City Council
Report
City Council Meeting: May 10, 2022
Agenda Item: 3.E
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To: Mayor and City Council
From: Andy Agle, Director, Community Services Department, Housing and Human Services
Subject: Approval of Barnard Park Villas Rehabilitation and Extension of Affordability Recommended Action
Staff recommends that the City Council authorize the City Manager to negotiate and execute a Disposition and Development Agreement (DDA) and implementing documents based on the attached Term Sheet (Attachment A) with regard to the Barnard Park Villas senior affordable housing development.
Summary
Barnard Park Villas is a 61-apartment community restricted to low-income senior-citizen households (Project) and located at 3356 Barnard Way (Property). The Property is currently owned by Barnard Villas, Ltd. (Owner). The City has the option to purchase the Property, including the improvements, for $1.00 on December 1, 2026, though the existing housing subsidies for the Property expire on June 1, 2023.
In light of upcoming milestones, the Owner has partnered with Thomas Safran and Associates, Inc. (TSA), an affordable housing owner, developer, and operator.
The Owner and TSA are collectively referred to as the “Developer” in this report.
The Developer submitted a proposal to the City to retain and extend their ownership of the Property in exchange for an upfront cash payment to the City and the commitment to renovate the Property and maintain the Project as a low-income senior-citizen apartment complex.
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Through negotiations with staff, the Developer has formalized a proposal to the City that includes the following key provisions:
City Provisions:
The City would receive a $13 million upfront payment to the Housing Trust Fund from the transaction, primarily based on the value of the HUD voucher contract.
The City would ground lease the Property to the Developer for 60 years.
The City would receive annual ground-rent payments equal to $1.00 per year plus a 35% share of the Project’s surplus operating cash flow after the Developer’s annual preferred return (residual receipts).
The affordability covenants would be extended for 60 years to run concurrently with the ground lease term.
Developer Provisions:
The Developer would receive a $19 million upfront payment from the transaction, primarily based on the value of the HUD voucher contract.
The Developer would apply for a new Section 8 project-based voucher contract with an initial 20-year term plus renewal extensions.
The Developer would complete an initial renovation of the Property based on an estimated rehabilitation budget of approximately $9 million.
The Developer would fund an initial $120,000 capital reserve and would be required to maintain the Property per defined standards throughout the 60-year ground lease term.
The Developer would receive an annual $225,000 preferred return for 15 years. 3 of 12
The Developer would receive 65% of the Project’s residual receipts and the City would receive 35% of the Project’s residual receipts, which would be calculated after the Developer’s annual preferred return.
The Developer would provide enhanced social services to the tenants during the term of the ground lease.
The Developer’s proposal would extend the affordability covenants at the Property for an additional 60 years, as well as provide a renovated Property and on-going maintenance of the Property for current and future tenants. In addition, the proposal would extend the existing Section 8 project-based voucher contract for at least another 20 years, as well as provide enhanced social services to the tenants. Furthermore, the Developer’s proposal does not require any financial assistance from the City, and instead, offers the City both an upfront cash payment to the Housing Trust Fund as well as participation in the Project’s surplus cash flow on an annual basis.
Background
In 1981, the City’s former redevelopment agency conveyed the Property to a predecessor-in-interest of the Owner for the purposes of constructing a 61-apartment community restricted to low-income senior-citizen households. The development of the Project was financed with a loan from the California Housing Finance Agency (CalHFA) that was insured by the United States Department of Housing and Urban Development (HUD) (HUD Loan). In conjunction with the HUD Loan, the Owner entered into a Section 8 project-based voucher (project-based voucher) contract with CalHFA/HUD to ensure sufficient cash flow for the Project. Neither the City nor the Santa Monica Housing Authority (SMHA) is a party to the existing project-based voucher contract.
The Project was built as planned and currently provides rent- and income-restricted housing for 60 low-income senior-citizen households plus one manager. Each of the 60 affordable apartments in the Project was allocated a project-based voucher that allows each tenant in the Project to pay no more than 30% of their income toward rent.
As project-based vouchers, the vouchers remain with the Property, rather than 4 of 12
particular tenants, until the termination of the existing project-based voucher contract.
As such, even if tenants vacate the Property, the project-based voucher remains with the Property and available to the next tenant to move in.
The grant deed that conveyed the Property to the Owner gives the City the option to purchase the Property, including the improvements, for $1.00 on December 1, 2026.
However, both the HUD Loan and the project-based voucher contract expire on June 1, 2023, prior to the date of the City’s option to purchase the Property.
