14privatization.pdf

Privatization

of

Public

Housing

Projects

Using

Section

123

of the

Housing

and

Community

Development

Act

of

1987

Dennis Eisen

Recent

legislation allows

public housing

projects to

be

sold to the tenants. This article describes the

requirements of

thisprocess,

and

factors

which

must be

taken

intoconsiderationin assessingthefeasibility

_of

a

sale.

The

author

presents

two

case

studies

of

privatization

_of

existing

public

housing

projects.

He

describes

how

their

purchase

and

rehabilitation are

being

financed,

and

points

out

that

educational

and

socialissues

must

also

be

addressed

inorderto

ensure

long-term

economic

viability

for such

conversions.

Introduction

A

significant portion ofthe nation's public housingis

now

over forty years old.

A

great

many

ofthese older projectshavedeteriorated tothepointwhere renovation

willnotsufficetorestorethebuildings to decent,safe,and

sanitaryhousing. Apathy,neglect, drugs,unemployment, andotherfactorsareso

much

apartofthe publichousing

problemthat radical

new

approachesare necessary. Recognizingthis,CongressandtheDepartmentofHousing

and

Urban Development

(HUD)

enacted legislation in

1987whichwouldpermitpublichousingresidents to pur-chasetheirprojectsfromthegovernment. Residentswould

takecompletecontrolover the renovationsandfinancial

management

ofthe property.

They

would havetotal

re-sponsibility for setting and maintaining self-sufficiency goals,determiningtheir

own

destiny,andultimately

mak-ingthe projectavibrantcommunity.

The

process of"privatization"was recentlygiven

sub-stantialsupport throughtheestablishment ofanOfficeof ResidentInitiativeswithin

HUD's

Officeof Public

Hous-ing.

The

Office of Resident Initiatives is encouraging

tenantgroupsinscoresofprojects nationwideto

partici-patein this movement.

As

offall1989, applications forpurchase havebeenfiled

by tenant groups intwolarge public housingprojectsin

Washington,

DC

andSt.Louis, Missouri. Becausepublic housingprojectsareadministeredlocally, no nationwide

statisticsare available as to the

number

ofprojects

cur-rentlyunderresidentmanagement. Nevertheless,itis an-ticipatedthat as

many

asadozenlargeprojects, inaddition

to

numerous

smaller ones,willapplyforprivatizationeach yearastheprogramgains

momentum.

InordertoqualifyforpurchasingprojectsunderSection 123, residentsmust beorganized asa not-for-profit Resi-dent

Management

Corporation

(RMC).

As

the

RMC,

residentsmusthave served as the

management

agent for

the projectunder contractwith thePublic Housing

Au-thority

(PHA)

for at leastthreeyears.

As

partofthe overallrequirements ofsale,the

PHAmust

certifythatitwillreplaceallunitssold toan

RMC

within

thirtymonths,eitherthroughdevelopmentof

new

unitsor modernization of vacant units by the

PHA;

or, through acquisitionofexisting privately

owned

unitsbythe

RMC

to

be operatedasrentalhousing using tenantincome andrent limitationscomparabletothoseforpublichousing.

Beforea salecanbeeffected,thereare

numerous

condi-tions thatSection123imposes

on

thepropertyandparties

involved. Theseincludereplacementandresalerules;and

livability,affordabilityandeligibilityconsiderations. This

articlefocuses

on

thedifficultquestion of

how

tofinance suchsales.

Although

HUD

administersthe overall publichousing program, individual publichousing projects are actually supervisedbylocal

PHAs.

Section 123specifies that the

PHAmust

negotiatewithanyqualified

RMC

thatwishesto purchaseaproject.

Once

thelocal

PHAand

the

RMC

have tentativelyagreed

on

apurchaseprice,

HUD

must approve

thedeal.

HUD

musttakeintoaccountthe property'sfair

marketvalue, andtheabilityoftheresidents topurchase

andmaintainit. Ifa project meets thesereviewcriteria,

HUD

must approvethesale.

