MIP as a Policy Tool

6 min read

FHA Incentivizes Green, Affordable Housing

The Federal Housing Administration (FHA) now rewards energy-efficient properties and affordable housing communities with lower interest rates and other incentives.

“It’s a terrific move by FHA,” says Todd Trehubenko, Senior Vice President for debt and structured finance at CBRE Capital Markets. “They are creating real incentives that will effect decisions.”

The new incentives effectively allow rental communities that are energy efficient or affordable or both to take out larger loans. For new construction or rehabilitation projects, that extra money can help pay for energy improvements that will save money in the future.

Larger loans, lower interest rates
FHA offers energy-efficient properties and affordable housing communities lower mortgage insurance premiums (MIP). Depending on the details of the deal, the incentives cut MIPs from 45 to 70 basis points down to as low as 25 basis points.

Affordable and energy efficient properties can now take out substantially larger loans, thanks to the incentive. The dollar amount of many FHA loans is mainly limited by the size of the mortgage payments. Lower interest rates work out to lower monthly payments. “The size of most of these loans are a function of how much of a mortgage you can afford to pay,” says Trehubenko.

For example, a borrower taking out a Sec. 221(d)4 loan to build a new apartment property, or substantially rehabilitate an existing property, could pay a MIP of 25 basis points instead of 65, according to an example from CBRE. The lower interest rate for the 40-year loan means the property may be able to support more than $3 million in extra debt, assuming new operating income of $2 million a year. That’s an 11% increase in the total loan proceeds. That money can help pay for planned energy improvements.

“It’s a substantial premium,” says Trehubenko.

FHA underwriters also offer partial credit for the savings that planned energy improvements are likely to produce, which also increases the net operating income that loan underwriters consider when they figure out how much debt a property can carry.

“You have a higher net operating income, and that is advantageous for sizing the loan,” says Ed Foulan, Senior Vice President and FHA platform manager and Chief Underwriter for KeyBank Real Estate Capital.

Advocates for sustainable development have been trying for a long time to get loan underwriters to recognize the savings energy efficiency improvements are likely to produce so that borrowers can take out larger loans to pay for those improvements. “The industry has been hung up for years on energy savings,” says Trehubenko.

New incentives in action
Borrowers are already working to take advantage of the incentives. In January, HUD released a draft of the energy incentives for public comment. The agency adopted the changes for new commitments starting April 1. However, FHA loans can often take nearly a year to close. Borrowers who now plan to use the incentives will probably take months before they close their loans.

“We’ve got a large number of clients who are interested in this incentive,” says Casius Pealer, attorney with Coats Rose and director of Tulane’s Master of Sustainable Real Estate Development.

Borrowers now moving through the FHA process are considering changing their designs. “We have certainly seen clients change their scope to qualify,” says CBRE’s Trehubenko.  FHA already offers the lowest interest rates for permanent financing, for apartment borrowers who are willing to go through FHA’s longer, sometimes less-consistent process.

To win the incentive as an energy-efficient property, the buildings will have to be certified by an independent, third party as a “green” building. FHA recognizes a long list of sustainable development standards that building owners can use to be certified, such as the Leadership in Energy and Environmental Design created by the U.S. Green Building Council. Older buildings can be more difficult to renovate to meet these standards without a large-scale, gut rehabilitation. “It’s just really hard to do with a property that is not new,” says Trehubenko.

To keep the incentive for energy efficiency, property owners will need to submit information on how much energy their property actually uses to the government’s computerized Portfolio Manager system. The Environmental Protection Agency (EPA) created Portfolio Manager to show how properties stack against each other for energy use over the most recent 12-month period. To keep its FHA incentives, a property will have to stay in the top 25% for energy-efficiency of similar buildings in similar climate areas across the country.

“You have to perform better than 75% of the buildings that are similarly situated,” says Pealer. That shouldn’t be difficult for buildings that meet tough, green building standards – though managers will have to stay focused to keep their buildings running well over the long life on an FHA loan.

The Details
The Federal Housing Administration’s (FHA’s) new annual multifamily insurance rates include:

  • Multifamily insurance rates are unchanged for properties that rent at market rates and are not particularly energy efficient.
  • FHA is lowering its multifamily insurance rates to 25 basis points a year for energy-efficient properties. That’s a reduction of 20 or 25 basis points from current rates. These properties must commit to meet an industry-recognized green building standard. Owners must also keep their buildings in the top 25% of multifamily buildings nationwide for energy performance, as determined using the Environmental Protection Agency’s Portfolio Manager 100-point score.
  • FHA is also lowering its annual multifamily insurance rates to 25 basis points for “broadly affordable” housing. That includes properties where at least 90% of the units are covered by a Sec. 8 contract or the affordability requirements of the federal Low Income Housing Tax Credit (LIHTC) program.
  • For buildings that are both energy-efficient and broadly affordable, FHA is both lowering its multifamily insurance rates to 25 basis points a year and will limit the fees that can be charged on these loans.
  • FHA is lowering its annual multifamily insurance rates to 35 basis points for properties that mix affordable housing with market-rate housing. That’s a reduction of 10 to 35 basis points from current rates. That includes properties that set aside units based on affordability under programs including LIHTC, Section 8, inclusionary zoning, or other local affordability programs.