Owners of non-profit seniors housing projects are anxiously awaiting a final announcement on reforms that would unlock debt and equity financing alternatives for their segment of the industry. The financing would provide a capital infusion to support much-needed revitalization of aging affordable rental units.
The U.S. Department of Housing and Urban Development (HUD) has proposed reforms to its Section 202 Project Rental Assistance Contract (PRAC) program. The portfolio represents a sizable chunk of the nation’s affordable seniors housing rental inventory, encompassing about 2,900 properties and 125,000 individual units. The 202 PRAC housing portfolio has been a focus of preservation efforts due to its increasing age, with some properties dating back to 1990.
“There is a significant demand for improvements in these properties,” says Tracy W. Peters, head of affordable housing and senior managing director at RED Capital Group LLC, a subsidiary of the ORIX Corp. Some were originally built nearly 30 years ago, with very little capital that has been available for them to do any type of major improvements. “That is a long time to defer needed renovations. So, this is a way that HUD has seen to take advantage of the capital markets to allow for improvements in these properties,” he says.
“There is a desperate need in our nation to ensure affordable housing is available to everyone, especially our seniors. It is necessary that we provide aging communities with safe, clean homes that they are proud to live in. The proposed RAD for PRAC program will help provide that.” adds Heather Olson, vice president responsible for multifamily originations at Walker & Dunlop in Atlanta.
Fix for cash-strapped projects
HUD clearly recognized that these were cash-strapped properties that needed to tap capital sources outside of public funds. According to an article posted by the Center on Budget and Policy Priorities, HUD program funding generally remains below 2010 funding levels on an adjusted for inflation basis.
In this case, HUD isn’t exactly reinventing the wheel. Seniors housing section 202 PRAC projects will now be able to use Section 8 much the same way other HUD affordable housing projects do. “It is in effect the way that we do recapitalization in a lot of other similar type of affordable properties,” says Peters.
What has happened is that Congress legislation has allowed for Rental Assistance Demonstration (RAD) for PRAC program properties. That change allows for properties that had relied on operating subsidies to now be converted to Section 8 rental assistance. Essentially, RAD provides a Section 8 voucher, meaning that the government pays for subsidized rents at the property. Importantly, the program also allows for an increase in rents so that properties can generate income. “It provides an opportunity for private and non-profit developers to really revitalize senior communities that would otherwise not be able to afford the necessary rehabilitation.” says Olson.
The anticipation is that the change will create income that will allow property owners to service first mortgage debt, whereas previously that was not an option under the program, says Peters. Under the prior structure, it was essentially a break-even program as far as operations were concerned, he says.
In addition, the change would allow financing to be structured with LIHTC equity. “It is anticipated that the owners of these properties would be able to do several different types of financing structures,” says Peters. One, they may be able to do a 9 percent LIHTC deal with or without debt financing to make needed improvements to a property. Two, an owner could structure a financing that combines both 4 percent tax credits and debt with tax-exempt bonds.
There may be situations where the 9 percent LIHTC alone may be sufficient for recapitalization. However, if there is sufficient cash flow to support debt, then a property may also consider debt on a 9 percent LIHTC deal or a 4 percent LIHTC deal.
Reforms expected to spur revitalization
The problem facing Section 202 property owners is that they had aging properties in desperate need of rehab, but they weren’t generating incomes at the properties to be able to do the rehabs themselves, notes Olson. “Once they go through the RAD program, then will be able to generate income to support the needed rehabs to ensure that our seniors are living in safe and secure homes,” she says.
Property owners should find ample demand in the LIHTC market to accommodate demand from this new group of seniors housing properties. The 4 percent LIHTC equity comes from the federal government, whereas the 9 percent LIHTC equity is state-allocated and is typically very competitive in every state. The hope is that Congress is going to fix the federal LIHTC at 4 percent, which would bring even more equity to the LIHTC market, adds Olson.
That being said, investors will underwrite the viability of the individual property. “From a residents’ standpoint, there is high demand for these types of properties and the tax credit investors realize that,” says Peters. “So, I think they are going to look at them very favorably as ones they will want to invest in.” Likewise, there should be plenty of interest among debt providers to finance these deals, likely through FHA insured programs, Fannie Mae and Freddie Mac.
HUD originally published guidance for public feedback on the proposed Section 202 reforms in February. “We were expecting HUD to issue a notice in July to announce the program and make it official. Unfortunately, we are still waiting for that notice,” says Olson. HUD could come out with a formal announcement anytime between early September and the end of the year. Once the reforms are official it will take time—likely a couple years—for property owners to initiate changes and move down the path to assemble financing and actually start work on rehab projects. “It is a lengthy process, but it is one that is desperately needed,” Olson adds.