National Housing Law Project Housing Law Bulletin

HUD Issues FY 1997 Guidance for Preservation and Section 8 Renewals

As the federal government has increasingly utilized annual appropriations bills as the primary vehicle for substantive legislation, HUD has simultaneously moved away from implementing those changes in formal rules. This trend toward "government by memorandum" has particularly taken root in the privately owned multifamily housing programs that include developments with subsidized mortgages or project-based Section 8 contracts. During Fiscal Year 1996, for example, HUD operated the preservation program via a series of administrative issuances known as "Preservation Letters." After Congress provided limited funding and made several policy changes in the program in the FY 1997 appropriations Act,¹ HUD recently issued the first (of what may be expected to be a series) such administrative guidance for the current fiscal year, "Preservation Letter No. 97-1,"² summarized below.

Program Changes for Fiscal Year 1997

For the current fiscal year, Congress provided a total of $350 million in additional funding for the preservation program. While continuing some of the program revisions adopted during FY 1996 (e.g., permitting prepayments and providing one-year preservation vouchers for unassisted eligible tenants and funding sales via capital grants), Congress also made a number of additional changes, primarily to the priorities for funding, HUD's duty to continue administrative processing of applications, federal cost limits and tenant protections.

Highlights of Preservation Letter No. 97-1

Funding categories

Faced with the insufficiency of funding for all eligible approved properties, HUD will continue its practice of dividing into three categories the universe of properties with approved plans of action: (1) sales to priority purchasers, (2) so-called "carve outs" (categories specifically mentioned by the Act),³ and (3) "extensions," where the owner chooses to remain in the program in exchange for receiving additional federal financial incentives. HUD will assign properties a funding control rank order number, reflecting the date that the funding request was received in HUD headquarters from the field office. However, because Congress and HUD have assigned priorities and even allocated specific funding to projects depending upon their category, the ranking number will be used only to determine which properties within a particular category will receive funding first.

Of the $350 million FY 1997 funding level for the preservation program, $75 million is to be used for the "carve-out" category, up to $100 million for prepayment vouchers, up to $10 million for owner reimbursements, and the balance (about $165-175 million, depending upon HUD's decision on the reimbursements) for sales to priority purchasers. Thus, extension projects will not receive funding unless they qualify as a carve-out. Sales to priority purchasers will receive at least $175 million, since HUD has determined not to reimburse owners. This total funding level for preservation sales could rise if the one-year voucher costs of prepayments do not require the $100 million added to FY 1996's $12 million voucher carryover.

Tenant protections

HUD's Preservation Division will monitor the $112 million voucher funding provided to its Office of Public Housing on a quarterly basis to determine whether excess funds should be redirected to funding sales transactions.

Because the rules governing tenant protections were changed in the 1997 Appropriations Act, HUD now states that the rules governing prepayment and tenant protections will be determined based upon the date of the prepayment, not on the effective date of any subsequent rent increase. HUD's position is that for prepayments during FY 1997, so long as funding for preservation vouchers is available, the vouchers are in lieu of the tenant protections formerly required by Section 223(b) and (c) of LIHPRHA.⁴ Tenants in buildings prepaid during FY 1996 may presumably claim the prior statutory protections; HUD states that these protections are certainly available to moderate-income special needs tenants who do not get vouchers in FY 1996, but will in FY 1997.⁵

While tenants do not have a choice between the statutory protections and preservation vouchers, HUD has recognized that new voucher tenants in buildings remaining available for rental use have the right to elect to remain or move with their voucher assistance, at least for the first year of that assistance.⁶ After the first year, HUD's position that Section 8 rules govern the future terms of the assistance could place in jeopardy the tenants' security of tenure. HUD adds that this right to remain is also subject to the "eligibility requirements" for receiving a preservation voucher, but presumably this right is limited to the statutory conditions contained in the appropriations act and does not include additional criteria that may be established by a PHA in administering its tenant-based subsidy programs.

Since federal law imposes no limit on rent increases after 60 days following prepayment, actual rent burdens under the new prepayment voucher may change for tenants who remain, increasing if the PHA determines that the post-prepayment rent is not "reasonable." If state or local law prohibits rent increases during the first year following prepayment (e.g., in the state of Washington), HUD takes the position that tenants are ineligible for vouchers absent a change in applicable law. Eligibility for vouchers has been expanded to include formerly unassisted tenants with moderate incomes (between 80 and 95 percent of area median) who have special needs, are elderly or disabled, or who reside in low-vacancy areas,⁷ so long as other eligibility requirements are satisfied.⁸ Tenants receiving project-based Section 8 Loan Management Set-Aside (LMSA) assistance continue paying Section 8 rents until expiration of their LMSA contract.

Sales to priority purchasers

FY 1996 funding for sales has been fully expended. In order to fund properties during FY 1997, HUD currently has about $175 million on hand ($10 million in discretionary funds for owner reimbursements added to the $165 million FY 1997 remaining balance). This total available for sales could be augmented during the year by HUD's reallocation of funds that are not needed for tenant protections (to be reviewed quarterly), and by some sale projects qualifying as earmarked carve-outs. This $175 million should fund approximately 30 to 35 properties under the mandated capital grant funding format, depending upon their recalculated equities and rehabilitation needs, and applicability of the new cost limit.⁹ HUD will permit these recalculations (per forthcoming instructions to the field and Headquarters review), but only for projects with presumably approved plans more than 12 months old as of February 28, 1997. The recalculations would reflect additional principal repayment since the initial funding request and updated rehab estimates, subject to the overall cost limit. The HUD Letter includes a list of the first 35 projects in the sales funding queue. These projects must also satisfy the statutory minimum equity requirements in order to receive FY 1997 funding. Projects with insufficient equity will remain in the queue pending future congressional action, and of course their owners are free to prepay.

