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HomeMy WebLinkAbout8.1 Purchase BMR Unit ~~"~°~~r~ CITY CLERK ~~~ File # ^©~0-®~ `V '~ 8Z ~~~//,/ \111 rF~ .c~rl1D AGENDA STATEMENT CITY COUNCIL MEETING DATE: September 16, 2008 SUBJECT: Consideration of Exercising Option to Purchase Below Market Rate (BMR) Unit at 3245 Dublin Boulevard, #124, and Discussion of City Policy on Responding to Notices of Default Received on BMR Units. Report Prepared by John Bakker, City Attorney and Jeri Ram, Community Development Director ATTACHMENT: None. RECOMMENDATION: 1) Receive Staff presentation; 2) Deliberate; C~ 3) Direct Staff to not deliver a Notice of Exercise of the Option to Purchase 3245 Dublin Boulevard, #124; and ' ~ 4) Provide direction to Staff on the City Council's general preferences Y for responding to future Notices of Default involving Below Market Rate units. FINANCIAL STATEMENT: If the City exercises the option to purchase the unit, it would require an appropriation of $280,000 from the City's Inclusionary Zoning In-Lieu Fee Fund. In addition, there may be continuing costs if the City Council were to select one of the various options identified within this Agenda Statement. PROJECT DESCRIPTION: Background: Inclusionarv Zoning Regulations and Resale Restriction A~,reement To further the City's goal of increasing the production of affordable units, the City's Inclusionary Zoning Ordinance (Inclusionary Ordinance) requires Developers of residential development projects consisting of 20 or more units to construct 12.5% of the units in the project as below market-rate units ("BMR Units"). The BMR Units must be reserved for occupancy by, and at prices affordable to, low- and moderate- income households for 55 years. Purchasers of ownership BMR Units are required to execute a Resale Restriction and Option to Purchase Agreement ("Resale Restriction Agreement") with the City, which is recorded against the Unit. ------------------------------------------------------------------------------------------------------------- COPY TO: None K:IHOUS/NGISTFFRPTSIccForeclosure Report9-l6-O8 (2).DOC ITEM NO. V • Page 1 of 7 As discussed in more detail below, the Resale Restriction Agreement imposes occupancy and resale restrictions on the Subject Unit to prevent initial and subsequent purchasers from using the Unit for purposes incompatible with the Inclusionary Ordinance and realizing unwarranted gains from sales of the Subject Unit at unrestricted prices. In addition, the Resale Restriction Agreement grants the City an option to purchase the Subject Unit upon the occurrence of certain events. Resale Restrictions Pursuant to the Resale Restriction Agreement, a BMR Owner may sell his or her BMR Unit only to, depending on the income level of the Unit, another very low-, low- or moderate-income household at a restricted price. The restricted price is the lower of the (a) the fair market value as determined by an appraiser or (b) the original price paid by the Owner for the BMR Unit, increased by (1) the percentage increase in the median household income for Alameda County between the effective date of the Resale Restriction Agreement and the date the City receives notification of the BMR Owner's intent to sell his or her Unit, plus (2) the value of any capital improvements that have been approved by the City, minus (3) the cost of necessary repairs and the sum of all costs advanced by the City for the payment of expenses related to the BMR Unit. City's Option to Purchase To ensure that the BMR Units remain affordable, the Resale Restriction Agreement grants the City an option to purchase the BMR Unit for the restricted price. The City has the right to exercise the option upon the occurrence of any of the following events: (1) receipt of notification of the Owner's intent to sell the BMR Unit; (2) any actual, attempted, or pending sale, lease or other transfer of the Unit; (3) any actual, attempted, or pending encumbrance of the Unit; (4) recordation of a Notice of Default and/or a Notice of Sale; (5) commencement of a judicial foreclosure proceeding or execution by the Owner of a Deed in lieu of foreclosure; (6) commencement of a bankruptcy proceeding or action; or (7) a violation by the Owner of any provision of the Resale Restriction Agreement. The City may assign its option to another. government entity, anon-profit affordable housing provider or to a low- or moderate-income household. City's Right to Cure a Default Pursuant to the Resale Restriction Agreement, if a Lender records a Notice of Default against the BMR Unit, the City is deemed to be the BMR Owner's successor in interest (solely for the purpose of reinstating the mortgage) and can pay all amounts required to cure the default. If