000. The adjusted basis is determined as of the beginning of the first day of the 24-month period, or the holding period of the building, whichever is later.

It is also worth noting that qualified rehabilitation expenditures do not include the cost of acquiring any building or any amounts attributable to the enlargement of an existing building.

If qualified, the HTC program provides credits equal to 20% of qualified rehabilitation expenditures, which owners can use to offset federal tax liability prorated over five years. Some states also offer their own version of historic tax credits.

Factors to weigh

Not every existing property makes a strong candidate for adaptive reuse. Typically, projects target properties that are in disrepair, have high vacancy rates or the original use of the property is obsolete and/or no longer serves the community. The relevant market conditions, including demographics, population density, and retail and manufacturing trends should be taken into consideration.

The feasibility study for an adaptive reuse project should be more rigorous than usual, analyzing the social, economic and legal factors. Other factors to be considered include location, area needs, zoning, land use and other restrictions, incentives, safety and accessibility. 

In addition, existing property conditions should be reviewed (from the foundation to plumbing, electrical, HVAC and other systems), as well as lingering issues from previous uses (environmental issues, easements and historical preservation restrictions). Older structures often use superior materials which are more durable and some have intricate designs that would be difficult to replicate in the modern day. These projects may come with lower material and labor costs compared to new construction and generally reach completion more quickly. 

Funding may be available through various programs in local areas, such as tax increment financing. The business chamber in the community where the property is located would be a great resource to gather more information. 

Community Support

While it is critical to analyze market conditions and economic feasibility, it is also important to secure community support. Getting the community on board early can help with the approval process from the local governing body and may help in preventing delays. Being involved through town halls or other meetings can help address concerns and explain benefits. Given all the considerations, adaptive reuse could be an option. 

For more information, contact Kenny Lau at 312.670.7444. Visit ORBA.com to learn more about our Real Estate Group.

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