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TO: |
Honorable Mayor and
City Council |
FROM: |
Scott P. Johnson Leslye Corsiglia |
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SUBJECT: |
See Below |
DATE: |
May 27, 2003 |
Council
District: 6
SNI AREA: N/A
SUBJECT: APPROVAL OF THE ISSUANCE OF BONDS, Loan of Bond Proceeds AND RELATED DOCUMENTS FOR The Cinnabar Commons Project
Recommendation
Adoption of a resolution of the City Council:
(a) Authorizing the issuance of tax-exempt multifamily housing revenue bonds designated as "City of San José Multifamily Housing Revenue Bonds (Cinnabar Commons) Series 2003C" in an aggregate principal amount not to exceed $25,900,000 (the "Bonds");
(b) Approving a loan of bond proceeds to Cinnabar Commons, L.P., a California limited partnership, for financing the construction of the Cinnabar Commons Project located at 891-945 Cinnabar Street in San Jose;
(c) Approving in substantially final form the Bonds, Trust Indenture, Financing Agreement, Regulatory Agreement and Declaration of Restrictive Covenants, Intercreditor Agreement, Bond Purchase Agreement and Official Statement;
(d) Authorizing the Director of Finance and Director of Housing to execute and, as appropriate, to negotiate, execute and deliver these bond documents and other related bond documents as necessary; and
(e) Approving a modification to the interest rate for the previously approved City loan to Cinnabar Commons, L.P.
Background
Seven Hills Properties (the “Developer”), has requested that the City issue tax-exempt multifamily housing revenue bonds for the purpose of lending the bond proceeds to Cinnabar Commons, L.P., a California limited partnership (the “Borrower”) created by the Developer. The proceeds of the loan, together with other funds, will be used by the Borrower to finance the construction of 245 units of family rental apartment housing to be known as Cinnabar Commons (the “Project”). Upon completion of the Project, 20% of the occupied units in the Project will be rented to families with incomes that do not exceed 50% of the area median income and 80% of the occupied units in the Development will be rented to families with incomes that do not exceed 60% of the area median income. These restrictions will remain for a period of 55 years. Two of the Project’s units are unrestricted manager’s units.
On January 7, 2003, the Director of Finance pursuant to Municipal Code Section 5.06.430 held a TEFRA Hearing to receive public comment on the City's expressed intent to issue up to $28,000,000 in tax-exempt multifamily housing revenue bonds to finance the construction of the Project. On January 14, 2003, the Mayor approved Certificate No. 2003-2, which among other things authorized the Director of Housing to file an application with the California Debt Limit Allocation Committee (CDLAC) for an allocation of up to $28,000,000 in private activity bonds. On January 15, 2003, the City submitted a request to CDLAC for an allocation of $25,900,000. On March 26, 2003, the City received an allocation from CDLAC for this amount.
Total Project financing requirements, (excluding the land acquisition costs described later in the report (see “City Housing Loan”)), are estimated to be $54,900,000. The sources of funds are different during the construction period and at permanent financing. During construction, it is estimated that the costs of the Development will be funded with: (1) $25,900,000 of Bond proceeds; (2) a loan in an amount of approximately $15,354,000 from the City to the Borrower for construction and permanent financing; (3) accrued ground lease and interest payments and deferred developer fees of $6,646,000; and (4) tax credit equity of $7,000,000.
After completion of the Project, i.e. at permanent financing, it is estimated that the Development costs will be funded with: (1) $25,900,000 of Bond proceeds; (2) a permanent loan from the City in the amount of $6,969,000; (3) $18,846,000 of tax credit equity; and (4) $3,185,000 of accrued ground payments, lease-up income and deferred developer fee. A portion of the tax credit equity payments received at permanent financing are used to reduce the City’s construction loan to the Borrower.
One of CDLAC’s requirements is that the bond closing for the Project must occur within the time period set by CDLAC. The Bond closing for this Project must occur by August 4, 2003. It is anticipated that the Bonds will close on or about July 23, 2003.
ANALYSIS
This portion of the report is divided into several sections to address the items in Staff’s recommendation to proceed with the Project financing. These sections include descriptions of bond financing structure, bond financing documents, City loan, financing team participants, and financing schedule.
Bond Financing Structure
Overview of Multifamily Bond Financing
General As a brief summary, multifamily housing revenue bonds are issued to finance the development by private developers of certain rental apartment projects. The City issues the bonds and then loans the proceeds to the developer/borrower. The bonds are typically issued as tax-exempt securities. The advantages of tax-exempt bonds to developers include below-market interest rates and long-term fixed rate financing – features not available in the conventional multifamily housing construction loan mortgage market. The Bonds are limited obligations of the City, payable solely from loan repayments by the Borrower and any credit enhancement.
