Two ways to improve the 223 (f) program that would really extend its usage and help the residents the loan intends to serve 

When I left the RTC in 1996 to go back into FHA Multifamily lending, one of my guideposts was Proverbs 19:17, which reads:  “He who helps the poor lends to the Lord and He pays wonderful interest on His loans.” While I have financed my share of high-end apartment properties, my greatest satisfaction in this business is helping to find ways to help less fortunate people live their lives a little better.  While I can’t help them make more money, I can, through FHA, help ensure their homes are working right, are insulated and provide the least headache-inducing home environment possible, at affordable rent

I believe the toughest job in the United States is that of a single or unmarried mother of several children struggling with daycare, a low paying job, uncertain child support and an uncertain quality of rental housing.  One of those we FHA Lenders can do something about.

I have two proposals for that involve seemingly small technical changes that could have a large impact of the living situation for many families on a tight budget:

  1. That ML 10-21 III.B.1 be modified so that 223(f) loans could be submitted for application at a 65% occupancy, and
  2. That ML 12-25 V.H. be modified so that the enumerated Repairs and Replacements only require Hub Director approval in, say, the first two years, similar to the terms of ML-12-25 V.D.

Let’s discuss these in order:

As to reducing the physical occupancy necessary to submit an FHA 223(f) loan for firm processing to 65% occupancy:

The operative Section of the ML 10-21 reads as follows:

“B. Program Changes – Section 223(f) Program Underwriting Guidelines

1.Occupancy Standards:  Projects must have an average physical occupancy rate of at least 85%. (italics added)For market rate properties, the maximum underwritten physical occupancy rate is 93%. For affordable properties, the maximum underwritten physical occupancy is 95% if a property has: a) at least 90% of units covered by a rental assistance contract, or b) affordable rent restrictions on 100% of units with all unit rents at least 20% below comparable market rents.

Most properties have a breakeven threshold of around 83% to 85%, taking into consideration the interest rates and expenses. The result of such of an 85% threshold is that projects not yet at breakeven, but close, cannot take advantage of the financing. Those projects that are near to sustaining occupancy but fall a few units short cannot access the repair moneys or long term financing this program so effectively provides.

Keeping low occupied projects (say, less than 50% occupied) from accessing the program makes sense, and when the rule was established, it was long overdue.  Too many times  in the past did unscrupulous owners take out a big loan, pulling out some or a lot of cash and then default on the loan, effectively “selling” their poorly performing properties to FHA, given the lax nonrecourse provisions of the loan.

Sometimes it was not as malicious.  A well-intentioned owner perhaps lacked the development and contractor skills necessary to complete the renovations the program allows. A too-lean budget led to incomplete repairs and maybe the property was worse off than when it started.  In such cases, a more holistic approach to the property, with the substantial rehabilitation  contemplated in the 221 (d) 4 program , would have been the proper course.

If a 50% threshold or even 65% threshold had been in place, these loans probably would not have defaulted as 223 (f)s but would have thrived as 221 (d) 4 loans.

But notwithstanding the above mistakes,  there is a class of properties that could benefit from the financing to take them to breakeven or above.  Examples include:

Projects that have experienced a fire or roof damage. These units get counted in the unoccupied unit count, but were they habitable, they could likely get rented.

Poorly managed properties.  Where the ownership is changing management or new ownership is taking over a poorly performing property, it would be nice to access the (f) so as to refresh the property and make it successful. Right now, we can’t require a change in management for those properties because they don’t fall within our underwriting auspice, leaving the site in a deteriorating condition.

Properties needing upgrades. Maybe the units are not leased because they are tired or needing new mechanicals or some other thing.  Refreshing or renovating would take care of the problem and get them to full occupancy.  Consider new air conditioning or ceiling fans, or carpet, appliances and the like.  I don’t think harvest gold appliances or shag carpet are ever coming back. Still, we can’t presently help these properties to achieve sustaining occupancy because they must be at sustaining occupancy before we can help.  That seems like an abrogation of our mission.

Energy efficient units are a requirement for successful projects.  Encouraging the energy efficiency on older, less occupied properties should be a priority. Again, we can’t make efficient those properties we can’t touch.

