COLLABORATE. INNOVATE. ACCELERATE.

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1 VIA April 27, 2018 Mr. Robert Iber Acting Deputy Assistant Secretary Office of Multifamily Housing U.S. Dept. of Housing and Urban Development th Street SW Washington, D.C Attention: Mr. Tom Davis, Director, Office of Recapitalization Dear Mr. Iber and Mr. Davis: (SAHF) is pleased that the Consolidated Appropriations Act of 2018 authorizes the conversion Section 202 Project Rental Assistance Properties (PRACs) to Section 8 project based rental assistance (PBRA) or project based vouchers (PBV) under the Rental Assistance Demonstration (RAD) program. RAD has provided a transformative opportunity to leverage private capital and expertise to preservation public and multifamily housing and we look forward to working with HUD as it implements RAD for PRAC properties (RAD for PRAC). SAHF represents thirteen exemplary non-profit affordable housing providers who preserve and develop multifamily properties for low-income persons with disabilities, the elderly and families and the homeless. SAHF members collectively own and operate more than 135,000 affordable rental homes around the country, more than 17,600 of which are financed with 202 PRACs. Our members are keenly aware of the preservation challenges facing these properties. Based on their experience with other RAD and preservation transactions, SAHF members recognize that the process and structure of the transactions will be important for financial feasibility and that changes in rental assistance platforms have implications for the future operations of the property. We offer the following recommendations for the implementing RAD for PRAC in a way that will facilitate financially feasible transactions that will operate smoothly as quality affordable housing where seniors may live with dignity. 1. Financing and Regulatory Documents The typically small size and limited revenue of RAD for PRAC transactions will require flexibility to attract private investment for preservation. We encourage HUD to work with owners on financing proposals that will address capital needs while ensuring the long term preservation of these important rental homes. A critical element of RAD for TH Street NW Suite 650, Washington, D.C P (202)

2 PRAC transactions will be the subordination and restructuring of the capital advance documents. The statutory language recognizes the need for this flexibility by authorizing the subordination or restructuring of PRAC documents in connection with a RAD conversion provided that the affordability period, designation of the property as serving elderly persons, and tenant consultation procedures are maintained. HUD should develop guidance that permits maximum flexibility in restructuring the capital advance to facilitate preservation, including a release of the repayment obligation, and allows the restatement and subordination of the Capital Advance documents. Any new mortgage lender is likely to require that capital advance documents be subordinate to a new mortgage loan. Further, many RAD for PRAC transactions will utilize low income housing tax credits (LIHTC) to help finance their recapitalization. The continuation of the capital advance repayment provisions, particularly where they would continue beyond a 15 year initial LIHTC compliance period, could create a number of tax implications that could preclude the LIHTC investment. Implications including, but not limited to minimum gain challenges or exit tax liabilities could be avoided if HUD permits restructuring of the capital advance agreement to forgive the debt at or before the time of the RAD for PRAC closing, but retaining the affordability and elderly restrictions as well as tenant protections as required under the authorizing language. To the extent that HUD determines that it cannot forgive the capital advance/release the repayment obligation at the time of the closing, we urge HUD to explore a restructuring that would annually make a pro rata reduction in the outstanding capital advance repayment obligation over the remaining number of years of the capital advance Mortgage. This would reduce the risks and expenses related to the back end debt described above. For instance, if there are 10 years remaining on the Capital Advance Mortgage/Use Agreement and the Capital advance was $2,000,000, HUD would restructure the Capital Advance documents so that the amount repayable in the unlikely event of a breach of the affordability restrictions is reduced by $200,000 each year (e.g. if a default occurred four years after closing, $1,200,000 would be due (4 years x$200,000/year reduction). While this approach would facilitate some transactions, it may also raise other concerns for LIHTC properties, including phantom income created by annual forgiveness. We strongly encourage HUD to consult with practitioners and their tax counsel when defining parameters for restructuring and to create guidance that allows for maximum flexibility in restructuring to facilitate preservation transactions TH Street NW Suite 650, Washington, D.C P (202)

