[Federal Register Volume 77, Number 174 (Friday, September 7, 2012)]
[Rules and Regulations]
[Pages 55120-55138]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2012-21982]


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DEPARTMENT OF HOUSING AND URBAN DEVELOPMENT

24 CFR Parts 5, 200, 207, and 232

[Docket No. FR-5465 F-02]
RIN-2502-AJ05


Federal Housing Administration (FHA): Section 232 Healthcare 
Facility Insurance Program-Strengthening Accountability and Regulatory 
Revisions Update

AGENCY: Office of the Assistant Secretary for Housing--Federal Housing 
Commissioner, HUD.

ACTION: Final rule.

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SUMMARY: In 2010 through 2011, HUD commenced and completed the process 
of revising regulations applicable to, and closing documents used in, 
FHA insurance of multifamily rental projects, to reflect current policy 
and practices in the multifamily mortgage market. This final rule 
results from a similar process that was initiated in 2011 for revising 
and updating the regulations governing, and the transactional documents 
used in, the program for insurance of healthcare facilities under 
section 232 of the National Housing Act (Section 232 program). HUD's 
Section 232 program insures mortgage loans to facilitate the 
construction, substantial rehabilitation, purchase, and refinancing of 
nursing homes, intermediate care facilities, board and care homes, and 
assisted-living facilities. This rule revises the Section 232 program 
regulations to reflect current policy and practices, and improve 
accountability and strengthen risk management in the Section 232 
program.

DATES: Effective October 9, 2012.

FOR FURTHER INFORMATION CONTACT: Kelly Haines, Director, Office of 
Residential Care Facilities, Office of Healthcare Programs, Office of 
Housing, Department of Housing and Urban Development, 451 7th Street 
SW., Room 6264, Washington, DC 20410-8000; telephone number 202-708-
0599 (this is not a toll-free number). Persons with hearing or speech 
impairments may access this number through TTY by calling the toll-free 
Federal Relay Service at 1-800-877-8339.

I. Supplementary Information

A. Background

    Section 232 of the National Housing Act (12 U.S.C. 1715w) (Section 
232) authorizes FHA to insure mortgages made by private lenders to 
finance the development of nursing homes, intermediate care facilities, 
board and care homes, and assisted living facilities (collectively, 
residential healthcare facilities). The Section 232 program allows for 
long-term, fixed-rate financing for new and rehabilitated properties 
for up to 40 years. Existing properties without rehabilitation can be 
financed with or without Ginnie Mae[supreg]\1\ Mortgage Backed 
Securities for up to 35 years. Eligible borrowers under the Section 232 
program include investors, builders, developers, public entities, and 
private nonprofit corporations and associations. The documents executed 
at loan closing provide that the borrower may not engage in any other 
business or activity.
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    \1\ Ginnie Mae is a registered service mark of the Government 
National Mortgage Association; see http://www.ginniemae.gov/.
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    The maximum amount of the loan for new construction and substantial 
rehabilitation is equal to 90 percent (95 percent for nonprofit 
organization sponsors) of the estimated value of physical improvements 
and major movable equipment. For existing projects, the maximum is 85 
percent (90 percent for nonprofit organization sponsors) of the 
estimated value of the physical improvements and major movable 
equipment.
    As the need for residential care facilities increased, requests to 
FHA to make mortgage insurance available for such facilities also 
increased. As with any program growth, updates to regulations are 
needed to ensure that program requirements are sufficient to meet 
increased demand, and prevent mortgage defaults that not only impose a 
risk to the FHA insurance fund but can also jeopardize the safety and 
stability of Section 232 facilities and their residents. HUD's 
regulations governing the Section 232 program are primarily codified in 
24 CFR part 232.

B. The Proposed Rule

    On May 3, 2012, HUD published a proposed rule at 77 FR 26218, in 
which it submitted, for public comment, revisions to the Section 232 
program regulations. On May 3, 2012, HUD also published a notice at 77 
FR 26304, which proposed revisions to the related documents used in the 
insurance of healthcare facilities under the Section 232 program. In 
the May 3, 2012, rule, HUD proposed regulatory revisions that would 
update terminology, require a single asset form of ownership, and 
reflect current policy and practices used in healthcare facility 
transactions today. The updates included in the proposed rule also 
included amendments to HUD's Uniform Financial Reporting Standards to 
include operators of projects insured or held by HUD as entities that 
must submit financial reports. In addition, in the May 3, 2012 rule, 
HUD proposed several revisions to strengthen borrower eligibility 
requirements, as well as HUD's oversight of the healthcare program and 
projects.
    With respect to proposed revisions to the Section 232 documents, 
published in the May 3, 2012, notice, HUD will address public comments 
and advise of any changes through separate publication.

C. Key Changes Made at the Final Rule Stage

    In response to comments, HUD made several changes to the regulatory 
text proposed by the May 3, 2012, rule. Key changes made at the final 
rule stage include the following:
    Transition period for compliance. For several of the new or updated 
regulatory provisions in this final rule, HUD provides a transition 
period of 6 months before compliance with the requirements become 
applicable. The final rule, at Sec.  232.1(b), lists which regulatory 
sections become applicable 6 months after publication of this final 
rule.
    Removal of an across-the-board long-term debt service reserve. The 
final rule removes the across-the-board requirement, proposed in the 
May 3, 2012, rule, to establish and maintain a long-term debt service 
reserve. The requirement was designed to provide a borrower facing 
operating difficulties, at any time throughout the life of the 
mortgage, the time to arrange a workout plan by providing a source of 
funds from which the borrower could make debt service payments and thus 
delay or avoid an insurance claim by the lender. Several commenters 
objected to the across-the-board nature of this reserve, and offered 
various alternatives to provide such additional time for workouts. 
Commenters recommended addressing the timing issues directly and 
expanding the time periods involved in a lender's submission of a claim 
for insurance and HUD's processing of such a claim. This recommendation 
builds from similar revisions implemented through the updates to the 
multifamily rental

[[Page 55121]]

housing program regulations and documents.
    This final rule adopts this recommendation. The final rule 
provides, at Sec.  232.11, that the long-term debt service reserve will 
be required only in cases where HUD determines a need for such a 
reserve. HUD anticipates that requiring a long-term debt service 
reserve will be the exception and not the norm. HUD may require such a 
reserve when underwriting determines there is an atypical long-term 
project risk. Atypical long-term risks could occur, for example, in 
circumstances in which there is an unusually high mortgage amount, or 
when some other risk mitigant, such as a master lease structure 
typically used in a portfolio transaction, is unavailable in a 
particular transaction.
    Removal of requirement for segregation of operators accounts. In 
the proposed rule, HUD included several provisions requiring the 
segregation of operator accounts to address the need to isolate a 
particular healthcare facility's financial transactions from an account 
where the facility's funds have been commingled with the funds of other 
facilities. Commenters pointed out that the proposed approach differs 
from industry practice, is more costly, and is unnecessary in light of 
available accounting software systems. HUD agrees that accounting 
software available today is designed to accomplish the interests that 
HUD identified, and HUD has therefore eliminated the account 
segregation requirements in this final rule. (See Sec.  232.1013.) 
Additionally, operator compliance with the new financial reports 
required under the new 24 CFR 5.801, which was included in the proposed 
rule and remains in this final rule, will necessitate that the operator 
maintain accounts in a manner that will allow HUD and the lender to 
discern the funds attributable to the facility.
    Revision of requirement to maintain positive working capital at all 
times. The proposed rule included provisions that would have required 
operators to maintain positive ``working capital'' at all times. In 
response to commenters' concerns that this requirement is inconsistent 
with other program obligations, and is infeasible, the final rule 
addresses working capital, at Sec.  232.1013, by prohibiting the 
distribution, advance, or otherwise use of funds attributable to the 
insured facility, for any purpose other than operating the facility, if 
the quarterly/year-to-date financial statement demonstrates negative 
working capital. The prohibition remains in place until a quarterly/
year-to-date financial statement demonstrating positive working capital 
is submitted to HUD. In brief, the final rule provides that HUD will 
monitor an operator's distribution of funds through its quarterly 
financial statements to ensure that the facility is positioned to 
withstand distributions.
    Removal of prohibition on payments to borrower principals without 
prior HUD approval. The proposed rule provided that no principal of the 
borrower entity would receive payment of funds (e.g., a salary) derived 
from operation of the project, other than from permissible 
distributions, without HUD approval. The final rule removes the 
prohibition against payment to principals of the borrower without HUD 
approval (Sec.  232.1009 at the proposed rule stage), as other sections 
of the regulations adequately address the issue of circumvention of 
distribution limitations. For example, Sec.  232.1007 of the final rule 
requires that the costs of goods and services purchased or acquired in 
connection with the project be reasonable and reflect market prices, 
which provides HUD with adequate protection in regard to the level of 
principals' salaries or other compensation.
    Removal of HUD approval of any revisions to management agreements. 
The proposed rule would have required HUD to approve both initial 
management agreements, as well as revisions to the management 
agreements. HUD has determined to retain the requirement for initial 
approval of management agent agreements, but, in light of the inclusion 
of the limitation, in Sec.  232.1007, that goods and services be in 
line with the market, will require approval of only those revisions 
that are material. (See Sec.  232.1011 of this final rule.)
    Removal of HUD approval of any commercial lease or sublease. The 
proposed rule would have required, at Sec.  232.1013, an operator to 
obtain HUD approval of any commercial lease or sublease. In response to 
commenters' concerns that changing industry needs and practices (e.g., 
the inclusion of beauty salons in nursing homes) often necessitated 
leasing and subleasing, HUD has determined to remove the restriction.
    Establishing date of default for mortgages insured under Section 
232. The final rule clarifies the amendments made to Sec.  207.255 at 
the proposed rule stage by defining the date of default for Section 232 
insured mortgages.
    Other changes. In addition to the changes discussed above, the 
final rule also--
     Provides for flexibility in Sec.  5.801 (uniform financial 
reporting standards) in the format and manner, as determined by HUD, 
that financial reports may be submitted to HUD, to the lender or other 
third party as HUD may direct;
     Adds language to Sec.  200.855, which was inadvertently 
omitted from the regulatory text but discussed in the preamble to the 
proposed rule at 77 FR 26222, and that exempted assisted living 
facilities, board and care facilities and intermediate care facilities 
from inspections by HUD's Real Estate Assessment Center (REAC) if the 
State or local government has a reliable inspection system in place.
     In Sec.  207.258, defines, in paragraph (a) the 
``Eligibility Notice Period,'' adds a new paragraph (a)(4) to provide 
for acknowledgment by HUD of the lender's election either to assign its 
mortgage or acquire and convey title to HUD, and removes language from 
the opening clause of paragraph (b)(1)(i), which was added in the 
update of the multifamily project rental regulations, but is no longer 
applicable;
     Removes the definition of ``mortgaged property'' in Sec.  
232.9 of the proposed rule, as well as the definition section in new 
subpart F, Sec.  232.1003 of the proposed rule, because these terms are 
defined in the transactional documents and HUD agreed with commenters 
to limit transfer of certain terminology from the transactional 
documents to the regulations;
     Moves the definition of eligible operator set forth in the 
proposed rule to a separate regulatory provision at Sec.  232.1003, 
which establishes the eligibility requirements for operators in the 
Section 232 program;
     Withdraws the amendments proposed to be made to Sec.  
232.251 regarding other applicable regulations, since the final rule 
addresses this issue in Sec.  232.1.

