The FHA / HUD 232 loan program provides attractive, federally insured financing for new construction and substantial rehabilitation of qualifying residential healthcare facilities. The credit enhancement afforded by the FHA / HUD loan insurance program allows for the type of construction financing that is virtually unmet in the market. Key characteristics of this 232 loan program include:
The following is a more detailed discussion on the 232 loan program. A summary term sheet can be accessed here: 232 Term Sheet.
Eligible properties include skilled nursing, assisted living, and board & care facilities with 20 or more beds. Facilities must be licensed and regulated by the State and provide 3 meals a day and continuous protective oversight. Up to 25% of units of qualifying facilities may be utilized for non-licensed / non-regulated, independent living. The 232 loan program is eligible for qualifying facilities throughout the U.S.
To qualify as substantial rehabilitation, the scope of repairs needs to exceed 15% of the project’s as-repaired value or substantially replace (50% or more) two or more major building components. Major building components identified by HUD regulations include roof structures, wall and floor structures, foundations, plumbing, central heating and air conditioning systems and electrical systems.
This HUD loan program is intended to promote housing in residential care facilities. Accordingly, commercial space is generally limited to 10% of gross floor area and 15% of gross income. Also, unless the project is being constructed as a mixed-use building, commercial activities need to be appropriate for the facility and its residents. Examples identified by HUD regulations include hair salons, convenience stores, medical offices, ice cream parlors, coffee shops, gift shops and non-resident parking.
The Owner/Mortgagor entity can be for-profit, non-profit, private, or public, but must be a single asset entity whose sole asset represents the project under financing consideration. Natural person and tenancy in common (TIC) ownership structures are generally not permitted.
FHA / HUD insured loans are generally non-recourse. No individual assumes personal liability for payments due under the loan documents. However, key principals can be personally liable for certain bad acts set forth in the loan documents, including misallocating insurance proceeds, improper maintenance of books and records, authorizing the conveyance, assignment, transfer, pledge, encumbrance, or other disposition of the mortgaged property without prior approval from HUD, and for other intentional bad acts defined in the loan documents.
The FHA / HUD 232 loan term covers the anticipated construction period plus two months during which interest-only payments are made; after which the loan converts to a fully amortizing loan with a 40-year term.
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Year
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Average
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2019
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4.14%
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|
2020
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3.92%
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|
2021
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3.10%
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2022
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3.33%
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2023
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5.69%
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AVERAGE
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3.97%
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Between 2019 and 2023, average interest rates on 232 loans ranged from approximately 3.10% to 5.70%, according to HUD published data. You can visit here for more current indications.
The loan sizing parameters for FHA / HUD 232 loans are as follows:
Loan amounts are further capped to avoid cash out. For new construction loans, loan amounts are limited to 100% of eligible cost as defined by HUD less any secondary financing sources (e.g. public grants, loans, low income housing tax credit equity, etc.). For substantial rehabilitation loans, loan amounts are limited to 100% of eligible development/rehab cost – plus the lower of (i) 90% of the as-is market value of existing improvements and (ii) 100% existing mortgage debt (if property is owned) or 85% of purchase price (if property is to be acquired) – less any secondary financing sources.
HUD program requirements generally do not allow for 232 loans to be prepaid during the construction period of the loan. Lockout and prepayment penalties after construction are negotiable, but best interest rate pricing is typically secured with a 10-year call protection (a lockout period and/or prepayment penalties over the 10 years following construction).
Sample prepayment penalty language from a Note of a HUD insured loan.
A common prepayment penalty structure is the “10-9-8-7-6-5-4-3-2-1-0” structure where the prepayment penalty is 10% in year 1 following construction, followed by a 1% reduction upon each 1-year anniversary so that the prepayment penalty is 0% upon the 10-year anniversary. Shorter call protection may increase the interest rate the FHA Lender is able to offer. For example, borrowers have been quoted a 50-60 basis point interest rate premium for a shorter 5-year call protection.
232 loans are fully assumable, subject to Lender & HUD approval and fees. HUD typically imposes a 0.50% TPA (Transfer of Physical Asset) fee for transactions involving transfers of control of more than 50% ownership interest. Lender fees may vary but are typically commensurate with incurred legal and administrative fees.
Typically, lender financing fees range from 1.00% - 2.00%. Lender financing fees are determined based on market conditions and the size and complexity of the proposed transaction, subject to HUD limitations. Current HUD regulations permit maximum lender fees on 232 loans up to 3.50% of the loan amount, except on transactions involving bond financing where such fees are permitted up to 5.50%. Such fees are typically collected at closing.