3 We anticipate that the following recording order and documents would prioritize the preservation of the property while acknowledge the risk that lenders, investors and tax credit allocators incur in a preservation transaction. a. RAD for PRAC Use Agreement. The term of this use agreement should be for at least the remaining term of the Capital Advance Use Agreement. SAHF members would support an additional affordability commitment in connection with the transaction. b. New Mortgage Loan documents - The new financing documents will need to be in first position so that that in the unlikely event of a foreclosure, the lender has an opportunity to mitigate its losses. With a use agreement recorded in a superior position, affordability will be preserved in the event of a foreclosure. c. Land Use Restrictive Agreement for Low Income Housing Tax Credits - The allocating agency will require a high priority for this document to ensure that affordability is maintained. d. Subordinated and Restructured Capital Advance Documents - The cleanest approach would be to release the Capital Advance Documents in exchange for execution of the RAD for PRAC use agreement. To the extent that the Capital Advance Mortgage and Regulatory Agreement are not released, they should be restructured and subordinated to new financing documents and amended to permit distribution of surplus cash, as discussed below, to allow the new financing and as otherwise required to facilitate new financing and the rental assistance conversion. The cleanest path to a restructured set of capital advance documents will be to fully restate the documents to reflect the restructuring, subordination and other key preservation provisions, including the elimination of the prohibition on distribution, as discussed below. We would be happy to work with HUD on drafting a restated set of documents and encourage HUD to consult with practitioners on any new documents. 2. Resulting Rental Assistance Contract As private owners of PRAC properties seek to convert their properties to a PBRA or PBV Housing Assistance Payments (HAP) Contract, we presume that HUD will extend the same regulatory waivers available under RAD Component 2 to RAD for PRAC conversions. The following considerations apply specifically to RAD for PRAC properties. a. Rent Setting i. Rent Levels/Budget Based Rents Prior to conversion, PRAC properties have operated on a budget basis and have not been subject to market comparability. These budget justified rents are the amounts that HUD has acknowledged are required for basic operation of the property, without mortgage debt. Since in RAD

4 for PRAC, many properties will incur debt for the first time to address capital needs and position the property for the future, it is unlikely that post conversion revenue needs will decline in most properties. In many cases, the current rents at the PRAC property will be insufficient to support sustainable recapitalization financing. We strongly urge HUD to explore available authority and funding sources to provide for rent increases needed to facilitate the preservation of these properties through RAD for PRAC. To the extent that HUD determines that rents cannot be increased in connection with a RAD for PRAC transaction, it should also not impose a rent comparability requirement. The authorizing language provides that any increase in the cost of PBV and PBRA assistance be transferred from the Section 202 PRAC account. The authorizing language does not require a rent comparability study, nor does Section 8 (c)(1) and HUD should not impose a market one in connection with these transactions. These properties have not previously been subject to market comparability, but have had an annual review of their operating expenses that deemed the rent levels necessary to meet needs. While recapitalization may achieve some efficiencies, savings created by such efficiencies are highly unlikely to exceed the new costs associated with recapitalization, including debt service payment. HUD should not require any additional constraints on rents already lower than what is needed to support recapitalization debt. While many PRAC properties currently have rents below FMR, given the broad nature of FMRs and the unique size and nature of PRAC properties, some have expenses that necessitate rents in excess of FMRs. These properties have been subject to rigorous oversight of their budgets and should not be excluded from preservation through the application of FMR standards that often don t reflect market or project realities and certainly don t reflect the need for affordable senior housing. To the extent that HUD determines that a) rents cannot be increased through a RAD for PRAC transaction, and b) rents cannot exceed the FMR standards applicable to the PBRA or PBV contracts HUD should consider the following: A. For PBRA contracts: Rent should be set at the lesser of 1) rents requested by the owner; 2) the current (pre conversion) rents; or 3) TH Street NW Suite 650, Washington, D.C P (202)