II. Discussion of Public Comments

    The public comment period for this rule closed on July 2, 2012, and 
HUD received 27 public comments through the www.regulations.gov Web 
site. Comments were submitted, through this governmentwide portal, by a 
wide variety of parties including: Commercial mortgage bankers; 
companies that own, manage, and operate skilled nursing facilities and 
assisted living facilities; national and state healthcare associations; 
and a federation of state associations representing nonprofit and 
proprietary long-term care providers, including nursing and assisted 
living facilities. Comments were also submitted by a coalition of 
national investment and mortgage bankers that participate in HUD's 
healthcare

[[Page 55122]]

programs, as well as a trade association of lenders and a coalition of 
national senior residential and healthcare associations. The ``HUD 
Practice Committee'' submitted comments on behalf of the Forum on 
Affordable Housing and Community Development Law of the American Bar 
Association. Private individuals also submitted comments. As a special 
outreach to the public on proposed changes to the Section 232 
regulations, HUD hosted a forum, the ``Section 232 Document and 
Proposed Rule Forum'' on May 31, 2012, in Washington, DC. A video of 
this forum is available on the HUD internet site at http://portal.hud.gov/hudportal/HUD?src=/press/multimedia/videos. While 
comments were raised and discussed at the forum, as reflected in the 
video, HUD encouraged forum participants to file written comments 
through the www.regulations.gov Web site so that all comments would be 
more easily accessible to interested parties. All comments, whether 
submitted through www.regulations.gov or raised at the forum, were 
considered in the development of this final rule.
    This section of the preamble presents significant issues, 
questions, and suggestions submitted by public commenters, and HUD's 
responses to these issues, questions, and suggestions.

General Comments

    Several commenters expressed their general support for the rule as 
improvements that are necessary and beneficial, stating that the rule 
provided the appropriate balance of risk mitigation while not overly 
burdening the borrower and operator or substantially altering demand 
for the program. Commenters also stated that several of the 
modifications, such as the limitation on REAC inspections and 
modification of the borrower surplus cash rules, were beneficial.
    Notwithstanding the general support for the rule's objectives, one 
commenter objected to the rule overall, and other commenters offered 
suggested changes to several of the rule's provisions.
    Comment: HUD's regulatory changes to the Section 232 program will 
deter participation by third-party operators. A commenter stated that 
the totality of HUD's regulatory scheme will discourage third-party 
(non-identity-of-interest) operators from participating in the Section 
232 program.
    HUD Response: As stated in the preamble of the May 3, 2012, 
proposed rule, operators now carry out significant day-to-day duties in 
the administration of healthcare facilities (as opposed to when the 
regulations were first promulgated in the 1970s), and this important 
role needs to be explicitly addressed in regulation. However, while 
seeking to ensure, through establishment of regulations, the requisite 
accountability by operators participating in the Section 232 program, 
it was not HUD's intent to deter participation by responsible 
operators. In response to public comment, HUD has made several changes 
at this final rule stage that address concerns that the requirements 
proposed to be imposed on operators are too stringent.
    Comment: Make the final regulations effective as of the date that 
applications are received. A commenter stated that HUD should make the 
effective date of the final regulations the date that applications for 
insurance are received by HUD, rather than the date the firm commitment 
is issued.
    HUD Response: As already discussed in this preamble, the final rule 
provides a 6-month transition period before compliance with several of 
the regulatory provisions becomes applicable. Section 232.1 of the 
final rule identifies the regulatory sections for which HUD provides a 
transition period but the transition period is linked to the date for 
which a firm commitment has been issued. Specifically, Sec.  232.1(b) 
of the final rule provides that the identified regulatory sections will 
become applicable only to transactions for which a firm commitment has 
been issued on or after the date that is 6 months following publication 
of this final rule.
    HUD is basing the transition period on the date for which a firm 
commitment has been issued and not on the date that the application for 
insurance is received, because significant barriers exist to applying 
the regulations based on the date for application for insurance. 
Applications are often less than fully complete when initially received 
and current program systems lack the capability to determine and 
memorialize when an application is deemed fully complete. HUD therefore 
believes that basing the transition period on issuance of the firm 
commitment is the correct approach.
    Comment: Place program requirements in administrative guidance, not 
in regulation. Commenters stated that several executive orders, such as 
Executive Orders 12866 and 13563, provide that ``[F]ederal agencies 
should promulgate only such regulations as are required by law, are 
necessary to interpret the law, or are made necessary by compelling 
public need.'' Commenters suggested that unnecessary regulations could 
be addressed by publishing requirements in administrative guidance as 
opposed to in rules. These commenters suggested that HUD add the phrase 
``as otherwise permitted or approved by HUD'' in various sections of 
the regulations to provide both industry and HUD with greater 
flexibility.
    Commenters stated that several of the proposed regulatory changes 
would limit program flexibility with respect to process improvements, 
such as those recently embraced by HUD, in administering the Section 
232 programs and achieved through nonrulemaking documents. A commenter 
also stated that including the debt service reserve in the regulations 
is not the ``best, most innovative, or least burdensome'' method for 
achieving HUD's goals.
    HUD Response: The regulations provided in this final rule are those 
that HUD determined are necessary for purposes of updating and 
strengthening the Section 232 program, and are those which should not, 
or are likely not to, change frequently. However, as discussed below in 
responses to comments on specific provisions, HUD has identified 
certain proposed regulatory provisions, and HUD agreed with the 
commenters that the provisions did not need to be included in 
regulation.

Uniform Financial Reporting Standards (24 CFR Part 5; Sec.  5.801)

    The proposed rule offered revisions to the reporting requirements 
of 24 CFR 5.801 to include operators of projects with mortgages insured 
or held by HUD under the Section 232 program as entities that must 
submit financial reports. Under current requirements, financial reports 
are submitted by borrowers, but not operators of Section 232 insured 
healthcare facilities. HUD had determined that the audited financial 
statements of a borrower were not sufficient to assess the financial 
status of a Section 232 project, because the viability of the project 
is heavily dependent on the operator's financial performance, and the 
financial statements of the operator should also be reviewed for an 
accurate assessment of the project's financial status.
    The May 3, 2012, rule proposed to retain the longstanding 
requirement that owners submit audited financial statements annually 
and proposed to require operators to submit financial statements 
quarterly, covering separately the most recent quarter and the fiscal 
year to date.
    Comment: Extend the financial report submission deadline. A 
commenter suggested that HUD should extend the financial report 
submission deadline in Sec.  5.802(c)(4) from within 30 days of the

[[Page 55123]]

end of each quarterly reporting period to within 60 days of the end of 
each quarterly reporting period to provide operators sufficient time to 
submit required financial information. The commenter also suggested 
clarifying revisions with respect to the financial reporting 
requirements that apply when the borrower is also the operator. The 
commenter stated that the purpose of these suggested changes to the 
proposed rule was to eliminate duplicative submissions by the borrower 
and duplicative review by HUD that would result if the borrower were 
required to submit an annual unaudited financial statement followed 
shortly thereafter by submission of an annual audited financial 
statement.
    The commenter also proposed that the financial reporting 
requirements set forth in this section should apply only to those 
projects that are governed by the new Section 232 loan documents and 
that received a firm commitment on or after the effective date of final 
regulations. The commenter suggested revised language in 24 CFR 
5.802(d)(4) to limit the application of this section. The commenter 
stated that without this limiting language, the reporting standards 
would be retroactively applied to operators of existing insured 
projects that are not currently subject to these financial reporting 
requirements under the terms of the mortgage loan transaction documents 
and regulations in effect at the time the loan closed.
    HUD Response: HUD declines to accept the commenter's recommendation 
to extend the timing for the submission of all reports from 30 to 60 
days. Receipt of the unaudited quarterly and year-to-date operator 
financial statements promptly at the end of each quarter is needed for 
effective monitoring of a property's financial operations and the trend 
of those operations. However, in recognition of the intricacies 
involved in developing year-end financial statements, HUD has extended 
the submission of the final quarter and year-to-date operator-certified 
statements submitted for the 4th fiscal year quarter to 60 calendar 
days following the end of the fiscal year.
    Due to the same need for effective financial oversight, HUD also 
declines to accept the commenter's recommendation to eliminate separate 
year-end operator quarterly and year-to-date reports when the borrower 
is also the operator. Operator reports will be submitted in separate 
systems that allow for more prompt submission than audited reports, and 
therefore HUD will receive timely and important trend information.
    With respect to the commenter's statement that the requirements 
should be applied only to those projects that are governed by the new 
Section 232 loan documents and that received a firm commitment on or 
after the effective date of final regulations, HUD declines to adopt 
the change. As stated in the preamble to the proposed rule, HUD 
determined that the financial statements that HUD currently receives 
are insufficient to assess the financial status of a Section 232 
project. The viability of the project is heavily dependent on the 
operator's financial performance, and this information is not currently 
part of financial reports on Section 232 projects. HUD is requiring 
this information to improve the accuracy of its assessment of a 
project's financial status, and thus the solvency of the fund. 
Application of these financial reporting requirements to existing 
facilities is consistent with authority provided in paragraph 3 of 
most, if not all of the existing operators' regulatory agreements that 
provide for the Secretary to request financial reports. This rule 
implements such a request through regulation. Receipt of these reports 
will significantly improve HUD's ability to manage and maintain the 
finances of the FHA insurance fund.

Introduction to FHA Programs: Physical Condition of Multifamily 
Properties (24 CFR Part 200, Subpart P)

Physical Condition Standards and Physical Inspection Requirements 
(Sec.  200.855)
    The proposed rule would have narrowed and streamlined the scope of 
Section 232 facilities that are routinely inspected by REAC. In 
particular, the proposed rule provided that facilities such as assisted 
living facilities and board and care facilities, and properties that 
are routinely surveyed pursuant to regulations of the Centers for 
Medicare and Medicaid Services, would not be subject to routine REAC 
inspections if the State or local government had a reliable and 
adequate inspection system in place. The remainder of the Section 232 
properties would be inspected only when and if HUD determined, on a 
case-by-case basis and on the basis of information received, that 
inspection of such facility is needed to help ensure the protection of 
residents or the adequate preservation of the project.
    Comment: Support for the proposed changes. A commenter representing 
a federation of state associations of nonprofit care providers 
expressed support for the proposed changes, which the commenter 
characterized as the REAC multifamily standards, and described such 
standards as suitable for apartment buildings, but unsuitable for 
healthcare facilities. Another commenter expressed agreement that 
facilities should be exempt from the FHA physical inspection 
requirements on the grounds that the State inspection is thorough and 
sufficient. The commenter also stated that in addition to the dollars 
savings outlined in the proposed rule, the exemption would eliminate 
the conflict between the HUD inspection requirements and the State 
requirements. The commenter stated that this approach would relieve the 
facilities of the administrative burden of continually asking for 
exceptions or waivers to address those conflicts.
    HUD Response: HUD appreciates the commenters' support of this 
regulatory change.

Multifamily Housing Mortgage Insurance (24 CFR Part 207)

Contract Rights and Obligations (Subpart B)
    Subpart B of the part 207 regulations addresses contract rights and 
obligations and the rights and duties of the mortgagee under contract 
of insurance, and HUD determined that certain revisions were necessary 
as part of its updating of regulations applicable to the Section 232 
program.
Defaults (Sec.  207.255)
    The proposed rule's revisions to Sec.  207.255, ``Defaults for 
purposes of insurance claim,'' included language defining the date of 
defaults. The proposed rule would have revised Sec.  207.255(a)(4) by 
clarifying the dates on which certain monetary and other defaults 
occur.
Date of Default (Sec.  207.255(a)(4)(ii))
    Comment: Revise the Date of Default. A commenter stated that 24 CFR 
207.255(a)(4)(ii) requires revision to take into consideration HUD's 
ability to prevent the lender from accelerating the debt due to a 
covenant event of default. The commenter stated that this proposed 
change is appropriate because the lender is not able to control the 
time period between when a violation occurs and the date of an 
assignment.
    HUD Response: HUD agrees with the commenter that the Date of 
Default for a covenant default should not be the date on which the 
underlying covenant violation occurs, but for reasons different than 
those advanced by the commenter. In addition, the language in Sec.  
207.255(a)(4) is not intended to apply to loans insured under Section 
232, and, as stated in the proposed rule, HUD proposed to adjust the 
language that