A key component of the Developer’s proposal is the renewal of the existing projectbased voucher contract through HUD’s “Mark-Up-To-Market” process. The Mark-UpTo-Market renewal sets the Section 8 subsidy payments made to the Project (payment standards) based on the market rents of other apartments located in the vicinity of the Property. Given that the Property is in a superior, ocean-front location, the proposed payment standards achieved through the Mark-Up-To-Market process are significantly higher than the payment standards used by SMHA on a Citywide basis. Thus, the Mark-Up-To-Market renewal of the existing project-based voucher contract is significantly valuable and would provide the Project with a substantial amount of projectbased voucher subsidy revenue on an annual basis.
However, per discussions with HUD, the Owner has the ability to move the existing project-based voucher contract to a different property, including properties outside Santa Monica. If the project-based voucher contract is moved to another property or if the project-based voucher contract is terminated, each current tenant would receive an enhanced voucher (see HUD Notice PIH 2001-41 and H 2012-3). An enhanced voucher is attached to the tenant, not the property, and only protects tenants from future rent increases (tenant-based vouchers). Current tenants may use the tenant-based voucher either at Barnard Park Villas or at another property if they relocate. While tenant-based vouchers provide affordability protection for current tenants, the vouchers are lost to the property once a tenant vacates. As such, as the tenant-based vouchers are terminated by attrition, the Project’s operating cash flow would decrease. 5 of 12
Discussion
The Developer’s proposal presents an opportunity to extend the current project-based voucher contract, extend the Project’s affordability covenants, rehabilitate the Property, and provide a financial payment to the City’s Housing Trust Fund. The guiding principles staff considered in preparing the recommended approach are:
1) preserve long-term affordability;
2) maintain affordable housing for current and future low-income seniors; 3) provide enhanced services to the tenants;
4) maintain and enhance the project-based voucher contract; 5) maintain financial feasibility of the property;
6) facilitate necessary rehabilitation and on-going maintenance; and 7) provide an upfront payment to the City’s Housing Trust Fund plus a share of annual surplus operating cash flow.
The City is in a position to leverage its purchase option to negotiate a long-term ground lease with the Developer through a Disposition and Development Agreement (DDA), in exchange for not exercising the City option to purchase the Property in 2026. The DDA would ensure affordability for current and future seniors, effectuate necessary rehabilitation, and secure the financial viability of the project for the next 60 years.
An advantage of executing the DDA is that affordability, rehabilitation, and long-term maintenance goals for the Project could be achieved without any negative impact on the City budget or limited Housing Trust Funds. Execution of the DDA would result in a $13 million upfront cash payment to the City’s Housing Trust Fund in order to support the City’s investment in the production and preservation of affordable housing as well as implementation of the Housing Element.
To proceed with the proposal, staff seeks Council approval of the proposed deal parameters, including authorization for the City Manager to finalize the DDA. Such parameters are described in further detail below, summarized in Attachment A and include:
1) upfront payment to the City’s Housing Trust Fund;
2) ground-lease term;
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3) required rehabilitation and on-going maintenance;
4) required social services; and
5) use of net cash flow.
Developer Proposal Summary
The Developer desires to enter into a ground lease with the City for 60 more years to retain ownership in exchange for the continued operation of the property as affordable housing for seniors. The proposal would restrict 100% of the affordable apartments to very low-income households (below 50% of area median income) as defined in California Health and Safety Code (H&SC) Section 50105 and would set the affordable rents per H&SC Section 50053.
The Owner would extend the existing project-based voucher contract through HUD’s Mark-Up-To-Market process. The project-based voucher contract would be extended for an initial 20-year term, and the Developer would be required to apply for a renewal of the contract as long as the Section 8 Program or a comparable rental assistance program remains in place.
To complete the rehabilitation of the Project, the Developer would apply for the following financing sources:
1) A new permanent loan from HUD that is insured by the Federal Housing Administration (FHA); and
2) 9% Low Income Housing Tax Credits (Tax Credits) that are competitively awarded by the California Tax Credit Allocation Committee (TCAC).
Upon securing the agreed-upon financing, the Developer would complete a substantial rehabilitation of the Project. The direct rehabilitation budget, including a contingency allowance, is estimated at approximately $9 million. The rehabilitation would consist of any necessary structural, accessibility, and building system improvements. The final scope of the rehabilitation and the rehabilitation budget would be subject to prior written approval by the City.
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The Developer’s proposal would provide a $13 million upfront payment to the City’s Housing Trust Fund and a $19 million upfront payment to the Developer. The upfront payments are based primarily on the value of the HUD voucher contract. In addition, the Developer would receive a preferred return of no more than $225,000 annually for the first 15 years of operations. However, if the net cash flow is less than $225,000 in any of the first 15 years, the unrealized portion would not accrue to future years.