Requirements for Tax-Exemption For multifamily housing revenue bonds to qualify for tax-exemption, generally, one of two restrictions must apply: either (1) at least 20 percent of the units in the housing development must be reserved for occupancy by individuals and families of very-low income (50% of area median income) or (2) at least 40 percent of the units must be reserved for occupancy by individuals and families of low income (60% of area median income). In the case of the Project, 20% of the occupied units will be rented to families with incomes that do not exceed 50% of the area median income and 80% of the occupied units will be rented to families with incomes that do not exceed 60% of the area median income. The two manager’s units will be unrestricted.
Structure of the Bonds
Principal Amount and Term The Bonds will be issued as a single series of tax-exempt variable-rate demand bonds in an amount not to exceed $25,900,000 for a term of approximately 33 years.
Interest Rate During the construction and lease-up period, the Bonds will pay interest only. Once the Project is stabilized (i.e., 90% of the units after construction are rented for 3 consecutive months and the Project has achieved the required debt service coverage), amortization of the bonds may commence on a 30-year basis. UBS Financial Services, Inc. (formerly UBS PaineWebber, Inc.)(the “Remarketing Agent”) will reset the interest rate on the Bonds on a weekly basis. However, after the Project is stabilized, the Borrower will be paying a fixed rate of interest pursuant to an interest rate swap agreement with a highly-rated party (the “Counterparty”) to be determined by closing.[1] The City will not be a party to this swap agreement.
Credit Enhancement During the construction and lease-up period, the Bonds will be credit-enhanced by a letter of credit from Bank of America. During this time, the Bonds will be rated AA-/A-1 by Standard & Poor’s (“S&P”). After the Project has become stabilized as described above, the Bonds will be credit enhanced by Freddie Mac – resulting in a AAA/A1+ rating from S&P. Freddie Mac is a permanent lender and does not take construction or lease-up risk; therefore, the Developer has arranged for the letter of credit from Bank of America during the construction and lease-up period.
Bond Financing Documents
The following is a brief description of each document the City Council is being asked to approve and authorize the execution of. Copies of these documents will be available in the City Clerk’s Office on or about June 10, 2003.
Official Statement This document is the public offering statement for the issuance of the Bonds, and is executed by the Director of Finance or other authorized officer on behalf of the City and by an authorized officer of the Borrower. The Official Statement is prepared by the Underwriter’s counsel. This document describes the financing program, the terms of the Bonds, the security for the Bonds and the economic and financial characteristics of the transaction, the Project and the participants. The City will not mail the Official Statement until Freddie Mac has issued its commitment to provide the credit enhancement and has given all other approvals. Because the Bonds are issued in variable rate form, there will be no preliminary official statement for this transaction.
A copy of the draft Official
Statement, in substantially final form, will be distributed under separate
cover on or about June 10, 2003. Staff
has carefully reviewed the information contained in the draft Official
Statement and believes it to be accurate and complete in all material
aspects. If any council member has any
personal knowledge that any of the material information in the Official
Statement is false or misleading, the council member must raise these issues
prior to approval of the distribution of the document. City staff, bond counsel, and the financial
advisor will be available at the City Council meeting on June 17, 2003 to address
any questions, issues and/or concerns.
Trust Indenture The Bonds will be issued under a Trust Indenture (the “Indenture”) between the City, Wells Fargo Bank, National Association, as the trustee (the “Trustee”) and the Borrower. The Indenture is executed by the Director of Finance, or other authorized officers on behalf of the City, and attested by the City Clerk. Pursuant to the Indenture, the Trustee is given the authority to receive, hold, invest and disburse the Bond proceeds and other funds established under the Indenture; to authenticate the Bonds; to apply and disburse payments to the Bondholders; and to pursue remedies on behalf of the Bondholders. The Indenture sets forth the guidelines for the administration, investment and treatment of investment earnings generated by each fund and account. The Indenture obligates the Borrower to compensate the Trustee for services rendered under the Indenture.
Financing Agreement This agreement (the "Financing Agreement") is among the City, the Trustee and the Borrower, and is executed by the Director of Finance or other authorized officer on behalf of the City. The Financing Agreement provides for the loan of the Bond proceeds to the Borrower for the construction of the Project and for the repayment of such loan by the Borrower. The interest of the City in receiving payments under the Financing Agreement and enforcing the receipt of such payments under the Financing Agreement have been assigned to the Trustee under the Indenture; however, certain reserved rights have been retained by the City, such as the City's right to indemnification.
Regulatory Agreement and Declaration of Restrictive Covenants This agreement (the “Regulatory Agreement”) is among the City, the Trustee and the Borrower, and is executed by the Directors of Housing and Finance on behalf of the City. The Regulatory Agreement contains certain covenants and restrictions regarding the Project and its operations intended to assure compliance with the Internal Revenue Code of 1986. The Regulatory Agreement restricts the rental of Project units to the appropriate percentage of low or very-low income individuals or families for a period of years required to maintain the tax-exempt status of the Bonds. In the case of the Project, 100% of the units will be restricted for a period of 55 years to individuals and families earning 50% and 60% of area median income.