[[Page 55124]]

currently reads ``for purposes of paragraph (b) of this section,'' to 
read ``for purposes of paragraph (a) of this section.'' Therefore, the 
comment actually relates to the similar language set forth in Sec.  
207.255(b)(4)(i), and in response to this comment, HUD is adding Sec.  
207.255(b)(5), which applies to mortgages insured under Section 232, to 
clarify the dates of default applicable to the Section 232 program.
    In the final rule, HUD also specifies that a covenant violation 
does not become a default for purposes of payment of an insurance claim 
until the lender has accelerated the debt and the borrower has failed 
to make that accelerated debt payment. Namely, the regulation now 
provides that for mortgages insured under Section 232, the date of 
default shall be considered as: (a) The first date on which the 
borrower has failed to pay the debt when due as a result of the 
lender's acceleration of the debt because of the borrower's uncorrected 
failure to perform a covenant or obligation under the regulatory 
agreement or security instrument; or (b) the date of the first failure 
to make a monthly payment, which subsequent payments by the borrower 
are insufficient to cover when applied to the overdue monthly payments 
in the order in which they become due.
    Section 207(g) of the National Housing Act (12 U.S.C. 1713(g)) 
provides the authority for payment of a claim for mortgage insurance 
benefits. Pursuant to that statutory provision, there must be a 
monetary default in order for the mortgagee to become eligible to 
receive mortgage insurance benefits. Therefore, the date of default for 
purposes of payment of a claim, premised on a covenant violation, must 
be associated with a monetary default. A covenant violation does not 
become a default for purposes of payment of an insurance claim until 
the lender has accelerated the debt and the borrower has failed to make 
that accelerated debt payment. In light of the statutory language and 
pursuant to HUD's regulation at Sec.  207.255(b), a covenant violation 
does not become a default until after the mortgagee has accelerated the 
debt. Accordingly, the date of default referenced in Sec.  
207.255(b)(5)(i) should be read to directly correlate to the default 
referenced in Sec.  207.255(b)(1)(ii); e.g., associated with the 
acceleration of the debt.
Corrective Change (Sec.  207.255(b)(3))
    HUD did not propose any revisions to Sec.  207.255 in the May 3, 
2012, proposed rule. Despite the fact that HUD did not seek comment on 
this section, one commenter proposed that HUD modify Sec.  
207.255(b)(3) to remove the general reference, and limit it to Sec.  
207.255(b)(1).
    Comment: Revise the references. A commenter suggested that HUD 
remove the reference to ``paragraph (b)'' and replace this reference 
with a more limiting reference to ``paragraph (b)(1)''. Paragraph (b) 
of Sec.  207.255 describes the actions constituting a default 
applicable to multifamily mortgages for which HUD issued a firm 
commitment for mortgage insurance before September 1, 2011, and for 
multifamily projects insured under section 232 of the Act (12 U.S.C. 
1715w) and section 242 of the Act (12 U.S.C. 1715z-7). Paragraph (b)(1) 
provided categories of mortgages covered by the default provisions. In 
the regulatory revisions of the May 3, 2012, proposed rule, HUD 
restructured Sec.  207.255 to provide in Sec.  207.255(a) for a ``two-
tiered'' default and in new paragraph (a)(5) for a ``grandfathering'' 
of multifamily projects for which firm commitments were issued before 
September 1, 2011, and for mortgages issued under sections 232 and 242.
    HUD Response: HUD is not accepting the suggested change. The 
revised regulation at 24 CFR 207.255(b)(3) is accurate.
Insurance Claim Requirements (Sec.  207.258)
    The May 3, 2012, rule proposed to modify Sec.  207.258, ``Insurance 
claim requirements,'' by further clarifying in paragraph (a)(2) the 
applicability of the lockout and prepayment premium periods. The May 3, 
2012, rule also proposed to modify Sec.  207.258(b)(1)(i) by clarifying 
the time period within which a mortgagee may elect to assign a mortgage 
insured under section 232 of the Act to the Commissioner.
    Comment: Proposed change to claims process delays payment of the 
claim. A commenter expressed opposition to the revision to the claims 
process. The commenter stated that a lender may not file its 
application for insurance until ``HUD acknowledges the notice of 
election.'' The commenter stated that HUD could now delay payment of a 
claim by refusing to provide acknowledgment of the notice. The 
commenter stated that this provision undercuts the incontestability of 
the FHA insurance, as provided in the National Housing Act (12 U.S.C. 
1706c(e)), by implementing a practical barrier to the realization of 
the lender's insurance benefits. The commenter stated that this 
requirement allows HUD to deny benefits to a lender even though the 
lender has followed all claims processing requirements.
    HUD Response: HUD declines to accept the commenter's 
recommendation. The imposition of a waiting period does not undercut 
the incontestability of the FHA insurance, as suggested by the 
commenter. Receipt of FHA insurance benefits is not instantaneous, 
because certain procedures must be followed. Where there have been 
delays in a lender's receipt of insurance benefits or rejections of a 
lender's claim, it is HUD's experience that such outcomes were due to 
the lender not meeting program requirements; for example, impermissible 
liens on the property having not been resolved.

Mortgage Insurance for Nursing Homes, Intermediate Care Facilities, 
Board and Care Homes, and Assisted Living Facilities (24 CFR Part 232)

Nomenclature Change
    In its review of the regulations in 24 CFR part 232, HUD noted that 
the regulations use both the terms ``borrower'' and ``mortgagor.'' 
These terms have the same meaning, and to avoid any misunderstanding 
that they have different meanings, the May 3, 2012, rule proposed to 
substitute the term ``borrower'' for ``mortgagor'' throughout the part 
232 regulations. That said, the healthcare financing and transactional 
documents for the Section 232 program may sometimes refer to the 
borrower as the ``mortgagor,'' ``lessor,'' and/or the ``owner.''

Eligibility Requirements (Subpart A)

Eligible Borrower (Sec.  232.3)
    The May 3, 2012, rule proposed to revise the definition of eligible 
borrower to provide that the borrower shall be a single asset entity, 
determined acceptable to the Commissioner, and that possesses the power 
necessary and incidental to be operating the project. The proposed rule 
also provided that the Commissioner may approve an exception to this 
single asset requirement in limited circumstances based upon such 
criteria as specified by the Commissioner.
    HUD identified one error in the proposed rule definition. Rather 
than stating ``incidental to operating the project,'' HUD intended to 
state ``incidental to owning the project,'' and this change should 
address several of the concerns by commenters about the definition of 
borrower, as discussed below.
    Comment: Modify requirements for single asset entities to address 
identity-of-interest issues for operators. A commenter stated that the 
proposed rule would hamper workouts by limiting the

[[Page 55125]]

number of potential operators that can assume responsibility for the 
operations of a facility. The commenter stated that the proposed rule 
would cause significant time and cost burdens on the State licensing 
agencies that will be required to address the changes of owners and 
operators on HUD transactions. Commenters also stated that the 
requirement should be limited to new construction and acquisitions and 
not be applicable to refinancing transactions. Commenters stated that 
under the current regulatory regime, operators typically could operate 
a number of different facilities and own separate properties in the 
name of the operator. Commenters stated that requiring operators to be 
single asset entities means that many operators would need to either: 
(i) Transfer operations at the project level (including licenses and 
provider agreements) or (ii) transfer other assets, including licenses 
and interests in other facilities, all of which can be time consuming 
and expensive. The commenters stated that particularly where there is 
no identity of interest between the owner and operator, the operator 
may be unwilling to transfer property to comply with HUD's single asset 
requirements.
    HUD Response: HUD recognizes the concerns raised by the commenters 
about single asset entities but believes that the language in the 
proposed rule, as modified by the correction of ``operating'' to 
``owning'' in this final rule, gives adequate flexibility in this 
respect, and therefore HUD declines to adopt the commenters' 
recommendations. The proposed rule language in 24 CFR 232.3 explicitly 
authorizes HUD to approve ``a non-single asset entity under such 
circumstances, terms and conditions determined and specified as 
acceptable to the Commissioner.'' In addition, the proposed definition 
of operator provides the same flexibility for the Commissioner to 
specify non-single asset entities. The final rule retains this explicit 
authorization and flexibility. However, HUD has removed, in this final 
rule, the separate effective date for the implementation of this 
particular section. There is no overriding need for a phase-in 
requirement because the flexibility provided to the Commissioner to 
allow non-single asset entities in the rule language can be exercised 
where necessary.
Establishment and Maintenance of Long-Term Debt Service Reserve 
Accounts (Sec.  232.11)
    The proposed rule provided that to be eligible for insurance under 
the Section 232 program, and except with respect to the regulatory 
provisions applicable to supplemental loans to finance purchase and 
installation of fire safety equipment (24 CFR part 232, subpart C), the 
borrower must establish, at final closing and maintain throughout the 
term of the mortgage, a long-term debt service reserve account.
    Comment: Eliminate or modify the long-term debt service reserve. 
Commenters stated that requiring establishment of a long-term debt 
service reserve inappropriately restricts funds, is unnecessary for 
well-capitalized and well-performing properties, and is inconsistent 
with the practices of private lenders. Commenters stated that there are 
a number of problems with this proposal, which are outlined as follows.
    Commenters stated that the cost of the required extra capital far 
exceeds the small amount of interest one earns when investing in the 
loan servicing account, given the cost of capital and the interest 
earned on the funds deposited. Several commenters stated that this 
would add incremental costs that would make the program noncompetitive 
with Fannie Mae, Freddie Mac, and the Rural Housing Service of the U.S. 
Department of Agriculture (USDA), commercial banks, and finance 
companies. A commenter further stated that this requirement defeats the 
purpose of the mortgage insurance premiums (MIP), which is already 
equivalent to an approximate 15 percent premium on the stated rate of 
interest. Commenters also stated that the proposal would contribute to 
adverse selection of FHA borrowers that would deprive FHA of the 
benefit of MIP payments on higher-quality lower-risk transactions.
    Commenters also stated that the debt service reserve would not 
reduce the number or severity of mortgage insurance claims. Commenters 
stated that the requirement as proposed would be imposed on all 
properties whether or not they are well capitalized or are well 
performing. Commenters further stated that the debt service reserve was 
unnecessary, in particular, for those projects included in a master 
lease structure as that structure: (1) Results in all project funds 
being available to service the debt of a struggling project, and (2) 
provides a strong incentive to the operator to support the struggling 
project. The commenters also stated that under conventional loan 
standards, impositions of a debt service account are limited to under-
performing loans.
    Commenters further stated that maintaining a minimum balance 
throughout the life of the loan greatly extends the amount of time a 
borrower must restrict funds for this purpose.
    Commenters stated that debt service reserves should not be required 
for Sec.  223(a)(7) (refinancing) loans because, in refinancing, the 
borrower will: (1) Reduce debt service costs, increase the debt service 
coverage ratio, and increase funding of the reserve for replacement 
and/or the completion of necessary repairs, and (2) will not have 
mortgage proceeds available to fund the debt service reserve because 
they are limited by the amount of the original insured mortgage.
    Commenters stated that HUD should modify Sec.  232.11 to state that 
the long-term debt service reserve would be required at the discretion 
of HUD.
    Several commenters also provided suggestions on how HUD may 
implement the long-term debt service reserve, if HUD chose to retain 
this requirement at the final rule stage. These suggestions include the 
following:
     The lender, not HUD, should recommend the reserve as part 
of the application for insurance and minimal reserves should be allowed 
for strong projects.
     The date of establishment of the debt service reserve 
should be flexible, rather than requiring the reserve to be established 
by the date of final closing.
     The entire reserve should be mortgageable even if the 
reserve results in a mortgage over the 80 percent loan-to-value (LTV) 
created during the conversion to Section 232 program financing. 
Commenters stated that this is common in the industry as cash secured 
lending is dollar for dollar and does not affect the collateral 
position. A commenter stated that HUD should allow the debt service 
reserve to be included as an eligible cost up to the 85 percent level.
     Flexibility should be allowed in the release of such 
reserves. Commenters stated that it is difficult for a borrower to 
agree to ``HUD's sole discretion.'' Commenters stated that rights must 
be given to the lender and that the lender can use its discretion on 
release of reserves. Also, commenters stated that there should be some 
benchmarks that allow the borrower to tap into the funds such as: (a) A 
debt service coverage ratio (DSC) that is below 1.0 for some period of 
time or (b) a certain threshold of capital the borrower must have 
contributed before the reserve can be tapped.
     Use of the Master Lease agreement should be eliminated or 
reduced if a longer debt service reserve is established.
     Extend the time that HUD can require a lender to advance 
mortgage payments from 90 days to 180 days

[[Page 55126]]

