Co-operative Housing Refinancing Partnership

Transcription

1 Co-operative Housing Refinancing Partnership Questions & Answers Introduction The purpose of this Q&A is to provide basic coverage of key issues and set out the roles and responsibilities of various stakeholders including Credit Unions, the Co-operative Housing Federation of Canada (CHF Canada), housing co-operatives, and the Agency for Co-operative Housing. Questions have been allocated into four sections. General Information Product / Background (common) Agency and CHF Canada Co-operative / Borrower Credit Union / Lender Certain comments, statements, and future roles and responsibilities of CHF Canada and Agency require review and agreement. Some of these have been identified in this paper. Product profile and due diligence content are based on standard Alterna Savings material/guidelines for residential multi-unit mortgage lending. CHF Canada will review and identify material variances to other Credit Union comparative offerings and suggest changes / mortgage amount ranges as appropriate. Housing co-operatives using Index-Linked Mortgages ( ILM ) and any discussion of co-operatives funded under programs other than Section 95 of the National Housing Act have been excluded from this Q&A. At a later date, CHF Canada and credit unions may develop a model to address housing co-operatives not funded under Section 95. One key area of uncertainty is related to what happens when the CMHC Operating Agreement is extinguished, especially for instance, future rental subsidies. CHF Canada and other providers (e.g. municipalities) are lobbying governments for extended support for low-income residents, so as to ensure a stable revenue stream from low-income households. 1

2 General Information 1. Q - What features, pricing and loan limits will the new multi-residential mortgage offered by a Credit Union have? A - CHF Canada has worked with two Canadian Credit Unions toward standardizing a mortgage product offering that meets a Section 95 housing co-operative s need to refinance its CMHC mortgage and provide additional funds for reinvestment in the property ( blend and extend ). Based on preliminary discussions the following general guidelines have been proposed: First mortgages only minimum $1.0 million. Lower amounts will be considered on an exceptional basis only. Five year term. Amortization period up to from years based on age, condition and other assessed risk factors. Processing & Commitment Fees % of the mortgage amount with a minimum of $5,000, whereby the Processing Fee component of 0.25% is payable with the Loan Application, and the remaining Commitment Fee component of 0.25% can be amortized over the Term of the Credit Facility. Renewal Fee -.25% of the mortgage balance at the renewal date. Maximum Loan to Value ratio of 75% where the property value will be based on the lower of (a) the appraised value or (b) the Income Approach to Value using stabilized / confirmed income and an appropriate capitalization (interest) rate. Funding available for renovations / property improvements which will increase the amount of the new first mortgage. Minimum Debt Service Ratio ( DSR ) of 1.2x based on a stress test and a 25-year amortization of the quoted mortgage interest rate plus 2% (not less than 7% total). Definition of the DSR, given the Non-Profit nature of the co-operatives, has been redefined to take into consideration discretionary and non-discretionary income, including, for instance, discretionary contributions to Capital Replacement Reserves. 2

3 Leasehold mortgages will be considered on an exceptional basis. To be considered for refinancing, a lease must be at least five years longer than the mortgage amortization period. The Lender reserves the rights to syndicate larger mortgage loans. 2. Q -Are there reasons, other than increasing the principal amount of the mortgage, why Section- 95 co-operatives should be considering refinancing with a conventional commercial mortgage lender? A - Yes. There are several reasons including, for instance: Co-operatives cannot refinance CMHC mortgages through CMHC s Direct Lending Program after the 35-year federal subsidy period ends; therefore an alternative financing solution is required. Reinvestment to improve the property is desirable before the expiry of the current 35-year mortgage. With the availability of additional mortgage financing, improvements can be done right away, the Co-op may benefit from economies of scale, and payments can be spread over the term of the mortgage. 3. Q - What specific criteria will a Credit Union require that a co-operative meet to qualify for a conventional multi-unit residential mortgage to replace its existing CMHC direct mortgage? A - Conventional mortgage lenders, including Credit Unions, adhere to a relatively standard set of policy guidelines related to the underwriting and approval of multi-residential mortgages. The following policies describe the broad mortgage qualification requirements and due diligence material that a co-operative will need to provide: Review of Agency Risk-Assessment Reports for the prior 3 years and a positive recommendation from CHF Canada. Financial statements and Agency financial and risk-assessment reports for the prior 3 years together with a current rent roll and financial forecasts for a minimum of 5 years or the first term of mortgage, whichever is longer. A capital reserve fund forecast is required for the entire amortization period of the new mortgage loan. Satisfactory Agency and Credit Union assessment of the quality of Property Management, including track record, expertise, procedures and knowledge of the various laws, legislation and acts. 3

