multi-family housing: financing alternatives for an...
TRANSCRIPT
Multi-Family Housing:
Financing Alternatives for an Emerging Market Analyzing Available Financing Sources for Market and Low-Income Affordable Multi-Family Housing
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WEDNESDAY, JULY 25, 2012
Presenting a live 90-minute webinar with interactive Q&A
La Fonte Nesbitt, Partner, Holland & Knight, Washington, D.C.
Fredrick H. Olsen, Partner, Ballard Spahr, Salt Lake City
Ryan R. Warburton, Partner, Ballard Spahr, Salt Lake City
Sheri Stettner, Managing Director, Wells Fargo Bank/Wells Fargo Multifamily Capital, Dallas
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Multi-Family Housing: Financing Alternatives for an Emerging Market Wells Fargo Multifamily Capital
Presentation to : Strafford Webinar
Sheri Stettner
July 25, 2012
Confidential – For Discussion & General Information Purposes Only ©2012 Wells Fargo Bank, N.A. All rights reserved.
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Multifamily Capital history
History with FHA/HUD
One of the first FHA/HUD multifamily lenders
License for 30+ years
History with Fannie Mae
First approved Fannie Mae DUSTM Lender (Delegated Underwriter/ Servicer)
Wrote the first Fannie Mae DUSTM loan
History with Freddie Mac
One of the first approved Freddie Mac Program Plus® Seller/Servicers
Multifamily Capital organization structure
Senior management
Alan Wiener, Group Head
Art Habighorst, Managing Director
Vince Toye, Head of GSE Production
Cathy Pharis, Head of FHA
Origination platforms
Direct origination – GSE and FHA
FHA Wholesale origination
Internal origination
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Multifamily industry leader
Based on the MBA Commercial Real Estate/Multifamily Finance Firms Annual Origination Volumes Year ending December 31, 2011, Wells Fargo is the:
#1 in originated transactions and volume for:
Affordable Housing
Healthcare facilities
#1 Fannie Mae lender by volume
#1 FHA / Ginnie Mae lender by volume
#4 Freddie Mac lender by transactions and volume
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9
2011 Commercial / Multifamily lender originations by investor group
Freddie Mac
Rank Company name Amount # of deals Average size
1 Wells Fargo $1,496 112 $13.4
2 Red Mortgage Capital, LLC $1,421 116 $12.2
3 Berkadia Commercial Mortgage, LLC $1,233 152 $8.1
Source: MBA Commercial Real Estate/Multifamily Finance Firms Annual Origination Volumes Year ending December 31, 2011
Fannie Mae
Rank Company name Amount # of deals Average size
1 Wells Fargo $2,785 193 $14.4
2 Deutsche Bank Commercial Real Estate $2,084 186 $11.2
3 Walker & Dunlop, LLC $1,870 168 $11.1
FHA/ Ginnie Mae
Rank Company name Amount # of deals Average size
1 CBRE Capital Markets, Inc $4,379 267 $16.4
2 Northmarq Capital, LLC $2,474 152 $16.3
3 Berkadia Commercial Mortgage, LLC $1,698 119 $14.3
4 Wells Fargo $1,581 100 $15.8
$ amounts in millions
Multifamily Capital 2011 loan closings and servicing portfolio
2011 Multifamily Capital total loan closings: $5.99 billion comprised of:
Multifamily Servicing portfolio: In excess of $53 billion consisting of more than 8,500 loans
#1 total Primary and Master Servicer: Nearly $440 billion consisting of more than 38,000 loans
10
Fannie Mae & Freddie Mac overview
Fannie Mae and Freddie Mac
Typical “conventional” loan
Loan size: $5 million and up
Garden, mid or high-rise apartments
5 – 30 year terms, sweet spot 10 years.
Typically fixed but floating available
Processing time between 45 to 60 days
Supplemental loans available after 1 year
Single-asset substitutions
Servicing stays with Wells Fargo
Property types
Apartment complexes
Market rate
Affordable
Manufactured housing communities
Senior housing
Independent living (IL)
Assisted living (AL)
Assisted living with Alzheimer's (AL/AZH) in any combination
Student housing
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Fannie Mae and Freddie Mac
Credit facilities
Fixed and variable rate
Crossed or non-crossed debt secured by large pools of multifamily rental properties with a flexible mixture of variable and fixed rate proceeds
Ability to add or substitute properties; various prepayment options
Great solution for REIT’s and other major private and institutional owners
Excellent opportunity to diversify services to premier customers; the Bank is also an active supplier of caps and swaps to hedge rate risk
Other Fannie Mae and Freddie Mac programs
Forward Commitments for Tax Credit transactions
Extended rate locks
Streamlined refinance
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Fannie Mae and Freddie Mac advantages
Attractively priced full leverage non-recourse loans for private and institutional owners of apartment properties
Flexible financing options including loan terms, yield maintenance, and amortization schedules
Early/Extended rate lock option
Supplemental loan feature
Forward commitment option
Structured transactions for multiple properties, allowing for delivery over time or all at once, and flexible collateral additions, releases and substitutions
Can be stand-alone or paired with other Bank products, such as take-out for construction and bridge loans or first lien financing in tandem with mezzanine debt
Advantages
Senior housing loan programs
Senior housing loan programs
Loan size $3+ million (smaller loans available if economics so warrant)
Loan types Balance sheet financing
Construction
Bridge
Permanent financing
Fannie Mae loan programs
Freddie Mac loan programs
FHA/HUD loan programs
Organizations we serve Non-profit or for-profit organizations
Operators, private equity groups, and REITs with strong track records within the industry and superior operational expertise
Eligible projects Construction, acquisition, or refinance of:
Age-restricted apartments
Independent living (IL)
Assisted living (AL)
Memory care/Alzheimer’s (ALZ)
Skilled nursing facilities (SNF)
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Senior housing loan programs – Construction financing
Balance sheet execution
