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

Fiscal 2006 also saw significant declines—a drop of $500 million in the FHA’s basic lending activity (not including risk-sharing), and a drop of about $400 million in new construction/substantial rehabilitation loan activity compared to 2005.

That race downward continues. In basic FHA lending activity from October 2006 to April 6, 2007, the agency insured 414 loans for $1.95 billion, a 40 percent decline from the $3.26 billion it helped finance in the prior-year period.

According to some lenders, such a drop is not uncommon when alternate funding sources flood the market, driving FHA production into niche areas. “When the market is flush with capital, multifamily financing will be addressed by other capital sources and FHA’s production will gravitate to other programs which are not being served—in this case, elderly and healthcare,” said Dee McClure, senior vice president responsible for FHA lending at CWCapital.

Last year’s production volume was driven in large part by the refinancing of Sec. 202 loans after the agency changed its regulations at the beginning of 2005 to make it easier to refinance those loans.

“2006 evidently was a bumper crop for them, and it appears to me that a whole lot of that was Sec. 202 refinances that now seem to be leveling off,” said Thom Cooley, a vice president responsible for FHA lending at ARCS Commercial Mortgage.

Refinancing activity fell 41 percent from the same period last year, to $1.24 billion from $2.35 billion. The number of loans fell 35 percent over that period to 338 (which financed 33,093 units), from 516 loans and 56,202 units.

Volume could shrink even more with a slackening of Sec. 202 activity, observers said. “We don’t expect Sec. 202 to be a major FHA driver this year,” said Jonnie Pardue, senior vice president and director of FHA operations for KeyBank Real Estate Capital. “Most of the projects eligible for 202 loans have been cherry-picked. The projects that remain eligible are small and more difficult to refinance.”

But Pardue has already seen how the FHA’s focus on seniors housing has begun to bear fruit. “We have observed an increase in interest in Sec. 232 loans for assisted living and nursing homes,” said Pardue.

New focus on Sec. 231

More evidence of the FHA’s focus on seniors can be found in the Sec. 231 program, which provides mortgage insurance for the construction or substantial rehabilitation of rental housing for the elderly. The program 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 because it provided the same loan ratios as the Sec. 231 program and was already part of MAP, which meant it 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. “There is a need to fund senior housing that includes such services as housekeeping, and the revival of the Sec. 231 program is designed to meet that demand,” said Pardue.

The 221 program requires that only one renter be at least 62 years old, allowing children in the household. But the Sec. 231 program allows rental only to seniors, which becomes critical when a developer is looking to develop elderly housing in markets where local zoning will not permit the construction of non-age-restricted properties, said McClure.

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.

“The 231 program permits services to be offered to residents and provides for additional common areas not permitted under the traditional 221(d)(4) program,” McClure said. “It creates eligibility for elderly-only transactions to be processed utilizing the more efficient MAP process.”

The inclusion is an important milestone, McClure said, as it illustrates the FHA’s desire to be flexible enough to increase its market share in key niche areas. “This change, although it may seem small at this time, will assist the department in providing much-needed housing for the elderly sector, which is not in need of the higher acuity care provided by assisted-living and skilled nursing facilities,” said McClure.

Halfway through fiscal 2007, FHA-affiliated lenders have already made two Sec. 231 loans, good for 262 units, totaling $8.9 million. That’s twice as many as all of last year, when FHA lenders recorded only one $5 million loan, financing only 90 units.

Sec. 231 mortgages must fund projects with eight or more new or rehabilitated units designed for use and occupancy by elderly people (62 years and older). Properties qualifying for Sec. 231 mortgages also have restrictions on mandatory meals and services. These restrictions make the program much less useful than it could be, some say.

More work needed on 231

The Sec. 231 program needs more tweaking to help bridge the gap between FHA products that provide for seniors apartments and assisted-living 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—older folks who don’t need close care, but might need to take one meal a day in a communal space,” Cooley said.

Since Sec. 221 provides for elderly families with children, and Sec. 232 provides for board and care facilities up to intense nursing care, the Sec. 231 program could fill the gap—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.