the City later decides to exercise the option, the amounts paid by the City to cure the default would be deducted from the purchase price. Recordation of Resale Restriction Agreement If the Resale Restriction Agreement is recorded before the foreclosing Lender's Deed of Trust (in "First Position"), the resale restrictions survive foreclosure. This means that (1) the foreclosing Lender would have to sell the BMR Unit at the restricted price to a low- or moderate-income household at the foreclosure sale; (2) the Unit would remain affordable; and (3) subsequent purchasers would be required to comply with the provisions of the Resale Restriction Agreement for the remaining term of the Agreement. In contrast, if the Resale Restriction Agreement is not recorded before the foreclosing Lender's Deed of Trust, the resale restrictions do not survive foreclosure. This means that (1) a foreclosing Lender could sell the BMR Unit for an unrestricted price at the foreclosure sale; (2) the Unit would no longer be affordable; and (3) subsequent purchasers of the Unit would not be required to comply with the provisions of the Resale Restriction Agreement. Page 2 of 7 Most of the City's Resale Restriction Agreements are not recorded in First Position due to strict policies of Fannie Mae and Freddie Mac regarding priority that were in effect at the time the City's Inclusionary Housing program was developed. At that time, Fannie Mae and Freddie Mac would not purchase mortgages secured by properties subject to resale restrictions unless the resale restrictions terminated upon foreclosure of a BMR Unit or acceptance of a Deed in-lieu of foreclosure. Because the City wanted to ensure that qualified buyers could obtain financing to purchase the BMR Units, the City permitted the Resale Restriction Agreements to be recorded in second position in accordance with Fannie Mae and Freddie Mac's policies. In May 2006, Fannie Mae amended its policies to permit resale restrictions to survive foreclosure or acceptance of a Deed in-lieu of foreclosure. Staff is exploring changing the City's policies regarding the priority of its Resale Restriction Agreement and how such a change would impact the availability of mortgages to BMR purchasers. Rather than allowing the documents to be recorded in second position, in order to assist qualified purchasers to secure purchase money financing for the acquisition of BMR Units, the City will enter into a Subordination Agreement with a senior purchase money Lender, which would effectively put the resale agreements in second position, provided that Lenders provide the City with extended notice and cure rights which will enable the City to protect the affordability of the BMR Units. The Current Circumstance with the Subject Unit at 3245 Dublin Boulevard, #124 The Owner of the Unit at 3245 Dublin Boulevard, #124 ("the Subject Unit") purchased the Subject Unit on August 16, 2005 for $260,000. The Owner obtained a $252,200 mortgage from Wells Fargo Bank to complete the acquisition. The Unit is amoderate-income, one-bedroom unit in the Terraces, which was built by Toll Brothers. The BMR Units in the Terraces are all moderate-income units. On August 18, 2008, the City received a Notice of Default that indicates that the Owner of the Subject Unit has failed to make payments on the mortgage and owed $7,337.18 as of August 6, 2008. The recordation of the Notice of Default is the first step that a Lender/Nlortgagor takes to sell the property at a foreclosure sale. As indicated above, the City's receipt of the Notice of Default is an "Option Event," which gives the City the right to exercise the option to purchase the Unit at a specified price. In the present circumstance, the City can purchase the Unit for $272,168. If the City were to purchase the Subject Unit, the $272,168 would be used to first pay off the remaining amount owed to the Lender, and the remainder would go to the Owner. City Staff commissioned an appraisal for the Subject Unit. The Appraiser has not yet completed the Appraisal Report, but he has provided an initial assessment suggesting that the value of the Unit, without considering the existence of the resale restrictions, would not be considerably more than the option price. Staff anticipates receiving the Appraisal Report by Thursday, September 11, 2008, and Staff will provide the Appraiser's final opinion of value to the City Council when it is received. DISCUSSION AND ANALYSIS: There are currently 124 occupied, ownership (as opposed to rental) BMR Units in the City, 15 of which the City has financially assisted through its First Time Homebuyer Loan Program. Several purchasers of BMR Units financed their units with 100% financing and adjustable rate mortgage products. As