5 120% of FMR. To the extent that HUD determines that it must test new rents against the FMR, HUD should exercise its discretion under the statute (42 USC 1437f(c)(1)(a)) to permit initial rents up to 120% of fair market rent (FMR). The preservation of affordable senior rental housing is a priority recognized elsewhere in statute including for discretionary mark up to markets and in provisions permitting exception rents for properties with refinanced Section 202 direct loans and should warrant the exercise of this discretion in this case. Further, for purposes of rent setting in RAD for PRAC transactions, owners should be permitted to elect to use the small area fair market rent (SAFMR) in the calculation of rents as is currently permitted under RAD II. Finally, as discussed in greater detail below, the budget based rents for many PRAC properties include some expenses related to the services and service coordination that are vital to the residents of these properties. These valuable and cost saving services are not reflected in FMRs, which are developed based on average housing in the area without regard to the presence or value of such services. Accordingly when, evaluating whether rent are less than 120% of FMR, HUD should consider only the portion of the rent attributable to shelter and should not consider the portion of the rent attributable to nonshelter services permitted by HUD. When actually setting rents, the nonshelter services component should be added back to arrive at the final contract rents. Assuming that the total contract rents won t exceed the preconversion rents, this approach has no budget/cost impact and provides for a more accurate comparison of rents to FMR. B. For PBV Contracts: For properties converting to PBV, HUD should permit owners to use SAFMR in initial rent setting for PBV contracts upon request, as is permitted for PBRA. HUD should provide clarifying guidance for PHAs indicating that use of SAFMRs for a RAD for PRAC PBV does not require the application of SAFMR to all PBV contracts in their portfolio. Further, HUD should provide PHAs administering RAD for PRAC PBV contracts with initial rent setting guidance explaining how to compare rents that include services to FMRS are outlined for PBRA above TH Street NW Suite 650, Washington, D.C P (202)

6 Finally, any budget required in connection with conversion should permit the owner to include the required debt service coverage ratio, which should not be less than ii. Base Year for Rent Setting and Replacement Reserves Given their increasing age and lean operating budget, many PRAC properties have significant capital replacement needs. Some owners have requested increases to reserve for replacement deposits to start to accumulate a funding source for current and future needs. The base year for purposes of the conversion must be the current budget rents, reflecting any recent updates to replacement reserve deposits. Further, not all properties will be viable as RAD transactions or will be able to immediately pursue RAD. To help ensure that the physical needs of these properties are addressed, HUD should issue clear guidance to the field on the adjustment of reserve for replacement deposits based on a current capital needs assessment (CNA), including guidance that a CNA is an eligible project expense. iii. Service Coordinator Funding Service Coordinators play a critical role in connecting residents of PRAC properties to community based services that that help residents manage their health, social and financial needs and live in dignity. Service Coordination is critical to resident well-being and has been linked to reductions in hospitalization. Properties financed with 202/PRAC are eligible for service coordinator grants or to include service coordinator salaries and limited expenses for services to the property budget. HUD should be vigilant to ensure that quality service coordination and services are maintained through the conversion. To do this HUD should 1) confirm that properties will continue to be eligible to renew their service coordinator grants after converting to PBV or PBRA; 2) for properties that do not benefit from a grant, include the amount for resident service coordinator salaries and expenses in the gross contract potential before conversion and permit service coordinator expenses to be paid as a project expense following conversion; and 3) continue to allow owners to pay up to 15% of service costs as an operating expense post-conversion. As outlined above, the portion of the rent attributable to service coordinator salary or budgeted expenses should not be included when comparing rents to FMR for purposes of initial rent setting, but should ultimately be included in the initial contract rent. This approach will allow the nonprofit owners of these properties to continue to provide

