Snohomish and Kitsap Counties,Washington: 7 Project Portfolio
By Mark Fogarty
6 min read
Shelter Resources Focuses On “In Between” Markets
There are some affordable housing projects that aren’t supposed to be bond deals, that are done far from the urban sweet spots the industry associates them with. But bonds can work in rural and “in between” areas, too, although the deals may become a little more hands-on.
Take a portfolio of Rural Development (RD) properties in three counties in Washington state acquired for rehabilitation by Shelter Resources Inc. RD projects are “a labor of love” that can take two to two-and-a-half years to do, according to Matt Chantry, director of asset development at the Bellevue, WA-based owner/developer SRI. Its SAG Preservation Portfolio of 299 senior/disabled and family units in seven projects used $22.1 million of cash-backed bonds.
Chantry gave the details of the deal at the annual meeting of the National Housing & Rehabilitation Association in Miami Beach, and in a subsequent interview. He said of the bonds, “These weren’t really an additional source. They were collateralized with the other sources for the project.”
The project was not going to be competitive for nine percent Low Income Housing Tax Credits in Washington state which generally go for new construction, he says, while the four percent LIHTC and tax-exempt bonds are pushed for acquisition and rehab projects, such as these located in Snohomish, Kitsap and Island counties (SRI already owned five and purchased the other two). Washington state also does not have a state tax credit, he says, eliminating that source of gap financing.
But this structure won’t work in all rural areas, Chantry says. SRI looks for “in between” markets where there is upward pressure on rents, a strategy it uses for projects when soft funding sources are unlikely.
“That’s really where bond deals work,” he says, including this portfolio.
It’s All About Basis
Real estate valuation played a key role in making this portfolio viable, Chantry says. The amount of four percent tax credits benefited from an increased basis on the project generated from low land values.
In the end, SRI received $11.7 million in four percent tax credits (the investor is Boston Capital) in addition to the 2.55 percent bonds issued by the Washington State Housing Finance Commission, making up half of the $67 million in total financing.
Other sources included $27 million in USDA Section 515 and 538 loans, a $3 million seller note and a $2.5 million deferred development fee.
The bonds were short-term and collateralized to be used during construction, allowing for a higher rating, Chantry says. That, in turn, achieved a lower interest rate.
Uses on the portfolio included repayment of the bonds, $18 million in acquisition costs and $15 million in rehabilitation costs.
Commenting on a hefty reserve of $2.8 million, Chantry says, “That’s a lot of money to set aside in reserves, mostly replacement reserves required by RD and then some operating reserves set up for the investor. And then the tenant protection accounts required by RD any time you are increasing rents post-rehab. It is a shocking number but it’s the best we could do. It is certainly well capitalized in case of any issues going forward.”
“Basis is the catalyst for generating credit,” and looking for basis was a key to the success of the project, Chantry says. “We have found this to be really important on these rural projects, to squeeze every bit out we can. We had some real success in doing land value appraisals separate from the typical appraisal. Because these projects all have existing regulatory agreements, the value of the land at the time of acquisition is very, very little. It’s going to be much less than what’s shown on the tax records. Typically, we’ve gotten land value appraisals where the value is almost zero.”
He notes, “It is hard to get your investor to buy in on a zero-dollar land value but we have been able to negotiate somewhere in between what’s on the tax records and zero. And that has made a big difference for us in driving extra basis for the projects.”
The units themselves will see $36,400 apiece in hard construction costs. The improvements will include general upgrades, such as upgraded bathroom floors, siding, asphalt and ADA accessibilities. Rehab work is underway now and should be completed by December of this year and the affordability of all units will be preserved. Buildings in the projects vary from high rise to four- to six-plex buildings.
Strategies for Success
Other strategies for success Chantry cites include: renegotiating an existing income set-aside with the HFA, real estate tax exemptions, no negative arb on the cash-backed tax-exempt bonds (because they are outstanding mostly during the construction period, some CPAs will include the bond cost in basis), and a trusted financing team.
“Those bond funds are sitting there and we’re not using them until we can collateralize those bonds. What we do is we buy a set of Treasuries or other securities that have a similar sort of cash flow schedule to our bond payout schedule so they offset each other. The offsetting cash flow can mitigate, and in some cases completely eliminate, the negative arbitrage associated with the tax exempt bonds.”
As for renegotiating income set asides, Chantry says “Some of these projects already had tax credit financing in the past, had existing regulatory agreements and rent and income restrictions. Because these also have project-based rental assistance, we’re able to go back to the HFA and say we’d like to increase income set asides from 50 percent of area median income to 60 AMI.
“That will not affect the residents because they have rental subsidies. So, it doesn’t impact the amount of rent they pay, but it will impact the rental subsidy to the project and therefore we are able to increase the amount of leverage to the project, so we can finance additional rehab.”
Though this kind of financing isn’t easy, SRI isn’t put off by the degree of difficulty.
“We’ve done a handful of very similar projects to this,” Chantry says, and SRI is underwriting others at the moment.
Story Contacts:
Matt Chantry
Director of Asset Management, Developer
Shelter Resources, Inc.
[email protected]
Shelter Resources SAG Preservation Portfolio
(Projects, units and estimated bond amounts)
Cambridge Cove, Oak Harbor, WA. 37 units, $2,100,000.
Conifer Ridge, Port Orchard, WA. 40 units, $4,000,000.
Harbor Ridge, Oak Harbor, WA. 32 units, $2,500,000.
Oak Bay Station, Oak Harbor, WA. 82 units, $7,000,000.
Oak Harbor Estates, Oak Harbor, WA. 42 units, $3,000,000.
Silvercrest Apartments, Silverdale, WA. 42 units, $2,500,000.
Wesley Point, Arlington, WA. 24 units, $3,500,000.
Sources & Uses
Sources of Funds
Bond Proceeds………………………………………………… $22,100,000
515 Loan Proceeds…………………………………………….. $7,853,508
538 Loan Proceeds…………………………………………… $19,595,000
Tax Credit Equity……………………………………………… $11,746,656
Kitsap Home Funds………………………………………………. $283,633
CTED (Assumption)………………………………………………. $321,000
Seller Note………………………………………………………… $2,925,000
Deferred Development Fee………………………………… $2,524,763
Total………………………………………………………………. $67,349,560
Uses of Funds
Acquisition Costs……………………………………………… $18,228,914
Rehabilitation Costs…………………………………………. $14,964,768
Soft Costs…………………………………………………………. $ 3,217,055
Reserves…………………………………………………………… $2,781,560
Costs of Issuance………………………………………………….. $535,816
Development Fee………………………………………………. $5,521,446
Payment of Bond Principal………………………………… $22,100,000
Total………………………………………………………………. $67,349,560
