Project-Based Rental Assistance: HUD Should Update Its Policies and Procedures to Keep Pace with the Changing Housing Market
Published: 2007-04-11T00:00:00

Fast Facts:

Highlights:
section_title: Why GAO Did This Study
paragraphs: In light of the pressing need for rental housing affordable to low-income households and concerns that the Department of Housing and Urban Development (HUD) may not be committed to maintaining its Section 8 project-based housing stock--a key source of such housing--Congress directed GAO to assess HUD's efforts to preserve its project-based housing and recommend ways to improve these efforts. This report discusses (1) patterns in the volume and characteristics of HUD's Section 8 project-based properties; (2) tools and incentives that are available to encourage property owners to stay in the program; and (3) the views of property owners, managers, and industry representatives on HUD's preservation efforts. To address these issues, GAO analyzed HUD data, reviewed pertinent legislation and regulations, and interviewed HUD officials and industry representatives.
section_title: What GAO Found
paragraphs: GAO identified a number of patterns in the volume, characteristics, and location of HUD's project-based Section 8 housing between 2001 and 2005. During this period owners renewed 92 percent of Section 8 rental assistance contracts and 95 percent of the units covered by these contracts. While relatively few owners left the program voluntarily, most of those we interviewed did so to seek higher rents in the private market or to convert their units into condominiums. The properties most likely to leave the program were those with few Section 8 units, family-occupied units, those in poor physical condition, and those located in markets with rapidly escalating housing values. HUD offers several incentives to keep Section 8 property owners in the program. Owners that used these incentives between 2001 and 2005 most often chose the Mark-to-Market and Mark-up-to-Market programs, both of which adjust rents to conform to prevailing market conditions. Some owners used HUD programs that offered additional financing for property rehabilitation to participants in the Section 236 mortgage reduction program and the Section 202 mortgage program for housing for the low-income elderly and persons with disabilities. HUD officials, owners, and industry representatives told us that many Section 8 owners also opted to use the Low-Income Housing Tax Credit and tax-exempt bonds, both of which the IRS administers through state housing finance agencies. Some property owners, managers, and industry representatives cited concerns with certain HUD policies and practices, especially the one-for-one replacement policy for Section 8 units and the Operating Cost Adjustment Factors (OCAF) payment process. GAO found that the one-for-one replacement policy, which prohibits reductions in the total number of Section 8 units in a property when a contract is renewed, had led some owners to leave the program. Property owners noted that they could not reconfigure their properties to supply larger units that were in higher demand, especially by elderly tenants. Although not required by statute to adopt this policy, HUD did so in order to preserve as many units as possible but is reviewing it in light of the growing concerns. Owners also expressed frustration with the long delay in OCAF adjustments, the use of statewide averages, and the inability of the process to deal with emergency situations. Finally, owners offered several suggestions that may warrant HUD's attention, including improving the Section 8 contract renewal guidance and revisiting physical inspection guidelines.

section_title: Letter
paragraphs: A continuing need for rental housing affordable to low-income households  has prompted congressional efforts to preserve the availability of rental  units subsidized by existing programs. Under the project-based Section 8  program, the Department of Housing and Urban Development (HUD)  contracts with property owners that receive rental subsidies for units  rented to low-income tenants. These tenants pay a portion of the rent,  generally 30 percent of their adjusted income, and the subsidies make up  the rest. In exchange for guaranteed rent payments from HUD, owners  commit to restricting their units to low-income tenants for 15 to 40 years  under contracts written or renewed since the program’s inception in 1974.  Since then, HUD has provided rent subsidies to about 1.4 million  households through approximately 24,000 project-based Section 8 housing  contracts. Beginning in the late 1980s, however, these long-term contracts  began to expire and some owners opted not to renew them. In response,  HUD has sought ways to keep property owners in the program and  preserve Section 8 housing.
Concerned that HUD was not committed to preserving the stock of  existing project-based Section 8 housing and may be encouraging owners  to opt out of the program or not encouraging them to stay, the Senate  report accompanying the fiscal year 2006 Transportation, Treasury,  Housing and Urban Development, the Judiciary, the District of Columbia,  and Independent Agencies Appropriations Act directed HUD to report on  the status of the agency’s efforts to preserve project-based Section 8  housing, including an analysis of contract activity from 2001 to 2005. The  analysis was to include the number of units that had left the program and  the number that remained, by year, state, and locality. In August 2006,  HUD reported to Congress on the number of contract renewals and  terminations, types of assistance offered through the preservation  program, and steps taken to protect affected tenants.
In addition to requiring the HUD report, the Senate report directed us to  assess HUD’s efforts to preserve affordable housing and provide  recommendations on how to improve these efforts. To this end, this report  examines (1) patterns in the volume, characteristics, and location of  HUD’s project-based Section 8 properties—including those that left the  program—from 2001 through 2005; (2) available tools and incentives for  encouraging project-based Section 8 owners to keep their properties in the  program; and (3) views of property owners, managers, and industry  representatives on HUD’s Section 8 housing preservation efforts and the  effect of those efforts on owners’ decisions to opt out or keep properties  in the program.
To identify patterns in the volume and characteristics of properties from  2001 through 2005, we analyzed data extracts from HUD’s Real Estate  Management System (REMS) from 2001 through 2005. Our analysis  looked at the significance of a number of variables, such as occupancy  type and subsidy level, on owners’ decisions to opt out of the Section 8  program. We also reviewed a study that HUD commissioned from  Econometrica, Inc., that was published in January 2006 and that compared  multifamily properties leaving the project-based Section 8 program with  multifamily properties remaining in it. In addition, we monitored the  progress of HUD’s analysis of terminated project-based Section 8 housing  units and those retained over a 5–year period and compared HUD’s results  with our analysis. To determine what tools and incentives HUD used to  preserve project-based Section 8 properties, we reviewed and summarized  legislation and regulations pertaining to project-based Section 8 housing  preservation, documented HUD requirements, and conducted interviews  with HUD headquarters and selected field office staff, nonprofit  organizations, contractors, state and local government agencies, and  lenders. To obtain the views of owners, managers, and industry  representatives on HUD’s preservation efforts, we conducted standardized  interviews with both for-profit and nonprofit owners of Section 8  properties, housing industry organizations, state housing finance agencies,  and other stakeholders in five localities. We judgmentally selected these  locations based on the following characteristics: (1) percentage of units  that opted out of the project-based Section 8 program from 2001 through  2005, (2) vacancy rates, (3) geographic location, (4) percentage of  households with worst-case housing needs, and (5) HUD regional and field  office program performance. We conducted our work between October  2005 and April 2007 in Baltimore, Chicago, Columbus, Houston, Los  Angeles, New York, and Washington, D.C., in accordance with generally  accepted government auditing standards. Appendix I provides additional  details on our scope and methodology.
subsections: section_title: Background
paragraphs: The Housing and Community Development Act of 1974, a major overhaul  of housing laws, created the tenant-based and project-based Section 8  rental assistance programs for low-income households. The tenant-based  program (now called Housing Choice Vouchers) provides rental assistance  to eligible households to rent houses or apartments in the private market  from landlords who are willing to accept the vouchers. Under the project- based rental assistance program, HUD enters into contracts with property  owners to provide rental assistance for a fixed period of time.
The project-based Section 8 program has multiple subprograms, including  Section 8 New Construction and Substantial Rehabilitation, Loan  Management Set-Asides, Preservation, and Property Disposition. Rental  assistance under these project-based Section 8 subprograms has been  generally used in conjunction with other public funding. For example, a  Section 8 New Construction/Substantial Rehabilitation property could  have been financed by a Federal Housing Administration (FHA) insured  loan, a Section 202 direct loan, a U.S. Department of Agriculture Section  515 direct loan, or state housing finance agency bonds. Some of these  programs provided financing for the construction or rehabilitation of  affordable rental housing prior to the 1974 Act. (See table 1).