a result of rising interest rates and turmoil in the mortgage markets, some BMR owners may be in a position where they have difficulty making their loan payments due to upwardly adjusting rates and an inability to refinance. In such circumstances, the possibility of a BMR Unit owner defaulting on their loan increases. In addition to the Subject Unit, Staff is concerned that there may be other BMR Units at risk of entering foreclosure proceedings. When Staff is made aware of BMR owners who are having financial difficulties, they are directed to the resources available at the TVHOC. Accordingly, while the decision presently Page 3 of 7 before the Council concerns the exercise of the option to purchase the Subject Unit, this Report takes a more global view of the City Council's options for responding to the foreclosures of BMR Units. City's Options if BMR Unit Goes into Foreclosure Proceedings The City has the following options if a BMR Unit goes into foreclosure proceedings (which typically take the form of the recordation of a Notice of Default by the Lender): 1. No Action; Allow the Unit to Be Sold at Foreclosure Sale: The City could take no action and allow the Lender to foreclose on the BMR Unit. If the Resale Restriction was not recorded in First Position, as mentioned above, the City would lose the BMR Unit because the resale restrictions would terminate upon the foreclosure sale. The Resale Restriction Agreement on the Subject Unit is not recorded in First Position; therefore, if the unit was sold at foreclosure, the Purchaser at the sale-the Lender most likely, but possibly an investor-would own the unit free of the Resale Restrictions. The Resale Restriction Agreement on the Subject Unit is not recorded in First Position, and it is likely that most of the City's Resale Restriction Agreements are not recorded in First Position, due to strict policies of Lenders regarding priority that were in effect at the time the City's Inclusionary Housing program was developed. If the Resale Restriction Agreement was recorded in First Position (and some may have been recorded first despite Lender Policies to the contrary), the foreclosing Lender would have to sell the BMR Unit at no more than the restricted price to an income-eligible household; the BMR Unit would remain affordable; and subsequent Purchasers would be required to comply with the provisions of the Resale Restriction Agreement for the remaining term of the Agreement. Of course, this option would have no financial impact on the City. A foreclosure sale would, however, have consequences on the City's Inclusionary Program, since it would result in the loss of a BMR Unit, and it would also have the potential to result in a windfall to the Owner of the BMR Unit. Under the foreclosure law, the proceeds of the foreclosure sale, after costs have been paid and the Lender's debt is satisfied, go to the Owner. Thus, for example, and this is strictly an illustrative example, if the Subject Unit were to be sold at foreclosure for $350,000, which will generally reflect the market value of the unit without the restrictions, and the costs of the foreclosure sale were $10,000, and the debt owed to the Lender was $250,000, the Owner of the Subject Unit would receive the $90,000 remaining from the proceeds of the sale. As the Owner made a down payment of $7,800, and the restricted sale price increased by approximately $12,000, a windfall of approximately $70,000 would result. Obviously, if the foreclosure sale were higher, the windfall would be larger. By contrast, if the value of the unit were closer to the restricted price of $272,168, there would be little or no windfall. The possibility also exists that an Investor could purchase the unit at a foreclosure sale for well below market value and generate a substantial profit. Such windfall scenarios can be avoided, which only have the potential to exist if there is a significant positive differential between the market price and the restricted price, if the City exercises its option to purchase the unit. The difference between the market and restricted value would then be retained by the City. Page 4 of 7 In the case of the Subject Unit, the Council may determine that the financial circumstances are such that the loss of the Subject Unit's affordability does not have a significant impact on the Inclusionary Program. First, the current market price of the unit is very close to the restricted price. Staff believes that the restricted pricing of the units in the Terraces is particularly unaffordable because of the approximate $300 per month Homeowner's Association (HOA) Dues. Presently under the Inclusionary Program, household size and the costs of HOA dues are accounted for in determining the sales price of new BMR Units. Thus, a comparable moderate-income, 1-bedroom unit at the Elan project, which has similar HOA dues, would be priced at $229,799 for aone-bedroom household, and $273,334 for atwo-person household. 