Over the past few months, considerable attention of housing advocates, policymakers and, yes, even the media, has been focused on the enormous budget problem facing HUD in Fiscal Year 1998, starting October 1. HUD Secretary Andrew Cuomo has called this problem of securing adequate budget authority for Section 8 renewals the “greatest crisis in HUD’s history.”
But the sheer magnitude of this crisis has unfortunately obscured a fundamental issue raised by the impending expirations of at least 1.3 million Section 8 units with project-based assistance: who should control this enormous housing stock in the future, for whose benefit, and with what level of additional public investment? Unless housing advocates, policymakers, and the public understand what is at stake and act accordingly to design policies responsive to the needs of tenants and local communities, the federal government could pour billions into a system that fails to guarantee long-term decent and affordable housing for very low-income families.
The Budget Problem
Expiring Section 8 contracts first and foremost present a “budget authority” problem. Many Section 8 contracts, both project- and tenant-based, are approaching the end of their terms, and the numbers of expiring units increase dramatically in FY 1998 to a total of about 1.8 million units. In FYs 1999 and 2000, expiring units again increase to a total of 2.2 million and 2.5 million units, respectively, before beginning to level off. Maintaining funding for existing units and subsidies – not only those contracts reaching the end of their original 5, 10, and 15 year terms, but also recently expired contracts that were renewed for one year – requires new budget authority.
Even under the expedient gimmick of renewing commitments for only one year, the sheer number of expiring units in FY 1998 produces a staggering $5.6 billion increase over FY 1997’s $3.6 billion in budget authority for renewals, and the budget authority needs continue to climb as the unit numbers grow. Actual annual outlays for Section 8 contracts, however, will barely increase over current levels. Outlays, or actual spending for these subsidized units, change little from the year prior to expiration to the year after renewal, but the “budget authority,” or permission to make those outlays, changes dramatically because the contracts are expiring and require renewal to authorize the full outlay.
So far this year, Congress has shown bipartisan recognition of the unique Section 8 budget problem and a willingness for the budget resolution to provide sufficient increases in spending levels allocated for the HUD Appropriations Subcommittee.
Thus, the Congressional budget resolution (H.Con. Res. 84) and both the House and Senate versions of the FY 1998 appropriations bills (H.R. 2158 and S. 1034) contain sufficient funding for full renewal of Section 8 contracts expiring in FY 1998, both tenant-based and project-based. The final version of S.1034 that passed assumed $500 million in savings from “restructuring” and provided $8.66 billion for Section 8 renewals, less than the House’s level. Along with HUD’s $1.6 billion in Section 8 tenant-based reserves, this provides roughly the entire amount requested by the Administration for full renewals.
In addition, the recent agreement between the Republican Congressional leadership and the Administration on a framework to balance the budget over the next five years would apparently provide full Section 8 renewal funding. Congress has agreed to allocate sufficient additional budget authority for renewals over the next five years to permit outlays that are $35 billion more than they would have been had the additional budget authority not been appropriated. In other words, had budget authority remained at FY 1997’s extremely low level of $3.6 billion, federal outlay spending for Section 8 would have declined precipitously, and the agreement provides the added authority to prevent that from happening.
Such solicitude in this time of balanced budget fervor may be due to the fact that that the additional budget authority does not result in new additional outlay spending over the next five years. Besides, few members of Congress want to be seen as throwing thousands of poor, disabled, and elderly residents into the streets without protections. If the budget resolutions continue to follow suit over the next five years, the task for housing advocates will be to ensure that the appropriations process actually provides the designated funding, as it will apparently do in FY 98.
Housing Stock Remains Imperiled
Submerged in this big discussion of money is the central question of what happens to the enormous Section 8 housing stock with expiring contracts, which is roughly one-half of the total expiring inventory. Of the housing with expiring project-based Section 8 assistance, properties with HUD-insured mortgages remain the primary subject of federal attention, and immediate effort appears focused on so-called “oversubsidized” properties, those carrying Section 8 subsidies above true market value. The proposals for Section 8 properties would require “oversubsidized” properties to begin receiving reduced market-based subsidies and rents. Those that cannot survive would be forced to “restructure,” to reduce debt burdens to lower levels supportable at market rents.
At stake here is the control and future operation of at least 500,000 units, many of which have little or no true equity – value beyond their current debt levels. Because of the impending subsidy expiration, the federal government now effectively controls what happens to many of these “oversubsidized” properties.
