Budgeting for Uncertainty and an Eviction Moratorium
by Donald Davidoff | Sep 9, 2020 12:00:00 AM
It's that time of the year when we are all deep in the process of budgeting. Most years, budgeting is hard enough, and this year the backdrop of the COVID-induced recession was already making it harder. Last week's announcement of a federal eviction moratorium that will last through the end of the year has added another layer of uncertainty.
We find ourselves in a situation that is unique in our industry's history. Without a clear precedent to guide us, we must examine the factors that are likely to affect 2021 performance and decipher what it all means as we budget for next year.
What's happening with occupancy, rent growth and collections
Occupancy is holding thus far in most markets though I expect we will see unusual challenges fall through winter. We normally see small occupancy reductions in 4Q, though many operators budget otherwise (download our white paper, which discusses that and other "budget fails"). This year is likely to be worse than normal. If you want to be aggressive, you could budget for early 2Q occupancy recovery to normal occupancy levels, but we advise a more likely return in 3Q just based on our reading of likely timing for approval and distribution of a COVID-19 vaccine.
Rent Growth is the most challenging component, as it's likely to be the most volatile. Also, with widespread and growing concessions (mostly forced to be upfront), there's a growing difference between cash and GAAP revenue. Some markets may get by with flat or very small declines, but many are already experiencing double-digit declines in net effective rents on new leases. It's even more critical than usual to budget new and renewal rents differently since renewal rents typically widely outperform new rents in a recession.
That said, you shouldn't be too aggressive on renewal assumptions as residents are now educated on what is happening with new rents, and their expectations for some rent reduction or concession is likely to grow. You will also need to make assumptions on what renewal rents you'll get next year on 2020 leases that had large concessions. It's one thing to treat the gross (i.e., before concession) rent as the expiring rent, but it's often another thing to get residents to accept that (especially when concessions were two or more months).
Collections (i.e., bad debt) are another wild card with so much uncertainty around additional Federal stimulus. Last week, we had good news as August unemployment came in at 8,4%, suggesting that more people will be able to pay normal rent than we might have feared. However, that same news reduces the likelihood of Senate Republicans coming to an agreement with House Democrats on another round of stimulus. Add in the many headwinds we still face, and budgeters should not be too sanguine about employment.
What we know about the Federal Eviction Moratorium
The CDC's recent announcement of a health-crisis-based new eviction moratorium through the end of the year adds yet another wild card to the budgeting process. The situation is still evolving, but we believe there are some key points to understand about this new set of rules.
First, the moratorium only applies to individuals making less than $99,000 per year and couples making less than $198,000. Those who will not qualify represent a small percentage of the total population, but likely represent a large percentage of residents in A-class CBD buildings. These are exactly the communities that have been worst hit by reductions in demand, so operators with heterogeneous portfolios should set assumptions at the property level even more so than normal times.
Second, under penalty of perjury, all residents invoking the moratorium must sign a declaration form attesting that:
- They have used best efforts to obtain all available government assistance for rent or housing;
- They either expect to earn no more than $99,000 in annual income for Calendar Year 2020 (or no more than $198,000 if filing a joint tax return), were not required to report any income in 2019 to the U.S. Internal Revenue Service, or received an Economic Impact Payment (stimulus check) pursuant to Section 2201 of the CARES Act;
- They are unable to pay their full rent or make a full housing payment due to substantial loss of household income, loss of compensable hours of work or wages, lay-offs, or extraordinary out-of-pocket medical expenses;
- They are using best efforts to make timely partial payments that are as close to the full payment as their circumstances may permit, taking into account other nondiscretionary expenses;
- If evicted, they would likely become homeless, need to move into a homeless shelter, or need to move into a new residence shared by other people who live in close quarters because they have no other available housing options ;
- They understand that they must still pay rent or make a housing payment, and comply with other obligations that they may have under their tenancy, lease agreement, or similar contract and that they further understand that fees, penalties, or interest for not paying rent or making a housing payment on time may still be charged or collected;
- They further understand that at the end of this temporary halt on evictions on December 31st, 2020, their housing provider may require payment in full for all payments not made prior to and during the temporary halt, and failure to pay may make them subject to eviction pursuant to State and local laws.
What that means for budgeters
Thus, budgeters will have to guess at three things: how many residents will attempt to take advantage of the moratorium, whether or not it will be extended beyond December 31st, and what percentage of rent built up will be collectible. Meanwhile, any occupied units under this moratorium will not be available for new leases until the eviction process winds its way through in 1Q 2021 (with what will surely be attendant delays due to the buildup of pending eviction processes).
In our opinion, the good news is that, though many residents may try to take advantage of this, most will not qualify for it. For example, anyone who still has a job and doesn't have extra medical expenses (most residents) don't qualify. That said, with at least 16 million still unemployed, a material number of households will be eligible.
Budgeters should also make assumptions for partial payments as the declaration requires best efforts to make at least partial payments. All of this puts operators in a difficult position as it's unclear how well these terms can be enforced. That will evolve as the industry grapples with the realities of this new rule; however, budgeters need to make their decisions now.
Our best advice is to assume the moratorium will end December 31st and re-forecast if it gets extended. Assess your current rate of delinquency and payment plans and project out what that means for likely additions to the list over the next four months, and then budget for at best half (and probably fewer) of the residents to make good. If they can't pay now, they're unlikely to be able to pay the balloon amount come the first quarter.
Be very clear with everyone on exactly what your assumptions are, and be ready to reforecast more frequently than in past years!