(multiple commenters made this comment).
     Allow borrowers, with lender approval, to consider funding 
the reserve with letters of credit.
     Establish the reserve in a handbook as opposed to a 
regulation.
     Remove the ``long-term'' qualification.
    Commenters suggested that alternative strategies would have similar 
results. These included:
     Require debt service reserve payments under certain events 
such as a DSC below 1.0 or negative working capital with the reserve to 
be released and/or suspended upon some threshold of DSC being met.
     Require a debt service reserve payment in the event of a 
default of the regulatory agreement or of any pertinent loan document.
     Require the servicer to make debt service payments for 
some period of time before or otherwise extend the time before 
servicers can assign the mortgage to HUD, which the commenters stated 
would encourage servicers to implement early warning and workout 
strategies.
     Build in additional flexibility by, for example, adding 
language to give HUD the flexibility to allow for a reduction in the 
minimum balance required to be maintained in the debt service reserve 
and to allow for the release of funds in the debt service reserve in 
excess of the required amount.
    HUD Response: HUD accepts the commenters' recommendations in part, 
and is modifying the language establishing the long-term debt service 
reserve in two major respects. First, the final rule modifies the 
proposed rule to provide HUD with the discretion as to when a long-term 
debt service reserve may be necessary. Second, the final rule provides 
for extensions of the time periods involved in the claims process, set 
forth in Sec.  207.258, prior to the mortgagee's assignment of a 
mortgage to HUD, in order to provide HUD the same protection as was 
intended by the proposed long-term debt service reserve. Namely, such 
extensions to the claims process provide time and space for the parties 
involved to attempt a workout.
    Because HUD does not intend to require long-term debt service 
reserves across the board, there is no need to address the issue of 
refinanced loans. HUD anticipates that the use of a long-term debt 
service reserve will be rare (unlike the short-term debt service escrow 
account that has been frequently used in the Section 232 program, and 
which is not a mortgageable item). HUD envisions that a long-term debt 
service reserve will be necessary in circumstances in which 
underwriting indicates an atypical long-term risk. Examples of 
circumstances in which HUD may require the establishment of a long-term 
debt service reserve include an atypically high mortgage amount, or if 
a key risk mitigant (such as a master lease structure typically used in 
a portfolio transaction) is unavailable.
    HUD declines to accept some of the commenters' recommendations, 
such as waiting to establish the long-term debt service reserve when 
the need arises, as such an approach would be imposed too late to serve 
a useful financial purpose. HUD has also determined to retain the 
``long-term'' qualification to distinguish these accounts from short-
term escrow accounts. HUD also determined to retain the minimum balance 
requirement contained in the proposed rule to assure that reserve funds 
are not diverted and are used for the intended purpose.

Contract Rights and Obligations (Subpart B, Part 232)

    Subpart B of the part 232 regulations addresses contract rights and 
obligations and the rights and duties of the mortgagee under the 
contract of insurance. The May 3, 2012, rule proposed several changes 
to the subpart B regulations.
Withdrawal of Project Funds, Including for Repayments of Advances From 
the Borrower, Operator, or Management Agent (Sec.  232.254)
    The proposed rule would have added a new Sec.  232.254 to provide 
that borrowers may, to the extent allowed in their transactional loan 
documents and applicable law, make and take distributions of mortgaged 
property under certain conditions. The proposed rule also included a 
definition of surplus cash.
    Although previously, the borrower could take distributions only 
annually (or, in limited circumstances, semi-annually), the proposed 
rule would have allowed borrowers to take distributions more 
frequently, provided that, upon making a calculation of borrower 
surplus cash, no less frequently than semi-annually, such borrowers can 
demonstrate positive surplus cash in their semi-annual surplus cash 
calculation or repay any distributions made during the fiscal period if 
a negative surplus cash position is shown. HUD included language in the 
proposed rule to clarify that it does not intend to override existing 
transactional agreements.
    Comment: Remove the 30-day repayment limitation. A commenter stated 
that it is unnecessary to include a specific time period in the 
regulations for repayment of disbursements taken during a negative 
surplus cash period. The commenter stated that paragraph 16(d) of the 
``Healthcare Regulatory Agreement--Borrower'' (HRA-B) document includes 
provisions on repayment, and in the interest of promoting flexibility 
in the regulations, the commenter proposed a revision. The commenter 
suggested the following: ``30 days or within such shorter period as may 
be required by HUD'', be replaced with ``within such time period as may 
be specified by HUD.''
    HUD Response: HUD adopted the concept of the commenter's 
recommendation. The final rule clarifies that borrowers will receive a 
minimum of 30 days, but HUD has the discretion to approve a longer time 
period, which will provide additional flexibility when a facility or 
project is in a workout situation.
    Comment: Revise definition of ``surplus cash'' to include cash and 
cash equivalents and exclude amounts payable from escrows. A commenter 
suggested that the definition of surplus cash be revised to be 
consistent with paragraph 15 of the proposed HRA-B document. The 
commenter suggested that the definition of surplus cash in the 
regulations should include cash and cash equivalents (i.e., short-term 
investments), less the payment and segregation of amounts as thereafter 
set forth in 24 CFR 232.254(b).
    The commenter further stated that when calculating surplus cash, 
accounts receivable and accounts receivable financing should either: 
(1) Both be included in the calculation, or (2) both be excluded from 
the calculation. The commenter stated that the best way to address this 
issue would be to exclude as a deduction any accounts receivable 
financing approved by HUD and to exclude accounts receivable from cash. 
The commenter stated that its proposed approach is the more 
conservative option as, due to the borrowing base requirements, the 
accounts receivable will be higher than accounts-receivable financing, 
so including it in the calculation would create more surplus cash than 
the method of calculation that HUD proposes. The commenter stated that 
its proposed approach would also be more consistent with normal and 
past experience, and has the additional benefit of being easier to 
administer because it does not require a determination of the age of 
accounts receivable, whether the accounts receivable are collectable or 
similar types of information.
    A commenter suggested excluding the ``amounts payable from escrows 
held pursuant to the mortgage'' from the

[[Page 55127]]

calculation of ``all other accrued items payable by Borrower,'' to 
avoid double counting.
    HUD Response: HUD understands the commenter's concerns, and 
appreciates the comments submitted regarding the calculations involved 
in a determination of surplus cash. Given the commenter's concerns 
about the components of this calculation, and the effect that changes 
to the definition would have on distributions, the final rule removes 
this definition from the regulatory text. The term surplus cash has 
historically been defined in the borrower regulatory agreement, and HUD 
will retain the definition in that document.
Leases (Sec.  232.256)
    The proposed rule would have added a new Sec.  232.256 to require 
that a borrower may not lease any portion of the project or enter into 
any agreement with an operator without HUD's prior written consent.
    Comment: Section is overly onerous and ineffective. Several 
commenters stated that inclusion in the regulations of the requirement 
to obtain HUD approval prior to entering into leases is unnecessary, 
and suggested removal of this section in its entirety. Commenters 
stated that, historically, HUD has regulated operating and commercial 
leases through the terms of the Regulatory Agreement. The commenters 
stated that, therefore, imposing limits on leasing of the project is 
adequately addressed through existing mechanisms. Commenters further 
stated that although the multifamily regulations were recently updated, 
there was no analogous limitation with respect to leases in the 
recently adopted regulatory changes.
    Commenters also stated that if HUD did not accept the suggestion to 
remove the requirement in its entirety, HUD should consider revisions 
that would add necessary flexibility to the regulation, such as giving 
HUD the ability to categorically permit certain types of leases across 
all projects through ``Program Obligations,'' a concept expressed in 
the discussion of HUD's recent May 2011 rule on multifamily rental 
projects and in the notice advising of document changes to the 
multifamily rental project documents. Alternatively, commenters 
suggested that HUD approve project-specific leases on a case by-case 
basis.
    HUD Response: HUD accepts the commenters' recommendations and has 
removed this section.
Maximum Mortgage Limitations (Sec.  232.903)
    Section 232.903 describes the maximum loan to value limits and the 
specific items that can be included as mortgageable items.
    Comment: Include limits for public entities in Sec.  232.903. A 
commenter suggested an addition to the existing regulation at Sec.  
232.903 to address public entity borrowers. Although this provision was 
not addressed by the proposed rule, the commenter suggested revising 
the existing regulatory language to add reference to public entity 
borrowers. The currently codified Sec.  232.903 specifies the limits 
that apply to profit-motivated borrowers and private nonprofit 
borrowers, but does not address public entity borrowers, which are a 
class of borrowers contemplated in the Regulatory Agreement.
    HUD Response: HUD declines to accept the commenter's 
recommendation. A suggested change was not proposed in the May 3, 2012, 
rule, and the commenter did not provide specific examples of the types 
of borrowers that would be covered by this term. Although HUD is not 
adopting the commenter's suggestion for this rule, HUD will give 
further consideration to the proposal.
    Comment: Revise project-refinancing limitations in order to account 
for a change in ownership. A commenter stated that new Sec.  
232.903(c)(1)(i) (which addresses refinancing by an existing owner) 
prohibits a change in ownership, without specifying any time 
limitations as to when the change in ownership is prohibited from 
occurring. The commenter suggested adding the phrase ``subsequent to 
the date of application'' to this provision.
    HUD Response: HUD accepts the commenter's recommendation and has 
included this language in the regulation.
    Comment: Revise the cost to refinance in Sec.  232.903(c). A 
commenter suggested that while HUD revised the paragraphs providing a 
description of existing indebtedness, those mortgageable items should 
more appropriately be included in the costs to refinance.
    HUD Response: HUD appreciates the commenter's recommendation and 
agrees that these costs are appropriately listed as costs to refinance. 
HUD accordingly adopts the commenter's recommendation and has revised 
the regulation to address this issue.
    Changes to Sec.  232.903(c) and Sec.  232.903(d) are needed to 
clarify proposed references to long-term debt service reserve. In this 
final rule, HUD revises Sec.  232.903(c) and Sec.  232.903(d) to 
improve clarity by providing a cross-reference to the long-term debt 
service reserve in Sec.  232.11. HUD further clarifies that the debt 
service reserve contemplated by this final rule is ``long-term'' and 
added this qualifying term in Sec. Sec.  232.903(c)(2)(vi) and 
232.903(d)(6). These changes are intended to eliminate any potential 
confusion between this reserve and a short-term escrow. HUD is allowing 
the long-term debt service reserve to be a mortgageable item. The 
traditional short-term debt service escrow account has always been 
funded by the mortgagors themselves and is therefore not a mortgageable 
item. Examples of short-term debt escrow include the escrows on new 
construction/substantial rehabilitation projects, or escrows 
established because a project may lack a lengthy adequate financial 
history. Such short-term escrows have a separate escrow agreement.
    Comment: Revise the cross-reference to Mortgagee Fees (Sec.  
232.903(c)(2)(iii) and (d)(3)). A commenter stated that Sec.  
232.903(c)(3) and Sec.  232.903(d)(3) contain cross-references to 
``mortgagee fees under Sec.  232.15''. The commenter further stated 
that there is no Sec.  232.15 in the current regulations. The commenter 
suggested that the revised regulation could reference Sec.  200.41, 
Maximum Mortgagee Fees and Charges.
    HUD Response: The commenter is correct and the cross-reference to 
24 CFR 200.41 has been added.

Eligible Operators and Facilities and Restrictions on Fund 
Distributions (New Subpart F)

Definitions (Sec.  232.1003 in Proposed Rule--Removed in Final Rule)
    At the proposed rule stage, HUD defined the following terms in a 
proposed new Sec.  232.1003: identity of interest, management agent, 
operator, owner operator, and project. On further consideration, HUD 
determined that the term ``operator'' in proposed Sec.  232.1003 
established Section 232 eligibility requirements for operators more 
than simply providing a definition for this term. With respect to the 
remaining terms, all of which are addressed in the transactional 
documents, HUD is removing these terms from the regulations, agreeing 
with commenters that the better location for these terms remains the 
transactional documents. Therefore, Sec.  232.1003 at this final rule 
addresses eligible operators only.
    Although the final rule removes the definition section for new 
subpart F of part 232, several comments were submitted on the proposed 
definitions,

[[Page 55128]]

and HUD responds to these comments below.

