Starwood Acquires LIHTC Portfolio

Did anyone work on this transaction or have friends who did? Press release says they expect double digit coc yield. How is that possible on a cash flow constrained asset like a LIHTC portfolio? What did the debt or rent escalation assumptions look like, or how could you engineer something to hit double digit cash yield at the LP level?

Comments (32)

Jan 16, 2018

Looks like they bought this portfolio through their mortgage reit so there shouldn't be any dilution to their returns from a partnership waterfall.

Answer to your question is interest-only debt. Not familiar with cap rates for low income deals in florida, but when you can get (relatively) high-leverage debt at/below 4% interest-only, they don't need to be that high to get you to double digit cash on cash.

Jan 17, 2018

Besides interest only leverage, they bought in cheap- after all the tax credits had been disbursed and the compliance period was over, this is generally when the previous partners want out and the administrative/maintainenance cost are at an absolute minimum

Jan 17, 2018

Compliance is 10 or 15 years, correct?

So they would buy-in, say year 10, reapply in year 16, get the fees tax credit proceeds, as well as improve inefficiencies?

All this on top of extremely cheap debt?

Jan 17, 2018

15 year compliance period where you're monitored and then 15 years after where you are trusted to maintain affordable housing rents. So essentially the regulatory cost burden is lifted after year 15 but you can't convert to market until year 30. A lot of investors look to exit at year 10/15

Jan 17, 2018

I used to work at a LIHTC syndicator, but it's been a few years so maybe I'm a little rusty. I thought that in year 16 you could apply for 4% tax credits?

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Jan 17, 2018

okay... could you breakdown how they could structurally achieve double digit CASH yield? I'm still not making it work in my head...

Jan 17, 2018

Sure, so the portfolio was purchased for 563.5M. Say they got it at a 8% cap rate and we're able to raise the noi from around 45m to 50m. At 4% interest only loan at 70% loan to value you land on a 20% cash on cash return

Jan 17, 2018

I was playing around with the numbers and it emphasizes bolo's original point. If they buy at an 8% cap rate with 80% LTV at 4% I/O they make 24% cash on cash with no NOI improvement

Jan 17, 2018

But these are LIHTC properties. Isn't the cash after debt inherently low? If LIHTC properties were trading at 8 caps, there would be none left on the market.

Anyone purchasing LIHTC properties currently in their compliance period who knows what caps they trade at, or what the game plan is when analyzing a purchase of one?

Jan 17, 2018

They said double digit returns, so technically a 10% return would qualify this. It's not hard to see how the numbers could work out. At a 6% cap at 80% ltv and 5% IO it's a 10% cash on cash return

Jan 17, 2018

Hm, I see... what is a quick backhand formula or train of thought for eye balling the cap rate, interest rate, and determining the coc yield? Because of the LTV, do you basically take the cap rate, shave some off the interest rate, and then add the two to come out to ~ 10-11% (6% cap +5% r)?

Jan 17, 2018

I just did it in excel. Used cap rate to find noi, used ltv to find loan amount and then minuses io payment from noi. Divided noi after debt service by initial equity.

Assume cap rates range from 4.5-8%
Assume IO interest rates range from 4-5.5%
Assume ltv's range from 60-80%

Best Response
Jan 18, 2018

You need three things to calculate cash on cash return:

  1. Cap rate - Obviously NOI/Value
  2. Debt Constant - Annual Debt Service/Loan Amount (for interest only debt, it's the same as the interest rate, for partially or fully amortizing debt, it's higher)
  3. Leverage Ratio - Value/Equity or 1/(1-LTV)

So you take the difference between the cap rate and the debt constant and multiply that by the leverage ratio. Then you add the debt constant to get the CoC return.

This example: CoC = (1/(1-.8)) * (6%-5%) + 5% = 5(1%) + 5% = 10%

    • 4
Jan 25, 2018

Cap Rate = 6%
LTV = 80%
Debt Constant = 5%

(NOI - DS) / Equity
which is basically
(Value * Cap Rate - Value * LTV * Debt Constant) / Value * (1-LTV)
simplified to
(6% - 0.8*(5%)) / (0.2) = 10% CoC

Feb 16, 2018

this is a more realistic cap rate in today's environment... I had looked at a LIHTC portfolio in SLC in 2016 and traditionally they were trading at 7.0% or higher but the Seller was pulling for a 6.0% because of how expensive MF got... it's pretty ridiculous but this product has typically low turnover compared to a MF turnover of 50.0% or higher per annum.

Jan 17, 2018

.

Jan 25, 2018

You can convert LIHTC to market-rate earlier than year 30 (compliance periods differ by state, but most are the standard 30 years) by applying for the Qualified Contract (QC) process in year 14, though some states forbid you from doing so (like California, which barred QCs and has the initial 15 years of restriction then another 40 years for a total of 55 years of strictly LIHTC).

The QC price is calculated by:
(a) The sum of the outstanding indebtedness secured by the building;
(d) Estimate of Land Value and Market Rate Units;
(b) The adjusted investor equity in the building; and
(c) Other capital contributions not reflected in the amounts above, and reduced by cash distributions from the Development.

There's some wiggle room in calculating the final price. The housing agency will list your apt for one year at the QC price. If there's no buyers, then you can start the process in converting your apts to market-rate.

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Jan 17, 2018

I worked with the parties to this transaction. The LIHTC properties individually were not as cash constrained as you would think. The majority of the upside is the tax liability and the efficiency of management fees, payroll and G&A that streamlined the properties and drove the cash flow.

The rent escalation was determined for each property and contained within each respective LURA but most were guaranteed 2-5% per XX term. Additionally, a few even had automatic extensions for an additional 15 years that again provided significant upside to the individual asset and the portfolio.

Debt service assumptions are due in part to the great work between HFF and Freddie Mac.

Jan 17, 2018

I see. lol what great work between HFF and FM? Moving numbers around on a piece of paper and sweating the small stuff?

Jan 17, 2018

lol. You must be a broker, or at least never worked for a lender. But a lending on a 28 asset LIHTC portfolio (many with multiple LURA's from different cities/counties on title) is a little more than involved "moving numbers around on a piece of paper"

    • 1
Jan 17, 2018

HFF's Freddie Mac relationship director has significant pull, he has helped us close on some deals in the south central region -- without his assistance the deals would have been dead on arrival.

Jan 17, 2018

Please expand on how involved it gets...

Jan 17, 2018

Easy example: Legal

Its common for LIHTC deals to have multiple LURA's (e.g. FHFC, city/county, SAIL, etc). Just working to get the necessary loan doc mod's/riders from Freddie, and then standstills/subordination agreements/transfer approvals/etc from each regulatory authority is pretty involved

Jan 17, 2018

Ditto, plus the leverage of racking and stacking the entire portfolio provides the hard data you need for negotiation of the terms/agreements. Again, significant upside when the deal is large like this one for comparable asset types.

Jan 29, 2018

Can someone explain what a LURA is?