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The Section 515 Housing Prepayment Process

In 1987 Congress passed the Emergency Low Income Housing Preservation Act (ELIHPA), part of which established a process for § 515 owners to apply to prepay their mortgages.  42 U.S.C. § 1472(c); see also, 7 C.F.R. § 3560, Subpart N.  The intention of ELIHPA was to balance owner rights to exit the program with the need to preserve as many such properties as possible within the program.  The multi-stage prepayment application process created by Congress resulted in a combination of incentives to owners to stay in, along with restrictions on owners prepaying, combined with protections for tenants from resulting rent increases.  

Once an owner applies to prepay the § 515 mortgage, RD must first offer the owner financial incentives to remain in the program.  If the owner accepts the incentives, he enters into long term use restrictions ensuring the property will remain in the program.  If the owner rejects the incentives, then RD must make two findings:

  1. Is the property still needed as low income housing?
  2. Will prepayment have an adverse effect on minority housing opportunities? 

Depending on these findings, there will be different outcomes.  In some cases, RD has determined the property was no longer needed, and the owner was permitted to prepay without restriction.  In the largest number of cases, RD has permitted the owner to prepay, but with restrictions; the owner must protect tenants at the time of the prepayment from rent increases, but can convert to market rate rents over time as the units turn over.  Finally, in those instances where the agency determines there will be an adverse effect on minority housing opportunities, the owner will be required to offer the project for sale to a nonprofit or public agency that intends to keep the property within the program.  Only if no qualified purchaser makes a valid offer can the owner then prepay the mortgages.

How well ELIHPA works depends on your point of view.  Many owners have been unhappy with the restrictions imposed on their ability to exit the program, leading to considerable litigation.  Affordable housing advocates see ELIHPA as having imposed important breaks on the rush to prepay by many owners, though the number of properties lost through the process is still too high.  RD has concluded in the last several years that preserving properties in the program has become expensive, that most restrictions on prepayments should be removed, and that the more important preservation challenge for the agency is addressing the growing need for rehabilitation of aging RD properties.  The agency submitted legislation last year to achieve these aims, but the bill did not pass.  As Fall 2007 approaches, it appears more likely that Congress will respond favorably to the agency's revitalization goals than to its efforts to deregulate prepayments.

Persistence Pays Off

For years HJC has been working to protect § 515 tenants from a very particular hole in the RD safety net.  The happy ending to this story is indicative of one of the ways that changes in federal policy can occur.

In 2001, the Minnesota RD office concluded that the owner of the Albany Apartments § 515 property in Albany, Minnesota was in default on his obligations under the § 515 program (relating to paperwork, not a default on payments).  The agency issued a notice as a first step in foreclosing on the property.  This Acceleration Notice accelerated the due date on the balance of the owner's mortgage with RD, declaring the remaining mortgage balance immediately due and owing.  The owner responded by obtaining financing, and paying off the mortgage balance.  Suddenly, the owner was completely free of the § 515 program, and its restrictions.

This result, however, left the tenants in the lurch.  If the owner had applied to prepay his mortgage (as described above), he would have been subject to restrictions, and the tenants would have been protected from rent increases.  However, the RD rules provided no protections for tenants whose owner had paid in response to a notice of acceleration.  The Albany tenants, mostly elderly and disabled, were suddenly subject to whatever rent charges the owner wished to charge.

On behalf of the tenants, HJC (then known as HPP) filed suit against the owner and RD.  HJC argued that the owner's payoff of the loan was in reality a "prepayment" within the meaning of the statute and rules, and should be treated the same, so tenants would get the same protection.  To not treat these situations the  same would create an incentive for owners wanting to get out of the program to do an end-run around all the prepayment procedures by simply defaulting on their program obligations, waiting for a notice of acceleration, and then paying off the balance and escaping free of restriction.  The court sympathized with the tenant's plight, but, in the end, adopted a narrow interpretation of the law, siding with the owner.  Thus, the tenants lost the case.

The issue, however, has not gone away.  HJC has continued to see this problem arise with other properties, and has urged top officials in RD to mend this hole in the tenant safety net.  HJC also raised the issue in a monthly conference call it convenes of rural housing advocates across the country.  Eventually, the message started to sink in.  Recognizing the danger of owners using this means to accomplish an end-run of the prepayment restrictions, RD established new authority for its staff to address this problem.  Faced with a defaulting owner, RD staff have now been provided with an enforcement alternative to accelerating the loan and risking a payoff—imposition of a civil penalty on the owner.  As of this writing, the details of the civil penalty are still being established, but this should provide a promising new tool to avoid the end-run problem.

More importantly, protections for tenants in this situation are finally emerging.  A couple years ago, RD proposed legislation to create a rural voucher demonstration program to protect tenants from the effects of prepayments.  A rural housing advocate that HJC works with was able to convince Congressional Staff to add language in the appropriations bill funding the voucher demonstration program to provide that vouchers would become available to tenants both in the event of prepayment and in the case of foreclosure (including the initial stage of accelerating the loan).  The appropriations language passed, and thus tenants in these situations are now getting vouchers to protect them from unaffordable rents.  Moreover, legislation pending in Congress to create a permanent rural voucher program will in all likelihood contain the same protections.  All of which proves there is more than one way to fix a bad law.