Single Asset Entity

    Comment: ``Operator'' as a single asset entity is unworkable. 
Commenters stated that although many organizations have adopted the 
single asset structure, it is very common for a single legal entity to 
act as operator for multiple facilities. Commenters stated that 
segregating operations is a time-consuming process due to the need to 
transfer multiple licenses, establish new bank accounts, and revise 
numerous legal documents and agreements, and that these are 
particularly time consuming issues for facilities that are managed by 
national chains for a single asset borrower. Another commenter stated 
that, in some states, the single asset entity operator requirement 
would trigger the need for the healthcare facility to obtain a new 
Certificate of Need. Commenters stated that all of these changes, and 
the costs associated with them, make the alternative unworkable and 
unattractive.
    Other commenters stated that the single asset entity operator be 
recommended but not required. Commenters also recommended that the 
existing organizational structure remain in place in refinancing, given 
that such a structure is difficult to unwind.
    HUD Response: The definition of operator in the proposed rule 
provided flexibility for the Commissioner to approve non-single asset 
entities, and HUD retains that definition in the final rule.
    In reviewing its portfolio of healthcare loans, HUD found that a 
large number of the operator entities in the Section 232 program are, 
in fact, single asset entities--for prudent business purposes not 
necessarily related to FHA-insured financing. The approach of these 
operator entities is also helpful to HUD's effort to assure that the 
operator's viability and accountability is not adversely affected by 
the operation of other businesses (as in the case, for example, of 
bankruptcy or other litigation). Nevertheless, HUD recognizes that 
there are operating entities in the industry that successfully operate 
multiple facilities without facility-specific operating entities. HUD 
did not intend to impede this practice where it is effective, and 
therefore, the proposed definition of ``operator'' also explicitly 
authorized HUD to approve ``a non-single asset entity under such 
circumstances, terms and conditions determined and specified as 
acceptable by the Commissioner.''
    In Sec.  232.1003 of this final rule, which now only addresses 
eligible operators, HUD retains this language from the proposed rule 
and anticipates that in situations in which licensure or other issues 
make utilizing a separate operating entity problematic, a non-single 
asset operating entity will be approved.

Operator

    Comment: Specify that a master tenant is not an operator. Some 
commenters expressed concern that a single asset form of ownership was 
particularly inappropriate where Master Leases are concerned. A 
commenter stated that in some instances, a single project may have 
multiple operators. For example, a project may have a separate operator 
for each of the skilled nursing and assisted-living portions of a 
single healthcare campus. Additionally, the commenter stated that it 
should be specified that a master tenant is not an operator, as master 
tenants are not operators once they sublease the property to operators 
under HUD-approved subleases.
    Other commenters stated that the requirement for operators to be 
single asset entities is a significant change. They stated that they do 
not object to the language as proposed, because it provides appropriate 
flexibility for HUD to approve non-single asset entities. The 
commenters requested, however, that, prior to issuing further guidance 
in the form of a handbook or otherwise, there should be a conversation 
between HUD and the healthcare industry, as there are many situations 
in which it may not be possible or appropriate to have a single asset 
operator.
    HUD Response: With respect to the master lease issue, HUD clarifies 
in this final rule that, in a master lease context, the term 
``operator'' refers to an entity that operates a facility (generally 
the sublessee).
    With respect to establishing dialogue with industry on regulatory 
and transactional document changes in the Section 232 program, HUD has 
a good record of reaching out to industry for its input, first in the 
context of updating the multifamily rental project regulations and 
transactional documents, and now in the updating of the Section 232 
program regulations and transactional documents. HUD plans to continue 
with such outreach.
    Comment: Define arms-length or ``third-party operator'' to allow 
the inclusion of real estate investment trusts (REITs) and private 
investors. A commenter stated that the lack of a definition for an 
``arm's length'' or ``third-party'' operator, together with a set of 
new provisions that considers the unique characteristics of this 
ownership group, will limit participation in the Section 232 program of 
one of the largest and fastest growing ownership types that include 
REITs and private investors. The commenter recommended that the final 
rule include a definition of these terms.
    HUD Response: HUD declines to adopt the commenter's recommendation. 
HUD is interested in addressing the issues raised with regard to REITs 
and private investors, and received detailed comments with respect to 
this issue on proposed changes to the transactional documents. HUD will 
further consider these issues in the context of the documents.
    Comment: Provide how HUD will define identity of interest. A 
commenter noted that HUD included a definition of ``Identity of 
Interest Project'' in the proposed rule, but did not include a 
definition of ``identity of interest'' nor does the currently codified 
regulations define this term. The commenter further stated that HUD 
defined an identity of interest in the Regulatory Agreement, but this 
definition was not clear because it uses the term ``ownership entity,'' 
which is also not a defined term, and the term ``borrower'' is used 
everywhere else in the agreement. The commenter requested that HUD 
clarify the meaning of identity of interest.
    HUD Response: HUD declines to accept the recommendation. As noted 
earlier in this preamble, at this final rule stage, HUD is removing the 
proposed definition section from subpart F, agreeing with commenters to 
address terminology in the transactional documents.
Treatment of Project Operating Accounts (Sec.  232.1005)
    Proposed new Sec.  232.1005 addressed commingling of funds and 
directed that an operator must not, without HUD's prior approval, allow 
funds attributable to an FHA-insured or HUD-held healthcare facility to 
be commingled with funds attributable to another healthcare facility or 
business. This section also directed that funds generated by the 
operation of the healthcare facility are to be deposited into a 
federally insured bank account in the name of the single asset operator 
of the facility.
    Comment: Allow HUD discretion to modify deposit-of-funds 
requirements. A commenter stated that for HUD to have flexibility to 
address situations in which accounts receivable financing or other 
arrangements support the deposit of funds in a manner other than into a 
separate, segregated account or to respond to changes in technology, 
the following language should be added to

[[Page 55129]]

the funds deposit requirement: ``except as otherwise permitted or 
approved by HUD.''
    The commenter also suggested removing ``single asset'' where it 
appears in this section. The commenter stated that even if the operator 
is a single asset entity, funds must still be held in an account in the 
name of the relevant entity, and if HUD waives the single asset entity 
requirement for either an owner or operator, that waiver should not 
impact the requirement that project funds be segregated.
    HUD Response: In this final rule, HUD adopts the commenter's 
recommendation to allow flexibility for funds to be deposited in 
accounts other than under the name of the operator. HUD also adopts the 
commenter's recommendation to remove the reference to the single asset 
operator in this section. There is no need to include the qualification 
of single asset entity given that it is addressed in Sec.  232.1003 
(eligible operator) of the final rule.
    Comment: Remove reference to ``funds generated by the operation of 
the healthcare facility. '' A commenter suggested that HUD remove the 
reference to the phrase ``funds generated by the operation of the 
healthcare facility'' in the description of funds deposited because the 
phrase is overly broad.
    HUD Response: HUD declines to adopt the suggestion. HUD finds the 
reference to funds generated by the operation of the healthcare 
facility to be accurate and appropriately located in the rule. In 
addition, the inclusion of the new language (``except as otherwise 
provided by HUD'') provides HUD with the authority to make any 
adjustments, as HUD may determine necessary. However, in this final 
rule, HUD removes language that could be interpreted as limiting the 
requirement that owner's project related funds be deposited into a 
federally insured bank account in only those situations where the 
borrower is not also the operator. Removal of that clause is intended 
to clarify that all of an owner's project-related funds must be 
deposited into a federally insured bank account in the name of the 
borrower.
    Comment: Restriction on comingling of funds is unworkable. 
Commenters stated that the restriction on comingling of funds is in 
conflict with typical accounts receivable financing, and is not 
supported by the cost-benefit analysis. Commenters suggested that 
industry costs do not outweigh benefits. A commenter stated that the 
requirement that ``funds generated by the operation of the healthcare 
facility'' be deposited into an account in the operator's name is 
problematic as it has the potential to cause funds that are not 
attributable to the operator to be deposited in the operator's account. 
The commenter stated that a single project may have multiple operators. 
The commenter further stated that funds paid to the borrower as rent 
under an operating lease are arguably ``funds generated by the 
operation of the healthcare facility,'' but that they should not be 
deposited into the operator's bank account. The commenter suggested 
changes to correct what the commenter characterized as unintentional 
over-breadth of the language in the proposed rule.
    Commenters suggested that HUD recognize industry best practices by 
requiring the lender's underwriter to review the operator's accounting 
system to ensure that the project has an annual audit with property 
level accounting. The lender would review the operator's procedures 
(i.e., monthly bank reconciliations) to ensure the protection and 
accurate tracking of cash. Commenters also urged HUD to remove the 
prohibition against comingling operator's funds as interfering with the 
implementations of the master lease program and accounts receivable 
financing and use concentration accounts. The commenters recommended 
that HUD use the control account agreements to stop funds moving into a 
concentration account if the project is in financial trouble.
    Several lender commenters suggested that, as part of the 
underwriting, the lender or a consultant retained by the lender be 
required by HUD to perform an analysis of an operator's accounting 
systems to determine that the systems are sufficiently sophisticated to 
produce financial statements on a facility-by-facility basis.
    HUD Response: As noted earlier in this preamble, in this final 
rule, HUD removes the requirement for segregation of operator accounts. 
For the reasons discussed earlier in this preamble, HUD determined that 
the availability today of sophisticated accounting software has the 
ability to protect HUD and the lender's interest without necessitating 
the segregation of accounting.
    Comment: Proposed working capital requirements are unworkable. 
Several commenters stated that the requirement to maintain positive 
working capital in order to use funds to pay nonproject expenses 
without advance written HUD approval is not workable. Some commenters 
stated that such requirement becomes an additional surplus cash 
requirement.
    A commenter voiced opposition to any working capital requirement, 
and stressed the importance of looking at an operator's portfolio in 
the aggregate. Another commenter asked if HUD intended to apply the 
working capital rules retroactively. A commentator stated that HUD 
should not impose this requirement at the operator level because doing 
so would limit the ability to efficiently manage cash at the 
multiprovider level.
    Commenters also stated that establishment of a working capital fund 
would make operators and owners the targets of litigation, and that 
owners and operators would therefore need to limit exposure by limiting 
the amount of cash available to the operating entity as well as to the 
parent entity.
    Commenters further stated that this proposed requirement was not 
acceptable to any operator subject to a master lease. A commenter 
stated that there are occasions when a facility will encounter 
operational issues and could end up in a negative working capital 
position. The commenter stated several acceptable reasons to have a 
negative working capital position, namely that the project: (1) Was in 
turnaround, (2) had decreased occupancy to allow renovations, (3) was 
new construction and working toward positive capital, and (4) was in 
compliance with state law, spending significant resources to maximize 
future reimbursements.
    A commenter stated that if the requirement were to be put into 
place, the current assets, including accounts receivable, and current 
liabilities, such as accounts payable of the same time period, should 
be included in the calculation. The commenter further recommended that 
any current portion of long-term debt that is to be refinanced in the 
normal course of business be removed from the calculation because 
inclusion makes it punitive. Another commenter offered recommendations 
to HUD with respect to working capital, which included the following:
     Establish a ``carve out'' for any accruals of contingent 
liabilities or liabilities under appeal (such as malpractice award 
accruals for civil money penalties under appeal);
     Exclude from the calculation of current assets and current 
liabilities any payables to ownership for advances and any payables to 
the management company or affiliates for services rendered;
     Allow the facility to have negative working capital for at 
least 2 consecutive fiscal quarters before negative impacts are imposed 
on the borrower or operator; and
     Clarify that healthcare facility working capital relates 
solely to the operator.