Once

anagreementisfinalized,the

RMC

may

freelysell

individual units to project residentsor otherqualified

low-incomefamiliesresidinginor waitingforpublic housing.

However,the proceedsfromsalesare toberetainedbythe

PHA

forthe expresspurposeofincreasingthe

number

of publichousingunits availableforoccupancy.

The

initialprivatizationofsuchprojectsis butthefirst

step in a conversion process

whose

goal is to provide

homeownershipopportunityto publichousingresidents.

Section 123 permits ownership to beof any form or

ar-rangement,including limiteddividendcooperative,

dividend cooperative the project is jointly

owned

by the

residents, analogous to the

way

a corporation is jointly

owned

by shareholders. Residents

own

a share of the projectandpayrent tothe

RMC.

Residents

may

freelysell

theirshareinthe projectand

move

out;however,partofthe proceedsfromthe salewillreverttotheco-oporganization.

Licondominiumownership, eachunitisindividually

owned

bytheresident. Residents pay duestoanowners' associa-tion for general maintenanceof

commonly owned

areas

and exterior building maintenance. Neither fee simple

ownership norshared appreciationhaveyetbeentried in

publichousingprojects.

Regardless ofwhichformofownershipisadopted, plan-nersandothertechnical assistanceprovidersmustensure thatthe

RMC

willhavesufficientresourcesatitsdisposal

tooperatetheproject.

Case

Studies

In thefall of1988, technical assistance contracts were

provided by

HUD

totheNational Centerfor

Neighbor-hood

Enterprise

(NCNE)

inWashington,

DC

tohelpwith the privatizationoftwopublichousingprojects: the 464-unitKenilworth-ParksideApartmentsinWashington,

DC

and the 485-unit CarrSquare Village Apartments inSt.

Louis, Missouri.

The

technicalconsiderations ofprivatizingthefirsttwo

public housingprojects wereso great that three

subcon-tractorswere engagedto

augment

NCNE

staff.

The

real

estateconsulting firmofDennisEisen

&

Associates con-ducteda detailedfeasibilityanalysisandpreparedthe

eco-nomicprojections.

A

secondrealestate consultant,

MPC

&

Associates, drafted the disposition application and

numerous

otherforms. PaulPryde,aneconomic

develop-ment

consultant, assisted with each project's

self-suffi-ciencyplans.

The

lawfirmofArnold

&

Porterdrafted the

legalagreementsandotherformal documents.

It has taken years for housing advocates to sell the concept ofprivatization to theAdministration and

Con-gress.

Once

the law was finally enacted-as part of the

Housing and

Community

Actof

1987-manymore

months

of

work

were neededtobringthe partiesinthefirstactual

saletothenegotiationandcontracttable.

The

purposeof

thispaperistodescribe afewaspectsoftheprocesstodate

forthe above-mentioned projects, namely, the settingof thepurchaseprice,thesources ofconstruction funding, the investigationofoveralleconomic feasibility,andthe

ele-mentsof theself-sufficiencyplan.

Purchase

Price

Inaccordance with Section123,fairmarketvalueisone

of the principal factorsconsideredinsettingthepurchase

price of a project. Ifthishad been the onlyfactor, the purchasepriceofthetwopropertieswouldhavebeen in

the millionsofdollars.

At

Kenilworth-Parkside,estimates of reasonable tenant contributions (at30percent of

in-come)

came

toabout$1.35 millionwith current operating expensesof$1.72million,resulting inananticipated

short-fall of $370,000 peryear.

At

Carr Square Village, the estimate of tenant contributions

came

to just over $1 millionwith operatingexpenses of$1.25 million, resulting

inaprojectedshortfallof $250,000 peryear. Thismeant

thatthe residentscouldnotafford tocover the operating expenses oftheprojects.

The

additionalassumptionofa

mortgagewasnaturallyoutof thequestion. Therefore,the

finalnegotiatedpriceineachinstancewaseventuallyset at

onedollar.

Construction

Funding

BothKenilworth-ParksideandCarrSquareVillage

re-quired extensive rehabilitation to bring the units up to

propercondition.

