Sheryl A. Kass, Bankruptcy and Low Income Housing: Where Is the Voice of the Tenants?

• Jurisdiction: United States,Federal
• Publication year: 2011
• Citation: Vol. 22 No. 1

BANKRUPTCY AND LOW INCOME HOUSING: WHERE IS THE VOICE OF THE TENANTS?

The owner of a low income housing complex never really owns all the interests that exist in the property. The owner of the complex may have borrowed money to purchase the land or build improvements, giving one or more lenders mortgages on the complex, and the owner may seek income through leasing units, giving the tenants a possessory interest in the complex. A low income housing complex is also subject to the property interest of an additional party, the government, which provides financial assistance to ensure the continuing existence of affordable housing. When the owner of such a housing complex files for bankruptcy, each of these parties maintains an interest in the development. Unfortunately, because the owner's debts are greater than his assets, not every party will recover the full amount of its interest. The United States Bankruptcy Code ("Bankruptcy Code") attempts to protect the interests of all the parties. However, conflicting goals of the different parties silence the weakest voices. In the context of low income housing, the voices of the tenants are not heard.

The greatest conflict arises between the desires of the lenders and tenants. While lenders want to maximize revenue by charging the highest rent, the tenants want to maintain unit possession at the lowest possible rent. Similarly, if a bankruptcy plan requires the housing complex to be sold, the lenders want the complex sold with as few encumbrances as possible to gain the most money for the estate while the tenants want the property sold subject to the restrictions that benefit them.

The Bankruptcy Code protects lenders by requiring the appointment of a trustee.¹The bankruptcy trustee acts as a representative of the bankruptcy estate and preserves the estate for the protection of the creditors, of which the lender is often the largest.²For example, the trustee has the power to assume or reject executory contracts and unexpired leases,³sell property of the estate free of certain encumbrances,⁴and avoid fraudulent or preferential transfers⁵in an attempt to maximize the value of the estate that will be distributed to the creditors, such as the lender.

The Bankruptcy Code attempts to protect tenants by allowing a tenant already in possession of a unit to remain in possession for the remainder of the lease term even if the lease has been rejected.⁶The debtor, by rejecting the lease, is no longer obligated by the lease terms.⁷Thus, tenants may remain in possession, but they cannot force the owner to meet the obligations in the lease agreement.⁸

By providing various forms of rent subsidies, mortgage insurance, or tax credits to the owners of low income housing complexes, the government steps into the shoes of a creditor and also provides protection to the tenants.⁹As a creditor, the government has a vote in how the trustee acts to serve the best interests of all the creditors,¹⁰however, the government is only one of many votes that decide how the property is used.¹¹The shortcomings of these protections cause the voice of the lenders to drown out the voice of the tenants. The absence of tenants' voices in bankruptcy may encourage owners to file for bankruptcy to avoid low income housing restrictions, worsening the housing crisis for low income families.

To comprehend the problem bankruptcy creates for low income housing, it is essential to understand the different low income housing structures; the relationships these structures create among the owner, the tenants, and the government; and the Bankruptcy Code provisions that govern these relationships. Part I of this Comment describes three different low income housing structures: Section 8 rent subsidies, federally insured mortgages, and the low income housing tax credit. The specific powers of the bankruptcy court pertaining to tenants' leases and the trustee's power to sell property free and clear of any interest are also discussed in Part I. Part II discusses the consequences of the owner of a low income housing complex filing bankruptcy and illustrates the absence of the voice of the tenants in the proceedings.

Finally, Parts III and IV suggest methods to introduce the tenants' voices into future bankruptcy proceedings. Part III recommends a change in the judicial interpretation of the Bankruptcy Code as an immediate solution and Part IV recommends a change in the drafting of low income housing documents as a long-term solution. These changes will protect the rights of the tenants and in turn give them a voice in bankruptcy.

