Preservation Strategies at Year 15: Issues and Options NCSHA Housing Credit Connect Atlanta 2017 June 22, 2017

Agenda What’s Happening Out There? Factors Affecting Owners’ Year 15 Preservation Decisions Examples of Solutions Preservation Fund Refinancing Resyndication Conclusions

What’s Happening Out There? Lots of Year 15 deals – and many owners and investors are working on exits in Year 10+ Most deals have long-term affordability restrictions We see very few Qualified Contract transactions In most cases, the General Partner is looking to retain control of the property, not sell it into the open market Wants to buy the interest of the LP and keep the property Negotiating the LP exit can take a long time New news: Next wave of Year 15 deals will be much trickier Loaded with subordinate debt and restrictions

Generalizations Can be Dangerous It’s a big country – and a flexible program There is tremendous variation across and within markets about all aspects of Year 15 tax credit properties Occupancy is high almost across the board and operating performance is generally strong, But each property has its own story Rents and expenses at Y15 vary considerably by market, by age and size of property When and how the deal was originally underwritten also a factor Deal structure also important Amount and nature of debt Partners and their agreements with each other

Owner Preservation Options at Year 15 Get control of the property – usually by purchasing the investor’s interest And then: Continue to own and operate the property Refinance the property to fund purchase of investor interest and capital improvements Sell the property into a preservation fund Sell the property into a new tax credit syndication Many transactions combine several of these elements

Factors Affecting Y15 Preservation Decisions It’s a long list Source, length and nature of regulatory requirements GP’s and LP’s rights under deal documents Maturing debt, lockouts, and prepayment penalties Capital accounts and tax issues HAP contracts and other subsidies Consents and approvals required for any transaction Economics -- is there value in the property and if so how is it shared Physical condition/capital needs Will focus today on four key issues Affordability Operating margin Physical condition Capital structure

Affordability: Tale of Two Markets The difference between tax credit and markets rents varies enormously Difference has implications for Y15 preservation Strong Market Weak Market

Rents Vs Expenses Operating margins also vary considerably Property type, size and market are factors, as is strength of original underwriting and changes over 15 years Implications for Year 15 Margin determines how much debt and new equity a property can support Lower margins  less debt and equity  fewer options for Year 15

Physical Condition Property condition varies widely – by age, climate, tenancy, operating margin Implications for Year 15: Affects both uses and sources

Capital Structure Ability to Support New Financing Important details: How much debt vs value of property Type of type When it’s due The deal with the investor Implications for Y15: Sources needed for a recapitalization Ability of property to support new financing

Preservation Fund Solution 27 year-old property coming up on year 15, 15 more years of restrictions Preservation Fund solution worked because: Minimal capital needs Proven performer, low risk cash flow Low interest rates Room to support more debt  better levered IRR for new investor Preservation fund return requirement lower than standard private equity Key Facts Well-maintained, benign climate Rents just below tax credit maximums Expense ratio of 42% Mortgage debt at 58% of value LP already exited

Refinancing Solution 17 year-old property, two years past initial compliance period, 13 more years of restrictions Refinancing solution worked because: Minimal to moderate capital needs Improvement in rental market  ability to support more debt Proven performer, low risk cash flow Low interest rates New 70% LTV loan sources sufficient to refinance existing debt, buy back LP interest and address capital needs Key Facts Well-maintained, rents at LIHTC max Some deferred maintenance, but not enough to support resyndication Expense ratio of 43% Existing debt at 39% of value LP seeking buy-out of its interest

Resyndication Solution? 14 year-old property coming up on year 15, 15 more years of restrictions Resyndication would be a good solution to Maintain long-term affordability in a high demand market Address significant deferred maintenance and Preservation But any solution will require relief from subordinate lender Debt exceeds value by over $3M Subordinate loan comes with extra rent restrictions Key Facts Deferred maintenance as a result of large families, low set-asides that constrain revenue Rents at maximums allowed Expense ratio of 62% Mortgage debt at 150% of value

Getting Ready Year 15 transactions are very complex We recommend owners start the planning well before Year 15 Many owners and syndicators are reorganizing themselves to get ahead of Year 15 transactions, or have already done so Next wave: subordinate lenders addressing requests from Year 15 partnerships to modify debt to allow a refinancing or redevelopment

Preservation Strategies at Year 15: Issues and Options NCSHA Housing Credit Connect Atlanta 2017 June 22, 2017