4 A full narrative property appraisal, not more than 1-year old completed by an AACI accredited appraisal firm acceptable to the Credit Union. A recent (less than 1 year old) building condition report that identifies (a) significant defects and deficiencies, (b) deferred maintenance issues and estimated cost to complete, (c) building code violations, and (d) a Replacement Reserve Plan for the first five-year term of the mortgage. Confirmed adequacy of the capital replacement reserve fund to maintain the property on a going forward basis, based on the last building report completed by an engineering consultant. A Level 1 Environmental Assessment report, completed not more than 3 years prior to the expected date of funding, including the cost to remediate any problems identified. Confirmed insurance coverage for the new loan amount. Credit Union Lender to be named as Loss Payee in the respective new insurance policies. Vacancy Report confirming rate stabilized at the most recent CMHC vacancy rate for similar buildings, within the same location. Typically, a vacancy rate in excess of 5% is considered unsatisfactory. Other due diligence and documentation as may be required by individual Credit Unions related to their credit underwriting process. Agreement by the co-operative for ongoing monitoring of its financial management, and its capital replacement plan performance during the amortization period. 4. Q -Will the interest rate be at a higher rate that what is currently being charged under the CMHC program? A CMHC s Direct Lending Program uses rates that are lower than those available to other commercial borrowers. This program s interest rate will depend on prevailing market rates at the time a new conventional mortgage is approved. The loan to security value ratio The physical condition and location of the property Historical financial performance and reserves management 4

5 Debt servicing ability Historical and current management and governance of the co-operative and property. 5. Q What are other criteria for participating in this program? A The criteria for volunteer participation in the pilot are: The co-operative is a member of the funding Credit Union Administered under the CMHC Section 95 program Stable financial situation with positive cash flow In compliance with the operating agreement CHF Canada member and Agency client. CHF Canada will assume a lead communication and marketing role for this new mortgage product, including working directly with the co-operatives to prepare for the due diligence and loan application process. 6. Q - Will there be any changes required in the insurance policy coverage necessitated by a move from CMHC to a conventional mortgage with a Credit Union. A - No. Almost all of CHF Canada s 900 member co-operatives use a comprehensive commercial insurance program offered by CHF Canada in partnership with The Co-operators. The terms of this coverage is reflected in the Agency s minimum standards. These standards will continue to apply. For clarification purposes, the following coverage is required: Loss of housing charges Public liability Blanket bond or fidelity Directors and Officers liability Guaranteed replacement cost. 5

