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Rural Housing Service's Section 538
Guaranteed Rural Housing Program:
A Guide For Developers

© Housing Assistance Council, 2000

Permission is granted ONLY to nonprofit community-based organizations to reproduce and/or adapt this document, and only for their own use. 

IV. THE LOAN PROCESS

A. Notice of Fund Availability and Application Process

RHS publishes a Notice of Fund Availability (NOFA) in the Federal Register each year. It provides information on the amount of funds available, preliminary submission requirements, selection criteria, and deadlines for submission, usually 60 to 90 days after publication. Lenders (not borrowers) submit guarantee requests summarizing proposed projects. Each request includes a narrative explaining the lender's conclusions about the borrower, the property, and the loan. The agency scores and ranks those, then issues each successful lender a Notice to Proceed with Processing of its loan.

B. National Competition

When Section 538 appropriations are $100 million or less, competition for funding will be nationwide.

In fiscal years 1998, 1999, and 2000, all NOFA responses were submitted to and processed by the National Office. The handbook reserves the option of involving State Offices in future years, even delegating approval authority to them.

C. Allocation to the States

When Section 538 appropriations exceed $100 million, funds will be allocated to the states and territories by formula. The NOFA will provide addresses for Rural Development State Offices.

The allocation formula relies on each state's percentage of national:

  • rural population - a weight of 40;
  • number of rural households with incomes between 50 and 100 percent of area median income - a weight of 40; and
  • average cost per unit, based on limitations under Section 207(c) of the National Housing Act (see paragraph 3.24 of HB-1-3565) - a weight of 20.

    Specific formula data for Section 538 allocations are found in Section 1940.560 of RD Instruction 1940-L.

    D. Application Process

    The final application process is outlined below. Appendix A to this guide (Section 4.9 of HB-1-3565) lists the contents of an application. A timeline is provided in Appendix B to this guide.

    • a brief description of the project location;
    • a description of the property and improvements:
      • lot size
      • number of units
      • building type
      • type of construction
      • preliminary drawings
      • bids for development;
    • proposed schedule for development;
    • total development cost;
    • proposed rent structure;
    • applicable area median income (see Appendix 9 to HB-1-3550 or check median incomes at http://www.huduser.org/datasets/il.html);
    • evidence of site control;
    • description of environmental issues that may affect the project;
    • amount of loan to be guaranteed;
    • proposed loan and proposed borrower's equity;
    • proposed use of interest credit, if applicable;
    • estimated development budget, including all financing sources and amounts, rates and terms;
    • estimated loan to value ratio;
    • proposed guarantee percentage (up to 90 percent);
    • collateral - real estate and other security;
    • borrower information:
      • name and type of borrower
      • contact person, address, phone and fax number, e-mail address
      • evidence that borrower and principals are not barred from federal programs or delinquent on federal debt
      • unaudited financial statement
      • statement about housing development experience;
    • evidence that the lender is approved to participate in the program, or application for approval;
    • information relating the application to the NOFA selection criteria; and
    • commitment letter from the lender, subject only to an RHS guarantee.

    If the lender is requesting interest credit, that information must be included in the application as well.

    The lender underwrites – evaluates – a Section 538 loan just as it would underwrite any other. The lender is responsible for determining the value of the property, analyzing the cash flow proposed for the property, and reviewing projected operating costs. It must determine that the borrower and the property meet all program requirements. (See Appendix H to this guide for an example of RHS instructions to lenders for program compliance review.) It must evaluate the development team, the development costs, the proposed management, and the like.

    RHS scores and ranks all complete and on-time applications for which the lender, the borrower, and the project meet threshold requirements. RHS will also consider factors such as whether the developer has sufficient qualifications and experience, the project is feasible, the risk is reasonable for the market, and the loan is reasonable for the specific borrower. In addition, the agency will require the lender to have performed due diligence and considered the results in its appraisal. RHS/Rural Development must conduct an environmental review, a civil rights review, and a review of the applicant's Affirmative Fair Housing Marketing Plan.

    The agency issues a letter of conditional commitment. The conditional commitment is valid for a stated time period, usually up to 24 months, and can be extended twice for 60 to 90 days each time. RHS/Rural Development will conduct a subsidy layering review of the information supplied by the lender. The loan guarantee fee of 1 percent of the note principal is due from the lender at closing of the loan note guarantee.

