By Katrina Kernodle

Whether financing a road or a neighborhood development, securing capital to complete the project is one of the first steps in turning an idea into a reality. During the 1980s and 1990s, many developers of senior housing projects saw an idea through to completion. Like westward bound prospective goldminers of the 1800s, hopeful developers latched onto the bandwagon knowing that the elderly population exists and looking for the right strategies to create a success. Financing that mission is a risk that many are willing to take.

Commercial Banks: Commercial banks represent the most prevalent source of financing for senior housing. Banks supercede the federal government in terms of being the greatest source of funds for senior housing development. Due to an established background in the acute care business, banks place weight on an operator's experience and put a high premium on this underwriting component. Banks offer term loans and construction loans. As opposed to lending on a project-by-project basis (project specific lenders), banks tend to compete extensively for the business of certain operators. A few disadvantages of commercial banks include the shorter terms that often accompany bank loans; higher interest rates; and the fact that lenders have recourse to borrowers in case of default.

The U.S. Department of Housing and Urban Development (HUD): HUD is the dominant government source of capital in financing for senior housing. Senior facilities and communities first began to be acknowledged as socially and economically viable in the 1960s. Since that time, HUD has served as lender for both construction and permanent loans. HUD is recognized for its favorable lending terms, including 35- or 40-year terms and amortization. Additionally, HUD provides nonrecourse financing, up to 85% or 95% loan-to-value, at favorable interest rates.

Initial Public Offerings (IPOs): IPOs became actively advantageous in the senior housing industry in the mid-1990s. Many nursing home and assisted living companies began taking advantage of inexpensive capital from Wall Street during the largest "bull market" in history. In particular, assisted living companies benefited by going IPO because they are not regulated, are less-medically intensive, and are not bound by legal constraints, as are nursing homes.

However, there are risks. "One and a half years ago, everyone was going IPO, but today the IPO market is slow. Companies should go IPO when they are making money, but people were banking on projections and a strong economy," observed Kristin Martell, Account Executive at KG Communications. She furthered that, although high-tech and telecommunications have been particularly hard hit, "…industries across the board have taken a punch."

Health Care Real Estate Investment Trusts (REITs): Generally, REITs are geared towards the long-term capital market. Like commercial banks and Wall Street financing, REITs tend to fund individual operators rather than project specific funding. Furthermore, REITs, which originally worked with nursing homes, now invest in assisted living and congregate care. REITs were founded in the mid- to late 1980s and early 1990s to provide capital to an industry greatly in need of liquidity. Generally, REITs follow a sale/leaseback arrangement, but they may offer permanent mortgage loans in some circumstances. REITs maintain a competitive edge with other capital providers primarily due to internal expertise and the required management knowledge.

Senior Housing Properties Trust (SHPT) is a real estate investment trust (REIT) that deals exclusively in senior living properties. Among the firm's tenants are fourteen Marriott International senior housing properties. (SHPT's Marriott properties account for 55% of their tenant investments. The firm has over eighty properties, in about 25 states across the U.S., that offer housing options for the elderly at various stages of independence.) According to an SHPT representative, investors, when considering a facility, regard "…earnings and assets, as well as the yield as some primary factors. Other important considerations include good management, invested grade-rated (Five-Star or Triple A-rated) facilities, and solid real estate value."

Insurance Companies: One of the primary advantages of insurance companies is the long-term financing. Insurance companies provide specific senior long-term take-out financing that is typically nonrecourse. However, financing is usually only available to existing developments with an established operating history. The minimum loan requirement for most insurance companies starts at about $43 million. Insurance companies loan only to a certain niche--aiding in providing capital for assisted living and congregate care facilities or a combination of both types. However, insurance company loans are not given to freestanding nursing homes.

Credit Companies: As with insurance companies, credit companies have embraced assisted living and congregate care, although their participation is limited. Multiple investment models supply institutional lenders with financing options such as a one-office approach, a regional office approach and a home office approach. Gaining momentum in the early 1990s, successful institutions that developed a significant market share have done so by setting up individual business units.

Securities (Tax-Exempt Bonds): Public entities often are the source of tax-exempt bond financing. If certain requirements are met, public agencies can issue nonprofit 501(c)(3) bonds or for-profit residential rental bonds. Terms may range from one week to thirty years. Rates of tax-exempt bonds vary from 5.5% to 7.5%, including enhancements (a letter of credit from a bank in the event of failure to make debt payments on a timely basis). Although, these offer the lowest interest rates available, there are several disadvantages including rental restrictions, high transaction costs, state limits (for profit), and the necessity for a public issuer.

Types of Loans within Senior Housing Financing

As discussed in the previous section, there are numerous sources of funding senior housing; however, the loans types may differ. Three basic loan types provide the necessary capital to finance senior facilities and communities.

Among the types of long term loans include:

• A first mortgage/term loan--these have fixed rates for permanent mortgage loans. Commercial banks, HUD, insurance companies and conduits utilize this loan structure.
• Construction/permanent mortgage loans--this type of loan transaction is undertaken by commercial banks, HUD, insurance companies, REITs and credit companies.
• Sale/leaseback--REITs are the primary source for this type of financial arrangement.

