Subcommittee on Housing and Transportation

Oversight Hearing on "The Multifamily Assisted Housing Reform and Affordability Act of 1997"

Mr. Chairman and Members of the Committee,

My name is John Bentz, President of Property Advisory Group, Inc. of Providence, Rhode Island and a Director of the National Leased Housing Association, on whose behalf I testify today. I am accompanied by Denise Muha, Executive Director of NLHA and Charles L. Edson, association counsel. We thank you for the opportunity to appear before you today.

As a matter of background, for the past 30 years, NLHA has represented the interests of private sector participants in the Section 8 program including owners, managers and lenders, as well as housing authorities and other public officials who administer various HUD programs including the Section 8 Voucher Program. We will focus our comments on this hearing’s important issue concerning the future of the Office of Multifamily Housing Assistance Restructuring (OMHAR) and the Mark-to-Market Program, both of great concern to our members.

As you are aware, OMHAR’s authorization expires on September 30^th placing squarely before Congress the issue of whether that entity is to continue. It is generally recognized that OMHAR got off to a slow and rocky start and did not really hit its stride until about a year ago. The program was new, OMHAR was not fully staffed, and owners were naturally wary of a program that could have significant negative consequences to the project and their investors. Indeed, OMHAR did not complete it’s 100^th restructuring until a few months ago– over three years from the Agency’s creation in 1997.

We have now reached a point where OMHAR appears to be functioning at a higher level. Nearly 140 mortgages have undergone full debt restructuring with 25 to 30 mortgage restructurings expected to close each month through September. Further, OMHAR has approved and implemented hundreds of OMHAR-Lites - a lowering of Section 8 rents to market without debt restructuring.

Recognizing the need to attract more owners, OMHAR itself has made significant reforms to make restructuring more attractive to owners. These reforms include the possibility of enhanced asset and project management fees and allowing interest on the owner’s required deposit to reserves as an eligible project expense. In other words, OMHAR has shown that it does listen and that it can implement significant changes while implementing its program and we anticipate that issues brought to OMHAR’s attention will continue to be addressed.

At this point, the termination of the mark to market program does not appear practical. Because of the continuing high costs of Section 8 subsidies, a replacement mechanism would need to be developed with no promise of anything better. The question does arise, however, as to whether or not OMHAR should be continued in its present form, or whether the mark to market program should be melded into HUD’s regular multifamily program activities.

For a number of reasons, NLHA feels that the mark to market program must continue to be separately administered. Whether it is administered by an entity called OMHAR or named something else is not the most important question. We would not object if OMHAR were to be continued in its present form. We also understand, however, the argument that the OMHAR director should report to the FHA Commissioner, and not directly to the Secretary and Congress, and would understand if a decision were made to bring OMHAR into the Office of the Assistant Secretary of Housing.

If this is done, however, we caution you as follows: We think it would be a mistake to simply fold the mark to market activities into the Department’s regular multifamily monitoring activities. Such a move would unduly burden staff already stretched by retirement and attrition. The mark to market process is highly complex and benefits greatly from having well trained and specialized staff focused exclusively on its mission. Secondly, OMHAR has attracted some very talented and experienced staff members. We believe that their retention is essential to the continuation of the mark to market program without causing fatal interruption. We understand that moving mark to market into the Office of Housing raises some pay rate and other personnel issues. We hope that these can be resolved in order to maintain and build upon the momentum that has been generated, short of dismantling the current OMHAR staff.

Implicit in our discussion above is our view that the mortgage restructuring mechanism adopted in the FY 1998 VA, HUD and Independent Agencies Appropriation Act should continue as long as Section 8 rents are to be based on comparable market data. There are 400 properties that are anticipated to be eligible for debt restructuring in FY02 alone. Without the legislative authority to restructure the debt on these properties, the FHA insurance fund will be forced to absorb a high level of mortgage defaults when properties undergo a rent reduction with unsatisfactory burdens being placed on owners and residents.

