Affordable housing profitability as a strategy

Real high level question here. Seen a lot of AH funds around run by people with pretty impressive backgrounds. Just curious as to your guys thoughts on the profitability of these strategies as I'm not familiar with them. Part of me thinks it's a good model because of all the government subsidies that tend to be attached to them. The other part of me thinks they're probably not the best as it's more of a social service first, and a profit seeking venture distant second (nothing wrong with that if it's what you're looking for).

Any thoughts? Legit niche within RE where there's money to be made, or mostly altruistic people out to save the world? My gut instinct says the latter but was curious to your guys' thoughts. Thanks.

P.S.- From a purely economic POV, I'm definitely long AH but that's a different discussion.

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Comments (16)

Jun 28, 2016 - 1:57pm

The people who make real money in the AH game are the firms that are truly "full service" and have construction, property management, and development capabilities. The properties themselves don't throw off a lot of cash (one notable exception would be section 8 properties) so most of the profits come from fees relating to management or construction. Operationally they are a pain as you have to deal with a lot of compliance issues stemming from the tax credit side of the deals.

Really the world of AH is split into two groups:

1.) True for-profit developers that are usually vertically integrated as I mentioned above. These shops can make tons of money basically acting as large scale slum lords. They can still offer nice units, but the demographic will always be very rough around the edges and the properties themselves will not be in ideal locations. The sale of the stream of tax credits can be incredibly lucrative and if the have a large portfolio of Section 8 properties the cash flow can be substantial as well. The big $$$ pop will be the developer fee than pays out over the course of construction and lease up.

2.) Not-for-Profit companies are also very active in this space and depending on the market can be more prevalent than for-profit developers. Not surprisingly, these groups are usually much less sophisticated and not focused on making money. Construction and property management are usually bid out to 3rd parties and the target tenant usually is tied into some kind of local charity. As these developers are usually much less sophisticated they are often a pain to work with and require a lot of hand holding.

Best Response
Jun 28, 2016 - 5:43pm

As a former affordable housing underwriter, I'd say that affordable housing is 1% altruism, 99% profit, regardless of the firm, how it's incorporated, or what their literature says. In each large city or metropolitan area there are a few firms that specialize in affordable housing. The government has made the process very complicated, so your value-add as a firm can be your expertise in the industry--how to win tax credits, what lenders to use, what appraisers to use, what subs, how much money can be made on each deal, etc. For these guys, their primary profit is taking an above-market developer fee (which is counter-intuitive since the program/government specifically limits the developer fee, so the developer doesn't go to the "market"--it goes to the highest legally allowed absolute number (I think it's like $2 million right now), which is often higher than a market developer fee). The developer makes its money and hires a third party property management firm that specializes in tax credit property management. Throughout the process there are appraisers, lenders, consultants, attorneys, accountants, etc. who specialize in tax credits and/or affordable housing.

Remember, regardless if the firm is for-profit or not-for-profit, whether it's AH development, property management, appraisal, law, accounting, etc., at least the top 2 or 3 guys at the firm are making a lot of money. Ultimately, that's what matters to these AH people. Altruism? Ha!

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Jun 29, 2016 - 11:45am
Virginia Tech 4ever:

Well, the point remains--it's a profit making center and has almost nothing to do with altruism.

If I've been understanding everyone correctly, it seems like the lucrative side of AH is in ground-up development. How would something like this work though? Buying expiring AH properties to keep them affordable, and after purchase pouring millions into renovations. What I don't understand is a) you can't raise rents, and b) people with rent subsidies never leave. So how would those costs possibly be justified in a "for-profit" manner? I get the profit in the development side, but something like that seems equally common in the AH space.

Jun 29, 2016 - 12:42pm

Both ground up developments and acquisition rehabs can be extremely profitable. The money you put into the development/renovations at the property are offset by tax credits provided by the government. These tax credits are then purchased by tax credit syndicators or other similar groups. For either project type the developer/sponsor still receives their sizable fee. AH deals are usually loaded with debt including "soft loans" which may never be repaid. Novogradac is a great resource for more information on AH.