Here is my plan: FHA, please consider allowing us to submit properties at a 65% occupancy threshold,  if the market could be shown to support the moderately rehabilitated property.  If the market were able to achieve at least an 85% occupancy, or perhaps more, then allowing the property to access the (f) loan would make sense.

Protection could be found in using perhaps the IOD provision used for the (d) 4 program until repairs and stabilization have occurred. The properties at 65%-84% occupancy, presently stuck in the predicament of needing help with none available, could be improved and redirected by the 223 (f) loan.  The loan would improve the quality of living at the property and no doubt improve occupancy, for the benefit of the residents and the neighborhood.

As to changing the rules on Replacement Reserves, limiting the requirement of HUB Director release of funds to two years after closing:


The operative section of the ML 12-25 V.H reads as follows:

Only PCNA Enumerated Repairs and Replacements May be Drawn from the Reserve for Replacement Escrow

All future draws from the Reserve for Replacement escrow will be compared to repairs and replacements listed in the PCNA in accordance with Handbook 4350.1 Rev 2. (For this purpose, the comparison will be as to the kinds and categories of repairs and replacements for which draws are requested and not as to the timing of such repairs and replacements.) While disbursements will be permitted for emergency and unforeseen needs, in general, unless specifically approved by the Hub Director, draws will not be authorized for items or categories of items not identified as future repairs and replacements by the PCNA. (See Chapter 4 of Handbook 4350.1 Rev 2).

This provision was put into place to deter improper diversion of repairs into the Replacement Reserve, so as to prevent borrowers from closing with properties not in repair and then often failing to complete the repairs or doing them over an extended period, to the detriment of the property and the Department.  It also eliminated the need to put up the 20% overcollateralization escrow that ensured the work would be completed and that there would be sufficient funds to adequately complete the repairs.

This is a short term problem, impacting the first years of the loan. We can resolve the problem without unnecessarily burdening the borrower and the FHA Field Director.

It is comparatively easy to forecast the short term needs of the property-over the next 24 months -but difficult to forecast the extent and timing of whether work should be done in the 84th month or the 108th month of the loan.

As time passes there is a likelihood that some new priority might prove of greater importance to a resident, or the entire property, than the findings of  a PCNA report many years before.  A one or two day visit by an engineer in 2013 should not necessarily tie the hands of a property owner in 2018, who is doing their best to meet the quality housing needs of the site to attract quality residents.

This also impacts the HUB Director. Do we really want the Director and/or assignee of the Director micro managing the property operations 3-5-8 years out from the loan?  FHA does not have that manpower.  This is not a high end use of the available manpower going forward.

There is no need for potential borrowers to worry as to who will be making those decisions after 2 years. When large sums of replacement reserves are being escrowed for older properties, the borrower worries that some issue might come up that was not included in the report.  Waiting for a director to waive this provision or approve a draw not in the original report is overkill.  This could be handled without the existing level of involvement by FHA in the borrower’s operations.

Think also of the residents.  If they want to move in and are promised a new range, for example, do we really want them waiting around for the Director to decide on which brand, or whether it will be allowed at all?  These are real world decisions borrowers face when deciding to enter a 223 (f), especially if FHA oversight extends for the life of the loan and the defined usage of the reserve accounts assumes no flexibility to meet real world needs as they develop over time.

The argument is that the provision is over extensive, that the problem could be resolved with a shorter time frame.  The provision in ML-12-25 V.D. seems adequate to satisfy FHA’s concerns in both its context and the issue discussed here.

The best course seems to be to keep the department and the Director with control in the early years and then allow the Owner, with ultimate FHA approval, to do what is best for the property.


I have sensed that this Administration has a sincere desire to make the lives of the less fortunate in our Nation easier.  I stand with the Administration in these pursuits.

I keep thinking about the lady who finally gets through a long and difficult day, working and taking care of her children, who seeks twenty minutes of relaxation somewhere, only to find, it’s too cold, too hot, the hot water is uncertain or there are drafts to be contended with through the windows or doors. Let’s help her with these changes, even if she is living in a less than full property. Each will assist the owner in making here unit more functional, with newer appliances and such, and probably with lower rents.

I believe anything we can do to keep the single mom’s rent down and to keep her unit kept up is a good thing. That will be a blessing for us all.

The 223 (f) is a marvelous tool for accomplishing this task.  These simple changes would increase the usage of the program and benefit more people.