I. LOW INCOME HOUSING AND BANKRUPTCY BACKGROUND

Low income housing programs are complex legal structures that involve multiple parties and are subject to many regulations. Each program creates specific obligations among the government, the owner of the property, and the tenants, and implements different recording systems to ensure enforcement of these obligations.¹²How the obligations are documented and recorded determines which section of the Bankruptcy Code resolves whether the obligations will survive the property owner's bankruptcy. This Part examines the specific agreements recorded for each of the three different federal housing programs and provides an overview of the Bankruptcy Code provisions that relate to these agreements.

A. Low Income Housing

The federal government provides many different financial assistance programs for low income families in need of housing.¹³Congress has established programs including rent subsidies, federally insured mortgages, and tax credits.¹⁴While Congress places the responsibility of implementing these programs on federal, state, and local organizations,¹⁵this Comment focuses on the low income housing programs that involve agreements between federal organizations, property owners, and low income tenants.¹⁶

1. Section 8 Housing

The government's Section 8 Housing Vouchers Program provides a rent subsidy to low income families for housing in preexisting buildings.¹⁷The U.S. Department of Housing and Urban Development ("HUD") provides funding to Public Housing Authorities ("PHA"),¹⁸which in turn award "certificates" or "vouchers" to property owners, which carry a commitment that the government will pay a portion of the tenant's rent directly to a landlord.¹⁹A family presents the voucher to a landlord, and if the landlord is willing to accept it, the voucher becomes a contractual agreement between the landlord and the PHA. ²⁰

The Section 8 Housing Vouchers Program creates a typical landlord-tenant relationship between the property owner and the low income family. The family signs a lease agreement with the owner for a set period at a specified rent.²¹The lease agreement between the Section 8 tenant and the owner has all of the same requirements and restrictions that a lease agreement between the owner and an ordinary tenant would include.²²The only difference is that HUD pays the voucher amount to the landlord and the tenant pays the remainder.²³

Owners who agree to accept a Section 8 voucher also have obligations to the government.²⁴The PHA enters into a Housing Assistance Payments contract ("HAP contract") with each individual owner.²⁵The HAP contract provides that the PHA is obligated to pay the difference between the monthly rent paid by the Section 8 tenant and the fair market rental value for the unit.²⁶

The term of the HAP contract is the same as the lease term specified in the lease agreement between the owner and the Section 8 tenant.²⁷Since the PHA pays the owner directly each month, the Section 8 tenant has little direct interaction with the PHA after the agency has granted the tenant a Section 8 voucher.²⁸

At one time, a housing developer could apply directly to HUD for a HAP contract prior to building the housing complex rather than having to wait until the complex was completed and occupied by Section 8 tenants.²⁹Since the only difference between the new construction program and the voucher program was that the developer applied for a HAP contract rather than the owner of an existing housing complex, the relationships between the tenant and the owner and between the tenant and the government remained the same as in a Section 8 Voucher Program. Even though the developer would have applied for the HAP contract prior to construction, the benefits received from the contract remained the same as in Section 8 vouchers.³⁰Unlike the Section

8 Voucher Program, the term of the HAP contract was not the same as the lease term agreed to by the owner and the Section 8 tenant.³¹The term of the HAP contract ranged from twenty to forty years based on the type of financing the developer received to build the housing complex.³²The HAP contract also specified the number of low income housing units the developer needed to reserve for Section 8 tenants.³³

Id.

Section 8 housing accounted for over 60% of government housing assistance for the 2003 fiscal year.³⁴Concern over the budget deficit led Congress to repeal the Section 8 New Construction and Rehabilitation Program and increase the tenant-based Section 8 programs, but since new construction HAP contracts last for twenty to forty years, many are still in effect.³⁵Out of the 3,371,599 housing units subsidized by Section 8 funding, the government supports 2,051,967 units by vouchers and 1,319,632 by new construction HAP contracts.³⁶The housing assistance programs currently serve only 32% of eligible low income households and new applicants must wait thirty-five months to receive Section 8 vouchers.³⁷

HAP contracts and individual lease agreements ensure affordable housing by giving the government and the individual tenants a claim against the property owner if he breaches either agreement. The question is whether the parties retain their right to bring that claim if the owner files for bankruptcy.

2. Section 221(d)(3) and 221(d)(4): FHA Insured Loans

In 1949, Congress recognized the private sector's role in realizing the...