2. Pay Amount Required to Cure the Default: The City could pay the Lender the amount required to cure the default or provide the BMR Owner with financial assistance so that he or she can cure the default. Any financial assistance to the BMR Owner could be structured in a way to allow the Inclusionary Zoning In-Lieu Fee Fund to be repaid in the future. The financial impact of this option would be the amount necessary to cure the default. Of course, this option assumes that the BMR Owner desires to remain in the Unit. In the case of the Subject Unit, Staff believes that the Owner does not desire to remain in the Unit. 3. Exercise Option and Pursue Various Approaches: The City could exercise its option to purchase the BMR Unit from the BMR Owner. The purchase price paid by the City would be used to pay off all liens and encumbrances recorded against the BMR Unit. The City would then have various options: it could (a) resell the Unit to an income-eligible household at the restricted moderate-income price; (b) resell the Unit at market value; (c) resell the Unit at lower affordability levels, which would require a more significant subsidy; and (d) rent the Unit as an affordable unit (in the moderate-, low-, or very low- income category). The following evaluates the pros and cons of each option: a. Resell as Moderate-Income Unit. This option retains the affordability of .the Unit; however, it is not without costs and risks. There are presently two other BMR Units listed in the Terraces at the option price. Iri order to sell the Unit, the City may have to reduce the price below the option price. Thus, the City's Affordable Housing Fund could realize a loss on the purchase of the Unit. In addition, there are significant transaction costs (broker commissions, taxes, and title), carrying costs (HOA dues and maintenance), and significant Staff time involved in the purchase and resale of the Unit. Thus, even were there a willing moderate-income buyer, it is unlikely that the resulting sale would be cost neutral. b. Resell at Market Price. This option would eliminate the affordability of the Unit, but the proceeds of any sale, if any, would be placed in the Affordable Housing Fund. Those proceeds could then be used to make additional housing available. This option would be particularly compelling if the market value of the Unit is substantially greater than the option price. However, if the market price and the option price are close, the option is not particularly compelling because due to the significant transaction costs, the City could end up taking a loss or realizing very little gain. In the case of the Subject Unit, it appears that the difference between the market value and the option price will be minimal, although the Appraiser's final Page 5 of 7 report has not yet been received. As it is anticipated that the difference between the market value and option price is minimal, Staff is presently not recommending this option. However, if the Appraiser's final report confirms a substantially higher market value, Staff's recommendation may change. This option would also involve significant transaction costs, carrying costs, and Staff time. c. Resell to Eligible Households at Deeper Affordability. This option would retain the affordability of the Unit, but it would require a large subsidy. For example, if the City purchased the Unit and sold it to either aone-person or two-person low- income household, the sales price, using the City's current affordability standards, would be, respectively, approximately $120,116 or $148,223, without accounting for transaction costs. This would require respective subsidies from the Affordable Housing Fund of approximately $152,052 (for aone-person household) and $123,945 (for atwo-person household). The required subsidies for aone- and two- person, very low-income households would be, respectively, $220,524 and $202,349. These subsidies assume that there are willing purchasers of the BMR at the applicable sales prices. h1 practice, the City may have to reduce the price further to attract willing purchasers. So the amount of the per-unit subsidy could be greater than outlined. This option would also involve significant transaction costs, carrying costs, and Staff time, which would increase the amount of the subsidy required. d. Lease the Unit to Eligible Moderate-, Low-, or Very Low-Income Households. This option would maintain the affordability of the Unit, and the City would retain the flexibility to later sell the Unit either