6 Current commercial insurance program coverage includes Guaranteed replacement cost. This is also important to a conventional lender Guaranteed means that the sum would be sufficient to cover the full reconstruction cost in the event of loss, even if it exceeded the policy limit. With this coverage, there is no co-insurance clause, so that the co-operative is not required to cover some portion (typically 10%) of the cost of reconstruction. Refer to the Agency s Q&A on insurance for housing co-operatives for more detailed coverage of the insurance requirements. Agency & CHF Canada 1. Q - What is the present role of The Agency for Co-operative Housing ( Agency ) as defined by the agreement between Canada Mortgage and Housing Corporation ( CMHC ) and the Agency? A Under an Agreement dated May 3, 2005, the Agency provides certain portfolio management activities in relation to CMHC funded co-operative housing programs which are broadly described as (a) safeguarding the lender s investment in the co-operative housing building assets, and (b) ensuring that public funds committed in support of program objectives are used efficiently as intended and are properly accounted for. The Agency delivers this value through performance of a wide range of monitoring, reporting and default remediation services including: Replacing CMHC as the regulatory body for some 600 federally funded housing co-operatives in PEI, Ontario, Alberta and B.C. Helping co-operatives understand their funding program(s) Ensuring compliance with co-operative operating agreements Helping co-operatives in difficulty and drafting financial workout plans for CMHC s approval Providing a service to allow co-operatives to share best practices. Note that the Agency is a co-operative whose sole member is CHF Canada. Although CHF Canada appoints all Agency directors, the Agency operates at arm s length from CHF Canada. 2. Q - What specific services does the Agency currently provide under the CMHC agreement and which of these would be carried forward under any new agreement with CHF Canada? 6

7 A The activities provided by the Agency with respect to analysis of creditwortiness and the monitoring of borrower performance will be continued by CHF Canada as part of a new service agreement between CHF Canada, the Credit Unions, and the borrower. However, the Agency s role as direct regulator on behalf of CMHC will end when a co-op s operating agreement with CMHC ends. CHF Canada will focus on balancing the basic requirements of all stakeholders, retention of services delivering significant value-added to the co-operatives and meeting the risk management requirements of Credit Unions. The following broad categories will be included in the initial list of services that will continue to be provided: Provide default prevention services. Perform physical inspections; visual every two years and full physical inspection if the visual inspection or annual compliance analysis indicates one is needed, to be performed at the co-operatives expense. Monitor replacement reserve management and expenditures. Completion of an annual information return from annual audited financial statements. Perform on-site reviews if the risk assessment of the co-operative or other indicators have raised compliance concerns, for example: a) Review the books and records b) Meet with the co-operative board, manager and/or committees c) Inspect the property of the units d) Carry out other examinations and analysis as necessary e) Complete an on-site review report for the Board. Prepare an annual report to the co-operative which includes comparative information comparing performance against the average performance of similar co-operatives. Certain other functions related to CMHC involvement become redundant concurrent with refinancing arranged with a Credit Union. 7

8 Subsidies: these co-operatives no longer receive mortgage assistance, only income tested assistance (ITA), which they receive in a bulk monthly amount and allocate among their households based on income testing. The amount is calculated based on the mortgage interest rate that a co-operative would pay under the CMHC Direct Lending Program. Low-income households in the co-op will continue to receive subsidies until the expiry of the co-op s current operating agreement with CMHC. 3. Q - Will CHF Canada assume responsibilities currently performed by the Agency for CMHC? A - Yes. At the present time, the Agency is responsible for taking actions necessary to mitigate risks to CMHC within the portfolio as well as providing default management services. These responsibilities will be assumed by CHF Canada. In addition to the risk management role, CHF Canada will consult with and advise individual cooperatives on how to qualify for conventional mortgage financing with the Credit Union and assist with the application process. 4. Q - Will the Agency continue to provide all monitoring, reporting and remedial services, currently provided under contract to CMHC, once Credit Unions replace CMHC as the mortgage lender? A - Yes. The Agency will continue to monitor and report to CMHC until a co-op s operating agreement expires. CHF Canada will negotiate an agreement with the Agency to provide similar services which will be shared, under an umbrella agreement, with Credit Unions holding cooperative housing mortgages. CHF Canada may in the future choose to take some or all of these functions in-house. 5. Q - The cost of providing Agency services is currently funded by CMHC. How will the cost of continuing these services for Credit Union mortgages be provided for, and under what administrative mechanism? A CHF Canada will negotiate a fee-for-service arrangement directly with the Agency, the cost of which will be borne by CHF Canada and funded by the mortgage borrower. The administrative mechanism to recover these user costs will be a sliding scale of upfront fees charged to co-ops on closing, based on the total amount of the new first mortgage. The percentage fee will be capped at 1% for loans over $4 million. 8