Project-based Section 8 assistance may be provided only for tenants with  incomes no greater than 80 percent of an area’s median income. Tenants  generally pay rent equal to 30 percent of adjusted household income. As  part of the Section 8 contract, property owners and managers are  responsible for ensuring that households meet program eligibility  requirements and calculating households’ payments. HUD pays rent  subsidies directly to the property owners but does not pay them a separate  administrative fee. The owners’ include their administrative costs in their  HUD-approved rents.
Project-based Section 8 properties are subject to physical and  management reviews. Most Section 8 contracts also require the  submission of annual financial reports from property owners. These  reviews and reports are to ensure management accountability and the  physical condition of public and assisted housing. HUD’s Real Estate  Assessment Center (REAC) conducts physical inspections of all HUD  multifamily properties every 1 to 3 years, depending on the property’s  previous physical inspection score. Project-based Section 8 properties are  subject to annual management and occupancy reviews to verify  compliance with the terms of the project-based Section 8 contracts,  regulatory and management agreements, and management plans.
In the mid- to late-1990s, Congress and HUD made several important  changes to the duration of housing assistance contracts, contract rents,  and management of on-going contracts.
In the mid-1990s because of budgetary constraints HUD shortened the  terms of subsequent renewals after the initial 15- to 40-year terms began  expiring. HUD generally reduced the contract renewal terms to 1 or   5 years, with the funding renewed annually subject to appropriations.
In 1997, Congress passed the Multifamily Assisted Housing Reform and  Affordability Act (MAHRA) to ensure that the rents HUD subsidized  remained comparable with market rents. Over the course of the initial  contracts with owners, contract rents in some cases had begun to  substantially exceed local market rents as market conditions changed.  MAHRA generally requires an assessment of each property when it nears  the end of its original contract term to determine whether the contract  rents are comparable to current market rents and whether the property  has sufficient cash flow to meet its debt and daily and long-term operating  expenses. However, certain projects are exempt from the market  comparability requirement (e.g., projects financed by state agency bonds).  If the contract rents are higher than market rents, HUD can decrease the  contract rents to market rents upon renewal. Conversely, if the expiring  contract rents are below market rates, HUD may increase the contract  rents to market rates upon renewal.
In 1999, because of staffing constraints (primarily in HUD’s field offices)  and the workload involved in renewing the increasing numbers of rental  assistance contracts reaching the end of their initial terms, HUD began an  initiative to contract out the oversight and administration of most of its  project-based contracts. The entities that HUD hired—typically public  housing authorities or state housing finance agencies—are responsible for  conducting on-site management reviews of assisted properties; adjusting  contract rents; reviewing, processing, and paying monthly vouchers  submitted by owners; renewing contracts with property owners; and  responding to health and safety issues at the properties. These  performance-based contract administrators (PBCA) now administer the  majority of project-based Section 8 contracts.
In the late 1980s, initial Section 8 contracts began expiring; by 2003, all of  the original 20-year contracts had expired. Forty-year contracts will expire  between 2014 and 2023. Section 8 owners are offered six options upon  contract expiration. According to the HUD Section 8 Renewal Guide,  Section 8 owners mayrenew without any modifications, with rents capped at HUD’s market  levels; renew with rents that are elevated to market rents through the Mark-up-to- Market program; renew with rents that are reduced to market rents through the Mark-to- Market program; renew as a Section 8 “exception project;” renew as a Section 8 preservation or portfolio reengineering  demonstration projects; and   opt out of the Section 8 contract.
When their contract expires, project-based Section 8 owners may decide  not to renew their Section 8 contracts and convert their units from  affordable housing to market rents. Once owners remove their properties  from HUD programs, Section 8 households receive enhanced vouchers as  long as they remain in their units.
Owners are required to give both tenants and HUD notice of their  intention to renew or opt out 1 year before the Section 8 contract’s  expiration (see fig. 1). An owner who intends to opt out must also provide  HUD with a 120-day notification. An owner who intends to renew is  required to submit to HUD or the PBCA a request for contract renewal and  a rent comparability study (when required) at least 120 days before the  contract expires. Local HUD offices review the study to determine if the  property’s current rents are at, above, or below market rates. If rents are at  or below market rates, HUD field office staff will make any necessary  adjustments and execute a new Section 8 contract. If rents are above  market, HUD staff renews the contract (at above-market rents) for up to   1 year and forward the owner’s submission to the HUD Office of  Affordable Housing Preservation (OAHP) for a Mark-to-Market  restructuring. OAHP assigns properties to participating administrative  entities (PAE) to carry out restructurings under the Mark-to-Market  program on behalf of HUD. The owner then signs a renewal contract with  the contract administrator.
In a January 2004 report, we found that state and local agencies offer  incentives to preserve affordable housing, including project-based   Section 8 housing. Some of these agencies perceived that the information  on opt-outs was not readily available. In this report, we recommended that  HUD make this information more widely available and useful.
States and localities may use funds provided by other federal programs to  subsidize housing for low-income tenants. The HOME program, authorized  by the Cranston-Gonzalez National Affordable Housing Act, is the primary  block grant program that state and local governments use to develop  affordable housing. Under the Low-Income Housing Tax Credit (LIHTC)  Program, authorized by the Tax Reform Act of 1986, state housing finance  agencies provide federal tax incentives to private investors to develop  housing affordable to low-income tenants. Some states and localities have  established housing trust funds and other financial mechanisms that have  helped organizations acquire HUD properties and maintain their  affordability to low-income tenants when owners want to sell properties  and exit the program.
Federal housing programs serve many different types of households and  provide units that are affordable at different income levels. For example,  under the LIHTC program, either 20 percent of units must be affordable to  households with incomes of less than 50 percent of area median  household income, or 40 percent of units must be affordable to  households earning incomes less than 60 percent of the area median  income. HUD pays assistance for project-based Section 8 units on behalf  of tenants with incomes no greater than 80 percent of area median income.  Further, the states and localities may use other tools and incentives, such  as offering property tax relief, to encourage owners to keep serving low- income tenants.
section_title: While Most Owners Renewed Their Contracts, Patterns Were Identified Among Properties Leaving the Program
paragraphs: We found a number of patterns in the volume, characteristics, and  locations of HUD’s project-based Section 8 housing contract renewals and  terminations, from 2001 through 2005. First, from 2001 through 2005, 92  percent of project-based Section 8 housing assistance contracts and 95  percent of assisted units that were eligible for renewal were renewed. We  also found that the percentages of opt-outs, foreclosures, and  enforcements varied by project-based Section 8 subprogram. Relatively  few owners opted out of the Section 8 program, and of those we  interviewed, most reported that they did so to seek higher rents in the  private rental market or to convert their units into condominiums. Second,  we found that opt-outs shared other characteristics, such as property size  and physical condition. Finally, opt-outs were more prevalent in some  regions and localities.
subsections: section_title: Few Project-based Section 8 Owners Opted Out of the Program, and Opt-Outs Varied by Subprogram
paragraphs: From 2001 through 2005, 14,373 of the 24,000 project-based contracts and  982,701 of the 1.4 million units were determined to be eligible for renewal  or termination. Of these, 92 percent of the eligible contracts and   95 percent of the eligible units remained in the program (table 2).
The percentage of opt-outs while small overall, varied by subprogram. As  shown in figure 2, only 1 percent of project-based Section 8 contracts  whose owners financed the properties through the Section 202 program  opted out from 2001 through 2005. This percentage is generally low largely  because Section 202 property owners are nonprofit entities established for  the singular purpose of providing housing for the elderly or persons with  disabilities, and because the statute requires low income use at least  through the original term of the loan. As a result, it is in the owners’  interest to renew their project-based Section 8 contracts. Similarly,  Section 8 contracts that also carry a U.S. Department of Agriculture  Section 515 mortgage had a much lower percentage of opt-outs (3  percent), in part due to mortgage prepayment restrictions. Conversely,  contracts listed under Property Disposition, which are troubled properties,  had the highest percentage of opt-outs, foreclosures, and enforcements. In  total, of the 8 percent of contract terminations, 6 percent were due to opt- outs and 2 percent were due to contract foreclosures and enforcements.
