Debt Financing More Challenging to Secure for LIHTC Projects
By Caitlin Jones & A. J. Johnson
8 min read
Tax Credit Advisor, February 2009: There’s no question it’s tougher today than a year ago to secure debt financing for proposed new low-income housing tax credit (LIHTC) projects. With equity at a shortage and the capital markets still in turmoil, each deal can be a trying experience.
Boston, MA accountant John Mackey, of the Reznick Group, saw one client developer’s tax credit deal fall apart when the construction lender backed out. Though a new lender was found, by then the equity investor had sated its appetite for the year and was no longer interested.
Washington, DC area nonprofit developer Gerry Joseph, of Community Preservation Development Corporation (CPDC), expected to close by year-end 2008 a tax-exempt variable-rate bond issue paired with a Freddie Mac credit-enhanced interest rate swap, to finance a new 159-unit project in Annapolis, MD. Wachovia, the construction lender and swap provider, was then acquired by Wells Fargo. Wachovia and the equity investor still wanted to proceed, but the state agency bond issuer got cold feet over several issues, including use of a swap, and the deal never closed. “So we’re restructuring that deal right now as a 9% deal,” said Joseph, reporting CPDC recently applied for a 9% tax credit allocation in Maryland’s latest funding round.
In recent interviews with the Tax Credit Advisor, lenders and other LIHTC program participants described what is happening in the debt market, including the availability, sources, and terms of construction and permanent financing for LIHTC projects.
“It takes longer to get all phases of the financing,” said Mackey. “It takes longer to get the construction loan; it takes longer to get the permanent.” As a result, said several sources, developers are doing fewer projects than before, and some deals aren’t getting done at all.
Sources consistently said developers generally now must have a firm commitment of LIHTC equity in hand in order to be able to secure debt commitments. Because of the current shortage of tax credit equity, and the fiscal problems of many financial institutions, lenders are more conservative in considering, underwriting, and approving new loans, and being pickier – just like equity investors – in the deals they decide to participate in.
Mortgage lender Chris Tawa, of MMA Financial LLC, says permanent financing is readily available today for strong 9% deals, in large part because of the active lending still going on by Fannie Mae and Freddie Mac through their approved lenders, of which MMA is one. “The availability of permanent financing is not the missing link in the chain right now” for LIHTC deals, he said. “The missing link in the chain is the availability of equity and the availability of construction loans.”
W. Kimball Griffith, of Freddie Mac, told the Tax Credit Advisor that Freddie Mac remains busy, even while in conservatorship, in providing permanent financing for tax credit deals. “We’re still providing permanent commitments on a forward commitment basis to do low-income housing tax credit deals, as well as providing immediate fundings for properties that are stabilized,” he said.
Griffith said Freddie Mac’s most popular products today are, for 9% tax credit deals, a 15- to 18-year fixed-rate cash mortgage. For 4% deals, he noted, it’s a variable-rate tax-exempt bond transaction with an interest rate swap, where Freddie Mac provides credit enhancement and a liquidity facility for the bonds and credit enhancement for the swap.
Fannie Mae is still active providing permanent financing for LIHTC deals, said spokesman Jon Searles. But Searles acknowledged, and others noted, that Fannie Mae for the time being no longer offers, for 4% deals, a variable-rate bond credit enhanced-interest rate swap execution.
Construction Financing
Securing the upfront dollars to build an LIHTC project is more difficult. The predominant sources are still major banks.
Said Griffith: “There’s still construction financing available; it’s not as prevalent in the past.”
Thomas Booher, of PNC MultiFamily Capital, said there aren’t as many LIHTC construction lenders today as 12 months ago. Some major banks that did have been acquired, some banks are constrained due to large write-offs, and many don’t want to take the perceived risk. Those that remain are being more selective about the LIHTC deals they do.
Booher, for instance, indicated PNC MultiFamily Capital is now only offering construction financing to “select transactions” and where PNC is also providing the equity and permanent debt. The firm discontinued a proprietary construction/perm loan program for 9% deals it offered a year ago. PNC MultiFamily is a Freddie Mac, Fannie Mae, and HUD FHA lender.
David Leopold, of Bank of America, said BofA is “as active as ever,” providing both construction and permanent financing for LIHTC deals, and construction and “mini-perm” financing for historic tax credit projects. The bank isn’t a Fannie Mae, Freddie Mac, or FHA lender – rather, it offers its own proprietary loan products. BofA, like PNC, is also an equity investor in housing and historic tax credit deals.