The

funds to do this

came

from two

vastly different sources.

At

Kenilworth-Parkside, $23 millioninfundsformodernizationwereprovided by

HUD

throughaComprehensive

Improvement

Assistance

Pro-gram

(CIAP) grant.

At

Carr Square Village, the $29.5 millionneededformodernizationwill

come

froma variety ofsources, including borrowed funds from the private sectorand thesaleoftaxcredits tocorporateinvestors.

Onlyasmallportionofthefundswereinitiallyprovided through private foundation or government grants. Be-cause ofthe private sectorinvolvement,theCarrSquare

Villageendeavorwillmostlikelybeorganizedasa joint venturebetweenthe

RMC,

developer,andcorporate in-vestors.

Economic

Feasibility

Even

though the projects arebeingsoldat essentially

zerocost,residentswillnotbeina position to carry

them

financially until their average incomes have increased. Thiswillbefacilitatedthrough concentrated jobtraining

andothereconomic developmentactivities. Therewillbe aneedforheavyongoingpost-sale subsidies toreplace the annualgovernmentsubsidieswhichwerepreviouslyused toclose thegap betweenrevenueandoperatingexpenses

from

when

the projectswereoperatedaspublichousing.

Moreover,thereisthe additionalexpense of debtservice

payments

on

the mortgage(s) used to rehabilitate

Can-SquareVillage.

The

consultantsused detailed information-Section 8

fairmarketrents,utilityallowances,operatingexpenses,

oncemodernizationiscompleted.

A

computer

model

wasdevelopedtosimulatethe

long-term economicoperation (two or

more

decadesfromthe day ofsale)ofa publichousingproject.

By

varyingthe depthandextentof Section 8subsidies,thismodel

made

itpossible to(1)determinethe overalllevelofpost-sale

financialassistancenecessarytoprovideenoughnet oper-atingincometosupportmortgage payments

on

any funds borrowed,and(2)determinethe necessarycash floweach

yearto create operating reserves in anticipation ofthe expirationdateof Section8subsidies.

With

this

informa-tion,thekeyissuefrom an economicfeasibilitystandpoint

became

whethertheprojectedrevenuesfromtenant con-tributions and investment income (from the operating reservefund)wouldcover operatingdeficits inperpetuity. Since mostlyborrowedfundswillbeusedtomodernize

CarrSquareVillage,the

model

predicted a post-sale sub-sidyperiodoffifteenyears. Duringthis time,Section 8

A

Checklist

for

Planners

II. Technical Assistance StudiesNeeded

A. InitialFeasibilityAnalysis

The

articledescribesfourelements ofthe privatization 1.

Demographic

Survey

process-purchaseprice,construction funding,economic 2.

Revenue

andoperatingexpenseprojections

feasibility,andself-sufficiencyplan-whichareonlypart 3.

Debt

serviceconsiderations

of thelengthy,complexpath towards ultimate

homeown-

4. Rental subsidyandreservefundprojections j

ership forhousingresidents. 5. Overalleconomicforecast

B. Preliminary

Economic

DevelopmentPlan

The

following checklistprovidesa

more

completeview C. Self-SufftciencyPlan

ofthesteps,activities,andconsiderations thatmust be D. Applicationto

PHA

and

HUD

takenintoaccount

when

providingtechnical assistance E. DevelopmentandFinancing topublichousingprojectsandtheirResident

Manage-

F. InitialLegal

Work

ment

Corporations. G. Marketing Planfor Rehabilitated Units H. Coordinationwith

HUD

andother agencies

I. PreliminaryQualifications for Privatization

A. QualificationofResident

Management

III. Factors InvolvedinCompleting

Corporation DispositionApplication

1.

Must

beincorporated A.

Meet

LocalPublicHousingAuthority Require- \

2.

Must

beresidentcontrolled ments

3.

Must

havea

management

contractwith the 1

Meet

requirements of

HUD

Disposition

PHA

Handbook

4.

