Since the advent of the Low Income Housing Tax Credit (“LIHTC”) via the enactment of the Tax Reform Act in 1986, over 2.6 million affordable rental units have been created by what many feel has been the most important piece of housing legislation ever passed. Although the LIHTC program got off to a slow start in the late 1980’s, by the early 1990’s it was in full swing. Since that time the market for the development and finance of affordable housing has continued to become more robust and competitive each and every year. At this stage of the LIHTC development lifecycle, nearly 100,000 units annually are reaching the end of the 15-year compliance period, which means that recapitalization or sale of a LIHTC asset is inevitable and owners of affordable housing must be well-versed on the specific terms and dynamics of their partnership agreements.
Over the course of late 2015 and early 2016, Clovis, California based Affordable Housing Development Corporation (“AHDC”), in conjunction with its consulting division Real Estate Development Services (“REDS”), completed one of the largest LIHTC portfolio recapitalizations that our industry has seen to date.
AHDC was the General Partner (“GP”) of and purchased the Limited Partner and Special Limited Partner (collectively the “LP”) interests in 21 assets comprising more than 3,340 units for a total purchase price of $36 million. The estimated total market value of the portfolio was nearly $300 million and the portfolio had approximately $175 million of outstanding debt at the time of closing. The size of the transaction alone was daunting, but the timing of the transaction in which the LP required the sponsor to close on all 21 partnership interests within 120 days, was downright petrifying.
In order to pull off a transaction of this size and complexity in this short of a period of time, AHDC utilized a comprehensive approach by analyzing each asset individually and then rolling up that analysis into a portfolio analysis as a whole.
Many of the steps that AHDC took can be applied to any “one-off” LIHTC asset sale or recapitalization, as well as a portfolio sale or recapitalization. Based on the AHDC experience, on which our company, JLL, served as financial consultants, the following are some of the critical steps taken in sequence when analyzing a LIHTC partnership recapitalization:
I. Determine the highest and best use and value for each asset within your portfolio
- Evaluate the nature of the market where asset is located (employment; job growth; AMI growth; CRA demand).
- Measure existing cash flow from each asset versus net cash equity obtained through sale.
- Analyze each asset as a resyndication versus a traditional cash-on-cash sale to determine highest price and optimal buyer.
II. Closely examine the partnership agreements on each asset to determine critical commitments to and rights of investors and match them to your objectives (sell, refinance, and resyndicate)
Determine if these agreements contain:
- Forced sale right (yes/no)
- Return of Capital provisions (yes/no)
- Exit taxes (yes/no)
- Capital Account restoration (yes/no)
- Willingness of LP to sell prior to Year 15 (yes/no)
III. Approach the Limited Partner and obtain consent before spending additional time or money on disposition or refinancing asset
(Utilize the same list of points above to understand the motivations of your LP.)
IV. Use one transaction to help facilitate another
- Sell the distressed assets that will require more time and effort and require a resyndication as their highest and best use.
- Retain and conduct a cash-out refinance on assets that are in better condition and do not require as much rehab and are desired to be held long-term.
- Acquire LP interests and refinance assets with bridge financing with an eye toward internal resyndication at a later date.
- Know your capacity and limitations as it relates to workload, expertise, and carrying costs.
V. Strategic decisions that enabled AHDC to complete a transaction of this scale: AHDC surrounded itself with the best team:
- Lenders (AHDC chose JLL Capital Markets (“JLL”) to represent both themselves and the buyers for the financing of assets that were either refinanced or sold).
- Accountants (CohnReznick)
- Reliable and Experienced Buyers – Matched asset’s needs with the appropriate buyer for the asset (resyndication, recapture indemnities, HUD renegotiations, cash-on-cash buyers, 20-year rule issues, etc.). Buyers included Community Housing Works; Community Preservation Partners; Post Investment Group; Levy Affiliated Companies.
Acknowledged the potential roadblocks early on:
- Some assets had debt with lock-out provisions.
- They had to negotiate early pre-payment/waiver of lockouts.
- They had to negotiate fair, but viable, prepayment penalties.
Addressed assets that required a hold period prior to being eligible for syndication:
- Matched up buyers with lenders who were able to provide bridge financing to a resyndication and forward rate locks on new bond issuances.
- Facilitated partnership interest sales to preserve 10-year hold period.
- Sold to non-profits who are exempt from 10-year hold rule.
Obtained required consents/approvals:
- Bondholder consent to lockout waiver.
- Lender consent to lockout waiver.
- TCAC, CalHFA, CSDCA, HUD, various subordinate lender and municipality consents required.
- Bond redemption waivers required (lockout; redemption on interest payment date; 90-day notice provisions).
Obtained waivers/accommodation for buyers:
- 85% LTC bridge financing.
- Forward rate lock of up to 30-months on bonds yet to be allocated.
- Expandability features on final bond amount at the time of re-syndication loan closing.
- Section 8 Transition Reserve waivers.
- Waiver to allow closing on non-compliant regulatory agreements.
Although the AHDC transaction closed within 120 days of the execution of a master purchase agreement for all 21 assets, much of the diligence and negotiations between AHDC and the LP began a year or more prior to execution of a master purchase agreement. A general partner would be wise to “get ahead” of Year 15 and start looking at exit strategies as early as Year 11 of the initial compliance period as unwinding LIHTC partnerships can be very time consuming and complicated.
As the LIHTC program has matured, the nature of LIHTC partnerships has changed dramatically from what was at the outset a partnership that was very one-sided and heavily weighted in favor of the limited partner to today where the terms and conditions of the partnership agreement are much more heavily weighted and in favor of the general partner.
Originally published in Tax Credit Advisor by Tim Leonhard
Managing Director, JLL Capital Markets