As shown in figure 3, the total number of project-based Section 8 contract  opt-outs nationwide declined from 240 in 2001 to 120 in 2003, but  increased slightly in 2004 to 125 and increased further in 2005 to 160.  Conversely, the number of foreclosures and enforcements has continued  to decline slightly over the period.
section_title: Properties Leaving the Program Shared Similar Characteristics
paragraphs: The properties that owners withdrew from the program shared similar  characteristics. Specifically, owners with properties that were generally  not fully subsidized by the program, were family occupied, were for profit,  or were in poor physical condition had a higher percentage of opt-outs.  Conversely, we did not find substantial differences in the percentage of  opt-outs based on property size, meaning owners with fewer units were as  likely to opt out as owners with more units.
subsections: section_title: Partially Subsidized Properties Had a Higher Percentage of Opt-Outs
paragraphs: Properties that were only partially supported by the Section 8 program  comprised 4,492, or 33 percent, of the total 13,847 Section 8 properties that  renewed or terminated their contracts from 2001 through 2005. As shown  in figure 4, about 13 percent of those properties with a less than 50 percent  Section 8 subsidy level that were eligible to opt out during the 5-year  period from 2001 through 2005 did so, compared with about 4 percent of  the properties that were fully supported by the Section 8 program. Owners  with properties with subsidy levels between 50 and 97 percent were as  likely to remain in the program as those that were fully supported. These  results were consistent with the views of owners about their desire to  continue receiving guaranteed payments that Section 8 provides. About 2  percent of all partially and nearly fully subsidized properties were  terminated through foreclosures or enforcements actions.
A higher percentage of properties identified as renting to families left the  project-based Section 8 program than properties rented to the elderly and  persons with disabilities. As shown in figure 5, 9 percent of family- occupied properties opted out of the program from 2001 through 2005  compared to about 2 percent for properties identified as renting to the  elderly and persons with disabilities. The lower opt-out percentage for  properties renting to the elderly and persons with disabilities can be  attributed largely to the fact that many were financed through Section 202.  As stated earlier, Section 202 owners find it is in their interests to continue  to serve the very-low income elderly and persons with disabilities.  Moreover, properties for the elderly and persons with disabilities are  generally owned by non-profit entities and have use restrictions which  require their low-income use through the terms of the properties’ original  loan. Our analysis also found that family-occupied properties also  experienced a slightly higher percentage of foreclosures/enforcements  than properties for the elderly and persons with disabilities.
For-profit and limited-dividend property owners had a higher percentage  of opt-outs than other types of property owners. Limited-dividend  ownerships are formed under federal or state laws or regulations and can  have restrictions involving rents, charges, capital structure, rate of return,  or methods of operations. As shown in figure 6, collectively these two  types of property owners represented 57 percent of all project-based  Section 8 properties and had the highest percentage of opt-outs, at 8 and   6 percent, respectively. Conversely, nonprofit owners had the lowest  percentage of opt-outs at 2 percent. The percentage of foreclosures and  enforcement actions for nonprofits was also slightly lower than for all  other types of ownerships.
When properties repeatedly fail physical inspections, HUD officials told us  that they take action to protect the tenants by issuing vouchers and  terminating the Section 8 contract. The officials noted that in many cases  these owners wish to be relieved of HUD oversight and may believe they  can do so by failing to meet HUD requirements. HUD reviews each such  case and may take punitive enforcement action against the owner. These  owners are more likely to opt out. Physical REAC inspection scores reflect  as-is condition with negative adjustments for certain health and safety  issues. Figure 7 shows that 94 percent of the properties received passing  scores, with 50 percent of the properties receiving superior scores of over  89 and 44 percent receiving satisfactory scores (60-89). Also, as shown in  figure 7, the percentage of opt-outs for properties with substandard or  severe scores was substantially higher than the percentages of opt-outs for  properties with satisfactory or superior scores.
section_title: The Percentage of Opt- outs Varies Slightly by Region
paragraphs: Our analysis of HUD data shows that the percentage of opt-outs varies  slightly by region. Certain parts of the country had more opt-outs than  other regions (fig. 8). Several southern states and New England  experienced the smallest percentage of opt-outs. Appendix III and IV  contain analyses of the number of opt-outs by state and the 3 regions with  the highest number of opt-outs, by metropolitan areas.
Figure 9 shows the national average for opt-outs and states we visited that  experienced a higher percentage of opt-outs compared with the national  average. Consistent with the HUD commissioned study by Econometrica,  Inc., property owners and others we interviewed reported that the location  of the property and the changes in the valuation of the neighborhood  greatly influenced the owner’s decision to remain or leave the Section 8  program. For example, properties located in neighborhoods with higher  median incomes, higher median rent levels, and lower poverty and  vacancy rates had higher opt-outs as a percentage of all active Section 8  units. Nationwide, over 50 percent of the opt-outs were in metropolitan  areas with a million or more residents.
section_title: Mark-to-Market and Other Programs Encourage Owners to Keep Their Properties in the Section 8 Program
paragraphs: HUD offers a number of tools and incentives to property owners seeking  additional funding to support their Section 8 properties. HUD reports that  when owners do choose to use the HUD incentives offered, they most  often select the Mark-to-Market and the Mark-up-to-Market programs. To a  lesser extent, some Section 8 owners are also eligible to participate in the  Section 236 decoupling program and the Section 202 refinancing program  to obtain additional funding for rehabilitation. However, because these  programs are available to only a portion of project-based Section 8 owners  and funding for rehabilitation is limited, project-based Section 8 owners  also use funds from programs outside of HUD for property rehabilitation.  HUD officials, owners, and industry representatives have told us that  Section 8 owners often opt to use non-HUD programs such as LIHTC and  tax-exempt bonds, which the IRS administers mostly through state  housing finance agencies. Both LIHTC and tax exempt bonds may be  combined with HUD incentives to maintain housing at rents affordable to  low-income households, but limited data is available to show how often  owners make this choice.
subsections: section_title: HUD Uses Mark-to-Market to Help Owners with Above-Market Rents Remain in the Section 8 Program
paragraphs: The Mark-to-Market Program, which may consist of a full or “lite”  restructuring, often provides an incentive for owners with rents above the  market rate to remain in the Section 8 program. Owners that have a  contract with the project-based Section 8 program and mortgages that are  insured by FHA or held by HUD must participate in the program if their  rents exceed the prevailing market level (as determined by HUD).  Through a full Mark-to-Market restructuring, the owner is able to finance  rehabilitation needs, cover projected operating expenses, and, in some  cases, enhance the property’s reserve fund to address future capital  improvement needs. In exchange for choosing a full Mark-to-Market  restructuring, owners virtually always receive a new project-based Section  8 contract with HUD and execute a Use Agreement to maintain the  property as affordable housing for at least 30 years.
Owners of FHA-insured properties with above-market rents may request to  participate in Mark-to-Market lite. This option involves only rent  restructuring rather than a full mortgage restructuring and is typically used  when owners can reasonably cover all of their expenses at the reduced  rents and still maintain an affordable mortgage payment. In addition to  lower rents, these owners generally renew their contracts for 5 years and  remain eligible to participate in a Mark-to-Market full restructuring at a  later date. According to HUD, Mark-to-Market lite is generally used for  properties in better financial and physical condition and rents that are only  slightly higher than market rents. Between 2001 and 2005, owners who  renewed their contracts using HUD incentives chose this option less often  than the full restructurings.
