Now That I Have a HUD Section 232 Mortgage, What's Next?

Now That I Have a HUD Section 232 Mortgage, What's Next?

As was discussed in an April 2024 article, HUD Section 232 for Leased Nursing Homes offers many advantages to the property owners, including:

1. A 30, 35-year loan term, no balloon after five or seven years.
2. A subsidized interest rate.
3. No owner personal guarantees.

Of course, these advantages come with some strings attached. HUD has many compliance requirements that you must keep to be in good standing with HUD.

Monthly Lease Payments


The Section 232 HUD Handbook Section II Chapter 8 states the lease payments must be sufficient to (1) enable the Borrower to meet debt service and impound requirements and (2) enable the Operator to properly maintain the project and cover operating expenses. The minimum annual lease payment must be at least 1.05 times the sum of the annual principal, interest, mortgage insurance premium, Reserve for Replacement deposit, property insurance, and property taxes.

All lease payments should be paid directly to the property company who then pays the total monthly debt service to the bank. This can be a problem for some property companies and related party operators. Many property company owners will have the relater party operator make the mortgage payment instead of the property company. The property company then recognizes the difference between the lease payment and the mortgage payment as a lease receivable. Over time, this lease receivable can grow to a significant balance. Large receivables can be red flags to HUD as it illustrates actual rent payments are less than the amounts required in the lease agreements. It could be considered noncompliance to HUD.

Bank Account


Under the terms of the HUD regulatory agreement, each property must maintain, in a federally- insured bank, a regular operating account for each property to collect deposits and make disbursements.  Individual accounts will also provide an easy audit trail for each property's cash position.

However, HUD does allow for the properties to use a single centralized account. Deposits to and disbursements from the centralized account must be clearly traceable to each property. The actual cash position of each and every property in the centralized account must be easily identifiable at all times without exception. This can easily be done on an Excel spreadsheet.

Loans and Advances to and from Related Parties


Generally, HUD does not permit a property company to lend funds to other entities, especially those related by common ownership. Any such advances that may exist at the date owner assumed financial responsibility under the HUD mortgage are exempt from this requirement. Furthermore, once you have the HUD mortgage, you are not permitted to enter into any new borrowing agreements without prior HUD approval.


However, many of our HUD Section 232 clients have a triple-net lease with the operator, where the operator assumes responsibility for property taxes, repairs, and insurance. Because the mortgage requires the property to maintain escrows for these expenses, this generally results in intercompany balances with the operator. As of now, these are generally permitted. However, when they result in a receivable from the operator, it is necessary to clear the balance on a periodic basis.

Summary


To avoid compliance issues with HUD, the property company should collect lease payments in accordance with the lease agreement, maintain separate bank accounts for each property or diligently reconcile the centralized bank account, and should not loan/advance money to the operator or other parties without prior HUD approval.
This is the first of two articles on this topic. The next article will discuss Surplus Cash, Owner Distributions, and Required Escrows.
If you have any questions, please reach out to the HUD team:

Beth Reimer breimer@peasebell.com
Joel Ungar jungar@peasebell.com
Lindsay Arcuri larcuri@peasebell.com