combining tax exempt, short-term bonds with taxable gnma sale for affordable apartment financings
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12th Annual Southeast Mortgagee Advisory Council (SMAC) Conference Hilton Head Marriott Resort and Spa, Hilton Head, SC May 29 – 31, 2013. Combining Tax Exempt, Short-Term Bonds with Taxable GNMA Sale for Affordable Apartment Financings. - PowerPoint PPT PresentationTRANSCRIPT
Combining Tax Exempt, Short-Term Bonds with Taxable GNMA Sale for Affordable Apartment Financings
Presented by:
R. WADE NORRIS, [email protected]
(202) 973-0100EICHNER NORRIS & NEUMANN PLLC
1225 19th Street, N.W., 7th FloorWashington, D.C. 20036
website: www.ennbonds.com
JOHN [email protected]
(334) 834-5100MERCHANT CAPITAL L.L.C.
2660 EastChase LaneMontgomery, AL 36117
12th Annual Southeast Mortgagee Advisory Council(SMAC) Conference
Hilton Head Marriott Resort and Spa, Hilton Head, SCMay 29 – 31, 2013
2Eichner Norris & Neumann PLLC Merchant Capital L.L.C.
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012* 2013** 2014** 2015*** 2016***0
50
100
150
200
250
300
350
400(0) (15) (50) (40) (20) (140) (130) (60) (0) +50 +90 +120 +120
The Bright Road Ahead For U.S. Multi-family Rental HousingHistoric and Projected Multifamily Housing Starts (Thousands)
(For Rent) 2000-2016
*2012 Estimated Data from Harvard Study; High number Zelman & Associates per Wallstreet Journal 10-03-12, p. A6**Estimated per Zelman & Associates above.***Estimated 2015 and 2016 units needed to almost replace cumulative deficit during 2009-2012 in 2000-2008 yearly average of 230,00 units per year
2009 - 2011 Cumulative Deficit v. 230,00 per yr. (2000 - 2008 average)= 330,000 units
2016 +380,000 Cumulativeabove 230,000 av. (00 - 08)
From 2000 – 2008, the United States has produced about 230,000 units of new multifamily rental housing per year. If one estimates rehabilitated units at 50,000 – 150,000*, perhaps total production of 300,000 to 400,000 units per year
Volume fell precipitously post 2008 – 90,000 new units in 2009; 100,000 in 2010; 180,000 in 2011 from 230,000/ year average
Cumulative deficit in new rental units 2009 – 2011 of 330,000 units – a major current driver of new rental unit demand
________________________________* Housing for All Americans 2007-2008, Affordable Housing Finance Magazine, citing NCSHA data
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ADDITIONAL HUGE DRIVERS OF MULTIFAMILY RENTAL HOUSING DEMAND
Post WWII Baby Boom “Echo” generation entering with force and seeking housing
Continued Net Immigration (immigrants rent for 10 years before buying)
Severe tightening in lending standards for single-family home loans post 2008 – U.S. home ownership 69% 65%
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ABOUT ONE THIRD OF ABOVE IS AFFORDABLE RENTAL HOUSING (60% AMI OR LESS)
Two Major Programs of Above – Both Involve Low Income Housing Tax Credits (“LIHTC”):
1. 9% LIHTC - about 70,000 units/ year at peak2. 4% LIHTC combined with Low Rate Tax Exempt Bonds – about
60,000 units/ year at peak
Year 9% LIHTCTax-Exempt Bond Plus 4%
LIHTC Total
2004 76,326 units 63,674 units 140,000 units
2005 (No breakdown given) 132,449 units
2006 71,171 units 60,433 units 131,704 units
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LOW INCOME HOUSING TAX CREDITS (“LIHTC”) What is a “tax credit?” A tax credit entitles the holder to offset the check he or she
would otherwise have to write the federal (or state) government for income taxes owed in a given year dollar-for-dollar, up to the amount of the tax credits he or she holds.