The Mark-to-Market program was scheduled to expire in October 2006.  However, the Revised Continuing Appropriations Resolution of 2007  extended the program for an additional 5 years (through September  2011). In addition, the House and Senate introduced the Mark-to-Market  Extension Act of 2007 in January 2007. If enacted, the act would   (1) expand the existing Mark-to-Market authorities to provide for higher  rents for eligible properties damaged by disasters, (2) expand the  program’s authority to set rents above existing rent level limits,   (3) increase to 5 years the period during which HUD may provide for not- for-profit debt relief, and (4) allow a limited number of projects with rents  below market to be eligible for a Mark-to-Market restructuring.
section_title: Mark-up-to-Market Is Designed to Make the Section 8 Program More Attractive by Ensuring That Owners Receive Market Rents
paragraphs: Owners with below-market rents may participate in the Mark-up-to-Market  program, which permits them to raise rents to either market rates or   150 percent of the HUD-determined fair market rent, whichever is less.  The program provides additional rental revenue for property operations  and renovation and increased distributions to owners of limited-dividend  projects. Typically, Mark-up-to-Market transactions occur in rental  markets with escalating rents that have exceeded HUD’s established rent  levels for area properties. The program’s goal is to encourage owners to  renew their contracts and remain in the Section 8 program by removing  the economic incentive to opt out.
HUD also has a Mark-up-to-Budget Program, which is a variation of the  Mark-up-to-Market program and has been used as an incentive for  nonprofit owners to preserve Section 8 properties with below-market  rents. The nonprofit owners must justify higher rents based on their  operating budget and repair costs. Under this program, HUD permits a  Section 8 budget-based rent increase for nonprofit properties to perform  capital improvements that will maintain the long-term financial and  physical viability of the property when current rents are not sufficient.  According to HUD, Mark-Up-to-Budget may be used by a nonprofit to  either facilitate a purchase transaction or finance needed repairs.
section_title: HUD Also Offers Other Incentives to Preserve Certain Project-Based Section 8 Affordable Housing
paragraphs: HUD has offered a number of other incentives to preserve affordable  housing, such as the Section 236 decoupling, Section 202 refinance, and  HOME programs, but only certain properties in the project-based Section 8  portfolio are eligible to take advantage of these incentives. Under Section  236 of the National Housing Act, HUD provides a monthly Interest  Reduction Payment (IRP) subsidy to reduce the mortgage interest rate  paid by property owners effectively to 1 percent. The Section 236  decoupling program allows leveraging of the IRP to benefit the owner and  the property and to provide funds for rehabilitation. For example, we  visited a nonprofit’s 72-unit Section 8 property in Baltimore that according  to the property manager had not undergone a major renovation in more  than 30 years. Because the property had a Section 236 mortgage and  project-based Section 8, the owner will be eligible to participate in the  Section 236 Decoupling program. Through the 236 Decoupling program,  the owner was able to receive additional funds to make necessary repairs  to the property and to begin construction of a new community center.
HUD also administers a Section 202 refinancing program that allows  owners to refinance their direct HUD loans while maintaining their  Section 8 rent levels. According to HUD’s August 2006 Report to Congress,  the Section 202 refinancing program was used sparingly from 2001 through  2005, but activity in the program increased significantly during fiscal year  2006. In exchange for the refinancing, owners must agree to maintain  affordable occupancy restrictions, comply with HUD requirements, and  undertake appropriate rehabilitation of the property.
HOME is the largest federal block grant to state and local governments  and is designed exclusively to create affordable housing for low-income  households. Each year the program allocates approximately $2 billion  among the states and hundreds of localities nationwide. While HUD does  not maintain data on the number of project-based Section 8 properties that  use HOME funding, HUD officials have indicated that HOME funds have  been used as an incentive to keep project-based Section 8 owners in the  program.
section_title: Low-Income Housing Tax Credits, Tax-exempt Bonds, and Other Tools May Also Help Preserve Project-based Section 8 Housing
paragraphs: HUD officials, property managers, and industry groups told us that project- based Section 8 owners also combine HUD preservation tools and  incentives with non-HUD preservation tools such as the LIHTC and tax- exempt bonds to provide additional funds for rehabilitation. LIHTC and  tax-exempt bonds can be used by themselves or with HUD incentives such  as Mark-to-Market to provide the Section 8 owner with funding for  substantial rehabilitation and repairs while keeping the property  affordable for low-income tenants. By combining incentives, the owner  would have enough resources for capital improvements while at the same  time ensuring that the property remained affordable through use- agreements for at least 30 years. However, because LIHTC and tax-exempt  bonds are administered by state and local housing and finance agencies,  HUD does not consistently collect data on the number of Section 8  properties using these incentives.
According to HUD officials, industry groups, and owners, project-based  Section 8 owners often use LIHTC to provide additional funding for  rehabilitation. To be eligible for consideration under the LIHTC, a  proposed property must:    be a residential rental property;    commit to one of two possible low-income occupancy threshold  restrict rents, including utility charges, in low-income units; and   operate under the rent and income restrictions for 30 years or longer in  accordance with written agreements with the agency issuing the tax  credits.
State and local housing finance agencies also sell tax-exempt housing  bonds (commonly known as Mortgage Revenue Bonds and Multifamily  Housing Bonds) and use the proceeds for several purposes. These include  financing low-interest mortgages for low- and moderate-income  homebuyers and acquiring, constructing, and rehabilitating multifamily  housing for low-income renters, including Section 8 properties.
section_title: HUD Policies and Procedures Have Caused Frustration for Some Property Owners and Could Cause Others to Leave the Project-Based Section 8 Program
paragraphs: While most owners renewed their contracts, some told us that they had  concerns with certain HUD policies and practices. Some described  multiple frustrations that led to what they and industry representatives  called “HUD fatigue.” They said that frustrations with HUD could result in  owners opting out of their contracts even when doing so might not be in  their economic interest. Among the frustrations they discussed were  HUD’s one-for-one replacement policy for Section 8 units; policies and  procedures that could lead to economic distress, especially Operating Cost  Adjustment Factors (OCAF) payments; and a lack of clarity and  consistency on HUD’s part in applying policies. We found that the one-for- one replacement policy, in particular, resulted in a loss of some properties  and higher vacancy rates that could potentially lead to foreclosure.
Industry representatives whom we interviewed agreed that HUD could  improve its policies and procedures for project-based Section 8 housing,  and both industry representatives and owners offered suggestions for  steps HUD could take to improve preservation efforts.
subsections: section_title: Many Project-Based Section 8 Owners Were Committed to Remaining in the Program
paragraphs: In the locations we visited, we spoke to owners and managers who either  renewed their project-based Section 8 contract or decided to opt out of the  program. Of those owners and managers who decided to remain in the  program, many told us that their primary motivation was the guaranteed  rental income that the Section 8 subsidy provided. Some of the managers  in depressed rental markets in the locations we visited told us that they  would be unable to fill units or would have high vacancy rates if they were  to opt out of the Section 8 program. As we have seen, nonprofit owners  rarely decided to opt out of the Section 8 program and told us that they  stayed in the program because their mission was to provide affordable  housing.
Generally, Section 8 owners and property managers in the locations we  visited said that HUD did not encourage them to opt out of the Section 8  program. Rather, most stated that HUD tried to keep them in the program  by using various tools and offering incentives, such as the Mark-to-Market  and Mark-up-to-Market programs. HUD officials also stated that although  their goal was to preserve as many project-based Section 8 housing units  as they could, the final decision on whether to renew or opt out was made  by the owner and in most cases was driven by market factors that were  beyond HUD’s control.
Some owners who left the program said that their decision was based on  economic or market factors and not on dissatisfaction with HUD.  Nonetheless, many of the owners (both those that remained in and those  that had left the Section 8 program), managers, and industry  representatives with whom we spoke cited areas in which the Section 8  program could be improved. Owners and managers expressed concerns  regarding specific HUD policies and practices that could result in opt-outs,  foreclosures, or cause financial distress or that lacked clarity and  consistent application. Figure 10 illustrates project-based Section 8  owners’ frustrations with HUD that have caused opt-outs in the past or  could possibly increase the number of future opt-outs. As shown in the  graphic, although the majority of the opt-outs occur for economic or  market factors, growing owner frustration could upset the balance causing  more owners to consider opting out even when economic conditions could  be overcome or mitigated.
section_title: HUD’s One-for-One Replacement Policy Can Result in Fewer Units and More Opt-outs
paragraphs: Some owners, managers, and industry representatives told us that some  HUD practices have not always kept pace with changes in market  conditions. For example, some owners told us that HUD required a one- for-one replacement policy for Section 8 units when owners renewed their  contracts. That is, HUD generally does not allow owners to reduce the  number of project-based Section 8 units or to reconfigure the units to  better meet market demand, even when the alternative could result in  owners opting out and removing all of their units from the program.