Must

have

managed

the propertyfor at least3 2. Preparereplacement plan

years 3. Preparerelocationplan

5.

Must

haveappropriate

management

and 4. Determinesaleprice

fiscalproceduresandcontrols 5.

Hold

publichearing

6. Should havesecuredtax-exemptstatus to B. EstablishLocalGovernmentCooperation

assistinsecuringfoundationgrants. 1. ObtainMayor'sletterofsupport

B. RequiredProjectFinancialandDescriptiveData 2. Requestphase-in orabatementofrealestate j

1. Willallor only apartof theprojectbepur- taxes

chased? C. ProvideAssurances of

RMC

Competency

2.

Does

it

meet

livabilitystandards? 1.

Economic

developmentassurance

3.

What

rehab or modernizationisneededto 2.

Management

capabilityassurance

meetstandards? D. IdentifyFundingSourcesFor

Rehab

or

4.

What

iscurrent operatingincome from Modernization

tenantsandthe

ACC?

1. Federalprograms (CLAP,etc.)

5.

What

arecurrent operatingcosts? 2. Stateandlocalgovernment programs

6. Encumbrances andliens? 3. Private sectorsources

C. Description_{of Current Supporting}Programs E. IdentifyFundingSourcesForOperations

1.

Daycare

1. Section8(ifrequirementsaremet)

2. Jobtrainingand placement 2.

Income

fromreserves

3. Elderlyservices 3.

Revenue

fromother operations

certificates willbeneededforall485unitsinthefirstfive years; for380units inyearssixthroughten;andfor260

unitsinyearseleventhroughfifteen.

No

post-sale

assis-tanceisplannedoranticipatedbeyondthefifteenth year.

Because the funds needed for the modernization of Kenilworth-Parkside are provided by

HUD

through a

CIAP

grant,the

model showed

thatthe particular

combi-nation of Section 8certificates andvouchers would no

longer beneededafterthefifthyear ofoperation.

Establishing

Self-Sufficiency

A

self-sufficiencyplan, oneofthemostimportant sup-portingdocuments,must

accompany

the applicationfor

sale. It isacomprehensive, well-coordinated

document

containingplansforeconomicdevelopment,project re-habilitation,

homeownership

costs,resident

participa-tion,andprojectmanagement.

F. FactorsDetermining

Economic

Feasibility _{VIII. Requirementsfor}

_HUD

_{Section 5(h) Co-ops}

1.

Adequacy

offinancing (irrelevant

-

seelegislation)

2. Self-sufficiencyschedule

3. Long-termeconomicforecasts _IX. (Closing

A. Conditions Required Preceding Closing

IV.

HUD

Functions _{1. Financing obtainedforrehab or} moderniza-A. Provide Technical AssistanceFunds _tion

B. ApproveSale Price _2.

_CIAP

_completed(ifapplicable)

C. ApproveApplicationat All Levels _{3. Contingencies}

_removed

1. Fieldoffice _{4. Allapprovals obtained}

2. Regionaloffice _{B. Transaction}Procedures.

3. Headquarters _1.

_Earmark

_{Section8assistance forrecapture}

D. GrantSection8Subsidies _{2. Phaseout}

_Annual

_{ContributionsContract}

1. Allocation ofcertificatesandvouchers _{C. StepsforTransferofTitle}

2. Waiver/adjustment ofFairMarketRent

t J J J

1. Title

work

andpreparation ofpapers

(FMR)

limits _{2. Settlementandrecording}

3. Renewability pledge

X.

Economic

Development Plan

V. ApproveContractofSale _{A. Developdetailedeconomicdevelopment plan} A. Draft

Document

_{B. Develop coordinated implementationstrategy}

B. NegotiateTerms

C. RatifyFinal

Document

_XL

]lomeownership

A. Select

Homeownership

Form

VI. RequirementsforJointVentureswith Outside

1. Limited dividend co-op

Investors(ifrelevant)

2. Leasing cooperative A. Agreements _3.

_Condominium

1.