9 Housing Co-operative - Refinancing with a Credit Union 1. Q - What is the advantage of refinancing a CMHC mortgage with a Credit Union? A - Moving from CMHC to a conventional mortgage lender is an alternative to seeking secondary financing to renovate or improve the building assets. Arranging secondary financing may prove problematic for a number of reasons including, for instance: Interest rates charged for loans secured by a second mortgage on property are higher than the interest rate on a first mortgage. The debt servicing costs for an increased first mortgage would be less. Direct loans are not available from CMHC and their approval is required for a co-operative to borrow from a NHA approved secondary lender such as a Bank or Credit Union. During the term of its operating agreement, a co-operative may not charge, mortgage or otherwise encumber any part of its property unless it has prior written approval from its lender and CMHC. Lenders providing secondary financing may request CMHC mortgage insurance. While the decreased lender risk will result in a better interest rate (a) CMHC will charge a per unit application fee, even if CMHC decides not to insure the secondary loan and (b) a percentage of the mortgage premium must be paid if the loan is advanced. 2. Q - What will the total incremental cost to a co-operative be to move from a CMHC mortgage to a conventional multi-unit residential mortgage? A - An Excel based spreadsheet will be available to calculate the differential between CMHC and conventional lender financing, taking into account all variables including: Increased first mortgage amount Interest rate differential and fees Savings on higher rate secondary financing that would be required to renovate or effect needed repairs. Co-operatives may also wish to calculate the impact of self-financing major capital repairs through member housing charge increase. 9

10 3. Q - Have eligibility guidelines been established for co-operatives seeking to refinance their mortgage with a Credit Union? A - To qualify for Credit Union funded conventional mortgage financing, co-operatives will be required to meet the following minimum criteria: Be a Credit Union member or become one in the Province in which the co-operative is located Be a member of CHF Canada and where they exist, the local federation of housing co-ops Have an existing Section 95 (Pre-1986) CMHC mortgage Have a stable history of financial performance and positive cash flow Be in compliance with the CMHC project Operating Agreement. 4. Q With respect to Net Operating Revenue Policy for Section 95 ( S95 ) co-operatives, are there any potential benefits in moving from CMHC to conventional mortgage financing? A - S95 policy guidelines currently require that net operating revenue (which includes income tested assistance subsidies for low-income households) be allocated in the following order: a) To reduce or wipe out prior year operating deficits b) Added to the capital replacement reserve fund to avoid borrowing for capital repairs c) Added to the subsidy surplus fund (considered special purpose reserves (encumbered) and not to be used in the calculation of creditworthiness). While allocations (a) and (b) are the best use of surplus funds under any scenario, funds added to the subsidy fund (c) under S95 must be returned to CMHC if the balance is more than $500/unit plus interest AND if membership needs for income tested assistance decline. The end of the co-op s operating agreement, along with conventional financing, eliminates the complexity of the subsidy surplus fund management and encourages annual surpluses to insure against unexpected expenses. 5. Q -What Annual Information Return ( AIR ) information will a new lender focus on as part of their initial mortgage loan underwriting process and periodic reviews? 10