Although OMHAR has been responsive to a number of suggestions from the housing community, there are other changes that could be made to make the program attractive to owners - many of these would require changes to the statute. NLHA is holding its annual meeting this week and we will use this opportunity to develop specific legislative recommendations that we will submit to you within the next few weeks. They will likely include the following:

• There is now a statutory requirement that owners share in necessary rehabilitation costs. This creates an unacceptable burden for owners in many instances. We are dealing with older properties by definition, which often need significant rehabilitation. Owners are generally limited partnerships, with general partners who are typically unable to respond to cash calls for any number of reasons. We suggest that the statute be changed to permit the rehabilitation to go forward without the requirement of owner contribution.
• While there is an exception rent standard that would permit the restructuring of mortgages where the comparative market rents are too low to support project operations, the standard is too rigid for productive use in many instances. The mark to market program generally, by setting rents in accordance with market comparable properties, results in lower rents for properties located in rural areas and in depressed inner-city urban areas. These are often the properties that need assistance the most.

In this regard, the statute provides that, in most cases, exception rent levels are to be limited to 120 percent of HUD approved Fair Market Rents (FMRs). While on first glance that might appear fair, in fact it results in significant rent reductions for some properties which (because of age, security costs, utility costs, and so forth) require higher rents if they are to be operated successfully. We do not believe that the government intends to withdraw its support for helping low income tenants in depressed rural areas, or in impacted urban neighborhoods, but this is what the current program in many cases, requires.

• Similarly, in the case of these exception rent projects, OMHAR and owners must agree on appropriate expense levels on which to build exception rents. In some instances, this has proven impossible, where OMHAR simply disagrees with historical operating costs of properties, and owners are of the belief that the OMHAR-required expense reductions would inevitably lead to the failure of the properties. A better mechanism needs to be found to resolve these issues.
• Properties with insured mortgages and HUD held mortgages are, in some instances, treated differently. Properties with insured mortgages, where some first mortgage debt is to remain, can have those mortgages restructured using Section 223(a)(7). This treatment is not now available for HUD held mortgages, where Section 223(f) refinancing is required. The Section 223(f) process contains many more restrictions, and takes months longer to process, resulting in unnecessary costs and delays. On the other hand, Section 223(a)(7) mortgages have a term limit which ends 12 years after the current mortgage term, which should be made consistent with the Section 223(f) program, that generally provides a maximum 35 year term. Such a change would eliminate the third mortgages that are often required as part of the restructuring. Third mortgages raise additional tax concerns for owners.
• When the mark to market program was developed, it was anticipated that full debt restructurings would be processed more quickly than has occurred. We believe, this is because no one appreciated many of the complicated scenarios that arise when dealing with owner issues. Those issues include obtaining limited partner consents, extending partnership terms to coincide with restructured mortgage terms, financing issues and expense determinations. During processing, when existing Section 8 contracts or contract extensions expire, the owner too often finds that its rents are being reduced to market without the benefit of the restructuring, which is still in processing or negotiation. Thus the village is destroyed while being saved. Significant additional flexibility is needed on this point.

Overall, we must remember that we are dealing not with a short-term problem, but with a long-term issue. The statute requires that properties going through full debt restructuring commit themselves to at least thirty years of Section 8 usage, as long as Section 8 subsidies are available, and that rents shall increase on the basis of an annual Operating Cost Adjustment Factor (OCAF). The program as now constituted does not provide for a way to increase rents or attract other funds to accommodate unanticipated emergency situations. For example, this year’s utility rise in many parts of the country would take a long time to be reflected in OCAF adjustments, if they ever are. Similarly, project specific rehabilitation needs, or increased security needs, which may not be evidenced in market comparable properties, are not being addressed. In other instances, we will find, through hindsight, that project underwriting was not all that it could have been. Some mechanism must be developed to permit flexibility in appropriate circumstances to avoid project failure at a later date.

Thank you for the opportunity to share our views. We look forward to working with the subcommittee as these issues are addressed. Please contact NLHA’s Executive Director, Denise B. Muha with any questions regarding the Association’s testimony.

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