National Housing Law Project Housing Law Bulletin

After nearly four years of on and off deliberations, Congress has finally adopted a comprehensive program to address properties with expiring Section 8 contracts, thanks to the efforts of a broad advocacy community and the Conference Committee on the HUD, VA and Independent Agencies Fiscal Year 1998 appropriations bill.¹ For the most part, the final program is very similar to that offered earlier this year by Senator Connie Mack in S.513, and reviewed in a prior Bulletin article,² with several compromises to gain the support of the Administration and the consent of the House leadership.

Unfortunately, as of press time, the Conference Report had not yet been filed, so we have not reviewed the extensive final legislative language. Thus, this article only summarizes the new program. A more complete review and analysis, with citations, will appear in next month’s Bulletin.

The new program generally intends to use restructuring to preserve the current project-based program. It may make some modest improvements by getting rid of some bad owners, fostering tenant participation, and providing some new regulatory enforcement tools to HUD and the new regulators ("Participating Administrative Entities," or PAEs — often state housing finance agencies) that will assume restructuring and future oversight functions. The possibilities for positive change are there, but implementation via HUD and PAE rulemaking, policies and decisions will tell the real story.

Most at risk under this renewal and restructuring program will be tenants and units in multifamily properties:

Owner Choice at Contract Expiration

When a Section 8 contract expires, if the property or the owner is not disqualified for prior program violations, the owner has the choice of renewing, restructuring or declining a renewal and letting the Section 8 contract expire ("opt out").

Affected Properties

Eligible for restructuring are those multifamily developments (more than four units) with both project-based Section 8 and HUD-insured mortgages whose current rents are currently above true market value. Rents must exceed either the HUD-published Fair Market Rent (FMR) for the applicable size units in the area or the rent of comparable properties in the market area.

Other properties are ineligible for restructuring. Generally they will receive a renewal offer at current rents, regardless of whether this level is above or below true market or FMR. These ineligible properties include:

Substitution of Tenant-Based Assistance

If contracts are not renewed for any reason (i.e., disqualification or owner choice), HUD must provide tenant-based assistance to tenants in residence at expiration, if Congress has provided sufficient funding. This assistance reportedly would be at ordinary FMRs or payment standards, and thus would not avoid displacement if the property’s rents rise beyond those levels.³

Disqualified Properties

Disqualified properties (eligible for restructuring or renewal but "prohibited" because of failing to meet minimum owner or property standards) may be renewed only as part of a restructuring and transfer plan. The statutory standard centers on the new administrator’s determination that the owner has engaged in "material adverse financial or managerial acts or omissions with regard to the property, or with respect to other properties if a pattern of mismanagement would provide grounds for HUD suspension or debarment."⁴ Generally this includes violations of applicable laws or contracts.

Restructuring or renewal is also prohibited if the administrator finds that "the poor condition of the property cannot be remedied in a cost-effective manner," with no further standard specified.⁵ HUD must develop procedures to facilitate the "voluntary sale or transfer" of disqualified properties as part of a project restructuring plan, with preference for purchase by tenant organizations and tenant-endorsed community-based nonprofit and public agency purchasers.

Implementation Delegated to "Participating Administrative Entities"

Implementation is delegated to qualified administrators, "Participating Administrative Entities" (PAEs), generally qualified state or local public agencies. Reportedly, public agencies have a preference period within which to apply to HUD. If none applies or is chosen, reportedly nonprofits and for-profits with public agency partners (including HUD) may become eligible PAEs. PAEs would presumably perform both restructuring and ongoing regulatory oversight functions. The final agreement reportedly includes the establishment of a new Office of Multifamily Assisted Restructuring (OMAR) within HUD to set up and oversee the program.

Restructured Debt and Subsidies on Eligible Properties

The primary method for reducing Section 8 spending is to restructure the debt and subsidies on eligible properties with above-market rents. Screening by HUD or the new regulator would first determine eligible projects with "good" owners. Then, restructuring would generally occur through a negotiated process of setting new market rents and corresponding debt and subsidy levels before contract expiration. Owners, lenders, the PAEs, and the tenants and community would be part of the restructuring planning process.

Restructuring will require full or partial insurance claims to cover the debt principal. For most restructured properties, the bad debt would be placed into a deferred second mortgage accruing interest at up to the applicable federal rate, with payments made only from excess income, until retirement of the first mortgage.⁶ This technique of mortgage bifurcation is intended to permit the owner to avoid adverse tax consequences. Remaining debt could carry FHA insurance or other unspecified credit enhancement.

