HUD Revises the 242/223(f) Program to Allow Debt Refinancing By: Mike Stigler

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HUD Revises the 242/223(f) Program to Allow Debt Refinancing By: Mike Stigler

The Department of Housing and Urban Development (HUD) issued a revision to the National Housing Act Section 242 to allow Hospitals to use the program for refinancing existing debt. The revision is effective for the period July 1, 2009 through July 31, 2010 and HUD has indicated that they will be publishing a rule that proposes to amend the regulations as a permanent component of the Program. The HUD 242 mortgage insurance program provides most hospitals the opportunity to issue up to “AAA” rated debt, which can result in substantial debt-service savings by enhancing the credit worthiness of the debt and lowering the interest rate required by the investor.

The HUD program has historically required 20% of the bond proceeds from a HUD 242 insured issue be used for new construction. Hospitals have been reluctant to utilize the program due to the restrictions and regulations imposed by the underwriting guidelines and because of the availability of alternative means of credit enhancement. HUD has also been reluctant to allow the program to be used for refinancing as they have felt that private capital was sufficiently available to assist hospitals refinance debt obligations.

Since September 2008, several factors have made access to cost-effective capital difficult:

1. Letters of Credit – most regional and national letter-of-credit banks have experienced financial difficulties which have lowered the banks own credit rating. Banks that have maintained their A or AA ratings have increased the LOC fees to a level that does not make the credit enhancement cost effective. In many cases LOC’s have not been renewed at expiration and hospitals have had to seek other options.

2. Bond Insurance – the downgrades of most bond insurance providers have eliminated bond insurance as a credit enhancement for fixed-rate tax-exempt debt.

3. Auction Rate Debt – hospitals that issued auction rate debt, backed by a letter of credit to enhance the quality of the debt for attracting purchasers, have found the market for these debt obligations either frozen with no bids or highly volatile.
Program benefits and features

The HUD 242 program allows both for-profit and non-profit hospitals to issue “non-recourse” debt that has a credit rating that is attractive to risk adverse investors. This credit enhancement can result in a substantial reduction to the interest rate required by investors. With the risk created by the downgrade of regional and national banks and the collapse of the bond insurance market, the HUD 242 program provides the hospital with the assurance that their credit enhancement methodology is both renewable and reliable. An annual 0.5% Mortgage Insurance Premium is paid on the outstanding debt covered by the guarantee.

Hospitals have been reluctant to utilize the HUD 242 program due to the protracted period required to achieve approval by HUD. In 2008 the Agency initiated a redesign of their processes to adopt a “Lean Process Model” to accelerate the timeline for approvals.

Projects must also provide a mortgage on the property that is being financed and a pledge of the hospitals revenues. In addition, hospitals must maintain a debt service reserve fund.

With the limited availability of credit enhancement tools and the complications created by the economic downturn, the HUD 242 program may provide a cost-effective method to refinance existing debt and access the municipal and private markets.

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