From The Bond Buyer:
Making a Safe Bet on Florida Real Estate
Friday, May 15, 2009
By Dan Seymour
Jay H. Abrams found a way around worrying about Florida real estate: let the government worry for you.
The municipal credit maven at FMSbonds, Inc. reached an unusual conclusion about Florida’s community development district bonds.
While the municipal market frets over defaults both real and anticipated in this sector, Abrams conducted his own analysis and concluded many of them are of sterling credit quality.
By placing payments to bondholders on equal lien with property taxes, mature CDD bonds ensure collections for bond payments are backed by the heavy hand of the government.
When a property developer in Florida wants to build a community, it can create a CDD that issues tax-exempt debt to finance normal amenities homeowners like to have, such as streetlights and water service.
With the Florida real estate market in the tank, many investors worry these districts will be unable to generate enough cash to pay off the bonds.
Indeed, the sector reported at least 24 defaults in 2008, according to Distressed Debt Securities. There are about 575 community development districts in the state.
Abrams agrees many of these districts are in dire trouble. Immature CDDs still mostly owned by developers are not creditworthy, he said.
There is a crucial breaking point at which a district shifts from danger to safety, according to Abrams. That point is known as “platting.”
As the district develops and homeowners buy properties within it, each property becomes responsible for a share of the debt service and principal payments.
Once a homeowner assumes responsibility for his or her assessment, it is collected by the county tax collector with the same vigilance as property taxes. The assessment ranks senior to mortgage payments.
For districts mostly yet to be platted, investors are relying on property developers. Abrams said the districts that have run into trouble are uniformly in this category.
For mature districts that have already found homeowners, Abrams said the structure offers a great deal of security. He points out Standard & Poor’s is rating many of the mature districts single-A.
“When we look at these deals, we try to select the deals that are already either completely developed or close to being completely developed,” he said. “We tend to look for districts that are pretty much built out, because you have more stability, you have a much more diverse assessment base.”
One reason Abrams believes the bonds are safe is the assessments do not change as property values go down. They are fixed for the life of the bond. That means even though property values are sinking, the assessments stay the same.
“Regardless of what the property is worth in the long term, you’re going to be collecting money,” he said.
Another layer of safety is provided by Florida’s powerful mechanisms for collecting assessments. If a homeowner in a district fails to pay his or her assessment, the county can begin proceedings against the property, the same way it would if the homeowner failed to pay property taxes.
The county can sell tax certificates, where investors pay the delinquent taxes and assessments and are repaid plus interest when a new homeowner buys the property for the cost of the house plus unpaid taxes and assessments.
Florida real estate would have to worsen considerably for this market to dry up, Abrams said. While prices may be down significantly, investors are still willing to buy houses at distressed prices plus back taxes.
“That part of the real estate market here, the homes are selling like hot cakes and people are bidding for them,” said Abrams, who works in Boca Raton. “You are reliant on a market for this, but by and large that market has worked well.”
He said the banks will usually foreclose and assume responsibility for the assessments before any of this happens. A bank would not want to lose an entire mortgage because of a few thousand dollars in delinquent taxes, he said.
Abrams – who has been at FMSbonds almost eight years and before that was an analyst at S&P – looks for districts with established collection histories.
Another important metric in this sector is the ratio of the value of the homes to the annual assessments. That serves as an indicator of how strong the collateral securing the assessment is. Abrams said a value-to-lien ratio of at least 15 to 1 is safe.