Exception Rents

Where a development’s operating costs alone exceed market rents, and full debt write-down would not be sufficient to provide for operations, rents could be set pursuant to a budget-based method, subject to the administrator’s approval and but generally capped at 120 percent of FMR. Exceptions to the cap could be made for a certain number of units within a PAE’s jurisdiction.

Form of Section 8 Subsidy After Restructuring

Renewal of the project-based subsidy for one-year terms at the new reduced market rent levels would generally be required as part of the restructuring agreement, unless the PAE approves a voucher conversion. The final program reportedly includes discretion for PAEs to approve the conversion of project-based assistance to vouchers for certain properties that are not predominantly occupied by elderly and disabled residents or located in so-called tight markets. Such conversions would have to address certain criteria, including market adequacy for using tenant-based subsidies and a variety of other factors, and be made pursuant to a consultative process involving all the stakeholders.

Use Restrictions

Owners submitting to restructuring would have to agree to accept Section 8 renewals, reportedly for a period of 30 years. If Section 8 is unavailable, then owners have to maintain the restructured rents (as adjusted for operating cost increases). In addition, restructuring plans would have to include other use and affordability restrictions imposed by the PAE.

Addressing Troubled Properties

Troubled projects that could not fit within exception rents permitted by the bill (capped at 120 percent of FMR) and those owned by "bad" owners would be precluded from participating in the restructuring and subsidy renewal process, as well as those properties that the new administrator determines cannot be repaired in a "cost-effective" fashion. Nonrenewal of the contract may precipitate default, assignment and foreclosure. Alternatively, these properties could be transferred to tenant- and community-based purchasers pursuant to the HUD-established process, subject to a restructuring plan, possibly including renewal of the Section 8 contract.

Strengthened Enforcement Tools

Reportedly, the new program retains the beefed-up array of enforcement tools to address troubled properties that was initially proposed in the Senate and HUD bills. These include expanded civil money penalties against owners and agents for equity skimming or other program violations, such as failing to provide decent housing or knowingly submitting false claim vouchers.

Repairs of Eligible Properties Suffering from
Deferred Maintenance

In order to address the capital rehabilitation needs of many properties eligible for restructuring, the program provides several possible tools, including rent increases, further debt concessions, or rehabilitation grants. Reportedly the $5,000 per-unit cap on federal assistance has been deleted and the 25-percent mandatory owner contribution remains.

Resident and Community Participation

HUD must establish procedures to provide opportunities for participation in restructuring to tenants and other affected parties, including the local government and community. HUD’s must include certain procedural protections and permit participation in specified events in the renewal and restructuring process, but reportedly these guarantees have been diluted from earlier versions. HUD may provide up to $10 million annually from appropriations for contract renewals or prior appropriations for technical assistance to tenant groups and nonprofit and public agencies for capacity-building of tenant organizations, technical assistance, and tenant services.

Transition Provisions

The new program reportedly extends the FY 1997 Multifamily Demonstration program to deal with contracts and properties expiring prior to the time when the new program is operational. How the major conflicts between the two programs will be reconciled undoubtedly requires a closer analysis of the final language and understanding of the negotiators.

Look for a more complete review and analysis of this major development in next month’s Bulletin.

1. For recent background, see Section 8 Renewals Pose Extraordinary FY 1998 Budget Challenge, 26 HOUS. L. BULL. 167 (Dec. 1996); Not-So-New Proposals for Section 8 Program Restructuring, 27 HOUS. L. BULL. 71 (May 1997); HUD Introduces 1997 Version of Section 8 "Mark-to-Market" Legislation, 27 HOUS. L. BULL. 91 (June 1997); Section 8 Expirations: Housing Resource Up for Grabs, 27 HOUS. L. BULL. 97 (July 1997); and HUD Multifamily Inventory Awaits Decisions, 27 HOUS. L. BULL. 139 (Sept. 1997).
2. Not-So-New Proposals for Section 8 Program Restructuring, 27 HOUS. L. BULL. 71 (May 1997).
3. The final legislation may have authorized "enhanced" assistance, like that used to protect tenants from prepayments of Title VI properties over the past two years, so please review next month’s Bulletin article for clarification on this point.
4. This language comes from the prior version of S.513, as reported by the Senate Banking Committee in late June and incorporated into the Senate’s version of H.R. 2158, the FY 1998 appropriations bill.
5. Id.
6. Look for next month’s Bulletin article for detail on the final version on this point.