11 A - Credit Union lenders will focus on the same financial information and analysis that CMHC requires. This includes, but is not limited to, liquidity and net income financial ratios, management of reserves and reserve adequacy and spending to maintain the property. 6. Q - After CMHC is no longer involved, will an AIR and a visual inspection every two years still be required? A - Yes. Following discussions with selected Credit Unions and the Agency, it was decided that the AIR, which is filed with the Agency by each co-operative, and regular physical inspections, are excellent management tools. The AIR provides critical information for both the co-operatives boards as well as lenders, to analyze and assess co-operative risk levels and respond proactively to changes in risk levels. 7. Q -How will the AIR information and more importantly, the Annual Risk Rating affect the interest rate charged by a Credit Union lender? A - Credit Union lenders establish mortgage interest rates at a level based on their cost of funds for the term requested plus a risk premium appropriate to the borrower s financial circumstances and the condition of the property. A lender will conduct its own thorough due diligence and the AIR will be taken into consideration as part of the underwriting process. The AIR composite risk rating will provide the recognition the co-operative deserves when it is operating well. 8. Q -What degree of confidentiality will exist between Credit Union lenders, the Agency and CHF Canada relating to the sharing of information? A - The existing Confidentiality and Access to Information policies of the Agency and CHF Canada will continue to apply. The Consent to Share Information for authorizing the Agency to share information will be modified to include Credit Union lenders. As is the case now, the consent form does not and will not authorize sharing of any personal information about individuals. Credit Union Lender 1. Q -What is the opportunity for Credit Unions to provide multi-unit residential mortgage financing to Section 95 co-operatives. A - CHF Canada, the national association of approximately 900 housing co-operatives (58,000 homes) outside Quebec, provides the following statistics: 11

12 2/3rds of the 900 housing co-operatives are located in Ontario 80% of Canadian housing co-operatives are CHF Canada members 95% of Ontario housing co-operatives are CHF Canada members A large percentage of these were financed in the 1980 s under 30 to 35 year operating agreements and mortgages with five-year terms A small number have been transferred to provincial jurisdiction however 90% remain with the federal government The majority of these are direct financed by CMHC and have already passed the 25-year mark CHF Canada estimates the Canadian Section-95 mortgage portfolio balance at $1.0 billion of which $600 million is under Agency administration. This amount, inclusive of new funds for expansion and renovation, could reasonably increase to the $3.0 to $4.0 billion level within a few years. The Credit Union s opportunity is based on the need for large capital reinvestment in many properties to fund renovation and improvement projects. Since CMHC is receptive to being paid out, Credit Unions have the opportunity to provide increased first mortgage loans to financially stable and well managed co-operatives. 2. Q Co-operatives with CMHC mortgages benefit from a considerable range of monitoring and corrective action services provided by the Agency and CHF Canada. Will these risk mitigating services be withdrawn if a CMHC mortgage is repaid, potentially increasing the risk profile of the borrower from the perspective of a new conventional lender? A - The value of the Agency and CHF Canada s contribution to success of the co-operatives is significant and their continued role will be viewed as a material value-add by Credit Unions and other conventional multi-unit residential lenders. This document provides a preliminary range of Agency and CHF Canada functions that can be legally and practically carried forward once a CMHC mortgage is repaid and the Operating Agreement is extinguished. Further work is required to refine the roles and responsibilities of the various stakeholders that would result in a net benefit to the co-operative. CHF Canada recommends that Credit Unions adopt the maximum content, conditions and monitoring requirements as legally possible into the mortgage covenants. A Schedule to the main mortgage document seems practical. 12

13 3. Q -What important requirements of Section 95 co-operatives are there that Credit Unions should be aware of that will fall away under non-cmhc conventional mortgage financing. A - Firstly, while the Section 95 policies and the CHMC operating agreement will become redundant at the date of expiry of the co-operative s existing operating agreement, co-operatives will be required to follow the provincial laws and regulations that govern how co-operatives lease housing units. A copy of the Policy Guidelines in Plain Language for Section 95 co-operatives (Pre-1986) is attached for reference purposes. The guidelines provide generic coverage of standard management, governance, administration, occupancy agreements and reporting procedures. In addition, certain of the Section 95 rules and policy guidelines administered by the Agency are excellent. Although the Agency would no longer have the authority to take corrective action, they will monitor and report unacceptable conditions observed to CHF Canada which will communicate with the Credit Union as appropriate: Clause 2.3 Poor Management if the co-operative is not maintaining and repairing the buildings to a professional management that standard that would reduce operating risk below acceptable levels, the Agency can require the co-operative to make changes to management. Clause 2.6 Weak Governance If the Agency believes that the co-operative is not meeting governance standards, the co-operative may be asked to (a) get training for board members (b) require directors to resign if they are in breach of their duty (c) hold elections for new directors to fill vacancies on the board and/or (d) appoint temporary directors from outside the co-operative. Section 10.0 Replacement Reserve Presently, the co-operative must maintain a replacement reserve fund to replace or make all major repairs to capital items. Conventional lenders will require a capital replacement plan that is reviewed annually to ensure adequate funding since the annual contribution will have a direct impact on the budget and occupancy charges. Credit Union lenders may stipulate for higher reserves for capital expenditures that will impact debt service coverage. 4. Q -Does Federal Assistance per Section 12.0 of Section 95 policy guidelines continue if the CMHC loan is paid out? Clause 12.3 records that if there is no loan, the assistance is based on a 35-year period or on the useful life of the buildings if less than 35 years. 13