Property types:
Independent living facilities
Assisted living facilities
Combination of Independent/Assisted/Memory Care
Loan term:
Up to 3-year initial term
Longer terms available with amortizations
Extensions available to facilitate the placement of permanent financing
Loan-to-value:
Up to 75%
Loan-to-cost :
Up to 80%
Minimum debt yield:
12% using underwritten cash flow
Recourse:
Recourse required in most cases
17
Senior housing loan programs – Permanent financing
FHA/HUD permanent and construction-to-permanent Loan term: Up to 35 years; 40 years for construction
Interest rate: Below-market fixed interest rate
Construction LTV: Lesser of 75% of value; 90% of replacement costs (95% for non-profit); 1.45x DSC
Sub-rehabilitation LTV: Lesser of construction LTV plus 100% of estimated rehabilitation costs for a refinance;90% (95% for non-profit) of estimated rehabilitation cost for purchase
Refinance LTV: Lesser of 100% of outstanding debt plus transaction and rehab costs; 80% of value (85% for nonprofit); 1.45x DSC
Fannie Mae and Freddie Mac Loan term: 5- to 30-year terms for IL, AL, or ALZ with 20% or less skilled nursing income
Interest rate: Fixed or variable; early rate lock is available
LTV: Up to 75% for IL and AL properties (65% for interest only); 65% for properties with 20% or less skilled nursing income (60% for interest-only); 65% for standalone memory care
Minimum DSC: 1.30x for IL; 1.40x for AL; 1.45x for ALZ properties; 1.60x for properties with 20% or less skilled nursing income (1.80x for interest-only)
Recourse: Non-recourse
Property types: Single asset or multiple assets, fee-managed or leased properties
Additional products: Tax-exempt financing, bond credit enhancements, and supplemental financing
18
Recent transactions
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Recent GSE transactions
Bridge loan and Freddie Mac CME loan Reside on Barry $38,400,000 Bridge loan ($18,000,ooo) and Freddie
Mac CME loan ($20,400,000) 162 units of multifamily housing in
Chicago, Illinois Fannie Mae refinance
Carrington II $16,500,000 215 unit multifamily housing in North
Carolina Customer for 15 years
Freddie Mac $340,000,000 7 Freddie Mac CME loans, borrower
purchased a b-note Part of multifamily private label facility Customer for 13 years
Reside on Barry in Chicago, Illinois
Recent transactions
Freddie Mac
Firecrest Gardens
$16,500,000
Multifamily apartment complex in Washington
Customer for 15 years
Fannie Mae
Peaks at Papago
$34,500,000
Multifamily apartment complex in Arizona
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Firecrest Gardens, Washington
Recent transactions
Freddie Mac
Manorhouse Assisted Living Facilities
$15,870,000*
Two assisted living facilities in Tennessee *Combined amount of two separate transactions
FHA 221(d)(4) and LIHTC funds
Buffington Tower
$5,568,000
Substantial rehabilitation of affordable senior housing in Arkansas
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Recent transactions
FHA Section 221(d)(4)
2020 Lawrence $45,463,100 New construction of a 231-unit multifamily
housing in Denver, Colorado LEED Gold
Courtesy of Braxton Development - Willow Creek Apartments Jonesboro, Arkansas
FHA Section 221(d)(4) Willow Creek Apartments $11,589,500 New construction of a 180-unit
apartment complex located in Jonesboro, Arkansas
2020 Lawrence in Denver, Colorado. Rendering credit: JG Architects
Copyright © 2012 Holland & Knight LLP All Rights Reserved
Multi-Family Housing: Financing
Alternatives for an Emerging Market
July 25, 2012
Overview of Key HUD Multifamily Loan Programs
and Key 2011 HUD Multifamily Loan Documents –
Note, Security Instrument, Regulatory Agreement
and Borrower’s Counsel Opinion
La Fonte Nesbitt
Common Misconception #1…
HUD is the Lender
• HUD is not the lender.
• Technically the Federal Housing Administration (FHA), an agency within HUD, provides mortgage insurance to protect the lender in the case of loan default.
• Mortgage insurance guarantees payment to the FHA lender/loan investor of 99% of outstanding principal loan balance, plus accrued and unpaid interest, following default by borrower.
• HUD mortgage insurance is “full faith and credit of US government” and provides AA rating on loan. Addition of Ginnie Mae mortgage-backed securities (MBS) as funding source results in a AAA rating on loan.
• Loans are actually made by FHA approved lenders (typically called “mortgagees” by HUD).
• FHA lenders are mortgage bankers who depend on raising funds from loan investors to actually fund loans. Two primary ways of raising loan funds are:
– Through the sale of loan participation interests, or
– Through the sale of Ginnie Mae mortgage-backed securities (MBS) if the FHA lender is also an approved Ginnie Mae issuer. Most FHA multifamily loans are funded through GNMA MBS
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Common Misconception #2…
HUD Projects Have to be Affordable
• HUD loans made under Section 223(f) or Section 221(d)(4) are not required to be made in connection with “affordable housing”.
• HUD does not impose rent or income-restrictions under the mortgage insurance loan programs and HUD approval is not required to establish rents.
• Many projects financed under 223(f) or 221(d)(4) serve tenants with incomes at or below 80% of median income, but this is consistent with most multifamily rental housing.
• FHA multifamily loans can be combined with Low Income Housing Tax Credits (LIHTC), tax-exempt bond financing, or other programs to provide affordable housing. Most often, this involves Section 220 or 221(d)(4) loans funded by tax exempt bonds
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Common Misconception #3…
HUD Regulates Profits
• Borrowers can be profit-motivated general and limited partnerships, limited liability companies, or corporations.
• HUD does not regulate how much a borrower can earn in distributions. However, HUD does require borrowers to execute a Regulatory Agreement which only permits distributions of “surplus cash” semi-annually and annually.