7 services that reduce hospitalization costs and help resident age in place with dignity. iv. Utility Savings In many multifamily properties, there is a misalignment of incentives that limits owners ability and incentive to make energy efficient improvements that would generate utility savings. Where tenants pay the utilities, savings attributable to efficiency improvement inure to the tenants and cannot be leveraged by the owner to help pay for the improvements. In RAD 1 (RAD Notice Section 1.7 (5)(A)(iv), HUD permits contract rents to be increased by a portion of utility savings created by the conversion. To encourage cost-saving improvements and energy and water conservation, HUD should permit the same adjustments for RAD for PRAC transactions. b. Distribution of Surplus Cash Converting PRAC properties to PBV and PBRA will introduce new financing partners, a new regulatory footprint and new asset management and oversight expenses for property owners. Attracting and retaining new investors and complying with requirements of new financing will require that RAD for PRAC owners be able to access cash flow generated from properties. Low income housing tax credit investors will look for modest cash flow from properties to pay deferred developer fees and other fees associated with the investment. Other forms of financing and investment will impose similar requirements. Further, nonprofit owners often utilize surplus cash to provide additional services and resources for residents. In order to facilitate private investment in these properties and incentivize preservation, HUD should ensure that the resulting Housing Assistance Payments Contract permits distribution of available surplus cash without a percentage limitation and to the extent that the Capital Advance Regulatory Agreement is retained, amend the regulatory agreement to permit distribution of all surplus cash. c. Renewal of Conversion HAP Contract RAD for PRAC offers an excellent incentive for long term preservation of a portion of the PRAC portfolio. The resulting HAP Contract should ensure that the property remains affordable for at least the term of the original Capital Advance Use Agreement. SAHF members are long term owners with a mission of preserving affordable housing and view RAD for PRAC as an opportunity not only to preserve their owner portfolios, but also a chance to work with other PRAC owners to preserve additional units. We note that PRAC properties differ

8 from the public housing portfolio in RAD Component 1 in that PRAC properties are currently privately owned and have a maturity date after which they are no longer subject to affordability. In order to incentivize preservation of these properties by owners that could otherwise wait for affordability restrictions to expire, owners should not be required to indefinitely accept HAP contract renewals as is required for RAD 1 conversions. A long term contract such as a twenty-year contract with a preservation exhibit and affordability restriction will preserve the resource and attract capital. d. Project Basing Vouchers for Non-PRAC units In some limited circumstances, there may be properties partially assisted with a PRAC contract. In those instances, and where there are tenants with tenant based vouchers at the property, we encourage HUD to explore paths for expediting the voluntary project basing of those vouchers to better facilitate preservation financing by creating project based subsidy that can be reflected in the underwriting for any recapitalization financing. 3. Rehabilitation/Redevelopment a. Portfolio Transactions Many PRAC properties are small with an average of just 50 units. Some of these properties are unlikely to support recapitalization financing on their own. This small size together with restrictions on rent levels will pose challenges for the preservation of this portfolio, even under RAD for PRAC. To successfully facilitate preservation HUD should implement processes that will not only permit larger owners like SAHF members to aggregate properties for portfolio transactions, but also consider what outreach and incentives are appropriate to encourage smaller, less sophisticated owners to transfer properties to missiondriven owners who can preserve them. We encourage HUD to consider a RAD for PRAC process that could streamline property transfers and provide the flexibility needed for preservation owners to create a portfolio with acquired properties as well as properties they already own. These processes should include expedited TPAs that are executed with the understanding that rehabilitation and permanent financing will be done on a portfolio basis. In order to maximize the resources that can be leveraged for the properties and the residents in a portfolio transaction, we encourage HUD to permit rent bundling across RAD for PRAC portfolio is as is permitted for RAD 1 (RAD Notice Section 1.7 A.5.) transactions. With bundling, owners could better address rehabilitation and operations needs at more properties by spreading rent authority across a portfolio.