at the market price or the affordable price. Under the City's affordability standards, the Subject Unit could be rented at the following monthly rates: 1-person household 2-person household Moderate $1807.50 $2065.00 Low $1158.75 $1325 Very Low $753.75 $861.25 A recent survey of rents performed by Staff, however, indicates that market rents for 1 bedroom/1 bath units are likely to be about $1,450 per month. This generalized rent survey may or may not reflect the market rent for the Subject Unit, which is in a newer building with numerous amenities. The City would also have additional carrying costs, including items such as the $300 per month HOA dues, insurance; maintenance costs; property management costs; etc.. Staff prepared a preliminary estimate of the financial impact to the housing fund. The assumptions used may vary from what could occur and therefore the calculated impact should be considered preliminary and subject to change. If the City were to purchase the Subject Unit for $272,168 (excluding transaction costs) this would reduce funds available in the Affordable Housing Fund that are invested and generating interest revenue. Offsetting the loss of interest revenue would be the rental revenue estimated at $1,450 a month less any operating / maintenance expenses including the $300 per month HOA dues. The very high level analysis conducted to date does not account for the potential loss of rent during any period when the unit maybe vacant without a tenant. Page 6 of 7 The average interest earned on the City portfolio has been approximately 4.5%. Staff compared loss of interest earnings to the estimated rent net of operating expenses and determined that there would the rental scenario would result in less income to the Affordable Housing Fund, than retaining the interest on the funds. Therefore, in order to have a positive financial impact one would have to make assumptions related to the appreciation of the property. Again caution should be used in applying this analysis as the full impact of managing rental property has not been fully explored. 4. Work with aNon-Profit Housing Organization to Maintain Affordability: The City has the ability to assign its option to purchase under the Resale Restriction Agreement to another government entity, to anon-profit affordable housing provider, or to a low- or moderate- income household that has been income-qualified by the City. Under such a scenario, the assignee would then purchase the BMR Unit directly from the BMR Owner. Another alternative would be for the City to exercise the option to purchase and then either sell the Unit to, or have it managed by, anon-profit housing developer. Staff discussed this option with Linda Mandolini of Eden Housing, and she indicated that Eden would be unlikely to be interested in such an arrangement unless it involved upwards of 20 to 30 units and even then it might require a subsidy from the City to make such a program workable. In the current situation with the Subject Unit, due to the minimal difference between the option price and the market value, and due to the high housing costs in the Terraces project, Staff believes that the most prudent course of action would be to abandon the City's option to purchase the Subject Unit and effectively let the resale restrictions terminate. The result of this inaction would be the loss of a moderate- income, one-bedroom BMR Unit at the Terraces. With regard to dealing with other Notices of Default in the future, Staff recommends that the City Council review the information in the Report and provide Staff with direction on how to approach such circumstances in the future. Because every circumstance is different-in particular the option price and the market price-a one-size-fits-all approach is not workable. Therefore, Staff believes that the best approach might be to evaluate each circumstance as it arises. One such approach might authorize Staff to exercise the option if the difference between the option price and the market value, as determined by a reputable Appraiser retained by the City, is $100,000, for example. However, it would be useful to understand whether any of the options discussed above are more or less preferable. After receiving comments from the City Council, Staff would return at a future meeting with a detailed policy for the City Council's consideration. RECOMMENDATION: Staff recommends that the City Council: 1) Receive Staff presentation; 2) Deliberate; 3) Direct Staff to not deliver a Notice of Exercise of the Option to Purchase 3245 Dublin Boulevard, #124; and 4) Provide direction to Staff on the City Council's general preferences for responding to future Notices of Default involving Below Market Rate units. 1146332.1 Page 7 of 7