• Non-profit borrower cannot take surplus cash distributions, but must establish “residual receipts” (calculated the same as surplus cash) and receive HUD approval for their use
• HUD also must approve management fees as being reasonable for the applicable market. Management agent can be affiliates of the borrower or principals of the borrower. Management fees may be paid monthly as operating expenses.
• Developer Fees may not be paid from loan proceeds. They must be paid from equity.
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HUD Multifamily Loan Programs
• HUD has a number of loan programs covering rental housing, nursing homes, intermediate care facilities, board and care homes and assisted-living facilities; hospitals; manufactured housing; and coops that are beyond the scope of this panel
• Loans are fixed rate and fully amortizing.
• Loans are non-recourse, except for bad borrower acts under the Note and Regulatory Agreement.
• Loans are assumable with lender and HUD approval.
• Borrowers pay Mortgage Insurance Premium (MIP) in addition to principal and interest.
• Escrows required for MIP, real estate taxes, insurance premiums and replacement reserves.
• Focus will be on the two most popular loan programs relating to multifamily rental housing:
– Section 223(f): Acquisition or Refinance of multifamily rental housing
– Section 221(d)(4): New Construction or Substantial Rehabilitation of multifamily rental housing
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Borrower Requirements
• Can be profit motivated or non-profit.
• Limited partnerships, limited liability companies and corporations are all eligible. No
individuals and no TICs.
• Must be single asset entity, but not required to be a SPE per Rating Agency/CMBS
requirements. Single asset requirement is occasionally waived for non-profit borrowers
• “Principals” of borrower must receive HUD 2530 Approval. Principals are (i) for a
limited partnership, each general partner and each limited partner owning 25% or more;
(b) for a limited liability company, each managing member, non-member manager and
each member owning 25% or more; and (c) for a corporation, each shareholder owning
10% or more and each director and key officer (president, vice president, treasurer and
secretary.)
• Principals must also receive HUD mortgage credit approval based on underwriting of
credit report, financial statements, list of real estate owned, loan defaults, etc.
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Section 223(f) – Refinancing Loan
• For refinancing, the maximum loan amount is the lesser of:
(a) 83.3% loan-to-value (LTV) for market rate, 85% LTV for Affordable, and 87%
LTV for 90% or greater rental assistance (i.e., 90% or greater Section 8 Contract or
equivalent);
(b) Debt Service Coverage Ratio (DSCR) of 1.20 for market rate, 1.17 for Affordable
and 1.15 for 90% or greater rental assistance;
(c) Greater of 100% of eligible costs or, if cash out, 80% of market value.
Eligible costs include existing indebtedness, required repairs, any initial deposit to the
replacement reserve, third party reports and other closing costs.
31
Section 223(f) – Acquisition Loan
• For a purchase transaction, the maximum loan amount is the lesser of:
• (a) 83.3% LTV of value for market rate, 85% LTV for Affordable, and 87% LTV for
90% or greater rental assistance;
• (b) DSCR of 1.20 for market rate, 1.17 for Affordable and 1.15 for 90% or greater
rental assistance;
• (c) 83.3% of eligible transaction costs for market rate, 85% for Affordable, and 87% for
90% or greater rental assistance.
• Eligible costs include purchase price, required repairs, any initial deposit to the
replacement reserve, third party reports and other closing costs.
32
Section 223(f) – General Terms
• A maximum term of 35 years, or 75% of the remaining economic useful life.
• Repairs cannot exceed the greater of:
• (a) $6,500/unit multiplied by the high cost factor for the area;
(b) 15% of the estimated replacement cost after completion of all repairs, replacements
and improvements.
• Repairs/replacements are also limited to one major building component
• Annual Mortgage Insurance Premium (MIP) is 1.0% at closing (one year pre- paid) and
0.45% annually thereafter (based on outstanding principal balance).
• Multifamily properties must be at least 3 years old since final certificate of occupancy;
projects must have an average physical occupancy rate of at least 85%.
33
Section 221(d)(4) – General Terms
• Loans for (i) new construction or (ii) substantial rehabilitation if cost of repairs,
replacements or improvements to an existing property must exceed the greater of either
(not including costs of an addition):
– 15% of the estimated replacement cost after completion of all repairs,
replacements and improvements; or
– $6,500 per unit adjusted by the local HUD Field Office high cost percentage for
that area.
• A property can qualify for substantial rehabilitation if two or more major building
components are being substantially replaced regardless of the cost.
34
Section 221(d)(4) – Loan Terms
• 83.3% of Replacement Cost (development cost plus as-is value) for market rate; 87% of
Replacement Cost for Affordable; 90% of Replacement Cost for projects with 90% or
greater rental assistance.
• DSCR of 1.20 for market rate transactions; 1.15 for Affordable transactions; 1.11 for
projects with 90% or greater rental assistance.
• A maximum term of 40 years (fully amortizing) plus construction period, or 75% of
remaining useful life.
• MIP of 0.45% of loan amount due at initial loan closing for each 12 months of
construction term, or part thereof; 0.45% of the outstanding principal balance
calculated annually thereafter.
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Section 221(d)(4) – Additional Terms
• Working Capital Escrow 4% of loan amount. (2% allocated to construction contingency
and 2% to working capital expenses).
• Required operating deficit escrow can be posted in cash or letter of credit equal to the
greater of:
– Amount determined to be appropriate based on underwriting analysis and
appraisal;
– (i) Three percent of the mortgage amount; (ii) four months debt service (principal
and interest and MIP) if the property is walk-up, or (iii) six months debt service if
the property is an elevator building where a single Certificate of Occupancy must
be issued before any of the units or entire floors can be rented.
• The general contractor must (i) pay Davis-Bacon prevailing wage rates as required by
the Department of Labor; (ii) execute a guaranteed maximum price contract on the
HUD form, (iii) provide a 100% performance and payment bond (or cash escrow or
letter of credit acceptable to FHA), and (iv) have liquid net worth equal to at least 5%
of the project construction contract plus all other uncompleted construction work.