Jun 29, 2016 - 12:49pm

PickleMonkey basically said it. Put simply, the developer puts virtually no money into the deal since tax credit equity is the cash equity that is put into the deal. So the deal doesn't need to be profitable--it just needs to cover its debt service.

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Jun 29, 2016 - 1:04pm

Thanks for all replies guys. Didn't intend for this to turn into an AH/LIHTC primer so I'll leave it there instead of trying to figure out how it all works. Just wanted to get a sense of if this is basically a charity case or a legit, profit business where money can be made competitively to the market realm. Consensus seem to be the latter. Thanks again.

Jun 29, 2016 - 1:56pm
WSO54321:

Didn't intend for this to turn into an AH/LIHTC primer so I'll leave it there instead of trying to figure out how it all works.

On the contrary, please continue posting, everyone. This thread is solid.

WSO54321:
Just wanted to get a sense of if this is basically a charity case or a legit, profit business where money can be made competitively to the market realm. Consensus seem to be the latter. Thanks again.

I know an company owner who does workforce housing acquisition rehabs and have a classmates who is interning for a big LIHTC company. Both are equally genuine in their desire to "help" AND to make a killing and see what they do as a perfect intersection of the two.

The company owner mixes in a percent of workforce housing (so not low income/section 8 but not market) alongside market rate housing and he'll be the first to tell you the social benefits of it. Poor kids grow up far more successful if they grow up among positive influences instead of in the slums with drugs and gangs and violence. Plus, people in workforce housing aren't "welfare rats" - they're the legitimate "working poor" in cities - cops, teachers, firefighters, social workers, etc. that provide a social benefit but aren't always compensated highly for it. Anyhow, this guy also lives in a mansion and drives a Bentley, so he's obviously about that life too, but this is his way of "giving to charity" or whatnot.

My classmate is a good dude with a heart of gold who grew up in low income housing. He'll be the first to tell you it sucked. His motivation is to "do it right" while also never going back to it himself.

I don't think it's as cut and dry as making LIHTC people out to be cold, heartless, and all about the money. I'm sure there are slumlords, but I also know there are other people out there who genuinely care about the type of tenants who live in these kind of arrangements but are intelligent and driven enough to actually do something positive about it and not condemn themselves to poverty as a "community organizer" or an "Occupy ______" type person.

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Jul 1, 2016 - 12:17am

All I got from this thread so far is...

  1. If you learn taxes right, you can get a lot of good clients.

  2. Money has to be made or people would not go into such endeavors (such as AH).

  3. Become a slumlord and profit! (joking).

I have lived in a low-income neighborhood growing up for 18 or so odd years, it's terrible. You hear gunshots almost every night across or down the street you live on. I've witnessed people pulling their guns out to shoot at each other, and we have had a few shootouts via police officers in the neighborhood too. I had always despise the fact that the owner never took full responsibility for a lot of things happening to the building, and he was fined (quite a lot of money) for violating certain structure city codes.

At the end of the day? The guy was raking in close to 500k per year owning a few apartment communities.

Damn it.

Jul 1, 2016 - 12:45am

As everyone as highlighted here, you can definitely make money in that space. I believe section 8 is more profitable, due to the ability to mark to market, so theoretically you could have a section 8 prop in an infill location and the gov would subsidize rents. But that's just what I hear, I've never done one myself and only even looked at 2-3.

Jul 1, 2016 - 1:06am

In absolute dollars, Section 8 is more profitable. In relative dollars, LIHTC is more profitable. With Section 8 property owners can actually create a profitable business model. With LIHTC, however, the developer makes most of his money from the developer fee (with no "expectation" of making anything else), so what's the return of, say, a $1 million developer fee on $0 invested? Infinity. (Although the developer is probably putting up some money upfront to bid on the tax credits, but assuming he wins those tax credits, he'll capitalize the soft costs into the project.)

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Jul 1, 2016 - 12:19pm

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