[[Page 55130]]

    HUD Response: HUD is removing proposed rule Sec.  232.1005(c) and 
modifying proposed rule Sec.  232.1017(b) (Sec.  232.1013 in this final 
rule). The revised provisions in the final rule tie HUD oversight of 
working capital, including calculation of working capital and 
restrictions on withdrawal, to the quarterly financial reporting 
system. This rule does not define working capital, but HUD will take 
into account the commenters' suggestions regarding the calculation of 
working capital when revising the Operator's Regulatory Agreement.
    Comment: Reference the mortgage loan transactional documents in 
positive working capital. A commenter proposed that the final rule 
provide a reference to the mortgage loan transactional documents. The 
commenter stated that the rule should provide that positive working 
capital requirements will be governed by the proposed Healthcare 
Regulatory Agreement--Operator document. Another commenter raised an 
issue relating to perceived conflicts in the document requirements. The 
commenter stated that there are conflicts between this definition and 
the proposed Master Lease Addendum and others of the Mortgage Loan 
Documents, specifically, in the regulatory agreements, in which 
``working capital'' would generally be defined.
    Other commenters stated that the concept of maintaining positive 
working capital (which was originally in the proposed rule at Sec.  
232.1005(c)), was not defined, and absent a definition specifically 
including accounts receivable (AR) financing loan proceeds as an asset 
in the working capital calculation, no project with AR financing would 
ever be in a positive working capital situation.
    HUD Response: HUD determined that it was not necessary to include a 
definition of working capital in the regulations because, as the 
commenter notes, this term is already addressed in the Section 232 
transactional documents. In its review of the documents, HUD will 
further evaluate the use of the term ``working capital'' to determine 
whether there are potential conflict issues.
Operating Expenses (Sec.  232.1007)
    The proposed rule would have required that goods and services 
purchased or acquired in connection with the project be reasonable and 
necessary for the operation or maintenance of the project, and the 
costs of goods and services incurred by the borrower or operator to not 
exceed amounts normally paid for such goods or services in the area 
where the services are rendered or the goods are furnished, except as 
otherwise approved by HUD.
    Comment: The requirement to ensure that goods and services are 
reasonable and necessary and do not exceed prices normally paid in the 
area is impossible to define and monitor. Commenters stated that this 
provision should be removed as it is contrary to their need to make 
good business decisions, many of which are driven by qualitative 
factors not entirely related to cost, while being flexible and fluid to 
meeting the dynamic nature of the senior-living business. Commenters 
also stated that it would be impossible to monitor and define.
    HUD Response: HUD declines to adopt the commenter's recommendation. 
HUD is modifying or removing various other more specific provisions 
regarding expenses that were included in the proposed rule (e.g., the 
definition of identity-of-interest management agents and limitations on 
payments to principals), on the basis that this provision is 
sufficient. HUD has determined that this provision essentially sets 
forth a reasonable business practice standard. HUD recognizes that a 
multitude of factors may affect the value of particular goods or 
services for a particular buyer, and this provision is not intended to 
constrain a party from considering the many aspects relevant to a 
purchase. HUD does not intend to micromanage individual purchase 
decisions. However, when and if an owner or operator's financial 
performance at the facility becomes problematic, HUD could legitimately 
act to protect its interests, including by reviewing the reasonableness 
of project goods and services, and by taking of any enforcement actions 
that may be warranted.
    Comment: Provide HUD with flexibility to permit variations. A 
commenter suggested inclusion of the phrase ``permitted'' to allow HUD 
to provide additional guidance on this standard.
    HUD Response: This final rule adopts the commenter's 
recommendation.
Payments to Borrower Principals Prohibited (Sec.  232.1009 in Proposed 
Rule--Removed in Final Rule)
    The proposed rule provided that no principal of the borrower entity 
may receive a salary or any payment of funds derived from operation of 
the project, other than from permissible distributions, without HUD's 
prior approval.
    Comment: Restrictions on payments to Principals/Affiliates are too 
onerous. Several commenters objected to this provision and stated that 
the restrictions penalize family-oriented owners/operators, affiliates 
of borrowers or entities with an identity of interest, and operators 
that provide ancillary services to their facilities through an 
affiliate strategy. Commenters recommended permitting principals or 
those with an identity of interest to receive market salaries without 
HUD interference. They also suggested that HUD remove the ancillary 
business restrictions.
    Commenters also suggested alternatives such as allowing the 
borrower to disclose to HUD, on an annual basis, payments of project 
funds to principals, and in return be subject to a HUD audit. The 
commenters stated that, through a sampling audit process, HUD could 
make a test of reasonableness. Commenters also stated that HUD could 
develop, with industry participation, standards that must be met if a 
borrower pays a salary to a principal. For example, the requirement 
could be revised so that: (1) The borrower can pay salaries and 
payments to its officers and other employees who do not have a 
controlling interest in the borrower and to affiliates providing 
ancillary services; and (2) such salaries and payments will not be 
deemed a distribution that will be subject to repayment.
    HUD Response: As noted earlier in this preamble, the final rule 
removes this section. Inasmuch as many owners and operators are related 
entities, HUD recognizes that it is not uncommon for a borrower 
principal to be retained by one of those entities and, as proposed, 
this provision would have required HUD approval in each instance in 
which a borrower principal works in a compensated position for the 
owner or operator entity. New Sec.  232.1007 in this final rule 
requires that operating expenses be reasonable. In light of inclusion 
of this new section, HUD has determined that the proposed Sec.  
232.1009 is unnecessary.
Financial Reports (Sec.  232.1009 in Final Rule)
    This new section, which was Sec.  232.1011 at the proposed rule 
stage, clarifies and reorganizes the borrower's financial reporting 
requirements by placing them in part 232 of HUD's regulations. As has 
long been required, the borrower must submit audited financial 
statements, prepared and certified in accordance with the requirements 
of 24 CFR 5.801 and 24 CFR 200.36. The section also requires the 
operator to provide HUD with

[[Page 55131]]

complete quarterly and year-to-date financial reports based on an 
examination of the books and records of the operator's operations with 
respect to the healthcare facility.
    Comment: Allow borrowers to submit income statements and balance 
sheets in the borrowers' format rather than audited financial 
statements. A commenter stated that this requirement should be limited 
to income statements and balance sheets, since most long-term care 
financial accounting software packages do not contain a statement of 
cash flows report. In addition, the commenter stated that these reports 
should follow the borrowers' format so that an additional 
administrative and bookkeeping burden of reformatting financial 
statements into HUD's format is not imposed.
    HUD Response: HUD appreciates the comment, but declines to adopt 
the commenter's recommendations. However, HUD has determined that it is 
not necessary to include operational-level instructions on this 
particular issue at the rule level.
Leases (Sec.  232.1013 in Proposed Rule--Removed in Final Rule)
    The proposed rule provided that, except as provided in residential 
agreements in the normal course of business, an operator may not lease 
or sublease any portion of the project without HUD's prior written 
approval.
    Comment: Prohibition on leasing or subleasing is unnecessary; HUD 
already has the right to approve bed reductions. A commenter stated 
that the proposed policy is unnecessary since HUD already has the right 
to approve bed reductions. The commenter stated that since beds are the 
underlying purpose for HUD's involvement in guaranteeing loans for 
nursing homes, HUD should be concerned only with bed reductions.
    Other commenters suggested that this provision should be removed, 
as it is handled in the transactional documents. The commenters also 
suggested revisions to add flexibility to the regulations.
    HUD Response: As noted earlier in this preamble, the final rule 
removes this section. HUD agrees that the section was overly broad.
Management Agents (Sec.  232.1011 in Final Rule)
    The proposed rule, at Sec.  232.1015 (now Sec.  232.1011 in this 
final rule), provides that an operator may, with the prior written 
approval of HUD, execute a management agent agreement setting forth the 
duties and procedures for managing matters related to the project. The 
proposed rule also provided that both the management agent and the 
management agent agreement must be acceptable to HUD and approved in 
writing by HUD. The proposed rule further provided that an operator may 
not enter into any agreement that provides for a management agent to 
have rights to or claims on funds owed to the operator.
    Comment: HUD approval of a management agent should be limited and 
further defining details should be included. A commenter stated that 
this policy should be limited to situations where an individual state 
does not already regulate management agreements and impose licensure on 
management companies. A commenter stated that HUD could consider 
retaining the restriction on renegotiation of management agreements 
only where there is an identity of interest between the operator/owner 
and the management agent; otherwise, the financial interest might be 
blurred or there might be other interests competing against the best 
interest of the project operations and HUD's interest.
    Several commenters stated that a management agent should be defined 
by its responsibilities as someone who: (1) Manages a facility that is 
not leased; (2) contracts in its own name with the residents; and (3) 
is the sole entity named on the license for the facility.
    HUD Response: As noted earlier in this preamble, the final rule 
revises this section, accepting the commenters' recommendations in 
part. In many Section 232 program facilities, there is no management 
agent entity other than the owner or operator entity itself. However, 
when management authority is delegated to another entity (agent) via a 
management agreement, that agent's performance can greatly affect 
mortgage risk. For this reason, HUD finds it necessary to require HUD 
approval of a management agent and management agreement prior to a 
management agent being retained. Accordingly, paragraphs (a) and (b) 
are retained in Sec.  232.1011 of the final rule. However, paragraphs 
(c) and (d) are being removed; those paragraphs relate to 
reasonableness of expenses, a topic addressed in Sec.  232.1007. HUD 
has determined that further direction on creating/altering that 
contractual relationship can more appropriately be addressed, if 
necessary, as issues arise.
    HUD recognizes that the scope of contractual responsibilities of 
management agents varies among facilities, as pointed out in the 
commenters' recommendations for further details on the definition of a 
management agent by activity. Notwithstanding this recognition, HUD 
does not believe it is prudent to attempt to limit the scope of the 
provision to the criteria suggested. The criteria stated by the 
commenters suggest that HUD need approve a management agent only when 
it is essentially functioning as a licensed operator. However, HUD 
believes that, even when the management agent is not a licensed entity, 
the scope of responsibilities undertaken have the potential to directly 
and significantly impact the financial and operational viability of a 
facility. Although HUD determined that further direction is not needed 
in regulation, HUD recognizes that operators use a variety of 
consultants and task-specific contractors. HUD does not anticipate 
deeming entities with such limited roles and lacking management 
decision-making authority as ``management agents.''
Restrictions on Deposit, Withdrawal, and Distribution of Funds, and 
Repayment of Advances (Sec.  232.1013 in Final Rule)
    Section 232.1017 in the proposed rule (now Sec.  232.1013 in the 
final rule) directed, in paragraph (a), that an operator must deposit 
in a separate segregated account in the project's name all revenue that 
the operator receives from operating the healthcare facility, and that 
the account must be with a financial institution whose deposits are 
insured by an agency of the Federal Government, provided that, in order 
to minimize risk to the insurance fund, where balances are likely to 
exceed federal limits on insurance of such deposits, funds must be in 
depository institutions acceptable to Ginnie Mae.
    Paragraph (b) of proposed Sec.  232.1017 provided that operators, 
whether owner-operators or non-owner-operators, must ensure that the 
healthcare facility maintains positive working capital at all times.
    The following comments submitted in response to proposed Sec.  
232.1017, as seen below, raised issues the same or similar to those 
comments submitted on proposed Sec.  232.254.
    Comment: Revise definition of working capital to recognize project 
cash flow and make the requirement subject to HUD discretion. 
Commenters stated that this requirement to maintain working capital at 
all times is not possible since operators must pay accounts payable and 
pay employees more quickly than it receives payment from payor sources 
including Medicaid. The commenters stated that in order to properly 
cash-flow the business, borrowers often enter into accounts receivable-
secured working capital loans.