Intercreditor Agreement This agreement (the “Intercreditor Agreement”) is among the City as Issuer, the Trustee, Bank of America (the “Construction Phase Credit Facility Provider”) and Freddie Mac. This document is executed by the Director of Finance or other authorized officer on behalf of the City. The Intercreditor Agreement prioritizes certain rights and remedies of the City, Trustee, the Construction Phase Credit Facility Provider and Freddie Mac in the event that the Borrower defaults under either the Construction Phase Credit Facility or the Freddie Mac documents.
Bond Purchase Agreement The Bond Purchase Agreement (the “Purchase Agreement”) is a contract between the City, the Borrower and UBS Financial Services Inc. (the “Underwriter”), and is executed by the Director of Finance or other authorized officer on behalf of the City. The Purchase Agreement specifies the representations and warranties of the City, the Borrower and the Underwriter, the documents to be executed at closing, and the conditions that allow the Underwriter to cancel its purchase of the Bonds.
City Housing Loan
The Housing Department has previously provided financing for this Project. On October 8, 2002, the City Council adopted Resolution No. 71242 which approved an acquisition/predevelopment loan to Seven Hills Properties, or an affiliated entity, in an amount not to exceed $14,983,000. Under this Resolution, on October 22, 2002, the Housing Department closed an acquisition loan to Lenzen Associates, LLC (an affiliate entity of Seven Hills Properties) in the amount of $12,578,250 to acquire the subject property. On November 19, 2002, the City Council adopted Resolution No. 71301 which approved a loan to Cinnabar Commons, L.P. in the amount of $2,404,750 to pay predevelopment costs of the Project.
The Housing Department will make an additional construction/permanent loan to the Borrower in an amount of up to $15,354,000. This loan was approved by the City Council on January 14, 2003, Resolution No. 71385. As described earlier in the report (see Background), this amount will be reduced by $8,385,000 after Project completion. The Borrower has requested that the interest rate on the City loan during construction be allowed to increase up to 7% from the 4% that was previously authorized by the City Council. This will result in more proceeds from tax credits.
Financing Team Participants
The financing team participants consist of:
· City’s Financial Advisor: Ross Financial
· Underwriter/Remarketing Agent: UBS Financial Services Inc.
· Bond Counsel: Orrick, Herrington & Sutcliffe LLP
· Trustee: Wells Fargo Bank, National Association
All costs associated with the financial advisor, underwriter (including its counsel), bond counsel and trustee are contingent on the sale of the Bonds and will be paid from Bond proceeds, City loan proceeds and/or Borrower equity.
Financing Schedule
The current proposed schedule is as follows:
· Council Approval of Bond Documents June 17, 2003
· Pricing of the Bonds July 21, 2003
· Pre-Close and Close Bonds July 22-23, 2003
· CDLAC Deadline for Bond Closing August 4, 2003
Public Outreach
The method of notifying the community of the City’s intent to issue tax-exempt private activity bonds is for the City Council to hold a Tax Equity and Fiscal Responsibility Act (TEFRA) Hearing. The TEFRA Hearing was held on January 7, 2003 by the Director of Finance. The public hearing notice was published in the San Jose Mercury News on December 19, 2002.
Coordination
This report has been prepared by the Finance Department in coordination with the Housing Department and the City Attorney’s Office.
Cost Implications
All costs will be paid from Bond proceeds, City loan or Borrower equity. The Bonds are tax-exempt obligations secured by mortgage loans that are credit enhanced by Freddie Mac. The cost of the Freddie Mac credit enhancement is provided at the expense of the Borrower. No payment of the Bonds will be paid from or guaranteed through the general taxing power of the City or any other City asset. The City will receive an up-front fee of approximately $89,750 and an annual fee equal to one-eighth of a point (0.125%) of the original principal amount of the Bonds, approximately $32,375, for the staff work involved in the issuance of the Bonds and monitoring of the Bonds and the Regulatory Agreement.
No appropriation of funds is required at this time. City funds for the City loans were allocated from the Housing Department’s Fiscal Year 2002-2003 Budget in Council Agenda item 4.5 on October 8, 2002. Compensation for the financing team participants (financial advisor, underwriter, trustee and bond counsel), as well as the costs of the financing, are contingent on the sale of the bonds and will be paid from Bond proceeds, City loan proceeds and/or Borrower equity. This action is consistent with the Mayor’s Budget Strategy adopted by the City Council on February 4, 2003, under both General Principles and Economic Recovery.
CEQA
EIR Resolution No. 71174.
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SCOTT P. JOHNSON |
LESLYE CORSIGLIA |
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Director, Finance Department |
Director, Housing Department |