As Congress addresses the content of its restructuring program, housing advocates and residents should participate in defining the terms of the program, the mix of benefits provided and burdens imposed, and how this stock will be used to meet the ever-expanding affordable housing needs of very low-income families. Sound public investment strategies, if linked to transfers into the restricted nonprofit or public ownership sector or to long-term use restrictions, could reduce eventual renewal costs to those required for operating and recapitalization expenses by retiring the original capital cost. On the flip side, providing the benefits of restructuring to owners without restrictions that ensure a fair public exchange presents the risk that enormous investments will benefit private, not public, interests.
Restructuring and renewal policy is not just a financial exercise. Any comprehensive program should include at least the following elements:
- Owners responsive to tenant and community needs for affordable housing and dedicated to that goal. One essential tool will be real “incentives” for owners to transfer properties to tenant-endorsed nonprofit and public agency purchasers, or to other purchasers that commit to preserve the long-term budget-based affordability of the property for very low-income families. Such inducements may include tax relief, or restrictions imposed for restructuring. Another important tool will be specified opportunities for tenant participation in restructuring and ongoing project operations, with funding for organizing and capacity building.
- Retention of financial benefits for the public interest. Any financial benefits realized as a result of the restructuring process (e.g., unrestricted rents) beyond what is necessary to secure proper asset management are retained for the public benefit to preserve the future affordability and availability of the housing to people currently served by the Section 8 program.
- Project-based assistance except in extraordinary circumstances. Preserving developments that offer guaranteed access for Section 8-eligible families cannot be accomplished through conversions to a tenant-based format.
- Screening out bad owners, and then making operational reforms such as tenant participation in ownership, management, and decision making (e.g., nonprofit board membership, management reviews and physical inspections, enforcement decisions), with mechanisms adequate for proper regulatory oversight and for direct tenant empowerment through individual and joint action (e.g., rent withholding for violations).
- Rehabilitation planning and adequate resources to ensure the long-term viability of these properties as affordable housing.
- Tools for local communities to preserve “undersubsidized” properties worth more than their Section 8 rental values.
The current major Section 8 proposals offered by the Senate and the administration contain pieces of this program, but neither has all of these components adequately detailed. The Senate’s current bill, however, provides the strongest foundation for a sound program.
What Is a Fair Exchange?
The two major proposals on the table take dramatically different approaches. While both propose to use the technique of subsidy reduction and mortgage restructuring to reduce discretionary Section 8 spending in favor of mandatory claim payments from the mortgage insurance fund, what happens after that point diverges sharply, with fundamental consequences for the long-term future of the affordable housing system.
The Senate’s Bill
The Senate’s moderate bill (S.513, Connie Mack, R-FL), developed with significant bipartisan support and endorsed by many owner and tenant groups alike, proposes to restructure mortgages and reduce to “market” levels and then generally renew the Section 8 subsidies as project-based. But the bill fails to adequately provide for renewal of expiring contracts currently paying less than market value.
The bill seeks to avoid adverse tax consequences to owners primarily by bifurcating mortgages into serviceable and “sleeping” or deferred “soft second” portions. It proposes to pay partial claims to existing lenders and to provide FHA insurance or other credit enhancement for the remaining first loan. Certain bad owners would be excluded from renewal, and HUD must adopt procedures to facilitate the transfer of these properties to tenant-endorsed nonprofit and public purchasers with project-based assistance. Most owners, however, would be eligible for renewal as long as Congress provided the funds. HUD or other public agencies, such as state or local housing agencies, would perform the restructuring and oversee future regulation of properties. The bill further provides specific opportunities for tenant participation in both the restructuring process and ongoing project operations, with modest federal resources for technical assistance and capacity building.
To receive these “rollover” benefits, the current bill would obligate owners to accept the offered renewals as long as the second mortgage on the property remains outstanding, together with any other restrictions imposed by the new public administrator. After restructuring to “market,” the overseeing agency will regulate rents through operating cost adjustment factors adopted by the agency – which in some markets will yield some level of relative affordability over time, even absent Section 8. The bill would also require owners not to discriminate against holders of tenant-based Section 8 assistance.
Thus, the deferred second mortgage, bearing interest at the applicable federal funds rate, becomes a key mechanism for assuring continued public control over the value of the silenced debt and the long-term use of the housing resource. This second note could effectively safeguard against privatization of much of the project’s income potential. During the term of the new reduced first mortgage, the second is payable only from surplus cash. The new regulatory agency may permit a portion of surplus cash (25 percent) to flow to owners who meet certain performance standards, as an incentive for good performance, and the balance may go toward reducing the amount due on the second note. When the new reduced first loan is retired through tenant rents and public subsidy over its remaining term of 10 to 20 years, the “sleeping” deferred second note would be awakened and require servicing, at the level of the debt service on the first. Depending on the terms of the second note and actual market rent levels, some properties may be capable of providing additional financial returns, but those owners will be required to preserve the restructured rent levels and accept Section 8 renewals so long as the second note is outstanding.