HUD officials told us that although there was no statutory requirement for  one-for-one replacement of project-based Section 8 units, the unwritten  policy had been to require replacement of units in all cases. HUD officials  said that they based this policy on the public housing requirement set by  the Housing and Community Development Act of 1987. However, Congress  waived the one-for-one replacement requirement for public housing units  from 1995 through 1998, and the Quality Housing and Work Responsibility  Act of 1998 permanently eliminated it for public housing. HUD officials  said that their rationale for maintaining their policy was that many of the  properties had long waiting lists and that any reductions in the number of  available units was counter to a demonstrated need for affordable housing.
Some owners, managers, and industry representatives pointed to the one- for-one replacement requirement for all units as an example of one of their  frustrations with HUD policies. Some owners told us that HUD would not  allow them to reduce the number of Section 8 units in a property or  reconfigure the units to better meet market demand, even when some  types of units had high vacancy rates and other types had long waiting  lists. The requirement was particularly troublesome for owners of units  containing efficiency apartments, which in some areas were not in high  demand. These owners wanted to replace the efficiency apartments with  fewer one-bedroom units, which were in demand. For example, one  nonprofit that primarily serves the elderly told us that even though the  HUD field office approved a transaction converting efficiencies into fewer  one-bedroom units for one of their properties, HUD headquarters reversed  that decision based on its one-for-one replacement policy. Also, a member  of the National Affordable Housing Management Association (NAHMA), an  association that represents property management agents, told us that the  owners of an Iowa property rented to elderly tenants had difficulties filling  efficiency units. NAHMA officials said that one of the owner’s major  obstacles in converting to one-bedroom units was getting HUD’s approval  to waive the one-for-one replacement policy. This lack of flexibility on the  part of HUD in insisting upon one-for-one replacement, rather than—for  example—evaluating each case on its own merits, could hinder the  preservation of certain project-based Section 8 units.
In at least one case, a property owner left the project-based Section 8  program because the owner could not convert some units into market-rate  housing. The owners of a property in Chicago wanted to split their Section  8 contract and convert 3 of the 82 units to condominiums, preserving the  rest as Section 8. According to the owners, splitting the contract made  sense because the three units were in a building that was separate from  the remaining 79 units. HUD’s Chicago Field Office told the owners that  they could not split the Section 8 contract because of the one-for-one  replacement policy. As a result, the owners opted out, and all 82 units left  the Section 8 program.
Other industry groups, including NAHMA, the National Leased Housing  Association, and the law firm of Nixon Peabody, which represents owners  and managers, also agreed on the need for HUD to adapt to changing  market conditions in reconfiguring Section 8 units. These representatives  told us that some of their transactions involving project-based Section 8  units were being held up by issues relating to reducing the number of  unmarketable efficiencies or reconfiguring other Section 8 units. HUD  headquarters officials told us that they were aware of the problem and that  they were rethinking their policy, particularly as it applied to units for  elderly tenants, but were concerned about setting precedent for owners to  request unit reductions even when the market factors were not an issue.  HUD officials told us that they had initially planned to focus on providing  flexibility to elderly developments affected by the one-for-one replacement  policy. But the officials added that they had seen the need to assess the  impact that the one-for-one replacement policy was having on family  properties as well. Nevertheless, not allowing owners to reconfigure the  number of units in their Section 8 contract in certain cases could result in  some owners deciding to opt out of the Section 8 contract altogether.
section_title: The OCAF Adjustment Process is Not Timely and Imposes a Financial Burden on Some Owners
paragraphs: Some of the owners, managers, and industry representatives told us that  the OCAF inflation adjustments that owners are entitled to receive every  year are not timely, equitable, or responsive to price hikes or emergency  situations. OCAF adjustments are calculated by HUD annually using nine  expense categories, including utilities, property taxes, and insurance that  are aggregated at the state level. Section 524 of MAHRA gives HUD broad  discretion in setting OCAF adjustments, with one exception: that  application of an OCAF adjustment will not result in a negative rent  adjustment.
Owners, managers, and industry representatives were concerned that the  OCAF adjustments were not made on a timely basis. According to a  number of industry groups, the adjustments are often obsolete by the time  they are adopted. HUD officials confirmed that there was a lag of about 15  to 18 months from the time that HUD collected the data to the time that  the adjustments became effective. One industry representative told us that  HUD was unable to revise the adjustments to respond to any cost hikes  during the lag time period.
Some of the owners and the industry representatives also told us that they  were concerned with the unequal distribution of OCAF adjustments within  states. Some owners and industry representatives pointed out that the  formula HUD used did not take into account differences in markets within  states for commodities such as electricity and insurance. They said that in  some markets, the cost of utilities and insurance often escalated monthly,  while in other areas this cost was relatively stable. For example, a  property manager in New York City told us that it did not seem equitable  to have the same OCAF adjustment for New York City, where costs were  extremely high and likely to fluctuate precipitously, as for upstate New  York, where costs were much lower.
Some of the owners, managers, and industry representatives that we  talked to also said that OCAF adjustments were not able to respond to  price hikes or emergency situations in many parts of the country. For  example, a member of NAHMA that managed elderly developments in  Iowa told us that the OCAF adjustments during the last 4 years had been  too small given the rapid escalation of natural gas rates in that region of  the country. As a consequence, the management company had to use  capital reserves to address operating cash deficits, putting it at risk of  being unable to cover unexpected capital repairs. Another NAHMA  member that managed a 120-unit project-based Section 8 property for the  elderly in Minnesota said that heating costs had increased 22 percent in  2006 over the previous year but that the OCAF adjustment for 2006 was  only 2.8 percent. NAHMA officials said that rising utility costs had become  an enormous challenge for many Section 8 owners. In particular, NAHMA  officials noted that HUD needed a more timely mechanism to address  emergency operating cost increases—for example, after natural disasters.  Officials from Stewards of Affordable Housing, a group representing some  of the largest nonprofits that own and manage project-based Section 8  properties, also stated that OCAF adjustments did not keep up with  inflation. For instance, a 2006 survey of members of the Florida  Association of Homes for the Aging and the Southeastern Affordable  Housing Management Association reported that none of the respondents  had had an insurance premium increase of less than 50 percent between  2005 and 2006. Further, the survey found that, on average, premiums had  doubled in one year, and one respondent reported a tenfold increase in its  insurance premium.
