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Many Investors Remain Satisfied with Steady Income from Affordable Housing

The option to convert some affordable units to market rates makes housing advocates nervous, but many investors like the diversification that owning affordable apartments offers.

The crowd of investors who want to put their money into government-subsidized, affordable apartment properties makes some housing advocates nervous. Advocates worry that investor groups at some point may convert apartments to market rate, making the current shortage of affordable options even worse. But many of these investors insist that the tax benefits and returns are good enough to keep these properties in their affordable housing programs.

And to be fair, many of these investors are buying affordable housing in places like New York City, where recent changes in rent-stabilization laws make it nearly impossible that stabilized rents will ever rise to luxury levels—even in the most aggressive, long-term scenario.

Many investors value the steady income from fully-occupied properties priced well below the housing markets around them, according to dealmakers who help negotiate the sales.

“The durability of cash flows—along with impact—is the most compelling case for investing in the asset class.  It can help build a buffer for investors with rents that track rising prices in inflationary times or that experience heightened demand in recessionary times,” says Warren Horvath, senior vice president for CBRE, working in the firm’s New York City offices.

More deals to buy government-subsidized properties

Investors spent $44 billion to buy affordable housing properties in 2021, according to JLL Research. From 2010 to 2021, 11 percent of the money spent in apartment transactions were for affordable housing properties, where rents were formally restricted to be affordable to households earning up to 60 percent of the area median income.

Many of these investors are drawn to affordable housing properties for the same reason that core real estate investors once bought expensive, flagship office buildings: steady, dependable income—even compared to other multifamily properties.

“Affordable housing assets have a strong track record of performance within the multi-housing segment,” says Angela Kelcher, senior managing director in the Dallas office of JLL Capital Markets.

Just 0.13 percent of all Fannie Mae loans to affordable properties were seriously delinquent in the first quarter of 2022. That's below Fannie’s overall serious delinquency rate of 0.38 percent.

“Well-operated properties with affordable rents stay highly occupied and offer a reduced risk profile that is attractive to investors as a buffer against market volatility,” says Kelcher.

Best options for wealth managers and family offices

Investors interested in affordable housing face high barriers to entering the market. The government programs that subsidize affordable housing have changed and changed again over the years. A single property may have to comply with the rules for multiple generations of local, state and federal affordable housing programs.

“The clearest path is by partnering with experienced operators,” says Horvath. “Navigating the web of partnership, financial and regulatory complexities add additional layers to conventional real estate that is better left to experienced operators with the track-record, expertise, reputation, relationships and wherewithal to do it effectively.”

Some investors join funds created by owners of affordable housing properties. “JLL has a number of clients who secure investments from wealth managers and family offices to invest in affordable housing,” says Kelcher.

Other investors are focusing on less formally-defined affordable housing, perhaps through programs like Fannie Mae’s workforce lending programs.

“Another option might be to work with a municipality that provides real property tax or zoning (such as mandatory inclusionary) incentives in exchange for some level of affordability,” says Deborah VanAmerongen, a strategic policy advisor in the Affordable Housing practice group at Nixon Peabody, working in the law firm’s New York City office.

Institutional capital joins bidding for affordable housing

Private equity funds—including funds managed by leading companies including Starwood and Blackstone—are also buying affordable housing properties.

These funds often buy older apartments properties that have rental subsidy contracts with the federal Department of Housing and Urban development. These subsidized apartments tend to be fully-occupied by low-income households who consistently pay their rent on-time, with help from these project-based, “housing-assistance payment” (HAP), rental subsidies.

“The marketplace used to be scared of the HAP contract deals,” says Liz Diamond, managing director and head of affordable originations for Berkadia.

Now those who bought these affordable properties before the pandemic “look like geniuses,” she said. “There is no occupancy issue, and they didn’t have a problem collecting rent during the pandemic.”

Buyers now pay high prices, relative to the income from these affordable housing properties. The typical cap rate is often just 25 basis points higher than for comparable market-rate properties. In comparison, just five years ago buyers often demanded cap rates 100 basis points higher for affordable properties than the cap rates they accepted to buy conventional apartments.

Housing advocates worry about these investors, however. Even though for-profit owners are now satisfied with the income from rental subsidies, the affordability restrictions at most properties will expire—forcing the investors who own these properties to choose between renewing the affordability of the property or raising the rent.

Investors are also buying affordable housing properties originally built with federal low-income housing tax credits (LIHTCs). The oldest of these were built in the 1980s and 1990s.

“Given the age of the LIHTC industry we are seeing—and will increasingly see more—product that has reached or is nearing the end of its extended-use period,” says Horvath.

Many of these properties are also ready for a round out renovation. Some are approaching the end of their affordability restrictions.

“We will, on occasion, see owners that we know to be committed to the preservation of affordable housing that will exit the program or sell to someone who will,” says Horvath.

Each apartment that leaves the inventory of affordable housing deepens the huge shortage of housing available for low-income people. However, Horvath points out that there are limits on how high the rents can rise at properties that leave their affordable housing properties... unless the market is dramatically under-supplied with housing.

“That product is not going to be turned into luxury apartments,” says Horvath. “But rather, workforce housing that serves the ‘missing middle,’ and there are often long-time residents that no longer qualify and for whom a slight rent increase is palatable.”

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