Otherwise, if annual net cash flow exceeds $225,000, the portion above that amount would be shared between the City and the Developer. The City would receive 35% of the net cash flow after the preferred return and the Developer would receive 65% of the net cash flow after the preferred return.
Preserving Long-term Affordability for Seniors
Entering into a new 60-year ground lease would extend the affordability covenants for 60 years and require no City funding. At the end of the ground-lease term, the Property would automatically revert to the City at no cost, and the City could elect to extend the affordability covenants further at that time. The DDA would require that the 60 affordable apartments in the Project be restricted to very low-income senior-citizen households. The applicable very low incomes and rents are as follows:
# of apartments % of median income
maximum income
(1-person hhld)
2021 rent limit
(1-bdrm)
60 50 $41,400 $ 800
However, with an extension of the project-based voucher contract, each tenant would be required to pay no more than 30% of their income towards rent. Thus, their actual rent payments would likely be less than the maximum allowable rents outlined above.
Furthermore, the extension of the project-based voucher contract would ensure that future tenants at the Property would receive a voucher and pay no more than 30% of their income towards rent.
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Enhanced Services for Tenants
In discussing the proposed transaction with the Developer, a key priority for staff has been not only ensuring the long-term affordability of the residential property, but also ensuring that senior residents are well cared for during the rehabilitation and during the life of the project. If the transaction is approved, the Developer would be required to implement a rehabilitation plan that is designed to minimize impacts on tenants during the rehabilitation. If temporary relocation of any tenants is necessary during the rehabilitation, the Developer would be required to find and pay for equivalent accommodations, provide financial support for temporary relocation costs, and provide personal support before, during, and after the temporary relocation. Fortunately, the Developer has extensive experience and a strong track record of supporting tenants during the rehabilitation process. In addition, the Developer has worked with staff to develop a social services and resident services plan to help ensure that residents’ social, medical, and behavioral health needs can be addressed in a timely manner. The terms of the DDA would require the Developer to provide the enhanced services for the entirety of the 60-year ground lease term.
Maintain and Enhance Section 8 Project-Based Voucher Contract A key component of the Developer’s proposal is the renewal of the existing projectbased voucher contract through HUD’s “Mark-Up-To-Market” process. The Mark-UpTo-Market renewal sets the Section 8 subsidy payments made to the Project based on the market rents at other apartments in the vicinity of the Property. Given that the Property is in a superior, ocean-front location, the proposed payment standards achieved through the Mark-Up-To-Market process ($2,761 per unit per month) are significantly higher than the payment standards used by SMHA on a City-wide basis ($1,930 per 1-bdrm apartment per month). Thus, the Mark-Up-To-Market renewal of the existing project-based voucher contract is significantly valuable and provides the Project with a substantial amount of Section 8 project-based voucher subsidy revenue on an annual basis.
Keyser Marston Associates (“KMA"), a real estate advisory firm with extensive experience in affordable housing development and finance, has evaluated the overall 9 of 12
financial structure of the proposed transaction. In addition, KMA has evaluated the City’s options if the proposed transaction does not proceed, as well as the Owner’s options if the transaction does not proceed. KMA has determined that if the existing HUD contract is transferred to another property, the value to the Owner of the HUD contract could range from $10 million to $20 million.
Maintaining Financial Feasibility
The Developer’s proposal would extend the term of the existing project-based voucher contract for at least another 20 years through HUD’s Mark-Up-To-Market process.
Through the HUD program, the project-based voucher contract is estimated to provide the Project with approximately $1.44 million in annual operating subsidy in Year 1.
The annual subsidy amount would escalate each year thereafter based on the increase in HUD-approved payment standards. Furthermore, the Developer would be required to apply for a renewal of the contract as long as the Section 8 Program or a comparable rental-assistance program remains in place.
In comparison, if the Project’s vouchers were to convert to tenant-based vouchers, the voucher income would decrease over time due to attrition of the current tenants. In this situation, it is likely that the Project’s operating expenses would exceed the Project’s revenue in the future. Thus, the Project would require an annual operating subsidy to remain operationally feasible. In such a scenario where the City or its designee were the future owner, the City likely would be required to fund any future operational shortfalls.
Facilitating Necessary Rehabilitation
Barnard Park Villas is a 40-year-old building and some of the building systems and common areas need renovation. The Developer’s proposal would leverage a new HUD Loan and 9% Tax Credit financing to complete approximately $9 million in direct rehabilitation costs at the Property. The substantial rehabilitation is proposed to incorporate preventative maintenance and upgrades to ensure the long-term viability and habitability of the Property. In addition, in December 2021, the Developer held a meeting with the current residents to discuss the proposed Project and to seek 10 of 12
feedback. After the Developer presented the proposed Project, residents identified desired improvements to enhance the function and livability of the Property and appeared to be supportive of the Project’s intent to preserve long-term affordability.