'Is senior housing a service business or a real estate endeavor?' This question is one of the most common concerns of lenders considering financing a project in the senior housing industry. However, it is difficult to strictly define senior housing as one or the other category. Hence, senior developments typically are viewed as real estate deals with a heavy service component or service businesses with a heavy real estate component.

Underwriters find senior housing appealing on many counts. Although future industry projections are attractive, other factors, primarily the virtually inherent stability of senior housing, are equally important to those providing capital upfront. Aside from the fact that an increasing elderly population bolsters the senior housing market, income stability of senior housing can be anticipated to be greater than other residential properties because seniors' properties tend to be better maintained. Furthermore, residents are less likely to move. Senior housing developments are financed either as existing facilities or to-be-built facilities. Some underwriters will finance only one or the other.

One such example of a company that finances only existing facilities is Fannie Mae, the largest non-bank financial services company in the world as well as the largest source of financing home mortgages in the U.S. Fannie Mae's mission, according to Caroline Chamberlain, Account Executive in Fannie Mae's Multifamily Lending and Investment Department, is to provide the opportunity of home ownership. In transactions with borrowers, Fannie Mae has teamed up with private firms and mortgage companies as well as having developed public-private partnerships. One of Fannie Mae's programs provides financial assistance to publicly funded (by HUD) senior facilities. The U.S. Department of Housing and Urban Development (HUD) provided Section 8 loans to senior housing facilities that were built 20 or 30 years ago. Many of those contracts are now expiring despite remaining Interest Reduction Payments and HUD Section 236 mortgages. In these instances, Fannie Mae takes over expiring contracts and holds the mortgages with little or no penalty.

Underwriting standards differ on existing and to-be-built facilities. Lenders weigh these standards along with other important factors of successful endeavors including the operator, management agreement, competition, state regulatory climate, deficiency reports, state surveys, relationship with the state, location and business plans.

Key Aspects of Senior Housing Underwriting

Operator/Owner	Lenders must be extremely comfortable with the operator and/or owner. In traditional real estate, prime locations are desired while in senior housing, an operator's track record is paramount.
Management agreement	Smart transactions involve operators that own and operate a facility rather than managing on a fee basis.
Competition	Any type of real estate development requires an assessment of the surrounding competition.
State	State regulations (such as those for nursing homes) and the relationship with the state are important to consider as these factors can simplify or, conversely, complicate a development's success.
Reports and surveys	Knowing how the operator is perceived by the state as well as other organizations (i.e. accreditation commissions) is important.
Business plan	Particularly in new construction, it is important to analyze a business plan including factors such as the market, the impact on competitors, the local economy, etc.

Paying for Senior Housing and Care -- The Residents' Financial Responsibilities
Depending on the environment in which a senior citizen lives, there are different methods of payment. Contractual agreements dictate the terms and conditions; however, individual wealth, personal health care policies, Medicare and Medicaid benefits all impact the final agreement between the seller and buyer of services and facilities.

In the event that long term care is required, a lifetime of savings may be depleted by the high costs of nursing home care which ranges from about $40,000 to $80,000 a year depending on the area of the country and nature of the facility. Some elderly citizens are forced to spend in order to reduce assets to reach Medicaid's required financial standing--losing personal income to receive federal assistance.

Other methods of payment used by senior citizens to cover the cost of housing include:

• Pension plans
• Employee stock ownership plans
• Single premium annuities
• Life insurance
• Savings

Medicare and Medicaid: Often confused, these two federally-run programs are very different although both are applicable to senior citizens. The federal government construed Medicare, a health insurance program that covers the disabled as well as those 65 years and older, in part to provide a safety net for older Americans with medical bills. Seniors' medical expenses are significantly higher than the rest of the population; however, many seniors' financial resources are lower than other segments of the population. U.S. citizens are eligible for Medicare through the Social Security system. Lifetime tax deductions from Social Security provide funding for medical expenses that may be incurred by the elderly. Though Medicare pays for some costs of long-term care, significant expenses must be paid through other resources.

Many Americans are unaware of some of the gaps in the Medicare system such as:

• Only about 8% of all nursing home costs are covered
• No coverage for custodial care, either at home or in a nursing home
• No coverage in a nursing home without prior hospitalization
• No coverage for nursing home care after 100 days

Medicaid, alternatively, is a federal program for low-income, financially needy people, set up by the U.S. federal government and administered differently in each state. In order to collect Medicaid benefits federal poverty guidelines for assets and income must be met the facility must be Medicaid-approved.

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REFERENCES:

American Dream Commitment. Washington, D.C.: Fannie Mae, 2000. p. 56. Caroline Chamberlain, Account Executive, Multifamily Lending and Investment; Fannie Mae: Telephone Interview on July 18, 2001.
Jeffrey Davis. "Financing Senior Care." Urban Land. November 1998. p.71.
Kristin Martell, Account Executive; KG Communications. Telephone Interview on July 18, 2001.
"Medicare and Medicaid Explained." NOLO-Law for All Internet Website. 2001. Representative (name not authorized for disclosure), Senior Housing Properties Trust: Telephone Interview on July 9, 2001.
"Seniors Housing Properties Trust." Hoover's Online Internet Website. 2001.
Kathleen Vickery. "Cover Story: A Market of Contrasts." Provider NCAL Online Magazine. NCAL Internet Website. November 1998.
"Who Pays for Long-term Care." Metropolitan Life Insurance Company Internet Website. 2001.