Better than a tax deduction, which is worth only 30 or 40¢ per dollar, since deductions only lower your income. If you are in a 35% tax bracket, a $1.00 deduction is worth 35¢; it saves you 35¢ in taxes you would otherwise pay. A dollar of tax credits is worth a dollar because it directly offsets a dollar of taxes you owe and would otherwise have to pay.
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How Does Low Income Housing Tax Credit Equity work? Section 42 of IRC permits investors in qualified projects
to claim an annual credit against federal income tax for a 10-year period after the project is placed in service
Amount of credit which can be taken each year is a specified percentage (e.g., approximately 9% or approximately 4%) of the “qualified basis” of the affordable units
“Qualified Basis” is roughly speaking, total development cost less land and commercial
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9% LIHTC PROGRAM
Can sell 9% tax credits for about 65% of Total Development Cost
Very popular program, but very little volume versus demand Results in small loan size; unattractive for FHA execution
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TAX EXEMPT BONDS PLUS 4% LIHTC PROGRAM Must obtain private activity bond volume allocation, but much easier to get
than 4% LIHTC allocation Can sell 4% tax credits for about 25% - 30% of Total Development Cost:
While loan size a bit smaller than for market rate project, still quite substantial
Increasingly important part of US Housing stock – perhaps one of every six apartments or more
TAX EXEMPT BOND +4% LIHTC PROGRAM
Assume: Total Development Cost $25.0 MillionLess: Land (3.5 Million)Less: Commercial (1.5 Million)Qualified Basis $20.0 MillionAssume: Difficult to Develop Area/ (“DDA”) or Qualified Census Tract (“QCT”) X 1.3
$26.0 MillionAssume: 100% Affordable X 1.0Eligible Basis: $26.0 MillionTax credit rate (not really 4%) X 0.035Annual credit amount $910,000
X 10Ten years of credits $9.1 MillionAssume: 85¢/$1.00 pricingNet 4% LIHTC Syndication Proceeds to Borrower $7,735,000 (31.0%)
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SINCE 2008 – UNIQUE OPPORTUNITY TO FINANCE AFFORDABLE HOUSING BY COMBINING TAX EXEMPT BONDS + 4% LIHTC WITH FHA INSURANCE OR GSE CREDIT
Results from fact that since financial crisis in 2008, U.S. Government backed debt has traded at yields dramatically lower than all other long-term debt instruments, including even tax exempt municipal bonds.
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1/3/
2000
6/3/
2000
11/3
/200
0
4/3/
2001
9/3/
2001
2/3/
2002
7/3/
2002
12/3
/200
2
5/3/
2003
10/3
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3/3/
2004
8/3/
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1/3/
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11/3
/200
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1.50%
2.50%
3.50%
4.50%
5.50%
6.50%
7.50%
30-Year MMD 10-Year CMT
30-Year MMD (Tax Exempt) Versus 10-Year Constant Maturity Treasury (Taxable)
Early 2008 – Taxable US Government SecuritiesRates Fall Below Tax Exempt Municipal Rates
~400 bps
~127 bps
SINCE 2008 – EXTREMELY LOW RATES ON U.S. TREASURY BACKED DEBT ISSUES
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• Since 2008 taxable FHA/GNMAs Market, have delivered extremely low rate pricing:– FHA/GNMA: 223(f)/221(d) GNMA sales currently provide 3.5% - 4.0% all-in borrowing rate
with no negative arbitrage and 35-40 year amortizations.– Fannie/Freddie loans with no “construction” period (i.e. immediately funded transactions w/
mod-light rehab) currently provide 4.0% - 4.5% all in borrowing rate with 30-35 year amortizations.