The Letter also contains some policy guidance on sales issues. First, HUD attaches no significance to the FY 1997 Appropriations Act's use of the term "preferred priority purchaser," instead opting to permit funding for all "priority purchasers." This effectively broadens the category to include more than resident groups and tenant-endorsed community-based nonprofit organizations that had had the first crack under HUD's regulations during the early stages of the marketing period, and which many thought had been intended by the adjective "preferred." Second, HUD has declined to adopt any other criteria for preferring certain types of sales, such as first allocating funds to properties sold directly to tenants and next to tenant-nonprofit partnerships, as urged by the National Alliance of HUD Tenants. Third, projects not funded this year must await the results of future statutory action revising the rules and providing additional funds to determine the possibility of restructuring their plans.

Miscellaneous issues

While restating the statutory directive that the first $150 million recaptured from outstanding Interest Reduction Payment contracts due to prepayments of the Section 236 loans must be rescinded, HUD also takes the position that any recaptured excess above the $150 million (which would require about 150 prepayments) may not be used for preservation activities.¹⁰

As mandated by the Act, all processing of plans that failed to reach approval by September 30, 1996 is suspended, except for carve-outs.

The Preservation Letter also addresses the continued availability of technical assistance grants for predevelopment and resident capacity-building under the Intermediary Technical Assistance Grant (ITAG) program. HUD's guiding principle here is that only projects that can meaningfully participate in the preservation program should be eligible for ITAG funding. Specifically, effective December 30, 1996, HUD's position is that new ITAG grants may be provided only to projects with approved plans or carve-outs, and that voucher requests under approved grants may be accepted only for projects in those same categories. ITAG funds may be used by a grantee to seek additional funding for a sales transaction under alternative funding sources (e.g., HOME or tax credits), but only if that funding is to be used "in conjunction with the Preservation Program." Otherwise, any funds provided must be repaid. To satisfy this test, the purchaser must execute a HUD Preservation Use Agreement. What this means is that ITAG funds will not be available for use to seek funds to restructure transactions that will not receive federal preservation funding, but may be used where that funding simply needs to be supplemented (e.g., projects running over the new cost limit) or where HUD Use Agreements do not present insurmountable problems for a restructured financing package. HUD will require grantees to keep separate records of activities in pursuit of financing other than federal capital grants. The other rules governing the use of ITAG funds remain the same.

One lingering issue is whether the Preservation Letter precludes intermediaries from awarding Resident Capacity grants to projects other that those with approved sale plans or carve-outs. While the language of the Letter makes no distinction about the type of grant subject to this guidance, HUD is reportedly revisiting this issue since these resident grants were never tied to project sales feasibility, and the need remains for substantial resident involvement in future project planning for prepayment, prolonged drift under the Section 236 program, or a restructured sales transaction.

HUD states that it has not yet made a decision concerning reallocation of existing ITAG funds from intermediaries with lesser demand to those with greater needs.

The Letter also confirms that HUD will consider modification of Regulatory Agreements (with Headquarters having final approval) to permit purchasers of preservation properties to retain so-called "excess rents" under the Section 236 program (beyond basic rents) to promote preservation.

¹Pub. L. No. 104-204, 104 Stat. 2874 (Sept. 26, 1996) (hereafter the Act). See Congress Hammers Preservation Program, 26 HOUS. L. BULL. 142 (Oct. 1996).

²Memorandum for Directors of Housing et al. from Nicolas P. Retsinas, Assistant Secretary for Housing, Re: "Fiscal Year 1997 Implementation of Low-Income Housing Preservation and Resident Homeownership Act of 1990 (LIHPRHA) and Emergency Low-Income Housing Preservation Act of 1987 (ELIHPA) Programs" (Dec. 16, 1996).

³These include certain properties whose preservation processing was delayed due to their location in disaster areas, or due to disputes about the applicability of local rent control or the negotiation of repayment or settlement agreements between an owner and HUD.

⁴Preservation Letter No. 97-1, Attachment 3, Q&A 5. The superseded protections include three-year budget-based rent increase protection for tenants with special needs or those residing in low-vacancy areas and owner payment of half of relocation costs. 12 U.S.C.A. §§ 4113(b) and (c) (West Supp. 1996).

⁵Preservation Letter No. 97-1, Attachment 3, Q&A 4.

⁶Id., Q&A 9.

⁷For FY 1997, the "special needs" category no longer includes large families.

⁸To receive a preservation voucher, tenants must be residents as of the date of prepayment, and have received a rent increase within a year following prepayment that creates a rent burden exceeding 30 percent of their adjusted household income. The tenant's rent burden with the voucher may not decrease below the rent paid at the time of prepayment.

⁹The new federal cost cap for capital grants is seven times the annual area Fair Market Rents for a project's unit sizes.

¹⁰Preservation Letter 97-1 at 13.