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HUD’s New Loan Documents
• After more than a dozen years, and several intense rounds of comments from a variety of commentators, including the ABA Forum on Affordable Housing and Community Development and the Mortgage Bankers Association, HUD published notice of the final revised multifamily loan documents on May 2, 2011 in Federal Register Vol. 76, No. 84.
• Official versions of the revised loan documents are posted on HUDclips.
http://portal.hud.gov/hudportal/HUD?src=/program_offices/administration/hudclips/forms/
• Use of the 2011 revised closing documents has been mandatory for HUD-insured
multifamily loans where HUD issues a firm commitment for mortgage insurance on or after
September 1, 2011.
• Since their introduction last year, there have been a number of revisions posted to various documents to correct typos, scrivener’s error and similar issues. HUD has created a Frequently Asked Questions (FAQ) site for this purpose. http://portal.hud.gov/hudportal/HUD?src=/program_offices/general_counsel/mffaqs
• NOTE: These documents only apply to HUD’s multifamily loans insured under Sections 207, 220, 221(d)(3)/(d)(4), 223(a)(7), 223(f) and 231. HUD’s Section 232 healthcare loan program continues to use the old loan documents with various Riders that have been developed. However, HUD has issued proposed Section 232 healthcare loan documents – based in large part on the 2011 multifamily loan documents - for a comment period that ended July 2, 2012.
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Much Longer and Much More Comprehensive
• By my unofficial review, here are the page counts for some of the new documents:
– Security Instrument (Mortgage) – 56 pages
– Note – 12 pages
– Regulatory Agreement – 34 pages
– Opinion – 13 pages, plus a 9 page Guide for the Opinion
• In fairness, some of the increased length is due to using larger type and larger margins and eliminating legal sized pages – all of which will make recording easier in many jurisdiction that turned up their noses at 10 pitch type, margins of less than an inch, and legal sized pages for mortgages in many states.
• However, much of the increased length is due to significant changes in both the form and substance of the documents.
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How Did We Get Here and What is New
• The “base” for the new Note and Security Instrument (Mortgage) are Freddie Mac forms circa 1999 that have been brought forward over the last dozen years or so.
• In keeping with modern practice, since the Security Instrument (Mortgage) also serves as a Security Agreement, there is no need any longer for a separate Security Agreement. And besides, HUD never had a separate Security Agreement form.
• Following the Freddie/Fannie format, the Regulatory Agreement has been reorganized to include defined terms up front.
• Many of the other documents began with the then current (current being a relative concept) HUD forms.
• There are several truly new forms, such as a HUD forms of Working Capital Escrow Agreement and Latent Defects Escrow Agreement; many FHA Lenders and their counsel have previously used their own forms.
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Base Forms Plus State Riders and Addendums
• In addition to the base form of Note and Security Instrument, there are State Riders and Addendums for a number of states intended to make the base forms comply with state law.
• They State Riders and Addendums are posted at: http://portal.hud.gov/hudportal/HUD?src=/program_offices/administration/hudclips/forms/hud9/riders-addendums
• So far, the State Riders and Addendum appear to be generally sufficient from the perspective of the opinion required from the borrower’s counsel.
41
Note (HUD 94000M)
• Includes non-recourse provision and late fee provisions in body – eliminates the need for a rider to address those provisions. NOTE, HOWEVER: There is new language providing for “exceptions to non-recourse” (albeit limited to Surplus Cash) as follows:
– (b) Notwithstanding Section 8(a) above, Borrower shall be liable to Lender for any loss or damage suffered by Lender as a result of (1) failure of Borrower to pay to Lender, upon demand after an Event of Default, all Rents to which Lender is entitled under Section 3(a) of the Security Instrument and the amount of all security deposits collected from tenants with existing Leases; (2) failure of Borrower to apply all insurance proceeds and condemnation proceeds as required by Sections 19 and 20 of the Security Instrument; (3) failure of Borrower to comply with Section 15 of the Security Instrument relating to the delivery of books and records, statements, schedules and reports; (4) Borrower’s acquisition of any property or operation of any business not permitted by Section 33 of the Security Instrument; (5) a transfer or the granting of a lien or encumbrance that is an Event of Default under Sections 17 and 21 of the Security Instrument, other than a transfer consisting solely of the involuntary removal or involuntary withdrawal of a general partner in a limited partnership or a manager in a limited liability company; or (6) fraud or written material misrepresentation by Borrower or any officer, director, partner, member, manager or employee of Borrower in connection with the Loan Application for or creation of the Indebtedness or any request for any action or consent by Lender. These damages shall be paid only from the available proceeds of an appropriate insurance policy or from Surplus Cash or other escrow accounts.
– (c) Notwithstanding Section 8(a) above, Borrower shall provide complete redress as set forth in Section 45(c) of the Security Instrument and shall indemnify and hold harmless the Indemnities as set forth in Section 48 of the Security Instrument.
42
Note (HUD 94000M)
• Provides alternative prepayment provisions in the body of the Note, including to address GNMA and “other bond obligations” lock-outs and prepayment premiums. There is still a need for a Rider/Addendum to describe the exact prepayment lock-out and any prepayment premium.
• Includes a representation from the borrower that the loan is a commercial loan. Which will be helpful in most jurisdiction for purposes of usury.
• Includes an acknowledgment by the borrower that in addition to state law remedies, HUD has federal remedies as well, including the right to proceed under the Federal Foreclosure Act.
• To facilitate loan sales, it provides that all rights and responsibilities to HUD are terminated going forward if HUD not longer insures or holds the note. But rights and obligations prior to that occurring continue.
• Includes a waiver of jury trial if permitted under the law of the applicable jurisdiction. Query: Whether the waiver is good against HUD, if HUD becomes the lender?