9 Further, under the transfer authority in Section 210 of Division L of Consolidated Appropriations Act, 2018, the rental assistance and use restrictions for a PRAC property may be transferred to a receiving property. This transfer authority may allow for aggregating of smaller projects to create a more feasible preservation transaction. We encourage HUD to facilitate these creative solutions by streamlining the RAD for PRAC and Section 210 processing requirements, including but not limited to clear guidance that the economic infeasibility requirements may be satisfied by demonstration that it is infeasible for a RAD for PRAC transaction to preserve the property as quality housing for the long term on the existing project site. b. Excess Land Transfers/Partial Release Some existing PRAC properties have excess land or air rights that could be used to develop additional units of affordable housing. In some cases, development of additional units may be accomplished as part of the RAD transaction, but in other instances the most feasible way to add vitally needed affordable housing units may be to transfer the excess land to a new entity that will finance development as a separate project. To the extent that such a transfer of additional development would require a partial release from a Capital Grant agreement or other HUD approval, we encourage HUD to develop expedited processing. If the transfer is happening in the context of a RAD for PRAC transaction that will preserve all units, no valuation of the remaining parcel (after transfer) should be required as a condition of approval since the property is being fully recapitalized and no pay down was otherwise anticipated. Further, no pay down of the capital advance should be required if proceeds are applied to the RAD for PRAC transaction or otherwise to increase affordable rental housing on the original parcel. A streamlined approach to use of excess land could provide a rare opportunity to free up resources for preservation and also create more affordable housing. c. Use of Residual Receipts as a Source To the extent that a converting PRAC property has remaining residual receipts funds, HUD should permit those funds to be applied as a source for rehabilitation costs, including soft costs and the provision of services. d. Developer Fee In reviewing and approving any recapitalization proposal for RAD for PRAC transactions, HUD should permit owners to include a developer s fee of up to 15% of the total cost of development of the amount approved by the tax credit TH Street NW Suite 650, Washington, D.C P (202)

10 allocator, both for LIHTC and non-lihtc transactions, as is permitted for the refinancing of Section 202 direct loans under HUD Housing Notice Use of the developer fee should not be constrained or monitored. e. Capital Needs Assessment In order to ensure that RAD for PRAC transactions facilitate long term preservation, we encourage HUD to require a capital needs assessment for all conversions. Further HUD should require a plan to ensure that capital needs are addressed, allowing sufficient flexibility for financing and recapitalization plans that may involve a twostep transaction such as an acquisition followed by a low income housing tax credit transaction or a portfolio transaction where properties may be acquired in stages and then subject to a larger refinancing transaction. f. Unit Configuration In limited cases, RAD for PRAC transactions may result in changes in unit configuration. Unlike in family properties, these changes will not change the population served. We encourage HUD to identify a streamlined review process for unit configuration changes from efficiencies to one bedrooms and vice versa that does not require the same lengthy fair housing reviews as changes within family properties since these are typically financial and marketability decisions that don t change the number or class of people housed. g. Floating Units In partially assisted PRAC properties or properties in which additional (unsubsidized) units are added through recapitalization, we encourage HUD to permit floating RAD for PRAC units as is permitted for RAD Occupancy Issues a. Citizenship Section 202 PRAC properties may admit seniors without regard to their citizenship status or declaration of citizenship. Section 8 properties have restrictions on assistance to non-citizens. HUD should clarify that all existing tenants have a right to remain and should clarify which requirements will apply going forward. b. Admission of non-elderly disabled For projects converting to project based Section 8, HUD should provide clear guidance in the regulatory documents on the admission restrictions that apply post conversion. Project based Section 8 properties serving elderly populations

11 have a presumption of serving some percentage of nonelderly disabled households, while Section 202 PRACs do not serve non-elderly households, regardless of disability status. The Section 202 PRAC requirements should continue to apply. c. Minimum Rents PRAC properties do not currently have minimum rents. HUD should confirm that minimum rents will not apply to any existing tenants and should clarify the applicability of minimum rents post conversion We look forward to working with HUD and other stakeholders to implement this program and would be pleased to help convene a group of stakeholders for discussions on the implementation of RAD for PRAC. Please contact Andrea Ponsor (aponsor@sahfnet.org) with any questions. Sincerely, Andrea R. Ponsor Executive Vice President, Policy