New Money to Preserve Affordable Housing
July 8, 2016
Developers find capital from unusual sources to buy older apartment communities and keep rents affordable to low-income families. They have to — especially when the properties are located in desirable neighborhoods and can sell for high prices.
Consider these [innovative] deals that developers recently closed to buy and rehabilitate three affordable communities: One developer received equity from a mission-driven real estate investment trust (REIT). Another found a dependable stream of income from rental subsidies through a new federal program. A third received an unusual bridge loan from a major, money center bank.
In each case, Freddie Mac financing helped affordable housing developers reach the finish line. "For the last two years, we have been the leading affordable housing lender in the U.S.," says Shaun K. Smith, senior director of targeted affordable production for Freddie Mac.
Dependable rental subsidies preserve Rutland Road Houses
To keep the apartments at Rutland Road Houses affordable for its residents, developer William R. Lucas Realty Services needed to arrange dependable rental subsidies to support a complicated financing.
"I specialize in fairly complex deals, but this probably had the most moving parts of any of them," says Alex Viorst, principal at Prudential Mortgage Capital Co., which arranged the financing as a Freddie Mac Seller/Servicer.
The 438-unit property was built in the 1970s through a combination of state and federal programs like New York State’s Mitchell Lama Housing Program. Many residents received federal, project-based, rental subsidies – though these came with no guarantees. "There was nothing to give the owner an idea of what would happen," says Viorst.
The stakes were high – the community is surrounded by increasingly expensive real estate in the Crown Heights neighborhood of Brooklyn, N.Y. "It is in the path of gentrification in Brooklyn," says Smith.
The expanded federal Rental Assistance Demonstration (RAD) program helped transform uncertain rental subsidies into dependable income. The original RAD program typically recapitalizes public housing. The expanded RAD part II also helps old, privately-owned properties like Rutland. Thanks to RAD, Rutland now has a new, 15-year contract that provides dependable, project-based, Sec. 8 rental subsidies.
"You can expect that this contract will be renewed in perpetuity," says Smith.
That income supports the package of loans that helped buy and renovate Rutland Road Houses. The total development cost of $96 million includes $58 million to buy the property, or $132,000 per unit, and $21 million to renovate the apartments, plus all of the soft costs and reserve requirements that come with a tax-exempt bond financing.
The biggest piece of that financing came from a $32.9 million, 35-year tax-exempt bond originated by Prudential. Freddie Mac provided the credit enhancement for the bond, which also came with an allocation of 4 percent LIHTCs that was bought by an institutional investor for $25 million. The development also took on $23 million in seller notes and $8.4 million in subordinated debt from the state Housing Finance Agency.
Rutland also had an old, low-interest mortgage arranged by state officials decades before through the defunct, federal Sec. 236 program. The new financing preserves a $1.6 million low-interest loan, which still had 15 months left to run when the new financing closed in 2015. "These older preservation transactions definitely benefit from maximizing the dollars available for rehab," says Viorst.
Balance sheet loan for Elbee Gardens
Last year, the Arker Companies, had a brief opportunity to buy an affordable housing community in Staten Island, N.Y. But the affordable housing developer had to close the deal by end of the year.
The 178 apartments Elbee Gardens were built in the 1970s with a HUD Section 8 contract to provide rental subsidies. Investors including private equity funds are often eager to buy properties like these in strong housing markets like New York City with a history of being fully-occupied. The seller had many choices, and the deal had to close by the end of 2015.
But the permanent, tax-exempt bond financing would not be able to close until months later. "Due to timing pressures, we had to initially close the acquisition financing on our balance sheet," says Rachel Grossman, director for Wells Fargo Multifamily Capital.
The permanent financing for the $39.4 million redevelopment closed in March 2016, including a $24.0 million tax-exempt bond, credit enhanced by Freddie Mac. "Freddie Mac came to the rescue by being able to take out our balance sheet loan," says Grossman.
The tax-exempt bond program in New York City is one of the only programs in the country to require a 30-year credit enhancement for tax-exempt loans to affordable housing properties. "Freddie Mac was able to offer that credit enhancement product to make acquisition rehab deals work in New York," says Grossman. Wells Fargo will act as the seller servicer for the bonds. The recapitalization also received $14 million in equity from the sale of 4 percent LIHTCs to Wells Fargo. The rehabilitation of Elbee Garden should be finished in early 2017.
REIT helps buy Duffield Townhomes
A conventional apartment property in an expensive neighborhood in an area where affordable and workforce housing are much needed will keep its rents affordable to moderate-income families, thanks to financing plan that includes equity from a "social-purpose" REIT.
"We are preserving affordable housing in a high-opportunity area," says Freddie Mac’s Smith.
In December, AHC Greater Baltimore bought the Duffield Townhomes in Nottingham, Md., a short drive from employment centers like the White Marsh Mall and Towson University. AHC Greater Baltimore is the local affiliate of Arlington Housing Corp.
It cost $52 million to buy the 312-unit community. That works out to $167,000 per unit, not a bad price for apartments with unrestricted rents in an expensive neighborhood. The large purchase price makes up most of the total $57.5 million cost to recapitalize Duffield Townhomes. AHC only had to spend $1.5 million for a few limited renovations. "The property had been well maintained and is not in need of full renovation at this time," says Bryan Dickson, director for Citi Community Capital.
AHC bought the community with the help of the Housing Partnership Equity Trust, a REIT created by a dozen nonprofit affordable housing developers to help them purchase and preserve housing properties with affordable rents. AHC and the Housing Partnership Equity Trust contributed $10.9 million in equity to buy and rehabilitate Duffield Townhomes.
Freddie Mac provided a $41.6 million loan through its targeted affordable group. The ten-year loan covered 79.4 percent of the price of the property. A 1.25 debt service coverage ratio also limited the size of the loan. The loan also comes with a two-year "interest only" period in which the borrower will make small payments to the loan that covers only the interest accrued, not the principal loan balance.
"Freddie Mac offered a great execution and a great interest rate," says Dickson.
Another $5 million in subordinate debt provided by Baltimore County finished off the financing. The financing closed in December 2015.
A quarter of the 312 apartments will receive rental subsidies through a new housing assistance payment contract with HUD.
"The community gets 78 apartments with deeper affordability that didn’t exist before – that’s the real story," says Dickson.
The remaining apartments will not have formal restrictions on their affordability.
"The remaining units are still affordable relative to market, though they don’t have restrictions," says Dickson. "The rents are typically affordable to people earning 80 percent of the area median income, or less."