The Developer’s proposed scope of rehabilitation includes such items as new paint and flooring in the common areas, upgrades to the community kitchen, new windows, façade repairs, accessibility upgrades, as well as upgrades to all unit interiors (kitchens, bathrooms, flooring, lighting, etc.). The scope of rehabilitation would be further refined based on a Project Capital Needs Assessment to be prepared for the HUD Loan and Tax Credit financing, as well as general contractor bids. The final scope of the rehabilitation and the rehabilitation budget will be subject to prior written approval by the City.
Provide an Upfront Payment to the City Plus a Share of Annual Surplus Cash Flow The proposed transaction results in $32 million in sales proceeds that can be distributed between the City and the Developer. The $32 million in sales proceeds is generated by the anticipated 9% Tax Credit equity, as well as the HUD loan that will be secured against the Property. The annual debt-service payments on the HUD loan are largely financed with the subsidy income generated by the Mark-Up-To-Market project-based vouchers. The Developer proposes to provide a $13 million upfront payment to the City’s Housing Trust Fund. In return, the Developer proposes to retain $19 million of the sales proceeds to compensate the Owner for maintaining the HUD contract at the Property and seeking Mark-Up-to-Market vouchers. The Developer asserts that the Owner will be liable for capital gains taxes and transaction costs in the amount of approximately $7 million from the Owner’s share of proceeds.
The Developer would receive a preferred return of no more than $225,000 annually for the first 15 years of operations. However, if the net cash flow is less than $225,000 in any of the first 15 years, the unrealized portion would not accrue to future years.
Otherwise, if annual net cash flow exceeds $225,000, the portion of cash flow above that amount would be shared between the City and the Developer. The City would receive 35% of the net cash flow after the preferred return and the Developer would 11 of 12
receive 65% of the net cash flow after the preferred return. The City’s share of net cash flow would be deposited into the Housing Trust Fund.
As noted previously, KMA estimates the value of the project-based voucher contract between $10 million and $20 million. Thus, the project-based voucher contract is the primary reason that the proposed transaction supports any upfront payment to the City, generates significant annual operating revenue, and ensures the long-term operational feasibility of the Project. Given that the project-based voucher contract is completely controlled by the Owner, and can be moved to a different property, staff finds the Developer’s proposed split of sales proceeds, preferred return requirement, and residual receipts distribution to be fair and reasonable.
Alternatives
The primary alternative would be for the City to exercise its option to purchase the property. The existing grant deed provides the City with an option to purchase the property in 2026 by paying one dollar ($1) to the Owner. However, if the Developer’s proposal is rejected, the Owner would likely move the project-based voucher contract to a different property by the time the City can exercise its option in 2026. At that point, each of the current tenants would have received a tenant-based voucher.
Were the City to exercise its option, the City would likely select an affordable housing organization to operate the Property. The City, through its designated housing provider, would assume the financial risk if operating expenses exceed rental income. Given that the tenant-based voucher income would terminate when each current tenant no longer resides at the Property, it is likely that the Project would require annual operating subsidies from the City in the future. The City would also assume the financial liability of any deferred maintenance or necessary replacements of major building systems (requiring a significant financial commitment). While the property inspection report has indicated that substantial rehabilitation of the property is not immediately required, the age of the building indicates that rehabilitation will be needed in the coming years. In addition, residents have identified many capital improvements necessary to maintain livability of the common areas and individual apartments. KMA estimates that the cost 12 of 12
to the City to support the rehabilitation and long-term operations of the Project would range between $10 million to $25 million.
Next Steps
With Council approval, the City Manager would execute a DDA and associated documents in order to allow the Developer to apply for low-income-housing tax credits to fund the property rehabilitation. Concurrently, the Developer would apply for MarkUp-to-Market vouchers and a HUD Loan. The Developer hopes to complete all transactions in order to begin rehabilitation in Spring 2022.
Financial Impacts & Budget Actions
The proposed transaction would result in a one-time $13-million payment to the Citywide Housing Trust Fund and potential ongoing residual receipts payments if the Property produces surplus operating income. These receipts would be recorded as revenue and accumulated in account 10.370341. There will be no impact to the City’s General Fund and no impacts in the current fiscal year, though future budgets would reflect the transaction, if approved.
Prepared By: Jim Kemper, Housing Program Manager
Approved Forwarded to Council
Attachments:
A. Barnard Park Staff Report Term Sheet
B. Written Comments