VS
• Traditional Long-Term Tax Exempt Bond Financing: – 18 - 40 Year Bond Coupon is 3.50% or higher.– After 3rd party fees and overides are added, all-in borrowing rates are 5.0% or higher.– New Construction/Sub Rehab Bond Financings also require a significant amount of
Negative Arbitrage (~5 - 10% of Loan Amount)
Advantages of Taxable Executions:– ~0.50 - 1.50% lower permanent borrowing rate: resulting in additional loan proceeds on
a debt service constrained loan and/or increased ongoing project cashflow.– New Construction/Sub Rehab deals: dramatic reduction in negative arbitrage deposits
COMBINING LONG TERM TAXABLE LOANS WITH SHORT-TERM TAX-EXEMPT BONDS AND 4% LIHTC
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4% LIHTC 50% TEST
With today’s low taxable loan rates, why not just borrow funds in the taxable market?
Reason: Under Section 42, in order to qualify for the full value of the 4% Low Income Housing Tax Credits, at least 50% of aggregate basis of the building and land must be financed from tax exempt bond proceeds.
However, these tax exempt bonds only need to remain outstanding until the Project’s “placed-in-service” date.
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LONG TERM TAX EXEMPT BONDS
BondPurchaser
18-40 Year Bonds
Bond Proceeds
Trustee
Borrower
Bond ProceedsM
BS
1
2
Draw Request
Loan Funding
3
4
5
6
FHA/GSE Lender
Problem: High Mortgage Rate (and large Negative Arbitrage deposit for New
Construction or Substantial Rehab transaction)
Traditional Long Term Tax Exempt Bond Execution:
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Benefits: Qualifies for 4% LIHTC; Low Mortgage Rate (and minimal negative arbitrage
deposit for new construction or substantial rehab transaction)
COMBINED TAXABLE LOAN WITH TAX EXEMPT BONDS
Borrower
MBS Purchaser
Draw Request
Loan Funding
Trustee
BondPurchaser
Bond ProceedsAccount
~2-Yr Bonds
BondProceeds
Bond Payoff(after Project is placed
in service)
MBSProceeds
3
4
Sale of Taxable MBS
7
5
6
8
1
2
Bond Proceeds
EscrowAccount
FHA/GSE Lender
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Traditional Long-TermTax-Exempt GNMA
Backed Bonds
Short-Term Cash-Collateralized Bonds with
Taxable GNMA Sale
FHA Loan Amount: $8,000,000 $9,000,000
FHA Loan Term/Tax-Exempt Bond Term: 35/35 Years 35/2 Years
Mortgage Loan Interest Rate
Bonds 4.25% GNMA 3.25%
3rd Party Fees 0.15% 3rd Party Fees N/A
Servicing + GNMA Fee
0.25%Servicing +GNMA Fee
0.25%
Total ML Rate 4.65% Total ML Rate 3.50%
Result 1.65% ML Rate Savings (~12% additional loan proceeds on debt service constrained loan)
Estimated Negative Arbitrage Savings for New Construction / Substantial Rehabilitation Transactions:
Negative Arbitrage (Deposit):4.65% x 8,000,000 x 2 years
$744,000 (9.30% of ML)
0.75% x $7,000,000(1) x 2 years
$105,000 (1.17% of ML)
Negative Arbitrage (Actual): $372,000 (4.65% of ML) $52,500 (0.58% of ML)
(1) $7 million sized on 50% test ($13 million total costs)
EXAMPLE COMPARISON FOR FHA/GNMA TRANSACTION
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Traditional Long-Term Tax-Exempt GNMA Backed Bonds
Short-Term Cash-Collateralized Bonds with Taxable GNMA Sale
Sources Sources
FHA Loan Funds $9.0 M
Bond Proceeds/FHA Loan $8.0 M Bond Proceeds(1) 7.0 M
4% Tax Credit Equity 3.5 M 4% Tax Credit Equity 3.5 M
Deferred Developer Fee 0.5 M Deferred Developer Fee 0.0 M
Subordinate Financing 1.0 M Subordinate Financing 0.5 M
Total Sources $13.0 M Total Sources $20.0 M
Uses Uses
Redemption of Bonds $7.0 M
Acquisition $8.0 M Acquisition 8.0 M
Rehabilitation 3.0 M Rehabilitation 3.0 M
Developer Fee 1.0 M Developer Fee 1.0 M
Financing Costs + Soft Costs + Reserves
