HUD Considering Changes to Multifamily Loan Underwriting Criteria

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Tax Credit Advisor, March 2010: In February, the U.S. Department of Housing and Urban Development (HUD) announced that it is considering changes to strengthen its FHA multifamily loan programs.

These changes are intended to address, in part, the escalating number of loan delinquencies and potential for FHA claims in specific markets. In some markets, claim rates for FHA apartment loans have increased from 0.6 percent in FY 2007 to 1.2 percent in FY 2009, to a projected 2.4 percent in FY 2010.

Proposed changes include processing improvements such as expedited processing of applications that will help FHA meet its housing goals; greater scrutiny of new applications in markets with an existing concentration of insured portfolios or with recently completed FHA Section 221(d)(4) projects in stabilization; and prescreening of mortgagees by field offices.

Stricter underwriting criteria for FHA Section 221(d)(4), 221(d)(3), and 223(f) loans have been proposed. Proposed increases in debt service coverage ratios are:

  • From 1.11 to 1.15 for Section 221(d)(4) loans for low-income housing tax credit projects, and from 1.11 to 1.20 for 221(d)(4) loans for market-rate projects;
  • From 1.05 to 1.11 for Section 221(d)(3) loans; and,
  • From 1.176 to 1.20 for Section 223(f) loans for market-rate projects.

Other proposed changes for Section 221(d)(4) loans include:

  • Reducing the maximum loan-to-cost ratio to 87 percent for LIHTC projects and to 83.5 percent for market-rate properties;
  • A minimum four-month debt service in closing escrows;
  • A construction contingency for substantial renovation from 5 to 10 percent to 10 to 15 percent;
  • Increasing the size of the working capital escrow from 2 to 4 percent to cover cost overruns and change orders;
  • Delaying the release of cash-out proceeds until construction is completed and sustaining occupancy achieved;
  • Requiring demonstrated ability of project stabilization within 18 months of completion (unless waived for larger projects); and,
  • Decreasing maximum the underwriting occupancy level from 95 to 94 percent (unless waived).

Proposed changes for FHA Section 223(f) refinance loans include:

  • Requiring sustaining occupancy of 90 percent physical occupancy and 85 percent economic occupancy for six months prior to application; maximum underwriting occupancy is 93 percent;
  • Providing audited financials for the previous year for properties with more than 50 units (can be waived for acquisition financings only);
  • Requiring accounts payable, project liability, and deferred management fees to be cleared at closing; and,
  • A maximum 75 percent loan-to-value if cash is taken out; equity take out is deferred until repairs are completed.

Lancaster Pollard believes that the proposed changes will have an overall positive impact on affordable housing projects despite some of the underwriting changes. The process improvements should expedite the processing of affordable transactions. Despite their tightening, HUD’s underwriting standards would remain more flexible than what most tax credit investors and syndicators require. As a result, they should not have a material impact on the loan proceeds available to a project.

HUD welcomes feedback from lenders and others about the proposed changes which, if adopted, would be updated when the market improves.

– Jeffrey D. Banker