Generally, jurisdictions with inclusionary housing requirements record a deed restriction, deed covenant, ground lease, or similar document against the title of the property in order to facilitate enforcement of affordability controls. These documents act as a lien on the real estate, making it difficult (but not impossible) for property owners to sell or refinance without disclosing the requirements.
Marshal and Kautz describe the experience of California jurisdictions in suing to enforce inclusionary deed restrictions including one case where a judge ordered a family to repay $100,000 that they had illegally received by selling their restricted unit for its unrestricted market price to an unsuspecting, unqualified buyer.*
Deed of Trust
Jurisdictions should record a deed of trust to secure performance of the requirements included in the deed restriction. Where a typical deed of trust secures repayment of a loan and enables the beneficiary to foreclose on a property, if the owner fails to repay the loan, a performance deed of trust secures a property owner’s performance of their affordable housing obligations.
The deed of trust increases the chance of notification if a sale is pending without program approval, provides an additional option for enforcement, and helps ensure that restrictions are noticed when an owner seeks to refinance.
Maintaining long-term affordability requires more than legal documents. Ongoing management and monitoring and active stewardship are necessary. A growing number of communities, recognizing these administrative demands, are turning to third-party administrators, like community land trusts or other nonprofit housing organizations, for stewardship of inclusionary units.
Some jurisdictions struggle to prevent illegal renting of inclusionary homeownership units. While none describe this as a major problem, some indicated that they were not able to completely eliminate it.
To address this problem, some jurisdictions send out annual occupancy verification forms and closely monitor those that are not returned. Montgomery County, Maryland, for example, works with its code enforcement division to inspect homes that raise this type of red flag. San Mateo, California, conducts an annual review of tax records to see where property tax information is being sent. Some programs also make it easy for neighbors to report illegal occupancy of inclusionary units by circulating program contact information.
Both mortgage lenders and cities have an interest in ensuring that a relevant city department receives notice when owners of inclusionary homes default on their mortgages. With adequate notice, the program can often help a homeowner to refinance or find a buyer rather than proceeding through foreclosure. However, it is difficult for mortgage servicers to reliably provide this notice even when it is required of them.
While there is no single widespread best practice to remedy this situation, some common responses include:
- Record a second lien in order to improve the chance of receiving notice of default. In California and several other states, state law ensures that junior lien holders are notified when a homeowner defaults on a first mortgage. A growing number of California jurisdictions have taken to recording “Performance Deeds of Trust” or “Excess Proceeds Deeds of Trust” in addition to deed restrictions/covenants specifically because they are more likely to receive notice of default if there is a recorded deed of trust.
- Require mortgage holders to enter into separate agreements which require notice or have refused to fully subordinate their covenants to the first mortgage. In states where junior lien holders are not reliably notified of defaults, some programs have pursued this option. For example, a program agrees to release a unit from resale restrictions only if it has received prior notification of a default and been given an opportunity to cure. Fannie Mae guidelines explicitly allow this kind of requirement as long as the lender certifies that they have the capacity to provide notice when required. Currently FHA prohibits this approach and requires that FHA-insured homes be released from restrictions in foreclosure without any conditions. This approach has become far less practical in recent years as it has become much harder to find lenders willing to underwrite price-restricted homeowners.
- Monitor title reports or newspaper notices of foreclosure proceedings for evidence of foreclosures. Some communities, recognizing the limitations on their ability to require notice, choose this option instead. This approach requires more staff time than the other alternatives and may involve other costs. It also generally identifies problems at the last moment before a foreclosure.
It may also be a good idea to contract with an outside agency (e.g., housing counseling agency, realtor, or local) to provide a set of administrative and outreach services related to preventing foreclosures. These may include:
- Contacting owners of all MPDU homes (IHO and Large Scale Developments), notifying them of approved waivers, and encouraging them to reach out for assistance if they experience difficulty selling their affordable unit.
- Monitoring (through the MLS or otherwise) the sales of any MPDU homes and offering assistance to listing realtors.
- When necessary and appropriate, making recommendations to the department when waivers are approved to enable subletting or unrestricted sales of a MPDU.
- Evaluating the feasibility of financing purchase of unsold MPDU homes by a nonprofit organization for temporary or permanent use as affordable rental housing.
- Tracking any foreclosures that do occur and providing brief reports every six months that identify the cause or causes of each foreclosure that has occurred, along with recommendations for changes to policies or procedures which could help prevent further foreclosures in the MPDU stock.
It can be challenging for cities to ensure that developers actually build the offsite inclusionary units that are promised. Unless the off-site units are completed before a Certificate of Occupancy is issued for the market-rate project, the city may have limited options for enforcement if a developer fails to fulfill its obligations.
For example, in Santa Monica, California in 2010, JSM construction failed to build a 52-unit affordable project that had been required as part of permitting market-rate rental projects that were completed and occupied. Santa Monica allowed JSM to move forward on the market-rate projects only after it proved that it had begun construction on the affordable project, but when the developer stopped construction and allowed a bank to foreclose on the affordable site it became clear that the cost to the developer of failing to comply was far less than the cost of creating the affordable homes.*
Some cities like West Hollywood, California address this kind of risk by requiring that off-site units be occupied before completion of market-rate projects. Boulder, Colorado instead allows developers one year to produce offsite units if they provide a bond or other financial guarantee to ensure that the units actually get built. If the affordable units are not produced within one year, the city can collect the originalplus a penalty of 8 percent.
Common methods for monitoring owner occupancy include:
- Send out self-certification letter that must be returned with the homeowner’s signature.
- Request third party verification such as a utility bill and/or a copy of a current driver’s license.
- Review local jurisdiction tax records to verify where the homeowner’s property tax bill is being sent.
- Some combination of these items.
Yes, some programs do have a policy to allow for exceptions from the owner-occupancy requirements. Common exceptions include temporary work relocation, medical treatment, caring for a sick/aging family member, and education.
During the real estate crash, some programs also granted exceptions for people who had to relocate for work but who could not sell because real estate values had fallen so significantly and they owed more than their resale price.
If programs do allow for exceptions to this requirement, it is important to have a written policy outlining the process to grant such exceptions.
Programs that file a performance deed of trust or a request for notice should receive notice if a homeowner is attempting to refinance without contacting program staff.