HUD officials, including the Deputy Assistant Secretary for Multifamily  Housing, said that they were aware of the lag in OCAF adjustments, the  equity concerns, and the difficulties in responding to price hikes and  emergency situations. However, they said that HUD was taking steps to  address these issues. In the short term, HUD officials said that they were  allowing owners to tap into their capital reserve accounts to cover  unforeseen operating cost increases. However, this practice works only as  long as reserves are available or future OCAF adjustments are guaranteed.  In the long run, HUD officials plan to evaluate ways to change the OCAF  adjustment factors and make them responsive to market factors. To deal  with the issue of market differences within a state, HUD is currently  considering a proposal to make adjustments to OCAF using data from  metropolitan areas instead of states. HUD officials said that they were also  considering an industry group’s proposal to address owners’ concerns  about price hikes and emergency situations. The proposal would  authorize owners to borrow against future rent adjustments using their  capital reserve accounts as collateral. Owners and industry groups  contended that if HUD neglected to revise the OCAF adjustment process,  owners in high-cost areas or those experiencing emergency cost  escalations might not receive enough in subsidies to meet their expenses  and could consider opting out of the program.
section_title: Other Factors Affect Owners’ Cash-Flows and Abilities to Undertake Rehabilitation
paragraphs: Some owners, managers, and industry groups expressed concerns that  some HUD policies and procedures could affect the owners’ cash flows  and undermine their abilities to undertake needed rehabilitation of their  properties. Among these were (1) late subsidy payment to owners, (2) high  administrative costs relative to the number of Section 8 units in a property,  (3) confusion about the Limited English Proficiency requirement, and   (4) unclear or vague HUD policies and procedures.
subsections: section_title: Late Subsidy Payments
paragraphs: Several owners and HUD staff told us that project-based Section 8 Housing  Assistance Payments were frequently late, especially when HUD was  under continuing resolutions. In November 2005, we reported that from  fiscal years 1995 through 2004, HUD disbursed three-fourths of its monthly  Section 8 payments on time but that thousands of payments were late each  year. Owners who are heavily reliant on HUD’s subsidy to operate their  properties are the most likely to be severely affected by payment delays.  Owners reported receiving no warning from HUD when payments would  be delayed and reported that such notification would allow them to  mitigate the effects of a delay. In our November 2005 report, we  recommended that HUD, among other things, streamline and automate the  contract renewal process to prevent processing errors and delays and  eliminate paper/hard-copy requirements to the extent practicable; develop  systematic means to better estimate the amounts that should be allocated  and obligated to project-based Section 8 payment contracts each year;  monitor the ongoing funding needs of each contract; ensure that additional  funds were promptly obligated to contracts when necessary to prevent  payment delays; and notify owners if their monthly payments would be  late, including in such notifications the date when the monthly payment  would be made. In response to the report, HUD officials said that they  would take actions to better predict the funding allocation process and  develop a system to more promptly notify owners when payments were  expected to be late.
Owners told us that when they did not receive payments on time, they  often had to use reserve funds to cover critical operating expenses,  leading to cash flow problems. During these periods, some owners delayed  needed maintenance to make up for the budget shortfall. For example, we  found in our work for this current report that in Baltimore, a nonprofit  owner of a project-based Section 8 property for elderly residents delayed  critical repairs to the boiler system when the payments were delayed. The  owner used reserve funds that should have been used for repairs to cover  operating costs. This situation contributed to a lower physical REAC score  for the owner because the boiler was in need of repair.
HUD headquarters officials told us that they had created a working group  of HUD officials and industry representatives that would provide  recommendations to HUD for improving its budget process to reduce late  Section 8 payments.
section_title: Administrative Costs Relative to Number of Section 8 Units
paragraphs: HUD officials said that they require the same information and  documentation from all owners, no matter how many Section 8 units they  own. Therefore, owners with a few Section 8 units may find the  administrative costs of participating in the program burdensome. Some of  the property owners we met with confirmed this fact. HUD officials said  that owners with larger numbers of Section 8 units were able to spread the  fixed administrative costs across more units and achieve economies of  scale. Most of these owners’ expenditures went to hire dedicated staff to  manage the program, which requires separate accounting, management,  occupancy, and oversight systems. The owners said that they were also  incurring costs for background checks on Section 8 applicants and annual  tenant recertifications. For example, in Columbus, Ohio, a manager told us  that an owner with a few Section 8 units decided to opt out in 2002  because of the high administrative costs of keeping 24 Section 8 units in a  development that had a total of 141 units. The manager said that by opting  out, the owner saved up to $25,000 in payroll costs and was still able to  keep the majority of the tenants who were eligible to receive Section 8  incentives through tenant vouchers administered by the local public  housing agency. HUD field office staff in Columbus told us that for some  owners who had few Section 8 subsidized units, keeping separate  financial, management, and occupancy records for both Section 8 and  other tenants might not be feasible.
The January 2006 HUD commissioned study by Econometrica, Inc.,  reported a similar finding. The study noted that owners with a smaller  portion of their portfolio in Section 8 units incurred additional operating  costs for maintaining staff members with the skills needed to administer  the Section 8 program. The study concluded that operating a Section 8  property required administrative skills specific to the program and it might  not be economically feasible for these owners to employ staff members  with the needed skills.
section_title: The Limited English Proficiency Requirement
paragraphs: There is some concern and confusion among project-based Section 8  owners and managers on what is required of them to comply with their  obligations to persons with limited English proficiency. Under Title VI of  the Civil Rights Act of 1964, and its implementing regulations, recipients of  federal financial assistance have a responsibility to ensure meaningful  access to programs and activities for these individuals. Presidential  Executive Order 13166, “Improving Access to Services to Persons with  Limited English Proficiency” directs each federal agency that extends  assistance subject to Title VI to publish guidance for its recipients  clarifying their obligations to persons with limited English.
HUD published the final “Guidance to Federal Financial Assistance  Recipients Regarding Title VI Prohibition against National Origin  Discrimination Affecting Limited English Proficient Persons” on   January 22, 2007. Under this guidance, recipients of HUD funds use four  factors to determine the extent of their obligations to provide services to  those with limited English proficiency. These four factors include: (1) the  number or proportion of such persons who are eligible to be served or  likely to be encountered by the program or grantee, (2) the frequency with  which these persons come in contact with the program, (3) the nature and  importance of the program, activity, or service provided by the program to  people’s lives, and (4) the resources available to the grantee/recipient and  costs. Based on these factors, a HUD recipient would develop an  implementation plan to address the identified needs of the populations  they serve that have limited English proficiency.
Some owners, managers, and their representatives said that they agreed  with the goal that this group have access to HUD programs but that it was  not clear how HUD was implementing this order. Particularly, these  officials were concerned with the lack of clarity in describing the written  translations and oral interpretation services HUD was to provide and those  that would be the owners’ responsibility. NAHMA officials stated that the  perception was that the owners would have to bear most of the cost of  providing the written translations of vital documents and oral  interpretation services free of charge to both applicants and residents.  However, these officials noted that HUD had proposed no additional  funding to offset these higher costs. Furthermore, NAHMA officials said  that expenses for translating documents or providing interpretation  services were not accounted for in the OCAF adjustments or included in  rent comparability studies.
NAHMA officials added that they were concerned because HUD was  already holding property owners accountable to the requirements for  limited English proficiency as part of fair housing and compliance reviews.  These officials stated that holding the owners to these requirements could  expose affordable housing owners to unwarranted fair housing complaints  and discrimination lawsuits. Also, NAHMA officials stated that adding this  regulatory expense without increasing compensation changed the nature  of the agreement between HUD and the property owner. Given this extra  cost and additional legal liability, owners could be inclined to leave the  program, because they would not have to deal with the requirement once  they had opted out.
section_title: Unclear HUD Policies and Procedures
paragraphs: Some owners, managers, and industry representatives raised concerns  about the clarity of HUD policies and procedures and the way the policies  were applied. Of particular concern were the Section 8 Renewal Guide and  the REAC physical inspection score. MAHRA established policies for  renewing project-based Section 8 contracts, and HUD adopted these  regulations in 1998. The rules and procedures were then incorporated in  the Section 8 Renewal Guide, which HUD published in 1999. HUD officials  noted that they were currently in the process of issuing updates to the  Renewal Guide. However, according to a group representing the private  owners, only parts of the Renewal Guide had been updated despite many  changes to HUD’s policies and procedures, particularly regarding the  Mark-to-Market and Mark-Up-to-Market program.
Largely as a result of the out-of-date information, the guide can be  confusing, particularly to owners that have a few project-based Section 8  units. Property owners and industry representatives cited gray areas in the  guide, particularly concerning the Mark-to-Market option. For example, in  Baltimore we visited two small nonprofits that owned Section 8  properties. Property managers for both properties faced challenges  navigating complex HUD policies that they said the guide did not  adequately explain, such as when and under what conditions the owner  could choose a different renewal option. While several nonprofit groups  offer training on HUD policies for project-based Section 8 properties, a  property manager told us they did not have the resources to pay for  training on their own. We also were told that a lack of understanding of  HUD policies had caused some owners to receive low scores on  management reviews that comprised their Section 8 status. HUD officials  told us that they had set up a task force to examine the guide and that it  was currently being updated.