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Security Instrument (Mortgage) (HUD 94001M)
• The form Security Instrument is a composite Mortgage/Deed of Trust/Deed to Secure Debt with some minimal level of tailoring through Alternative granting clauses A, B and C to function as the form of security instrument most often used in various jurisdictions.
• Includes a large number of definitions – (a) through (jj)
• Key new definitions: (w) Mortgaged Property, (dd) Program Obligations and (jj) Waste
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Security Instrument (Mortgage) (HUD 94001M)
• (w) “Mortgaged Property” means all of Borrower's present and future right, title and interest in and to all of the following:
– (1) the Land;
– (2) the Improvements;
– (3) the Fixtures;
– (4) the Personalty;
– (5) all current and future rights, including air rights, development rights, zoning rights and other similar rights or interests, easements, tenements, rights-of-way, strips and gores of land, streets, alleys, roads, sewer rights, waters, watercourses, and appurtenances related to or benefiting the Land or the Improvements, or both, and all rights-of-way, streets, alleys and roads which may have been or may in the future be vacated;
– (6) all insurance policies covering the Mortgaged Property, and all proceeds paid or to be paid by any insurer of the Land, the Improvements, the Fixtures, the Personalty or any other part of the Mortgaged Property, whether or not Borrower obtained the insurance pursuant to Lender’s requirement;
– (7) all awards, payments and other compensation made or to be made by any Governmental Authority with respect to the Land, the Improvements, the Fixtures, the Personalty or any other part of the Mortgaged Property, including any awards or settlements resulting from condemnation proceedings or the total or partial taking of the Land, the Improvements, the Fixtures, the Personalty or any other part of the Mortgaged Property under the power of eminent domain or otherwise and including any conveyance in lieu thereof;
Security Instrument (Mortgage) (HUD 94001M)
• (8) all contracts, options and other agreements for the sale of the Land, the Improvements, the Fixtures, the Personalty or any other
part of the Mortgaged Property entered into by Borrower now or in the future, including cash or securities deposited to secure
performance by parties of their obligations;
• (9) all proceeds (cash or non-cash), liquidated claims or other consideration from the conversion, voluntary or involuntary, of any
of the Mortgaged Property and the right to collect such proceeds, liquidated claims or other consideration;
• (10) all Rents and Leases;
• (11) all earnings, royalties, instruments, accounts, accounts receivable, supporting obligations, issues and profits from the Land, the
Improvements or any other part of the Mortgaged Property, and all undisbursed proceeds of the Loan and, if Borrower is a
cooperative housing corporation, maintenance charges or assessments payable by shareholders or residents;
• (12) all Imposition Deposits;
• (13) all refunds or rebates of Impositions by any Governmental Authority or insurance company (other than refunds applicable to
periods before the real property tax year in which this Security Instrument is dated);
• (14) all forfeited tenant security deposits under any Lease;
• (15) all names under or by which any of the above Mortgaged Property may be operated or known, and all trademarks, trade
names, and goodwill relating to any of the Mortgaged Property;
• (16) all deposits and/or escrows held by or on behalf of Lender under Collateral Agreements; and
• (17) all awards, payments, settlements or other compensation resulting from litigation involving the Project.
• Truly all encompassing definition, but excludes capital contributions, under the Regulatory Agreement.
45
46
Security Instrument (Mortgage) (HUD 94001M)
• (dd) “Program Obligations” means (1) all applicable statutes and any regulations issued by the Secretary pursuant thereto that apply to the Project, including all amendments to such statutes and regulations, as they become effective, except that changes subject to notice and comment rulemaking shall become effective only upon completion of the rulemaking process, and (2) all current requirements in HUD handbooks and guides, notices, and mortgagee letters that apply to the Project, and all future updates, changes and amendments thereto, as they become effective, except that changes subject to notice and comment rulemaking shall become effective only upon completion of the rulemaking process, and provided that such future updates, changes and amendments shall be applicable to the Project only to the extent that they interpret, clarify and implement terms in this Security Instrument rather than add or delete provisions from such document. Handbooks, guides, notices, and mortgagee letters are available on HUD's official website: (http://www.hud.gov/offices/adm/hudclips/index.cfm, or a successor location to that site).
• Section 11 requires compliance with Program Obligations.
47
Security Instrument (Mortgage)
(HUD 94001M)
• (jj) “Waste” means a failure to keep the Mortgaged Property in decent, safe and sanitary
condition – defined in 24 CFR Part 5 - and in good repair. During any period in which
HUD insures this Loan or holds a security interest on the Mortgaged Property, Waste is
committed when, without Lender’s and HUD’s express written consent, Borrower:
• (1) physically changes the Mortgaged Property, whether negligently or intentionally, in a
manner that reduces its value;
• (2) fails to maintain and repair the Mortgaged Property in accordance with Program
Obligations;
• (3) fails to pay before delinquency any Taxes secured by a lien having priority over this
Security Instrument;
• (4) materially fails to comply with covenants in the Note, this Security Instrument or the
Regulatory Agreement respecting physical care, maintenance, construction, abandonment,
demolition, or insurance against casualty of the Mortgaged Property; or
• (5) retains possession of Rents to which Lender or its assigns have the right of possession
under the terms of the Loan Documents.
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Security Instrument (Mortgage) (HUD 94001M)
• Key importance of Waste definition are the remedies specific to Waste under Section 45 as follows:
• 45. REMEDIES FOR WASTE. In addition to any other rights and remedies set forth in the Note and
this Security Instrument or those available under applicable law, including exemplary damages where
permitted, the following remedies for Waste by Borrower are available to Lender as necessary to give
complete redress to Lender for Lender’s loss or damage:
• (a) the exercise of the remedies available to Lender during the existence of a Covenant Event of
Default, as set forth in Section 43 of this Security Instrument;
• (b) an injunction prohibiting future Waste or requiring correction of Waste already committed, but only
to the extent that Waste has impaired or threatens to impair Lender’s security; and
• (c) recovery of damages, limited by the amount of Waste, to the extent that Waste has impaired
Lender’s security. So long as the Loan is insured or held by HUD , any recovery of damages by Lender
or HUD for Waste shall be applied, at the sole discretion of HUD, (1) to fees, costs and expenses (including reasonable attorneys fees) incurred by Lender; (2) to remedy Waste of the Mortgaged
Property, (3) to the Indebtedness or (4) for any other purpose designated by HUD.
