As part of our commitment to uncover the best capital sources, we turn our focus this week to FHA/HUD. Normally in the background, it has become one of the darlings of flexible, economical financing options during the economic uncertainty, resulting in a significant volume increase for NorthMarq’s clients. Our borrowers are split equally between being new to HUD and those who have previous experience on the NorthMarq books.
Our focus today is on three specific FHA/HUD programs that offer 35- to 40-year amortization, up to 85% loan-to-cost, and excellent debt service coverage due to the historically low interest rates.
- 223(f): Market-rate or affordable refinancing or acquisition financing.
- 223(a)(7): Refinancing an existing FHA/HUD loan
- 221(d)(4): New construction loans that convert to permanent financing
One small change makes all of the difference in the 223(f) program
In early February, HUD announced a rule change to eliminate the three-year timeline required before refinancing a construction loan. For the 223(f) program, borrowers now can refinance a construction loan with a HUD permanent loan without having to wait three years from the final certificate of occupancy. This allows the borrower to pay off the construction loan with the 35-year amortization, the current 2.45% interest rate, and the ability to take cash out up to 80 percent loan-to-value.
The 223(f) program, which targets refinancing of any market rate or affordable property, offers high-leverage cash out, with terms up to 80% LTV. In addition, the attractive program offers the option to cash out, with up to 80% LTV or 85% without cash out.
223(a)(7) program limits required documentation to speed the closing process
This program, a derivative of the 223(f) program, doesn’t require a valuation, appraisal, or Phase 1 environment review. The only item needed is a new physical needs assessment, although HUD may waive the requirement for a new PNA if the existing PNA is no more than five years old. The program also allows borrowers typically to close the loan without any out-of-pocket cost and increase the debt back to the original loan amount (to cover closing costs), while also moving the loan term back up to 35 years. The program doesn’t allow cash out, but limits the cash out to cover closing costs.
In one recent example, the owner/developer of a 137-unit, class-A apartment property in the suburbs of Richmond, VA, was three years into the permanent portion of their 221(d)(4) loan. Using the 223(a)(7) program, this client was able to reduce the interest rate 90 basis points and move to a green MIP, saving another 40 basis points, all without any out of pocket expenses.
The (a)(7) loans are generally a quicker execution than a 223(f). However, the existing loan has to be an existing HUD loan. In another recent example, the owner of a 344-unit property in Jacksonville, Florida wanted to convert an existing FHA/HUD 223(f) loan to the 223(a)(7) program to secure a lower rate, and is expected to close at the end of August, moving the loan from another HUD lender to NorthMarq.
221(d)(4) offers construction to permanent supporting longer-term business plans
The third financing program attractive to borrowers is the 221(d)(4), which allows a construction loan to automatically convert to a permanent loan after the property is completed. While the program takes about a year to close, it requires no personal recourse to the borrower and is available up to 85 percent of project cost even during construction. In addition, debt service coverage is favorable 1.176 minimum with more room to provide higher proceeds. However, there are a whole host of requirements that can stall a D4 closing given that from start to finish, loans can take 12 months to complete.
With this program, many developers can facilitate the development without needing an equity partner. In a recent example, the developer of a new construction, 172-units class-A, LEED-certified property in the Minneapolis-St. Paul area was looking to refinance. At the beginning of the engagement, the 221(d)(4) rate was 4.65%. As rates dropped to 3.05% during the processing of this loan, the team was able to modify the underwriting and offer the full 85% loan-to- cost, no longer limiting the debt service coverage. The higher leverage enhances the cash-on-cash returns for the developer.
Overall, FHA/HUD programs offer historic low rate, the highest leverage in the market, long amortization, and easy conversion from construction to permanent financing – which in most cases outweigh the length of time it takes to close. As a capital source, they try to be as open for transactions despite fluctuations in the markets and changes in priorities with other lending sources. NorthMarq’s volume is at unprecedented levels but the team remains focused and dedicated to facilitating new clients through the FHA/HUD process.