[[Page 55132]]

    A commenter stated that in a typical accounts-receivable financing 
arrangement involving more than one project, funds received by the 
operator may be deposited in a lockbox in the name of the AR lender, 
which is not a separate, segregated account. Therefore, the commenter 
suggested that flexibility be built into the rule to allow HUD to 
approve other arrangements with respect to the deposit of funds.
    Other commenters stated that HUD should provide a definition of 
positive working capital that accounts for these timing differences.
    A commenter stated that HUD should amend this requirement to state 
that the operator maintain working capital as HUD may prescribe. The 
commenter recommended that HUD more comprehensively address the issue 
of working capital in a handbook.
    HUD Response: HUD is accepting the commenter's recommendations and 
modifying proposed Sec.  232.1017(b) to read as follows: ``If a 
quarterly/year-to-date financial statement demonstrates negative 
working capital as defined by HUD, or if the operator fails to timely 
submit such statement, then until a current quarterly/year-to-date 
financial statement demonstrates positive working capital or until 
otherwise authorized by HUD, the operator may not distribute, advance, 
or otherwise use funds attributable to that facility for any purpose 
other than operating that facility.''
    As noted in a response to earlier comments about working capital, 
HUD will address working capital for Section 232 projects (including 
modifications, if any, to the definition as understood through 
Generally Accepted Accounting Principles (GAAP) as issues arise.
Prompt Notification to HUD and Mortgagee of Circumstances Placing the 
Value of the Security at Risk (Sec.  232.1015 in Final Rule)
    The proposed rule, at Sec.  232.1019 (now Sec.  232.1015 in the 
final rule) would have required operators, unless HUD determines 
otherwise, to promptly notify the owner, mortgagee, and HUD of certain 
matters placing the facility's viable operation, and thus the mortgage 
security, at substantial risk. These matters include violations of 
permits and approvals, imposition of civil money penalties, or 
governmental investigations or inquiries involving fraud. In the 
proposed rule, HUD determined that, given the responsibilities of 
servicing lenders with respect to risk mitigation of their residential 
care facility portfolio, it is appropriate that the lenders are timely 
provided with the same financial, census, and performance data (of the 
owner entity, as well as operator entity) that HUD is requiring 
borrowers and operators to routinely provide to HUD. Accordingly, the 
proposed rule provided that, concurrently with submitting to HUD 
financial data and census and performance data, the borrower and 
operator also provide this data to the servicing lender.
    Comment: Limit scope of required notification. A commenter stated 
that a 48-hour requirement to forward notification of receipt of a 
notification is too short a time period for delivery of electronic 
copies of notices, reports, surveys, etc., which contain information 
relating to potential risks to the value of the security. The commenter 
noted that if, for example, notice of a permit violation was received 
at 4:00 p.m. on a Friday, under the proposed rules notice would need to 
be provided to HUD by 4:00 p.m. on Sunday. The commenter suggested that 
there is no need to specify a time period. Therefore, the commenter 
stated that revising Sec.  232.1019(a)(1)(i) to replace ``within 48 
hours after the date of receipt'' with ``within such time period as may 
be prescribed by HUD.'' Additionally, the commenter suggested that the 
phrase ``Such required information shall include'' should be replaced 
with ``Such required information may include'', so that if HUD 
determines that this provision is generating information that HUD does 
not want or need (for example, notice of termination of a permit that 
is no longer necessary), HUD can easily alter the delivery requirements 
based on criteria other than severity.
    The commenter submitted that delivery of evidence of permit 
violations should be required only if the permits that are the subject 
of violations relate to the operation of the facility. Similarly, the 
commenter stated that notices of a civil money penalty being imposed 
should be required to be provided to HUD only if the violations that 
are the subject of the notices relate to the healthcare facility. 
Otherwise, HUD resources would be unnecessarily expended reviewing 
violations of permits and civil money penalties unrelated to the 
operation of the HUD-insured facility.
    HUD Response: HUD adopts the recommendations in part. HUD is 
retaining the requirement that the notices listed in the rule must be 
provided to HUD in order to allow HUD to ascertain financial risks to 
the facility. The rule continues to provide that the response time will 
be 2 business days of receipt, which HUD continues to maintain is a 
generally reasonable response time, but the final rule allows HUD to 
approve a longer period for response.
    HUD adopted the commenters' recommendation to limit the transmittal 
of information related to the facility, since HUD's primary interest is 
with regard to the facility insured. Additionally, Sec.  232.1015 
provides that HUD may determine that certain information shall be 
exempt from the reporting requirement based on severity level.
    Comment: Make the notification requirement prospective. A commenter 
stated that as drafted, Sec.  232.1019(b), now Sec.  232.1015 in the 
final rule, would apply the notification requirements to all operators, 
including operators of existing insured projects, who would not be 
subject to these requirements under the terms of the mortgage loan 
transaction documents and regulations in effect at the time the loan 
closed. The commenter stated that they believed that the requirements 
of any new regulation should apply only to those projects that are 
subject to the new Section 232 loan documents, and which received a 
firm commitment on or after the effective date of the final 
regulations.
    HUD Response: HUD declines to adopt the commenters' recommendation. 
HUD included this provision in the proposed rule in order to assure 
that both HUD and the lender would be notified of notices affecting 
both properties already in the HUD portfolio and properties insured 
after the effective date of the rule. Receipt of these notices will 
help HUD monitor failure to comply with government requirements. To the 
extent these notices serve as potential indicators of financial and/or 
management problems, they provide HUD and the lender with valuable 
information.

III. Costs and Benefits of Revisions to the Section 232 Program 
Regulations

    As discussed in this preamble, this final rule updates HUD's 
Section 232 program regulations similar to the 2011 updates that were 
made to HUD's multifamily rental project regulations and accompanying 
closing documents. The revisions made by this rule update the Section 
232 regulations to reflect existing practices in financing and 
refinancing healthcare facilities, and to decrease risk to the program 
due to outdated regulations and the need for greater accountability by 
healthcare facility operators. Key changes highlighted in the preamble 
include reducing duplicative physical inspections, extending the time 
period for the process of assigning the mortgage

[[Page 55133]]

to HUD to provide an opportunity for the parties to effectuate a 
workout, and requiring operators to submit quarterly and year-to-date 
self-certified financial reports. HUD makes two significant changes at 
this final rule stage. First, HUD removes the across-the-board 
requirement for borrowers to establish a long-term debt service 
reserve. The final rule provides that HUD will impose this requirement 
only when underwriting determines there is an atypical project risk. 
Second, HUD removes the requirement to segregate accounts for the 
purpose of isolating a particular healthcare facility's financial 
transactions from an account where the facility's funds have been 
commingled with funds of other facilities. HUD was persuaded by the 
comments that advised that software today is sophisticated and can 
provide the protections that HUD sought from proposing the manual 
segregation of funds.
    The valued benefits from fewer physical inspections and the costs 
from increased financial reporting, together with the opportunity cost 
of the debt service reserve fund, where such fund is required, each 
total less than $1 million. Unvalued benefits include uninterrupted 
services of healthcare facilities, which otherwise would close due to 
foreclosure. Transfers from avoided claim payments total $13 million. 
The total costs, benefits, and transfers of this rule will not in any 
year exceed the $100 million threshold set by Executive Order 12866 
(Regulatory Planning and Review). Therefore, the rule is not 
economically significant.
    The risk mitigation requirements addressed by this rule are 
necessary due to the combination of two particular risks facing 
healthcare facilities. First, similar to multifamily residential 
properties, the owner usually relies on a separate entity to operate 
the facility. Second, unlike residential or other commercial 
properties, the value of a poorly maintained and operated facility can 
decrease dramatically because the building was designed specifically 
for healthcare use and, if its use for the purpose is jeopardized, it 
may not retain the mortgaged value at resale due to a lack of 
alternative uses. Thus, FHA may face more uncertainty when selling 
foreclosed healthcare properties than foreclosed residential 
properties. This final rule therefore retains requirements, proposed by 
the May 3, 2012, rule, that are intended to identify operator 
deficiencies earlier and ensure that funds are available if financial 
problems arise.
    As noted earlier, this final rule, unlike the proposed rule, will 
not require all borrowers to establish a long-term debt service reserve 
fund. Instead, the final rule gives HUD the discretion to impose this 
requirement when underwriting reflects an atypical long-term project 
risk. The final rule retains the greater flexibility proposed to be 
provided to borrowers by the May 3, 2012, rule, in the making of 
distributions and use of surplus cash.
    As did the proposed rule, the final rule requires operators to 
submit annual and year-to-date financial reports. Currently, the 
borrower, but not the operator, is required to provide audited 
financial statements. Although submission of the operator's financial 
reports is a new requirement, the expense of such reports is mitigated 
by allowing the operator to submit self-certified, rather than audited 
statements. Moreover, the required operator financial information is 
data that operators need to maintain in the normal course of business 
in order to monitor and manage their own operations effectively. FHA 
estimates this will require approximately 10,000 employee hours 
annually to prepare and submit these reports (2,500 respondents, 4 
reports per year and 1 hour to generate each report). The median wage 
of the employees who prepare these reports is approximately $75 per 
hour. Thus, the total cost of complying with this requirement would be 
$750,000.
    Finally, this rule, as proposed by the May 3, 2012, rule, exempts 
facilities from FHA physical inspection requirements if they are 
inspected by State or local agencies, so as to eliminate duplicative 
inspections. FHA estimates that, as a result, approximately 1,391 
inspections would be avoided per year. The estimated cost per 
inspection totals $475, which would mean a total annual inspection 
savings of $660,725.
    In addition to the valued benefits, this rule also provides 
benefits that are less easily quantified. As explained above, HUD 
expects the establishment of the reserve fund, where high risk triggers 
the need for such a fund, and financial reporting requirements to 
decrease the number of claims paid. While some troubled facilities may 
be stabilized and continue operating, at that stage of delinquency, 
they are often forced to close. Thus, there is a disruption of 
healthcare services to the community and the imposition of costs to 
move residents from one facility to another. In smaller communities, 
there are fewer alternatives for facility residents, and the benefits 
of avoiding foreclosure are greater as residents may be without needed 
services for a long period. In larger cities, existing facilities may 
be able to absorb the additional demand fairly quickly. In both of 
these cases, however, residents bear costs associated with transferring 
between facilities. Although the avoided loss or interruption of 
services is difficult to quantify and varies by city, the avoided loss 
or interruption of services is an important benefit that this rule is 
trying to achieve.

IV. Findings and Certifications

Executive Order 13563, Regulatory Review

    The President's Executive Order (EO) 13563, entitled ``Improving 
Regulation and Regulatory Review,'' was signed by the President on 
January 18, 2011, and published on January 21, 2011, at 76 FR 3821. 
This EO requires executive agencies to analyze regulations that are 
``outmoded, ineffective, insufficient, or excessively burdensome, and 
to modify, streamline, expand, or repeal them in accordance with what 
has been learned.'' Section 4 of the EO, entitled ``Flexible 
Approaches,'' provides, in relevant part, that where relevant, 
feasible, and consistent with regulatory objectives, and to the extent 
permitted by law, each agency shall identify and consider regulatory 
approaches that reduce burdens and maintain flexibility and freedom of 
choice for the public. As discussed earlier in this preamble, the 
regulations governing the Section 232 program facilities have not been 
updated since 1996. HUD submits that the changes by this rule to the 
Section 232 regulations are consistent with the EO's directions. As 
previously discussed, the changes in this rule will modernize the 
Section 232 program, reduce burden by eliminating duplicative physical 
inspections, providing flexibility to borrowers in the making of 
distributions and use of surplus cash, and increasing accountability to 
strengthen the program, thereby helping it ensure that it remains 
viable for the financing of healthcare facilities.

Regulatory Flexibility Act

    The Regulatory Flexibility Act (RFA) (5 U.S.C. 601 et seq.) 
generally requires an agency to conduct a regulatory flexibility 
analysis of any rule subject to notice and comment rulemaking 
requirements, unless the agency certifies that the rule will not have a 
significant economic impact on a substantial number of small entities.
    This rule is directed to creating transparency in HUD's Section 232 
program by codifying existing and longstanding provisions imposed on a 
Section 232 program borrower, and

[[Page 55134]]

strengthening this program through stronger risk management practices, 
such as making operators more accountable for their role in 
administering Section 232 healthcare facilities. As noted under the 
discussion of EO 13563, this rule enhances HUD's oversight ability, 
while minimizing the burdens on private actors, to the benefit of 
participants and facility clients. Additionally, by clarifying and 
codifying existing requirements, the rule makes it easier for borrowers 
and operators to comply with their legal obligations. Through this 
rule, the viability of the Section 232 program and HUD's enforcement 
authority are increased, and waste, fraud, and abuse are reduced.
    Approximately 3,343 of the anticipated annual participants in the 
Section 232 program are small entities, including approximately 2,500 
entities involved in nursing homes, 725 entities involved in assisted-
living facilities, and 70 other entities. (The total figure exceeds the 
number of facilities involved, because a single transaction may involve 
distinct legal entities serving as the operator and owner.) The changes 
required by this rule do not impose significant economic impacts on 
these small entities or otherwise adversely disproportionately burden 
such small entities. The reporting requirements of this rule have been 
tailored to complement normal business accounting practices. 
Accordingly, the undersigned certifies that this rule will not have a 
significant economic impact on a substantial number of small entities.