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Security Instrument (Mortgage) (HUD 94001M)
• Section 2 provides that the Security Instrument is a Security Agreement under the UCC, which has eliminated the need for a separate Security Agreement.
• Section 15 contains a laundry list of information and reports to be provided to the HUD and the Lender, including audited financial statements to the Lender, which virtually every Lender has wanted and previously had to provide for separate in their separate commitment/engagement letter.
• Section 22 establishes (i) Monetary Defaults and (ii) Covenant Defaults, including uncured defaults under the Regulatory Agreement
• Section 24 sets forth a number of actions for which the Lender must receive prior approval of HUD before taking (e.g., modifying the interest rate or the term of the loan.)
• Section 33 requires a Single Asset Borrower, which was previously only in the Regulatory Agreement. NOTE: As part of this requirement, HUD will no longer permit individuals to act as borrowers under the new loan documents. On a related note, HUD has made a policy/legal decision to also not permit Tenants-in-Common (TICs) as borrowers. NOTE: Not clear what happens on 223(a)(7) loans involving such now prohibited borrowers.
• Section 48 picks up the Freddie/Fannie language on Environmental Hazards, including representations, warranties, covenants and indemnification of the Lender (HUD). Query: Exactly what documents are covered by the “previously disclosed by Borrower to Lender” in Section 45(f). Should they be listed?
50
Regulatory Agreement (HUD 92446M)
• Indicates on the first page whether a borrower is Profit-Motivated, Limited Dividend, Public Body or Non-Profit. (The HUD Firm Commitment is supposed to indicate which.) And it includes definitions of those terms. A welcome change.
• Also indicates on the first page whether the Project is Elderly or Non-Elderly. Another welcome change.
• Includes the standard definitions, including Mortgage Property and our new friends, Program Obligations and Waste. And a new one, Reasonable Operating Expenses defined as follows: bb.“Reasonable Operating Expenses” means expenses that arise from the operation, maintenance and routine repair of the Project and that primarily benefit the Project (as opposed to Borrower) or as otherwise permitted by Program Obligations.
• Section 3. Borrower certification of no unpaid obligations not approved by HUD as of closing. NOTE: It is TBD exactly what it means to have no “unpaid obligations” as every borrower has unpaid, but not yet past due bills.
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Regulatory Agreement (HUD 92446M)
• Section 4. Borrower certification to be bound by the Lender’s Certificate/Request for Endorsement signed by the Lender.
• Section 7. Borrower certifies it has all permits necessary at closing unless required under the Construction Contract or Building Loan Agreement (e.g., certificate of occupancy to be obtained following construction.)
• Section 12. Borrower required to deposit all Project receipts plus required equity (including tax credit equity) under the HUD loan commitment into the Project operating account. NOTE: Does not cover tax credit equity used, for example, to repay bridge loans. Penalties, including for past due taxes, shall not be paid by the Project. Borrower is obligated to notify HUD of any litigation against the Borrower or Project or filed by the Borrower. Query: Does HUD want notice of all
evictions, slip and fall cases, etc?
• Section 14. Much more detail concerning Distributions. No Distribution if (i) services are not being provided, including failures that Borrower SHOULD HAVE KNOWN about; (ii) building code violation notices have been received and not resolved; or (iii) Borrower has received notice from HUD or the Lender of needed physical repairs or deficiencies and they are unresolved.
• NOTE: DISTRIBUTIONS MUST BE TAKEN IN ACCOUNTING PERIOD AFTER BEING EARNED AND IF NOT TAKEN WILL REMAIN PROJECT INCOME.
52
Regulatory Agreement (HUD 92446M)
• Section 24. Goods and services shall be purchased “upon the most advantageous terms to the Project operation.”
• Section 25. Clarifies that HUD approval is not required for lease renewals, etc. that involve “no change in terms or use” and that “rent increases are permitted without HUD approval.”
• Section 36. Detailed list of actions requiring HUD approval. (i) It does clarify that HUD approval is not required for financings and purchases in connection with Reasonable Operating Expenses (e.g., equipment leases). (ii) HUD approval required to “remodel, add to, subtract from, construct, reconstruct or demolish any part of the Mortgaged Property” except as required to fulfill obligations under Section 19 of Regulatory Agreement. Query: How far that will be interpreted to go. (iii) Incorporates a portion the “HUD provisions” that have traditionally been included in the borrower’s organizational documents to required HUD approval of changes in organizational document that require 2530 approval, but also requires approval of amendments that “materially modifies the terms of the organization?” Query: Does that mean HUD has to approve changes in the distribution waterfall between partners/members? (iv) HUD approval required to “Materially change any unit configurations.”
53
Regulatory Agreement (HUD 92446M)
• Section 37. A new term, “Violation,” that appears to be essentially the same as the more usual “breach” or “default” that then ripens into a “Declaration of Default” under Section 38, if not cured or resolved. Violations are (a) failure to comply with the provisions of the Regulatory Agreement; (b) “fraud or material misrepresentation or material omission” by Borrower, officers, directors, general partners, members, management agent, etc., in financial statements, rent roll, reports, etc. provide to HUD or request for HUD consent; and (c) commencement of forfeiture action against borrower or project.
• Section 38. Generally there is a 30 day cure period for Violations, but HUD reserves the rights to establish a shorter cure period in their Notice of Violation. HUD remedies are spelled out, but remain essentially the same under the old Regulatory Agreement.