HUD imposes an application fee of 0.30% of the loan amount to review the application to determine whether the proposed loan qualifies for HUD mortgage insurance. The full HUD Application Fee of 0.30% of the loan amount is due at application submission. If the application is being filed in one stage (referred to as “Direct-to-Firm Application), HUD retains the full application fee whether the application is approved or rejected by HUD. If the application is being filed in two stages, HUD only retains the full application fee if the initial application is approved by HUD. Otherwise, HUD refunds half of the HUD application fee upon Lender request. The final application fee owed to HUD is based on the final loan amount at closing. Any difference between the fee paid at application submission and the fee owed based on the final loan amount is reconciled at closing.
HUD imposes an inspection fee equal to 0.50% of the loan amount for new construction projects and 0.50% of the total cost of improvements on substantial rehabilitation projects. This fee is intended to cover HUD’s cost of performing site inspections during its initial review of the Application and post-closing to monitor construction progress. This fee is collected at closing.
0.25% annually for healthcare facilities with Green building certifications
0.45% annually for healthcare facilities with LIHTC
0.77% annually for healthcare facilities without LIHTC
The HUD mortgage insurance premium fee (HUD MIP) is a fee charged by HUD for providing a credit enhancement in the form of FHA mortgage insurance which provides access to the advantageous interest rate terms available under the HUD loan program. Presently, the initial and annual HUD MIP rates imposed by HUD are 0.25% for qualifying healthcare facilities with green building certifications, 0.45% for qualifying healthcare facilities that are financed with Low Income Housing Tax Credits (LIHTC) and 0.77% for qualifying healthcare facilities that are financed without LIHTC that do not have Green building certifications.
The most recent notice regarding HUD healthcare facility MIP rates is available here: Current Mortgage Insurance Premiums (MIP). Details regarding the Green MIP reduction is available here: ORCF Green MIP Program.
Appraisal, Market Study, Phase I ESA, and Architecture and Cost Review are always required. Radon test reports are required on all projects following construction completion regardless of EPA radon zone. For projects involving sub-rehabilitation, asbestos and lead-based paint test reports are required for projects built pre-1978.
The Appraisal completed for HUD 232 financing assists the Lender in determining the final loan amount by providing an estimate of the market value of the development site as-is, as-built, and the projected income and expenses that the property will achieve upon completion and stabilization. The Appraisal report also needs to include a complete market study which provides an in-depth supply-demand analysis to confirm whether there is sufficient sustainable demand for the proposed development as well as its surrounding market. The Phase I ESA determines whether any environmental conditions exist at the project that represent an unacceptable risk or which would require further action. The Architecture and Cost Review determines whether the project design meets HUD's design requirements – including Minimum Property Standards, local codes, and applicable accessibility requirements – and whether the project can be reasonably constructed within the proposed cost estimate and time frame. Radon testing confirms the existence of any unsafe radon levels that require mitigation. Asbestos and lead-based paint testing evaluate the existence at the project of any asbestos containing material and lead-based paint and whether its condition poses a potential hazard which requires remediation or other follow-up action.
TAX & INSURANCE. HUD requires that the FHA Lender collect and maintain tax and insurance escrows in order to ensure that: (a) there are sufficient funds available to pay real estate taxes; and (b) there are sufficient funds available to pay insurance premiums for insurance coverages as required by the HUD Loan Program. The construction loan budget typically allocates funds to cover anticipated taxes and insurance during construction. After the construction period of the loan and upon commencement of loan amortization, the Lender typically bills for and collects funds to cover tax and insurance expenses along with each monthly principal and interest payment. The tax and insurance amounts collected each month is based upon the amount necessary to pay all insurance premiums, real estate taxes, and governmental assessments at least thirty days prior to each due date for each year during the term loan.
REPLACEMENT RESERVES. HUD requires that the FHA Lender collect and maintain capital replacement reserves to ensure that there are sufficient funds available to fund capital replacement needs as they come due. Replacement reserves are typically held in escrow by the Lender in an interest-bearing account with an acceptable financial institution. After the construction period of the loan and upon commencement of loan amortization, the Lender typically bills for and collects funds for capital replacement reserves. The monthly replacement reserve deposit is determined by the Lender and HUD during loan application processing based on the anticipated levels of funding required to meet anticipated capital replacement needs based on an assessment completed as part of the Architecture and Cost Review during application processing. An initial deposit to replacement reserves at closing may also be required.
OPERATING DEFICIT ESCROW. HUD requires that the FHA Lender collect an operating deficit escrow on new construction and substantial rehabilitation applications to provide funding for operating expenses and debt service when sufficient cash flow is not available during the initial lease-up period following construction completion. The operating deficit escrow is fully funded at closing and posted with Lender with cash or letter of credit (in form acceptable to HUD). If funded in cash, such funds are typically held in escrow by the Lender in an interest-bearing account with an acceptable financial institution.