1.0 MFinancing Costs + Soft Costs + Reserves
1.0 M
Total Uses $13.0 M Total Uses $20.0 M
EXAMPLE SOURCES AND USES
(1) $7 million sized on 50% test ($13 million total costs)
Bond Proceeds(1) 7.0 M
Redemption of Bonds $7.0 M
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223(f) Pilot Program Acq./ Rehab Deal
TWO SAMPLE TRANSACTIONS
Expected Placed-In Service Date/ Bond First Optional Redemption Date
9 Months
Stated Bond Maturity 18 Months
Estimated Rate¹ 18-Month MMD orLIBOR + Spread = 0.80% (or lower)
Interest Deposit at Closing 18/12 x 0.80% = 1.20% of Bonds
Expected Actual Bond Interest Cost 9/12 x 0.80% = 0.60% of Bonds
¹ Actual rates MAY VARY GREATLY based on deal size, project location, type of loan, market conditions and many other factors.
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221(d)(4) New Construction
TWO SAMPLE TRANSACTIONS
Expected Placed-In Service Date 20 Months
Stated Bond Maturity 36 Months
Initial Mandatory Tender Date/ First Optional Call Date²
13 Months
Initial Interest Rate 0.5% (or lower)
Upfront Interest Deposit Negotiable, but at least:13/12 x 0.5% = 0.542%³
Expected Total Interest Cost(if rates don’t change)
20/12 x 0.5% = 0.833% of Bonds
² Makes Paper Tax-Exempt Money Market Fund Eligible; dramatically lowers coupon. Borrower and 4% LIHTC investor must get comfortable with remarketing risk; but risk very low.
³ Additional deposit of capitalized interest in bankruptcy remote funds required if Bonds not called on 1 st optional call date.
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Net Results – Borrower:• 50 - 150 basis points of savings in permanent borrowing rate, resulting in a lower
cost of capital over the life of the loan
– Increased Loan Proceeds and/ or
– Increased Cash Flow
• Full syndication value of 4% LIHTC equity on affordable units achieved
• For New Construction or Substantial Rehab Transactions, Negative Arbitrage deposit is significantly reduced
Net Results – IRS:• Often results in fewer Tax Exempt Bond proceeds needed to fund Qualified
Project Costs – $1.0 million less in example compared to the traditional long-term tax exempt bond issue
• No arbitrage “artifice or device” - all Tax Exempt Bond Proceeds (and replacement proceeds) invested at far below tax exempt bond yield
• No “over issuance” of bonds or “overburdening” of market – only Tax Exempt Bonds to meet 50% test, and outstanding 2 years versus 18+ years
RESULTS OF STRUCTURE
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Bond Amount > Taxable Loan Amount:
• Other sources of funds (i.e. Equity, Subordinate loan, etc.) needed to cover the differential. Timing of funding is crucial
• Additional Rating Agency requirements on publically offered transactions
Bridging Equity:
• Limited collateral available for bridge financing
Publically Offered vs. Privately Placed:
• Timing; Cost; Issuer requirements
Bond Interest &Third Party (Bond Related) Fees
• Typically escrowed at closing with Trustee for full term of Bonds
Other Related Questions/Issues
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CONCLUSION
• All major bond counsel firms with whom we have worked have issued or agreed to issue unqualified approving opinions on deals using this type of cash collateralized structure for numerous tax exempt multi-family housing bond issues
• Documents and rating agency criteria are well developed
• This structure has become a THE WAY to finance affordable housing projects with FHA insurance and also works with other GSE executions
• Unlikely that market conditions will change in next 12-18 months to favor traditional long-term tax exempt bond structure
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