• Section 50. The non-recourse provision now requires execution by certain designated “key principals” that are named in the HUD Firm Commitment to execute the Regulatory Agreement and acknowledge liability for certain “bad Owner” actions, which have essentially not changed from the prior provisions. In an attempt to address confusion, HUD has issued a number of clarifications on who should be named as key principals. But the area remains a source of confusion for HUD lenders and borrowers.
54
Borrower Opinion Letter (HUD 91725M)
• While not quite in keeping with general commercial practice, the new form Borrower’s Opinion Letter is improved from the perspective of the opinion giver. But perhaps problematic in some respects to HUD lenders since some deleted opinions have shifted to become representations from the lender.
• Gone is the “all permits, approvals, etc” opinion. BUT NOTE discussion above concerning possible new requirements from lenders based on the transfer of certifications to the Lender’s Certificate.
• Gone is the usury opinion.
• Gone is the litigation opinion to be replaced by a “confirmation” concerning litigation.
• Clarification that stock in public companies involved in the deal is not an identity of interest.
• Gone is the need to sign by an individual lawyer; you can follow your firm’s opinion practice.
• Added is a certification that the opinion does not deviate from the form HUD opinion unless approved by HUD. And a redline against the form must be provided.
• There are also Opinion Instructions (HUD 91725M - INST) and a form Borrower Certification (HUD 91725M - CERT)
55
Contact Information
La Fonte Nesbitt | Holland & Knight
Partner
2099 Pennsylvania Avenue, NW
Suite 100 | Washington, DC 20006
Phone: 202.457.7047 | Fax: 202.955.5564
[email protected] | www.hklaw.com
Multi-Family Housing: Financing Alternatives for an Emerging Market (Tax Credits and Tax Exempt Bonds)
Presented on July 25, 2012
Fredrick H. Olsen
Ballard Spahr LLP 201 S. Main Street, Suite 800
Salt Lake City, Utah 84103
(801) 531-3034; [email protected]
Ryan R. Warburton
Ballard Spahr LLP
201 S. Main Street, Suite 800
Salt Lake City, Utah 84103
(801) 531-3072; [email protected]
57
• Provide an incentive for taxpayers to invest in affordable housing.
•Pre-1986 law provided incentive for investors (doctors, dentists) through ability to deduct losses against active income.
• Main tax incentive was accelerated depreciation.
Intent Of The LIHTC:
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Who Can Use The LIHTC?
• 1986 Act revised incentives
• The LIHTC is credit which provides a dollar-for-dollar reduction of income tax liability – more powerful a incentive than deductions
• Both the passive activity and alternative minimum tax rules limit the number of taxpayers who can benefit from the LIHTC. The restrictions limit the pool of potential users to:
- taxpayers with passive income
- corporate investors
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Administration
• § 42 is co-administered by the Internal Revenue Service and state housing agencies
• A taxpayer/project owner obtains an allocation of LIHTC from the appropriate state housing credit agency through an intensely competitive process or
• Projects financed with tax-exempt bonds in amount of 50% or more of Project Costs are not required to compete under the state allocation process BUT must obtain private activity bond volume cap
• Agencies are also responsible for monitoring the properties to ensure that the taxpayer remains compliant through the life of the project
• Noncompliance is reported to the IRS
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• 1986 LIHTC volume cap formula: $1.25 per resident
• 1986 PAB volume cap formula: greater of $50 per resident or $150 million per State
• 2012 LIHTC volume cap formula: $2.25 per resident or $2,525,000
• 2012 PAB volume cap formula: greater of $95 per resident or $284,560,000
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Commitment
• Credit Period In exchange for the investment in affordable housing, the taxpayer will receive tax credits for each of 10 years
• Compliance Period To avoid recapture of the tax credit, the taxpayer must provide affordable housing for 15 years
• Extended Use Period The taxpayer agrees to provide affordable housing for at least 30 years. There is no recapture potential for years 15 – 30, but the taxpayer does enter into an “extended use agreement” with the Agency. This agreement is a contract, recorded in the land records and enforceable under state law.
All three of these periods begin on the same day (the day in which the buildings are “placed in service” or if the taxpayer elects, the first day of the following year)
• Tax-Exempt Bonds Compliance Period “Qualified Project Period” – later of
- (i) 15 years after 50% of units occupied
- (ii) 1st day tax-exempt bonds no longer outstanding
- (iii) date on which Section 8 assistance to project terminates
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Types of Housing
Supports a variety of housing:
• New construction
• Substantial rehabilitation of existing buildings
• Apartments, single occupancy rooms or transitional housing for the homeless
• All low income or mixed affordable and market rate rental
• A portion of the property may be for commercial use
Does not support:
• Use on a non-transient basis – therefore cannot be used to build hospitals, hotels or nursing homes
• Tax-exempt bonds cannot be used for commercial space, only facilities “functionally related and subordinate” to housing
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Rent Restrictions and Tenant Income Limitations
• The LIHTC program involves many complicated rules regarding the application of rent restrictions, tenant income limitations and other tenant eligibility standards
• Must meet Minimum Set Aside Test:
- 40-60 Set Aside Test: at least 40% of the units are set aside for persons whose income is less than 60% of area median income
- 20-50 Set Aside Test: at least 20% of the units are set aside for persons whose income is less than 50% of area median income
• Rent Restrictions: Rent (including a utility allowance) cannot exceed 30% of the tenant's gross income
- Rent restriction does not apply for bond purposes
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Structure of Tax Credit Transactions
• LIHTC projects are owned by a limited partnership or limited liability company
- Entity of choice because they provide for pass-through treatment of the tax credits
- Permit special allocation of losses
- Permit ownership by corporate entities
• Developer acts as the general partner/equity investor, acquires the limited partnership interest
• Developer is a company with local or regional expertise in multifamily real estate
• Developer GP is often a charitable, governmental or other not-for-profit entity that develops and operates housing to meet the needs of the low-income community
• Public housing authorities frequently act as the sponsor of projects using HOPE VI funds and other sources for the redevelopment of blighted public housing
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LIHTC Syndication
• Some investors keep the investment to offset their own federal income tax liability
• Generally the investor is an LIHTC syndicator
• The LIHTC syndicator acquires numerous properties, aggregates them in one or more funds and sells securities in the funds to widely held C corporations that use the new securities to offset their federal income tax liability
• Direct investors include federally chartered banks, insurance companies and other mission-based investors
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Financing
Taxpayer can use the LIHTC under Internal Revenue Code § 42 with:
• The rehabilitation credit under Internal Revenue Code § 47
• May qualify for tax exempt bonds that are subject to the private activity bond volume cap under Internal Revenue Code § 146 (Section 142(d) “qualified residential rental projects”)
• Federally sourced loans and grants
Taxpayer cannot use the LIHTC with:
• New Markets Tax Credit under Internal Revenue Code § 45D
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Calculation of Credit Amount
Eligible Basis
x Applicable Fraction
Qualified Basis
Qualified Basis
x Applicable Percentage
Credit Amount
The amount of credit the taxpayer can claim each year
during the Credit Period is determined as:
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Eligible Basis
Common errors in determining eligible basis include:
• The cost cannot be documented
• The cost was not incurred before the end of the first year of the credit period
• The cost is associated with the land or a land improvement
• The cost is associated with a commercial use
• The cost was financed with a federal grant
Eligible Basis = total of allowable costs associated with depreciable residential rental property.