14 A - When Section 95 co-operatives were built they received two types of subsidy. One was an overall mortgage subsidy and the other was income tested assistance for low-income households. The overall mortgage subsidy was planned to decline (no longer needed) as time passed ( stepped out ) and revised downward at the end of each five year term. At this point in the life cycle Section 95 co-operatives, all federal assistance is used for income-tested assistance. 5. Q -Does Federal Assistance per Section 13.5 of Section 95 policy guidelines continue if the CMHC loan is paid out? Specifically, does Income-Tested Assistance (ITA) used to bridge the gap between the regular occupancy charge and the amount being paid by income-tested occupants continue? A - Co-operatives will continue to receive ITA, calculated based on their Direct Lending Rate, adjusted at the end of each five-year term, until the stipulated end of the current operating agreement, which is invariably the same period as the current first mortgage. For purposes of calculating co-operative financial coverage and other ratios, Credit Unions will take into account that ITA will at some stage disappear and the co-operative will have to seek alternative sources or make up the difference within their operating budget. 6. Q -What is the purpose of the Operating Agreement between the co-operative and CMHC and will it be extinguished once a co-operative refinances with a conventional mortgage lender and the existing CMHC mortgage is repaid? A - The Operating Agreement between the co-operative and CMHC, sets out how the co-operative must operate to obtain financial assistance under the National Housing Act ( NHA ). The Operating Agreement is in effect from the interest adjustment date which is the first day of the first month of the original first mortgage up to a maximum of 35 years or the useful life of the buildings. It does not expire earlier, even if the CMHC mortgage is prepaid using this refinancing instrument. 7. Q -Will Credit Unions be able to access the Agency s Co-op Data Reports to acquire comparative information from the consolidated AIR reports that would be useful for the credit underwriting and review processes? For example: Key ratios Vacancy loss Local area vacancy rates Arrears and Bad debts 14

15 Maintenance Spending as a percentage of Operating Costs Maintenance Spending per Unit Replacement Reserve Balance and Contributions Energy Costs Water and Sewage charges Administrative Spending Housing Charges as compared to market A - Yes. Arrangements will be made for Credit Unions to access co-operative data reports. 8. Q - What is the extent of the building inspection that is performed every two years and the qualifications of the firm or individual that conducts the inspection? A - The Agency has signed a contract with a professional inspection firm and trained the inspectors in the use of Agency inspection form, a copy of which will be provided for Credit Union (lender) approval. 9. Q - Can the physical condition report replace the thorough building condition assessment that forms the basis of the replacement reserve plan? A - No. A building condition assessment is not meant to replace, only augment a detailed capital reserve plan. Calculation of the Replacement Reserve Fund is based on the Building Conditions Report. The Capital Replacement Plan is constructed based on the results, which requires Agency approval which the co-operative then adheres to in funding its Replacement Reserve Fund. Assistance in the development, and ongoing monitoring of funding and expenditures according to the co-operative s Capital Replacement Plan will be provided by CHF Canada as part of its agreement with the co-operative in support of the refinancing. Copyright 2012 Co operative Housing Federation of Canada. All Rights Reserved. 15