Memorandum

ofUnderstanding between _{4. Other arrangements}

RMC

andprivate sector partners _{B. Provide TrainingAppropriatetoOwnership}

_Form

2. Approvalby

HUD

and

PHA

ofjointventure _{C. Plan Timing of Conversion}

B. Descriptions

1.

Must

besynchronized withself-sufficiency

1. Nature and formof partnership _{andeconomic developmentplans}

2. Duties,responsibilitiesand ownership _2.

_Must

_{arrange timingtomeetlegalrestrictions}

3. Identificationofoutside/limited partners _{toqualifyfortax credits}

4. Intended sources ofequityanddebtcapital D. Planfor SalestoIndividual Residents

5.

Use

andsaleoftax credits _{1. Establishcriteria forselectingpurchasers}

2. Sales priceofapartments or co-opshares VII. Requirementsfor

CIAP-Funded

Projects _{3. Associatedfeesfortrainingor}

_membership

(ifrelevant) _4.

_{Reimbursement}

_{ofproceedsto the}

_PHA

A. Include

Rehab

Needsin

PHA

's5-yearPlan _{E. PlanforSecondaryandSubsequentSales} B. PreparePreliminaryApplication _{1. Establish limitation}

_on

_resaleprices

A

self-sufficiencyplanmustinclude, forexample,an

eco-nomic development plan stating

how

the

RMC

should

identifythe typeof jobskillsin

demand

inthesurrounding metropolitan area;

how

and where residentscan develop these skills;methodsforjobplacementorsmallbusiness

start-ups;and

how

additionalsupportingprogramssuchas daycareand transportationcanbe fundedandoperated.

The

componentsoftheeconomic developmentplanmust be well-coordinated so that the self-sufficiency plan is implementedinalogicalsequence. Forexample,

employ-ersand theirneeds must beidentifiedbefore jobtraining

programs can beinitiated. Otherwise, the effort will be

largelywastedandthe residents discouraged.

Furthermore,the self-sufficiencyplan must

show

how

the residentscan

become

involvedandparticipateinthe overall privatizationprocessinordertounderstandlimited dividend cooperatives(orotherforms of ownership),and

therightsandresponsibilitiesof ownership.

The

self-sufficiencyplandoes notneedtocontaina great

levelofdetail,butmustconvincelocalandfederalofficials

thatthe

RMC

knows

whattodo,

how

toproceed,andhas a firmsetofbenchmarksagainstwhichtomeasureprogress

inthepathtowardsself-sufficiency.

Next

Steps

It isanticipated thatthe

Bush

Administrationwill pro-vide technical assistancefunds permitting thepurchase of

fivetoten publichousingprojectsbytheirrespective

RMC

eachyear.

A

technicalmanual,based

on

the Kenilworth-ParksideandCarrSquareVillage experience,willbe

devel-oped to help

make

the process of"goingprivate"

more

efficientforfuture

RMCs.

The

elements ofthe privatization process describedin

thisarticle-purchaseprice,construction funding,economic

feasibility,andtheself-sufficiencyplan-arejustfourofthe

stepsinalengthy,complexpath towards ultimate

home-ownershipfor publichousingresidents.Consultthe

check-listincluded withthisarticletobetterunderstandthe

proc-ess forprivatizingpublichousingprojects.

Forfurtherinformation

on

thissubject,please contact any ofthe following individuals:

Dr.DennisEisen

DennisEisen

&

Associates

13408GlenLea

Way

Rockville,

MD

20850

(301)251-9798

Mr. David

Groo

NationalCenterforNeighborhoodEnterprise 1367 Connecticut

Avenue N.W.

Washington,

DC

20036 (202)331-1103

Mr. David Caprara

Officeof PublicandIndianHousing

U.S.DepartmentofHousing and

Urban Development

451 SeventhStreetS.W. Washington,

DC

20410

(202)755-0950

DennisEisenispresidentofDennis EisenAssociates,a Rockville,

Mary-land consulting firm specializingineconomic, market,and investment analysisfortherealestateindustry. Dr.Eisen earnedaPh.D.in