Land costs, costs of obtaining permanent financing and other non-depreciable costs will not generate tax credits.
• Land can be financed with bond proceeds – 25% limit
If building is located in a high cost area (a QCT or DDA), the Eligible Basis may be increased to 130% of the actual costs.
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Applicable Fraction – IRC § 42(c)
Applicable Fraction is the portion of rental units that
are qualified low income units determined as the lesser
of square footage or number of units.
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Applicable Percentage – IRC § 42(b)
• The amount of the tax credit is equal to the present value of either 70% or 30% of qualified basis, depending on the financing sources
- 9% credit – generally a project that receives tax credits under the state competitive allocation process and is not financed with any below market federally subsidized debt
- 4% credit – projects financed with tax exempt bonds or other “federal subsidies”
- The discount factor is known as the applicable percentage and fluctuates monthly based on current interest rates (For March 2012, the 9% credit is 9% and the 4% credit is 3.18%)
- Taxpayer elects to fix the applicable percentage for the month the building is placed in service or at the taxpayer’s election as of the month in which the taxpayer and the state agency enter into a binding agreement
- Published each month in the Internal Revenue Bulletin
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Since project is in
130% area, Eligible Basis = $14,950,000
Suburban 9% Deal 9% Deal in Inner City 9% Deal-Mixed Income
Total Project Cost $10,000,000 $10,000,000 $10,000,000
Eligible Basis $8,000,000 $8,000,000 $8,000,000
Applicable Fraction 100% 100% 80%
100% Area or 130% Bump Area
100% 130% 100%
Qualified Basis $8,000,000 $10,400,000 $6,400,000
Applicable Percentage 9% 9% 9%
Tax Credits $7,200,000 $9,360,000 $5,760,000
EXAMPLE
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Suburban 9% Deal Bond Deal Mixed Use Bond Deal
Total Project Cost $10,000,000 $10,000,000 $10,000,000
Eligible Basis $8,000,000 $8,000,000 $8,000,000
Applicable Fraction 100% 100% 60%
100% Area or 130% Bump Area
100% 100% 130%
Qualified Basis $8,000,000 $8,000,000 $6,240,000*
Applicable Percentage 9% 3.18% 3.18%
Tax Credits $7,200,000 $2,544,000 $1,984,320
* Since project is in 130% area, Eligible Basis = $10,400,000 ($8,000,000 x 130%)
EXAMPLE
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Components of Return
• Stream of LIHTCs expected during the 10 year credit period
• Distributions of cash flow
• Distribution upon the sale of the project after the end of the 15 year compliance period
• Allocations of gains and losses, including depreciation deductions, operating gains or losses and gains or losses attributable to a capital event
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Miscellaneous Issues
• Extended Use Agreement No credit is allowable for a taxable year unless such an agreement is in effect as of the last day of such taxable year
• Certifications and Annual Reports Taxpayer must provide the IRS with the following annual reports:
- Certification with respect to the 1st year of the credit period, which is a one time filing of IRS Form 8609
- Taxpayer files Form 8609-A with the tax return for each year of the 15 year compliance period to complete the annual report
- Taxpayer must certify at least annually to the state agency that the project met all requirements
- Tenant records and property are subject to physical inspection by the state agency
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Credit Disallowance and Recapture
• Although the credit is taken in equal amounts over the 10 year period, they are considered earned ratably over the 15 year compliance period
• Failure to comply with Section 42 requirements at any time during the 15 year compliance period can result in recapture of credits previously taken
• No credit is allowable for the year in which a taxpayer disposes of a building (or interest therein)
• Recapture amount is computed as a portion of the credit allowable in prior years plus interest beginning on the due date for filing the return for the prior taxable year involved
• Recapture provisions will apply unless it is reasonably expected that the new owner will continue to operate the building as a qualified low-income building for the remainder of the 15 year compliance period
Multi-Family Housing: Financing Alternatives for an Emerging Market (Tax Credits and Tax Exempt Bonds)
Fredrick H. Olsen
Ballard Spahr LLP 201 S. Main Street, Suite 800
Salt Lake City, Utah 84103
(801) 531-3034; [email protected]
Ryan R. Warburton
Ballard Spahr LLP
201 S. Main Street, Suite 800
Salt Lake City, Utah 84103
(801) 531-3072; [email protected]