Having addressed the major issue of ongoing affordability, the Senate bill still raises the fundamental question: Is this a sufficient system to ensure the provision of decent housing during the restricted-use period? Its proponents hope that an affirmative answer results from a combination of shifting regulatory oversight closer to the property and providing some stronger enforcement tools, screening bad owners, requiring rehabilitation assessment and providing some resources, providing modest performance incentives, and invigorating resident participation.
HUD has recently proposed a different approach in H.R. 1433. HUD’s bill would also restructure mortgages and reduce subsidies to market levels. It differs from the Senate version by:
- Proposing vouchers rather than renewals of project-based Section 8, with a requirement of project-based renewals for buildings serving almost exclusively elderly and disabled tenants or in tight markets (estimated at around 50 percent of the affected stock);
- Providing tax relief to owners affected by mortgage restructuring in the form of tax deferral, with varying amortization periods for the deferred taxes, intended to encourage owners to transfer properties to tenant and nonprofit purchasers;
- Imposing a use restriction on owners receiving restructuring benefits that includes nondiscrimination against Section 8 tenant-based recipients for some units and weak tax credit, rent, and occupancy restrictions for 40 percent of the units;
- Allowing private entities to perform restructuring functions.
The HUD bill also includes other features absent from the Senate bill, such as “enhanced vouchers” (capable of subsidizing a higher rent) to protect tenants whose project-based contract is not renewed, and changes in bankruptcy law to permit faster HUD foreclosures against defaulting owners.
The Administration’s proposal, unveiled jointly with Treasury Secretary Rubin, has so far failed to gain a following on Capitol Hill, as few apparently support such widespread vouchering of the stock and no one seems to believe that tax relief for owners is realistically possible this year or anytime soon enough to be part of a comprehensive legislative program.
Toward A Final Bill
At the Senate Housing Subcommittee’s June 17 hearing on S.513, HUD Secretary Cuomo voiced support for moving forward with restructuring legislation, but he stressed three major objections of the Department to S.513: (1) not enough conversion to vouchers; (2) insufficient flexibility to use private organizations, not just public agencies, to conduct the restructuring; and (3) the absence of a comprehensive tax solution for owners, in light of some concern that the IRS will not approve debt bifurcation as a legitimate tool. After the hearing, hoping for expeditious enactment, the Senate folded S. 513 into its budget reconciliation package, but that effort was thwarted by opposition from the House negotiators in the reconciliation conference process, so restructuring policy was dropped from that vehicle. Simultaneously, Senate sponsors have continued to work with HUD in an effort to reach agreement on changes to accommodate its concerns on the issues of vouchers and degree of private participation in the restructuring program, and reportedly they are close to a deal that would permit more vouchers and some private participation.
The Senate has proceeded to include S. 513 in its FY 1998 appropriations bill (S. 1034), now amended into H.R. 2158, which passed the Senate floor in late July. As H.R. 2158, the House version of the appropriations bill, is silent on restructuring policy, the ultimate outcome may be determined in a September conference committee on FY 1998 appropriations, when the Senate/HUD revisions would provide the Senate position.
Failing to reach agreement on a comprehensive policy will result in either an extension of existing temporary demonstration authorities or widespread nonrenewals, defaults and foreclosures, neither of which represents a sound policy approach. Congress should use these contract expirations to improve the housing delivery system by ensuring more accountable and cost-effective operations and permanent investments in our affordable housing supply.
When Congress reconvenes in September, residents of this housing and advocates must also continue to engage policy makers and seize this once-in-a-lifetime chance to construct a new and improved system of performance accountability. It is an opportunity we can’t afford to miss.
The Many Faces of Section 8
Project-Based Section 8: Passed in 1974, this program provided subsidies, mostly to for-profit developers, for construction and rehabilitation of units designated for low-income households, as well as long-term rental subsidies. The program created of over 1.7 million affordable apartments.
Section 8 Certificates: Public Housing Authorities (PHAs) receive certificates from HUD and distribute them to qualified tenants. Tenants then find housing, and the landlords must sign an agreement with the PHAs. The tenants pay 30 percent of their household income to the landlords, and the PHAs pay the difference between that amount and the HUD determined Fair Market Rent (FMR) for that area.
Section 8 Vouchers: Also portable and tenant-based, vouchers do not require that tenants find a landlord who agrees to rent for FMR. Instead, the tenants are responsible for any amount of rent still due after they have paid the 30 percent of their household income and the PHAs have paid the difference between that and the FMR.