REAC inspections are an integral part of HUD’s efforts to oversee the  properties in its inventory of affordable housing. HUD’s physical  inspections require that multifamily housing be decent, safe, sanitary, and  in good repair. The standards establish specific requirements for the site,  the dwelling units, and common areas. HUD has developed a detailed list  of items that inspectors are required to review at properties and  specifically defines what constitutes a deficiency for each inspected unit.  However, some owners, managers, and representatives of multifamily  housing industry groups we interviewed had concerns about the reliability,  consistency, and fairness of REAC’s inspections. For example, owners and  property managers in New York City and Houston indicated that REAC  inspectors recorded violations for minor issues that often were outside of  the managers’ control.
Some of the owners also stated that they were cited for minor violations  rather than for cumulative violations and that inspections tended to be  arbitrary. For example, HUD’s Chicago field office and a Chicago  nonprofit reported that REAC inspectors ignored the deteriorating overall  condition of a property because the inspectors were either inexperienced  or afraid to enter some of the buildings. Specifically, Chicago’s Lawndale  apartments—which had one owner with 1,105 units in 104 buildings  spread over a large area in North Lawndale—received passing REAC  physical condition scores, although the overall complex was in disrepair.  The end result was that Lawndale was to be split up and sold to a number  of owners, resulting in about 700 of the 1,105 Section 8 units leaving the  project-based Section 8 program. HUD officials told us that because of the  enormous size of the Lawndale apartments, the complex was not a typical  HUD Section 8 project-based property. They defended the REAC process,  stating that the random nature of its inspections could result in passing  scores at a large project like Lawndale, which had a mix of substandard  and passing units. They believed that what happened at Lawndale was an  isolated incident but that such an outlier should have been more carefully  monitored by HUD.
section_title: Conclusions
paragraphs: Most project-based Section 8 property owners opt to renew their contracts  with HUD, but the 8 percent of expiring contracts that were not renewed  between 2001 through 2005 represent over 50,000 units that are no longer  subsidized through the program. Our work identified some recurring  program issues and concerns including the rigidity of the one-for-one  replacement requirement, difficulties with the OCAF adjustments and  other administrative burdens, all of which could affect the program’s  positive retention rate as more properties come up for renewal.
Based on the views of Section 8 owners and managers we interviewed,  HUD’s one-for-one replacement policy has made certain properties  vulnerable to exiting the program. Particularly, not allowing owners to  reconfigure hard-to-fill efficiency apartments in some markets into fewer  one-bedroom units could cause financial difficulty for owners and lead to  a decision to opt out of the program. Also by not allowing owners to  reduce the number of units in a property because of the desire to have  one-for-one replacement, HUD may inadvertently be forcing owners out of  the program. Consistent with congressional action that eliminated the one- for-one replacement requirement in HUD’s Public Housing programs, we  are encouraged that HUD has started to rethink this policy in light of  changing market conditions especially for the elderly, and understand the  difficulty HUD faces in balancing the need to preserve affordable housing  with the requests of property owners. However, without a more flexible  policy, HUD risks losing more properties from the Section 8 program. As  more contracts come up for renewal, owners may continue to leave the  program if they do not have the flexibility to make changes that the market  demands to existing housing stock. HUD’s field offices, which are best  situated to understand local market needs, may be in the best position to  make these types of property decisions.
The OCAF adjustment process, which is required by MAHRA, is another  area that may threaten HUD’s preservation efforts. As currently  implemented, HUD estimates of costs for items such as utilities and  insurance in some cases do not reflect current market conditions,  primarily because they are estimated 15-18 months before they take effect  and are applied statewide. As a result, property owners in high-cost areas  may not receive enough in subsidies to meet their expenses. Moreover,  during emergency situations HUD does not have a process to address  rapidly changing prices such as spikes in energy costs or rapidly  increasing insurance rates in coastal areas. Ultimately, owners divert  money from capital improvement projects to cover such operating  expenses. These types of issues could result in more owners leaving the  program. Given that many property owners emphasized that guaranteed  rental income was a primary reason for staying in the program, HUD needs  to help ensure that properties are covered for the increases in costs  incurred. If HUD does not act quickly to review the OCAF adjustment  process, property owners may be forced to leave the Section 8 program  due to lack of sufficient funding.
Finally, owners, managers, and industry representatives raised a number  of other issues that could drive them out of the program. These issues  included certain policies and procedures that were described as unclear,  inconsistently applied, or administratively burdensome. Specifically, late  subsidy payments, higher administrative costs for owners with fewer  Section 8 units, confusion about requirements for persons with limited  English proficiency, and unclear HUD policies and procedures could  contribute to owners opting out of the Section 8 program, taking units that  cannot be replaced out of the affordable housing stock.
section_title: Recommendations for Executive Action
paragraphs: To help ensure that project-based Section 8 preservation efforts meet the  needs of a changing housing market, we recommend that the HUD  Secretary direct the Deputy Assistant Secretary for Multi-family Housing  to:    modify the one-for-one replacement requirement to allow for a case-by- case assessment of the merits of permitting owners to reduce the number  of project-based Section 8 units or reconfigure the units to better meet  market demand and to expand its reconsideration of this policy beyond  elderly properties,    expeditiously reevaluate its OCAF adjustment process to make sure that  the adjustments reflect local variations, are implemented in a more timely  manner, and are responsive to emergency situations, and    determine if any of the additional issues raised by owners such as policies  and procedures that are unclear, inconsistently applied, or  administratively burdensome could contribute to owners’ opting out of the  Section 8 program and take steps to address these issues.
section_title: Agency Comments and Our Evaluation
paragraphs: We received comments on a draft of this report from HUD’s Assistant  Secretary for Housing—-Federal Housing Commissioner that have been  reproduced in appendix II. The Commissioner generally agreed with the  report, and noted that it confirmed that HUD was not encouraging  property owners to opt out of the project-based Section 8 program but  rather was using a variety of tools to encourage continued participation.  He also said that the report contained several positive suggestions for  improving program delivery, but added that none of the recommendations  would likely deter owners seeking to maximize their economic gains in a  “hot” real estate market from leaving the program. We agree that most  owners that opt out of the project-based Section 8 program do so because  of market factors rather than dissatisfaction with HUD’s preservation  efforts. However, given the finite supply of project-based Section 8  properties, addressing some of the recurring program issues and concerns  we identified could help keep some owners from opting out of the  program. The Commissioner also noted that the report lacked data on the  number of opt-outs that might have been avoided if the proposed  recommendations had been implemented. We agree that such data would  have allowed us to determine specific reasons owners opted out of the  program, but because HUD does not track properties and the reasons that  they leave the program, the data were not readily available.
Addressing our recommendation that HUD modify the one-for-one  replacement policy to allow for case-by-case assessments of requests to  reduce the number of or reconfigure existing units, the Commissioner  expressed concern that revising the policy might save one or two projects  from opting out but lead to a greater net loss of assisted units. He added,  however, that HUD was aware of the need to accommodate market  demand and would be evaluating the policy and identifying criteria for  approving such requests. We are encouraged that HUD is considering a  more flexible policy and continue to support the position that criteria can  be developed that balance market demand and the need to preserve  affordable housing.
Regarding our recommendation that HUD expeditiously reevaluate its  OCAF adjustment process, the Commissioner wrote that the department  was aware of industry concerns about the use of statewide data, the  approximately 18-month lag between the time data is collected and the  adjustments go into effect, and the fact that OCAF does not take into  account emergency situations. He noted that HUD had initiated a review of  the OCAF methodology, including the actual costs to the portfolio  resulting from the lag time and the use of statewide data, and planned to  complete and announce the results of the review by the end of fiscal year  2007.
