The first half of fiscal 2007 produced significantly fewer Federal Housing Administation (FHA) loans than a year earlier, as the agency continues to focus on niche areas to offset its shrinking basic lending activity.

In basic FHA lending activity from October 2006 to May 15, 2007, the agency insured 482 loans for $2.33 billion, a 35 percent decline from the $3.56 billion it helped finance in the year earlier period.

Refinancing activity, which drove last year’s volume, fell nearly 45 percent, to $1.44 billion from $2.61 billion. The number of loans fell 34 percent to 393 (which financed 37,976 units), from 591 loans and 62,869 units.

The FHA continues to lose market share to a variety of aggressive capital providers. “They’re struggling,” said Mark Ragsdale, senior vice president of originations at PNC MultiFamily Capital. “There’s still a great role for them, and they still have great programs; they just have to work on their execution.”

The shrinking volume has forced the FHA to focus on niche programs like seniors housing and healthcare to offset the losses. Some products the agency offers are the best in their class, lenders say, such as the Sec. 232 program, which provides mortgage insurance for new construction, substantial rehabilitation, or acquisition of nursing homes, intermediate care, board and care, and assisted-living facilities.

But FHA processes, such as the Active Partners Performance System (APPS), also referred to as the 2530 system, are in dire need of correction, industry watchers say.

“They have to compete a little better if they want to see their volume numbers come up and that’s not because their terms aren’t still very good,” said Ragsdale. “They’re going to have to compete in terms of process, and get this 2530 thing worked out better.”

Grappling with APPS

Congress has passed legislation to address an overly complicated documentation requirement in APPS regarding passive investors in low-income housing tax credits (LIHTCs), as well as to allow paper processing as an alternative to the electronic mandate.

The Department of Housing and Urban Development (HUD) currently requires deal participants to disclose and certify their past performance in multifamily mortgage insurance programs, to show their history of meeting financial and legal obligations. This has meant that all passive investors in tax credit deals were required to fill out “previous participation clearance applications,” a stringent and lengthy process requiring sworn statements and personal details from all of a company’s principals.

“Sometimes there might be thousands of people built into some syndication, maybe an insurance company or a national bank, and for them to have their president and vice presidents and CEO and COO give sworn statements, it’s kind of ludicrous,” said Thom Cooley, a vice president responsible for FHA lending at ARCS Commercial Mortgage, which recently agreed to be purchased by PNC Financial Services Group, Inc.

The strict requirements made many companies think twice about investing in FHA multifamily properties, with investors increasingly telling tax credit developers to stay away from FHA financing. “A number of people simply won’t do FHA because the 2530 system is simply too cumbersome,” said Cooley.

Industry groups like the Mortgage Bankers Association (MBA) and the National Multi Housing Council have lobbied HUD to correct some of the more egregious aspects of the 2530 system since its inception, with little luck.

So they took the fight to Capitol Hill, where in May both houses of Congress passed H.R. 1675, the Preservation Approval Process Improvement Act of 2007. The Act suspends filing requirements for passive investors in LIHTCs until HUD meets certain requirements in upgrading the system. At press time, the Act had been sent to the White House and was awaiting the president’s signature.

The Act also eliminates the requirement that all firms electronically report prior performance, and instead allows paper forms to be processed.

“There’s no question that eventually we need to get to an electronic system. But what HUD has in place now is not working,” said Cheryl Malloy, senior vice president, multifamily and governance, for the Mortgage Bankers Association. “And until they can work it out, and until it is a more expeditious approval than going paper, we want to be able to go with paper.”

MIP increase proposed

The mortgage industry is gearing up for a familiar fight on Capitol Hill as HUD has once again included a proposal in its 2008 budget to increase the mortgage insurance premium (MIP) on most FHA multifamily programs.

The proposal to raise the MIP 16 points, from 45 to 61 basis points, exempts nursing homes and hospitals this year. Affected programs include the Secs. 221(d)4, 223(f) and 223(a)7 programs.

While this year’s proposed increase is only half the size of last year’s 32-point proposal, “it’s still too high,” said Malloy. “We are very concerned that if it does go into effect, [the FHA] will lose a huge percentage of their business, somewhere in the 40 percent range.”

Last year’s proposal was defeated after 121 members of Congress signed a letter asking for the increase not to be imposed. Malloy had already gathered signatures from 38 senators at press time, and had begun circulating the letter in the House of Representatives for additional signatures. The House Financial Services Committee already is on record opposing the premium increase.

The MBA is cautiously optimistic that this year will follow last year’s script, and that the proposed increase will be defeated.

MAP adds Sec. 231

Furthering the FHA’s focus on niche areas, the Sec. 231 program, which provides mortgage insurance for the construction or substantial rehabilitation of elderlyonly rental housing, was added to the multifamily accelerated processing (MAP) program in March.

Sec. 231 had seen little use in recent years, ever since the Sec. 221 statute was amended to permit housing for elderly families with children. Sec. 221 was favored by lenders and developers since it provided the same loan ratios as the Sec. 231 program and was already part of MAP, which meant deals using the Sec. 221 program could get processed much quicker.

The FHA revived the Sec. 231 program in response to requests from developers dealing with local occupancy restrictions on apartments. Sec. 221 requires that only one renter be at least 62 years old, allowing children in the household. But Sec. 231 allows rental only to seniors, a critical distinction when a developer is looking to develop elderly housing in markets where local zoning will not permit nonage- restricted properties. Plus, Sec. 221 doesn’t provide for some of the limited services like housekeeping that Sec. 231 allows, so it can’t be used to fund projects where these features are necessary.

But the Sec. 231 program needs more tweaking to help bridge the gap between FHA products that provide for seniors apartments and those that offer assistedliving services, including nursing homes. “There is a serious gap between an apartment complex and housing for people who need assistance with activities of daily life, [such as] older folks who don’t need close care, but might need to take one meal a day in a communal space,” Cooley said.

With Sec. 221 serving elderly families with children, and Sec. 232 providing for board and care facilities up to intense nursing care, the Sec. 231 program could fill the gap between the two—providing for facilities with more amenities aimed at those elderly people who only need a limited amount of care. “That would give us a bridge,” Cooley said.

The inclusion of Sec. 231 allows MAP lenders to get appraisals and complete due diligence on a property before the FHA looks at the package, “and that will of course speed things up,” said Cooley. “But it still begs the question: What do you do for the elderly person who needs a site with physical amenities that you can’t have unless you move into a board and care facility?”