    Before the guarantee is issued, the lender must execute Form RD 3565-3, Lender's Agreement, and submit a number of other forms (for a list, see Appendix I to this guide). For details, see paragraph 4.15 in HB-1-3565.

    RHS's handbook states that the agency responds with a conditional commitment within 60 to 120 days of application, generally within 75 days.

    E. Ranking Criteria for Applications

    The basic ranking criteria for selection are found in Section 3565.5 of the published regulation. The criteria provide priorities for:

    • smaller rural communities;
    • the most needy communities with the highest percentage of leveraging;
    • applications with the lowest interest rates;
    • projects with the highest ratio of three- to five-bedroom units; and
    • projects located in Empowerment Zones or Enterprise Communities.

    Additionally, RHS reserves the right in its sole discretion to set aside funds to meet important program goals.

    Section 3565.5 lists five threshold criteria that must be met before an application can be ranked. These are:

    • The owner and development team must have the necessary qualifications and experience to carry out development, management, and ownership responsibilities, and not be under government suspension or investigation.
    • The proposed project must be in an eligible rural area.
    • The application must demonstrate readiness to proceed, including submission of a complete application.
    • The application must demonstrate market and financial feasibility. (See Appendices F and G to this guide.)
    • Evidence must show that the project's credit risk is reasonable.

    The specific selection weights are provided in the annual NOFA. Those for FY 2000 are:

    1. projects in the smallest rural communities  20 points
      (20 for the smallest, 19 next, and on down for the 20 smallest communities)

    2. neediest communities measured by lowest median income  20 points
      (20 for the lowest, 19 next lowest and on down for the lowest 20 communities )

    3. partnering and leveraging based on loan to value ratio

      Loan to Value Ratio (Percentage) Points
      more than 75% 10
      70-75% 15
      Less than 70% 20

    4. loans with interest rates less than the maximum allowable 250 basis points over the 30-year Treasury rate

      Interest Rates Points
      more than 200 basis points 0
      200 to 151 basis points, inclusive 5
      150 to 100 basis points, inclusive 10
      99 to 50 basis points, inclusive 15
      less than 50 basis points 20

    5. projects with the highest percentage of three- to five-bedroom units to total units   20 points

      (20 points for the highest percentage, 19 for the next highest, and on down for the 20 highest communities)

    6. projects in a colonia, on tribal land, in an Empowerment Zone or Enterprise Community or high need community identified in a state consolidated plan or needs assessment   20 points

    7. maximum amortization period without a balloon payment

      Amortization (years) Points
      40 20
      at least 35 15
      at least 30 10
      at least 20 5
      less than 20 0

    F. Appeals of Adverse Decisions

    Adverse decisions made by RHS/Rural Development to a lender or borrower (applicant) can be appealed through USDA's National Appeals Division (NAD). The regulations do not permit applicants/borrowers to appeal adverse decisions made by lenders.

    Generally, the lender can appeal any adverse decision by the agency. Decisions that cannot be appealed include:

    • maximum interest rates set by RHS regulations, unless the appellant alleges an incorrect rate is used;
    • decisions made in accordance with the statute;
    • denials of credit due to lack of funds;
    • decisions made by the lender.

    A basic overview of the appeals process is in Attachment 1-A to Chapter 1 of HB-1-3565, included as Appendix C to this guide.

    Whenever the agency makes a decision that will adversely affect a lender it must notify the lender in writing of its right to appeal to a next-level supervisor, or to NAD. A request for review by a next-level supervisor must be filed within 15 days of the date of the adverse decision. An appeal to NAD must be filed within 30 days of the decision date.

    Regulations for appeals to the USDA National Appeals Division are in 7 CFR Part 11, included as Appendix 4 in HB-1-3550. It is essential to read these regulations before beginning the appeal process. Also, prospective appellants should be aware that exercising appeal rights is subject to time limitations. For more information, see A Guide to Appealing Rural Housing Service/Rural Development Decisions, a HAC publication.

    Appeals by tenants are made in accordance with RD Instruction 1944-L (7 CFR Part 1944 Subpart L).

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