Concerning our recommendation that HUD determine if any of the  additional issues that property owners raised could be contributing to the  decision to opt out of the program, the Commissioner said that HUD was  aware of the concerns we cited and was always willing to consider  recommendations that could reduce administrative costs and encourage  owners to stay in the program. For example, he acknowledged that the  project-based Section 8 payments were late from time to time but added  that the agency was committed to improving the process and would  provide updates on its progress to GAO and the Congress.
We are sending copies of this report to the Chairman and Ranking  Minority Member of the Senate Committee on Appropriations; the  Chairman and Ranking Minority Member of the Senate Committee on  Banking, Housing and Urban Affairs; the Chairman and Ranking Minority  Member of the House Committee on Appropriations; the Chairman and  Ranking Minority Member of the House Committee on House Financial  Services; the Secretary of HUD; and other interested parties. This report  will also be available at no charge on GAO’s Web site http://www.gao.gov.
Please contact me at (202) 512-8678 or williamso@gao.gov if you or your  staff have any questions about this report. Contact points for our Offices  of Congressional Relations and Public Affairs may be found on the last  page of this report. Key contributors to this report are listed in   appendix V.
section_title: Appendix I: Scope and Methodology
paragraphs: To assess the Department of Housing and Urban Development (HUD’s)  efforts to maintain Section 8 project-based housing stock and identify any  discernable patterns in its preservation efforts, we reviewed the  department’s five-year analysis of units terminated and retained by year,  state, and locality for the period 2001-2005. HUD’s analysis is contained in  a report to Congress, Section 8 Project-Based Contract Renewals, sent to  the Senate Appropriations Committee in August, 2006. To facilitate this  effort, HUD’s Office of Multifamily Programs and Systems, in June of 2006,  provided us a data extract containing information on all Section 8 contract  activity for the 5-year period. This extract incorporated and combined data  from HUD’s Real Estate Management System (REMS), which reflects  historical information on all properties in HUD’s multifamily portfolio;  DATAMART, a subset of REMS, which depicts data for all active  multifamily properties; and the Tenant Rental Assistance Certification  System (TRACS), which illustrates historical activity for all multifamily  properties subsidized department’s Real Estate Assessment Center  (REAC) database system showing the most recent physical and financial  conditions of properties in HUD’s multifamily portfolio.
To determine the number of Section 8 project-based units renewed and  terminated during the five year period as well as the characteristics and  locations of their associated properties, we reviewed, analyzed, and  replicated all numbers contained in HUD’s report relating to Section 8  contracts that left or remained in HUD’s portfolio during 2001-2005. By  comparing renewals and terminations, we determined the extent to which  HUD’s Section 8 project-based housing stock grew or declined. Our  analysis also enabled us to observe patterns associated with such actions.  Following the same methodology HUD employed in its Report to  Congress, we counted individual contract renewals and their associated  units only once irrespective of how many times an owner renewed the  contract. Moreover, we only considered contracts as renewals if such  contracts were active at the end of 2005. In contrast, terminated contracts  included all situations where owners opted out of their Section 8  contractual obligations anytime during the 5-year period; mortgage  foreclosures; and contracts terminated by HUD due to enforcement  actions. We counted contractual terminations as a single event because, by  definition, the contract no longer exists.
We also used the database extract to analyze characteristics of properties  that left or remained in the Section 8 Program that HUD did not address in  its report. For instance, we evaluated the types of rental assistance  associated with renewals and terminations; occupancy and unit  characteristics of properties whose owners elected to renew or opt out of  their contractual obligations; and the physical and financial conditions of  such properties. In addition, to determine which geographic locations had  what number of contract renewals or terminations, and if any evidence of  patterns in such locations existed, we obtained census divisions from the  Census Bureau website and mapped properties using the divisions. Our  analysis enabled us to depict the locations where HUD was losing or  gaining Section 8 housing stock at the county level.
To ensure that the HUD data were reliable, we performed various  electronic tests and checks to determine (1) the extent to which the data  were complete and accurate, (2) the reasonableness of the values reflected  in the data variables, (3) if any data fields had missing values, and,   (4) whether any data limitations existed in the data we relied upon to do  our work. In addition, we reviewed existing information about the quality  and controls of the data systems and discussed the data we analyzed, as  well as the programming code used to manipulate such data, with agency  officials to ensure that we interpreted them correctly to do our analysis.  Based upon our reliability assessment, we concluded that HUD’s data  were sufficiently reliable for purposes of this report. Moreover, our  analysis determined that the information reflected in HUD’s report to  Congress was accurate and reliable for purposes of ascertaining the extent  to which Section 8 contracts and their associated units were terminated or  gained during the 5-year period 2001-2005. The data we obtained from  HUD were current as of June 15, 2006.
To identify the tools and incentives available to HUD to preserve project- based Section 8, we reviewed and summarized legislation and regulations  pertaining to Section 8 project-based housing preservation including the  Multifamily Assisted Housing Reform and Affordability Act (MAHRA) of  1997 and the Section 8 Renewal Guide. To identify the incentives offered  to Section 8 owners, we conducted interviews with HUD headquarters  staff in Washington, D.C. and field office staff in Baltimore, Maryland;  Chicago, Illinois; New York, New York; Los Angeles, California; Columbus,  Ohio; and Houston, Texas. To get additional information about the use of  these incentives, we conducted interviews with Section 8 property owners  and managers, nonprofit organizations, industry groups, HUD contractors,  and state and local government finance agencies. To determine how  frequently Section 8 owners used each tool or incentive, we extracted and  analyzed data from HUD’s Real Estate Management System (REMS) and  spoke with HUD officials and industry groups. REMS includes historical  information on all properties in HUD’s multifamily portfolio including data  on project-based Section 8 properties and contracts. One Section 8  property may have multiple contracts.
To assess the views of for-profit and nonprofit property owners and  managers on HUD’s Section 8 housing preservation efforts, we interviewed  industry representatives and conducted case studies in five selected  locations. We judgmentally selected for review five HUD office locations  (two regional offices and three field offices) in which to complete  interviews with for-profit and nonprofit property owners and managers.  Sites were selected based on the following characteristics: (1) percentage  of units that opted out from 2001 through 2005, (2) vacancy rate   (3) geographic location, (4) percentage of households with worst-case  housing needs, and (5) HUD regional and field office program  performance. In the selected case study locations, we conducted  interviews with current and former project-based Section 8 for-profit and  nonprofit property owners and managers as well as HUD office staff. We  also interviewed performance-based contract administrators (PBCA),  entities responsible for administering project-based Section 8 contracts,  and participating administrative entities (PAE), entities responsible for  structuring Mark-to-Market transactions, serving the selected case study  locations. For all of our interviews, we used a standardized interview  guide to ensure consistency. We gathered information on reasons selected  for-profit and nonprofit property owners stayed in or left the project-based  Section 8 program and perceptions about the effectiveness of HUD’s tools  and incentives to preserve Section 8 housing. We also reviewed relevant  documentation provided by property owners and managers, HUD regional  and field office staff, PBCAs, and PAEs.
We conducted our work between October 2005 and April 2007 in  Baltimore, Maryland; New York, New York; Chicago, Illinois; Columbus,  Ohio; Los Angeles, California; Houston, Texas; and Washington, D.C., in  accordance with generally accepted government auditing standards.
section_title: Appendix II: Comments from the Department of Housing and Urban Development
section_title: Appendix III: Number of Opt-outs by State in Identified Census Divisions
subsections: section_title: East South Central Division ALABAMA
section_title: Appendix IV: Number of Opt-outs by Metropolitan Area for the 3 Census Divisions with the Highest Percentage of Opt-outs
section_title: Appendix V: GAO Contact and Staff Acknowledgments
subsections: section_title: Staff Acknowledgments
paragraphs: In addition to the individual named above, Andy Finkel, Assistant Director;  Grace Haskins, Michelle Bracy, Emily Chalmers, Mark Egger, Charlene  Johnson, Alison Martin, John McGrail, Marc Molino, and Roberto Piñero  made key contributions to this report.