For people new to the 221 (d) 4 program, some of the terms are unique to FHA, and the items they entail are often unclear. Making certain you have your soft costs included in the loan is important if you expect to get them paid through the loan. One of those categories that cause some confusion is “Organizational Costs”.
Think of it this way: You are going to incur costs to put your partnership or ownership entity into place. For yourself or your investors, the rights and duties must get spelled out as well as who get what ownership percentage, whether it is a preferred interest, who gets to call the shots on how the organization proceeds and what happens in the event the deal doesn’t work. This document is a different set of legal drafting than the purchase agreement or the closing documents for the real estate closing/financing closing.
While FHA cautions not to certify organizational costs related to tax avoidance, the very act of setting up the entity often has direct tax consequences for all involved.
The categories for acceptable Organizational Costs are found in the MAP Guide, Chapter 12, and reads like this:
Appendix 12, C.7.a-d Construction Period Instructions for Approval of Initial / Interim Advances
a. The amount included in the replacement cost estimate for organizational fees is an allowance to reimburse the mortgagor for costs incurred to:
(1) Initiate a project;
(2) Organize the mortgagor entity;
(3) Organize its planning, financing and construction, and
(4) Control and manage construction through endorsement
(5) Third Party costs (Appraiser etc.)
b. Release based upon the following:
(1) Disburse 65 percent at initial closing.
(2) Disburse 15 percent during construction based upon a percentage of completion.
(3) Disburse the remaining 20 percent at final endorsement.
Note: Lender’s Third Party Costs, reflected in Organization Costs are exempted from the 65% rule. The rule only applies to the mortgagor’s organizational costs.
c. This allowance may not be used to subordinate the cash requirements for closing.
d. At cost certification allow only the amount included in Section G of Form HUD-92264 for organizational fees, unless fully supporting documentation is submitted by the mortgagor which justifies the need for and reasonableness of the additional expenditure. Any costs incurred in excess of this allowance are not eligible for recognition in processing a mortgage increase or the equity computation on Form HUD-2580, Maximum Insurable Mortgage.
Consider what might be mortgageable for your deal:
1. You can include start up costs-legal work, printing, costs to seek out investors (within reason).
2. You can pay attorneys and accountants to set up the entity documentation in an organization that fits your needs or will attract investors. Printing costs are also certifiable.
3. You can document the costs you incur during planning and financing, and forecast the costs you will incur during construction. For example, travel costs to the site for inspections, if the site is out of state, might be considerable. You would want to forecast plane trips and occasional overnights, if such are to be incurred. All costs of travel should be appropriately estimated. If the executive of a firm is visiting the site, only the time spent on the site should be billed for his or her time on the site. People have to eat and people have to eat, so budget for that.
4. I have seen developers maintain computers on their desk with cameras showing the job site. That would be an acceptable Organizational Cost. In a given situation, IPads for onsite personnel to send pictures back to the ownership would appear to be appropriate controls for construction management.
5. Third Party Costs (Appraiser, Market Study, Architectural Reviewer, Environmental, etc.) no longer appear in Other Fees but are shown in Organizational Costs.
6. Oftentimes, as the project gets closer to completion, there are costs for making the property operational. If moneys are still available, and the job is progressing well, without drama, these categories can be read to allow for items the property needs that weren’t specifically addressed in the 2328s. Items like golf carts to show potential new residents or pool furnishings have been approved. This is less likely to occur going forward since you can budget for FF &E.
Disbursement of moneys are listed in “B” above, which means you need to be very finite in your accounting and record keeping. FHA wants fully supported documentation when disbursing this category. This category will not otherwise support a mortgage increase, were one to seek an increase.