Leopold said BofA’s two most popular products for 9% deals today are (1) construction financing only, where BofA partners with a state agency or other lender providing the permanent debt; and (2) proprietary permanent fixed-rate mortgages, either an 18- or 30-year forward starting loan.
Leopold said BofA will generally provide the equity for an LIHTC deal only where it also provides the debt.
FHA Product
Booher reported that PNC MultiFamily has seen the biggest increase in interest from LIHTC sponsors in the past 2-3 months in FHA financing, specifically HUD Section 221(d)(4) loans.
Booher noted the 221(d)(4) product is more popular because it offers both construction and permanent financing and a 40-year amortization period and because of recent improvements to HUD FHA multifamily loan programs that make them more appealing. These changes, including policy shifts by HUD last year and changes mandated by the Housing and Economic Recovery Act of 2008, include repealing the requirement for all tax credit equity to be deposited in an escrow account upfront in order to close on the HUD loan, easing cost certification requirements, and other refinements.
Mackey said HUD-insured loan products [e.g., 221(d)(4), 223(a)(7)] can be attractive for LIHTC deals but don’t work in all markets. He said they are viable, for example, in the Southeast and Midwest where prevailing wage rates are lower.
Tax-Exempt Financing
Investment banker John Rucker III, of Merchant Capital, Montgomery, AL, reported considerable activity today still, to finance 4% tax credit deals, in use of tax-exempt variable-rate bonds paired with an interest rate swap, principally under Freddie Mac’s program. He said this execution has become extremely attractive due to a significant drop in the swap index rate in the past few months that, even with an increase in spreads and fees, produces a low fixed borrowing rate for developers. When interviewed on 1/15/09, Rucker estimated a likely current all-in borrowing rate under the Freddie Mac variable-rate bond/swap execution, including the bond rate plus the spread and all fees (i.e. the “stack”), in the range of 5.25% to 5.35%.
Rucker and several others said issuance of long-term fixed-rate tax-exempt bonds to finance LIHTC projects generally isn’t viable today, for a number of reasons. There are fewer buyers for these bonds, including fewer “direct placement” sources; fixed long-term interest rates are considerably higher; and bond deals are less attractive to equity investors. Rucker estimated that the all-in borrowing rate today for a fixed-rate bond issue, if one could execute one, might be around 7.50% or so.
One institution still offering a direct placement product for fixed-rate tax-exempt bonds for 4% tax credit deals is Bank of America. Leopold said BofA’s product, under which it purchases unenhanced fixed-rate bonds, “has become more popular than ever.”
Developer Gerry Joseph, whose organization has typically obtained tax-exempt financing for its LIHTC projects in the past, acknowledged his group is now having a harder time, with fewer choices, to secure debt. “A year ago, even nine months ago, we had many options on our permanent financing vehicles for our bond transactions, where they’re very limited right now,” he said.
Rucker, though, anticipated that fixed-rate long-term tax-exempt bond transactions will become viable once more some time in 2009 due to his expectation that various factors will eventually increase investor demand for such bonds.
Refinancing Opportunities
Several lenders pointed out that current market conditions afford an attractive opportunity to refinance older existing LIHTC properties.
“We’re doing a lot of refinancing deals of affordable properties,” said Peter Nichol, of Centerline Capital Group, a Freddie Mac, Fannie Mae, and FHA lender as well as a tax credit syndicator. He advised owners of properties eligible to be refinanced to do so today while interest rates – always subject to change – are at historical lows. Generally these are properties at or approaching the 15th year of the compliance period, when lockout periods have lapsed and/or prepayment penalties no longer apply or are minimal.
Nichol said most borrowers are refinancing to conventional taxable loans, noting the all-in rate possible today for an immediate refinancing is probably in the range of 6.10% to 6.25%. He noted, though, that some borrowers are refinancing into variable-rate tax-exempt bonds with a swap.
Nichol indicated that the advantages of refinancing include the ability to cut a project’s debt service payment, pull out equity, and, in some cases, enable the general partner to buy out the limited partner.
Booher indicated that an attractive all-in borrowing rate can be achieved today on a taxable basis for 9% deals in refinancing to a loan with a 7- to 10-year term. When interviewed on 1/14/09, he estimated the current all-in rate would probably be in the low- to mid-6% range.