The required escrow amount is determined by the Lender and HUD during application processing, based on HUD’s Initial Operating Deficit Calculation Template which analyzes the projected deficit from operating expenses and monthly debt service payments that are anticipated to exceed income collections during the lease-up period. Other risk factors associated with the project may further increase the operating deficit escrow requirement.
CONSTRUCTION CONTINGENCY. HUD requires a construction contingency for new construction and substantial rehabilitation applications to provide funding for eligible change orders and cost overruns not covered within the original HUD-approved construction loan budget. On new construction applications, the required construction contingency equals 2% of the loan amount and is escrowed for as part of the working capital escrow. On substantial rehabilitation applications, the required Construction Contingency amount typically ranges from 1-10% of the construction budget (depending on the type and condition of the project), is mortgageable, and may be funded out of the construction loan budget.
WORKING CAPITAL ESCROW. HUD requires that the FHA Lender collect a working capital escrow on new construction and substantial rehabilitation applications to provide funding for taxes, insurance, and interest in case of construction delays, and other eligible expenses not included in the loan budget necessary to complete the project. The working capital escrow is fully funded at closing and posted with Lender with cash or letter of credit (in form acceptable to HUD). If funded in cash, such funds are typically held in escrow by the Lender in an interest-bearing account with an acceptable financial institution.
For new construction applications, the working capital escrow equals 4% of the loan amount, half of which is allocated for a construction contingency. The working capital escrow on sub-rehab applications is only 2% of the loan amount, with the construction contingency being funded out of loan proceeds.
Davis-Bacon wage rates are required on new construction and substantial rehabilitation transactions.
The general contractor and subcontractors working on 232 projects are required to comply with wage payment and reporting requirements under the Davis-Bacon Act. Davis-Bacon requires contractors and subcontractors to pay laborers and mechanics no less than the locally prevailing wages and fringe benefits for corresponding work on similar projects in the area as determined by the Department of Labor which can be found here. Contractors and subcontractors are required to submit online certified payroll reports each week evidencing compliance with such requirements through Elation Systems and obtain DOL clearance upon construction completion.
Typically, 8-12 months from engagement to closing. Timeframes may vary significantly, depending on whether the application is processed as a Direct-to-Firm application or Two-Stage application, the complexity of the transaction, developer cooperation, and the volume of loan applications being processed by HUD.
To better appreciate the timing considerations, it is important to understand the FHA / HUD 232 loan application process. Generally, the Two-Stage application process typically involves the following stages: Initial-Submission Application → Firm Submission Application → Closing. The Direct-to-Firm application process cuts out the Initial-Submission application and consolidates it with the Firm-Submission application.
INITIAL-SUBMISSION APPLICATION. The 232 loan application process can be divided into two stages: the (1) Initial-Submission Application and (2) Firm-Submission Application. This is done to save the developer from the cost of obtaining a full set of plans and specifications and construction bids before the overall market, development team, and environmental considerations have been investigated. Accordingly, the Initial-Submission application requires a HUD compliant appraisal/market study and a Phase I ESA along with resumes and qualifications of the development team (owner, operator, architect, GC, and management agent, as applicable). Initial-Submission application preparation generally takes 4-8 weeks assuming full cooperation from the Developer and no major issues. HUD’s review can take up to 60 days per its internal requirements, although it often takes longer. Once HUD has completed its review of the Initial-Submission application and is satisfied with the proposal, HUD will issue its approval to proceed to Firm-Submission application in the form of an Initial Submission Firm Commitment. Such letter will set forth any special terms and conditions.
FIRM-SUBMISSION APPLICATION. If the developer wants to proceed, the developer will need to provide a full set of plans and specifications along with a draft construction contract with a detailed cost breakdown for Lender review. The Lender will commence third-party review of the plans and specs and construction cost breakdown to confirm it meets HUD requirements and is reasonable within industry standards. The appraisal/market study will need to be updated if more than 120 days will have passed between the effective date of the report and Firm-Submission application. The Phase I ESA will need to be updated if more than 180 days will have passed between the effective date of the report and the Firm-Submission application. Overall, the Lender’s Firm-Submission application preparation can take between 4-8 weeks from the time all requisite items are provided. HUD’s review can take up to 60 days per its internal requirements, although it often takes longer.
CLOSING. Once HUD has completed its review and is satisfied with the application, HUD will issue its approval in the form of a HUD Commitment for mortgage insurance along with its terms and conditions to close. If acceptable to the parties, the attorneys will be engaged to prepare and review the loan documents and required due diligence items. Lender’s counsel will assemble a pre-closing package and, upon completion, submit to HUD. HUD will then review the pre-closing submission and, if acceptable, clear the project to close. This process generally takes between 45-75 days.
We hope you find this information helpful. If you are interested in seeing what an FHA / HUD 232 loan can do for your project, you can Apply Here. If you have further questions or would simply like to speak with an expert in the field, feel free to Contact Us.
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