Environmental Impact

    A Finding of No Significant Impact with respect to the environment 
for this rule was made at the proposed rule stage in accordance with 
HUD regulations at 24 CFR part 50, which implement section 102(2)(C) of 
the National Environmental Policy Act of 1969 (42 U.S.C. 4332(2)(C)). 
That Finding of No Significant Impact remains applicable to this final 
rule and is available for public inspection between the hours of 8 a.m. 
and 5 p.m. weekdays in the Regulations Division, Office of General 
Counsel, Department of Housing and Urban Development, and 451 Seventh 
Street SW., Room 10276, Washington, DC 20410-0500. Due to security 
measures at the HUD Headquarters building, please schedule an 
appointment to review the finding by calling the Regulations Division 
at 202-402-3055 (this is not a toll-free number). Individuals with 
speech or hearing impairments may access this number via TTY by calling 
the Federal Relay Service at 800-877-8339.

Executive Order 13132, Federalism

    Executive Order 13132 (entitled ``Federalism'') prohibits an agency 
from publishing any rule that has federalism implications if the rule 
either: (1) Imposes substantial direct compliance costs on State and 
local governments and is not required by statute, or (2) preempts state 
law, unless the agency meets the consultation and funding requirements 
of section 6 of the Executive Order. This rule will not have federalism 
implications and would not impose substantial direct compliance costs 
on State and local governments or preempt State law within the meaning 
of the Executive Order.

Unfunded Mandates Reform Act

    Title II of the Unfunded Mandates Reform Act of 1995 (2 U.S.C. 
1531-1538) (UMRA) establishes requirements for federal agencies to 
assess the effects of their regulatory actions on state, local, and 
tribal governments, and on the private sector. This rule does not 
impose any federal mandates on any state, local, or tribal governments, 
or on the private sector, within the meaning of UMRA.

Information Collection Requirements

    The information collection requirements contained in this rule were 
reviewed by the Office of Management and Budget (OMB) under the 
Paperwork Reduction Act of 1995 (44 U.S.C. 3501-3520), and assigned OMB 
Control Numbers 2502-0427, 2502-0593, and 2502-0551. In accordance with 
the Paperwork Reduction Act, an agency may not conduct or sponsor, and 
a person is not required to respond to, a collection of information, 
unless the collection displays a currently valid OMB control number.
    The docket file is available for public inspection.

Catalogue of Federal Domestic Assistance

    The Catalogue of Federal Domestic Assistance Number for the 
Mortgage Insurance Nursing Homes, Intermediate Care Facilities, Board 
and Care Homes and Assisted Living Facilities mortgage insurance 
programs is 14.129.

List of Subjects

24 CFR Part 5

    Administrative practice and procedure, Aged, Claims, Grant 
programs--housing and community development, Individuals with 
disabilities, Intergovernmental relations, Loan programs--housing and 
community development, Low and moderate income housing, Mortgage 
insurance, Penalties, Pets, Public housing, Rent subsidies, Reporting 
and recordkeeping requirements, Social security, Unemployment 
compensation, Wages.

24 CFR Part 200

    Administrative practice and procedure, Claims, Equal employment 
opportunity, Fair housing, Home improvement, Housing standards, Lead 
poisoning, Loan programs--housing and community development, Mortgage 
insurance, Organization and functions (Government agencies), Penalties, 
Reporting and recordkeeping.

24 CFR Part 207

    Mortgage insurance--nursing homes, Intermediate care facilities, 
Board and care homes, and Assisted living facilities.

24 CFR Part 232

    Fire prevention, Health facilities, Loan programs--health, Loan 
programs--housing and community development, Mortgage insurance, 
Nursing homes, Reporting and recordkeeping requirements.

    Accordingly, parts 5, 200, 207, and 232 of title 24 of the Code of 
Federal Regulations are amended as follows:

PART 5--GENERAL HUD PROGRAM REQUIREMENTS; WAIVERS

0
1. The authority citation for 24 CFR part 5 continues to read as 
follows:

    Authority:  42 U.S.C. 1437a, 1437c, 1437d, 1437f, 1437n, 
3535(d), and Sec. 327, Pub. L. 109-115, 119 Stat. 2936.


0
2. Amend Sec.  5.801 by:
0
a. Adding paragraph (a)(6),
0
b. Revising the first sentence of the introductory text of paragraph 
(b),
0
c. Adding paragraph (b)(4),
0
d. Revising the paragraph (c) subject heading,
0
e. Adding paragraph (c)(4), and
0
f. Adding paragraph (d)(4) to read as follows:


Sec.  5.801  Uniform financial reporting standards.

    (a) * * *
    (6) Operators of projects with mortgages insured or held by HUD 
under section 232 of the Act (Mortgage Insurance for Nursing Homes, 
Intermediate Care Facilities, Board and Care Homes).
    (b) Submission of financial information. Entities (or individuals) 
to which this subpart is applicable must provide to HUD such financial

[[Page 55135]]

information as required by HUD. Such information must be provided on an 
annual basis, except as required more frequently under paragraph (c)(4) 
of this section. This information must be:
* * * * *
    (4) With respect to financial reports relating to properties 
insured under section 232 of the Act, concurrently with submitting the 
information to HUD, submitted to the mortgagee in a format and manner 
prescribed and/or approved by HUD.
    (c) Filing of financial reports. * * *
* * * * *
    (4) For entities listed in paragraph (a)(6) of this section, the 
financial information to be submitted to HUD in accordance with 
paragraph (b) of this section must be submitted to HUD on a quarterly 
and fiscal-year-to-date basis, within 30 calendar days of the end of 
each quarterly reporting period, except that the final fiscal-year-end 
quarter and fiscal-year-to-date reports must be submitted to HUD within 
60 calendar days of the end of the fiscal-year-end quarter. HUD may 
direct that such forms be submitted to the lender or another third 
party in addition to or in lieu of submission to HUD.
    (i) The financial statements submitted by entities listed in 
paragraph (a)(6) of this section may, at the operator's option, be 
operator-certified rather than audited, provided, however, if the 
operator is also the borrower, then that entity's obligation to submit 
an annual audited financial statement (in addition to its obligation as 
an operator to submit financial information on a quarterly and year-to-
date basis) remains and is not obviated.
    (ii) If HUD has reason to believe that a particular operator's 
operator-certified statements may be unreliable (for example, indicate 
a likely prohibited use of project funds), or are presented in a manner 
that is inconsistent with Generally Accepted Accounting Principles, HUD 
may, on a case-by-case basis, require audited financial statements from 
the operator. With respect to facilities with FHA-insured or HUD-held 
Section 232 mortgages, HUD may request more frequent financial 
statements from the borrower and/or the operator on a case-by-case 
basis when the circumstances warrant. Nothing in this section limits 
HUD's ability to obtain further or more frequent information when 
appropriate pursuant to the applicable regulatory agreement.
    (d) * * *
    (4) Entities described in paragraph (a)(6) of this section must 
comply with the requirements of this section with respect to fiscal 
years commencing on or after the date that is 60 calendar days after 
the date on which HUD announces, through Federal Register notice, that 
it has issued guidance on the manner in which these reports will be 
transmitted to HUD.
* * * * *

PART 200--INTRODUCTION TO FHA PROGRAMS

0
3. The authority citation for part 200 continues to read as follows:

    Authority:  12 U.S.C. 1702-1715-z-21; 42 U.S.C. 3535(d).

0
4. In 200.855, add paragraph (c)(5) to read as follows:


Sec.  200.855  Physical condition standards and physical inspection 
requirements.

* * * * *
    (c) * * *
    (5)(i) For assisted-living facilities, board and care facilities, 
and intermediate care facilities, the initial inspection required under 
this subpart will be conducted within the same time restrictions set 
forth in paragraph (c)(4) of this section, and any further inspections 
will be conducted at a frequency determined consistent with Sec.  
200.857, except that HUD may exempt such facilities from physical 
inspections under this part if HUD determines that the State or local 
government has a reliable and adequate inspection system in place, with 
the results of the inspection being readily and timely available to 
HUD; and
    (ii) For any other Section 232 facilities, the inspection will be 
conducted only when and if HUD determines, on the basis of information 
received, such as through a complaint, site inspection, or referral by 
a State agency, on a case-by-case basis, that inspection of a 
particular facility is needed to assure protection of the residents or 
the adequate preservation of the project.

PART 207--MULTIFAMILY HOUSING MORTGAGE INSURANCE

0
5. The authority citation for part 207 continues to read as follows:

    Authority:  12 U.S.C. 1701z-11(e), 1713, and 1715b; 42 U.S.C. 
3535(d).


0
6. In Sec.  207.255: remove, in paragraph (a)(4) introductory text, the 
reference to ``paragraph (b)'' and add in its place a reference to 
``paragraph (a)''; revise paragraph (b)(4) introductory text; and add 
paragraph (b)(5) to read as follows:


Sec.  207.255  Defaults for purposes of insurance claim.

* * * * *
    (b) * * *
    (4) Except for mortgages insured under section 232 of the Act, for 
the purposes of paragraph (b) of this section, the date of default 
shall be considered as:
* * * * *
    (5) For mortgages insured under section 232 of the Act, for 
purposes of this section, the date of default shall be considered as:
    (i) The first date on which the borrower has failed to pay the debt 
when due as a result of the lender's acceleration of the debt because 
of the borrower's uncorrected failure to perform a covenant or 
obligation under the regulatory agreement or security instrument; or
    (ii) The date of the first failure to make a monthly payment that 
subsequent payments by the borrower are insufficient to cover when 
applied to the overdue monthly payments in the order in which they 
become due.

0
7. Amend Sec.  207.258 by:
0
a. Revising paragraphs (a)(1) and (a)(2) introductory text;
0
b. Adding paragraph (a)(4); and
0
c. Revise paragraph (b)(1)(i).
    The revisions and addition read as follows:


Sec.  207.258  Insurance claim requirements.

    (a) Alternative election by mortgagee. (1) When the mortgagee 
becomes eligible to receive mortgage insurance benefits pursuant to 
Sec.  207.255(a)(3) or (b)(3), the mortgagee must, within 45 calendar 
days after the date of eligibility, such period is referred to as the 
``Eligibility Notice Period'' for purposes of this section, give the 
Commissioner notice of its intention to file an insurance claim and of 
its election either to assign the mortgage to the Commissioner, as 
provided in paragraph (b) of this section, or to acquire and convey 
title to the Commissioner, as provided in paragraph (c) of this 
section. Notice of this election must be provided to the Commissioner 
in the manner prescribed in 24 CFR part 200, subpart B. HUD may extend 
the Eligibility Notice Period at the request of the mortgagee under the 
following conditions:
    (i) The request must be made to and approved by HUD prior to the 
45th day after the date of eligibility; and
    (ii) The approval of an extension shall in no way prejudice the 
mortgagee's right to file its notice of its intention to file an 
insurance claim and of its election either to assign the mortgage to 
the Commissioner or to acquire and convey title to the Commissioner 
within the 45-day period or any extension prescribed by the 
Commissioner.

[[Page 55136]]

    (2) For mortgages funded with the proceeds of state or local bonds, 
Ginnie Mae mortgage-backed securities, participation certificates, or 
other bond obligations specified by the Commissioner (such as an 
agreement under which the insured mortgagee has obtained the mortgage 
funds from third-party investors and has agreed in writing to repay 
such investors at a stated interest rate and in accordance with a fixed 
repayment schedule), any of which contains a lock-out or prepayment 
premium, in the event of a default during the term of the prepayment 
lock-out or prepayment premium, and for any mortgage insured under 
section 232 of the Act, the mortgagee must:
* * * * *
    (4) Acknowledgment of election. For mortgages insured pursuant to 
section 232 of the Act, if the lender provides notice to the 
Commissioner of its election either to assign the mortgage to the 
Commissioner or to acquire and convey title to the Commissioner, the 
Commissioner shall, not later than 90 calendar days after the 
expiration of the Eligibility Notice Period, as defined in paragraph 
(a)(1) of this section, as the same may have been extended, acknowledge 
and accept, or reject for cause, pursuant to program requirements, the 
lender's election, provided that the Commissioner may, in the 
Commissioner's discretion, extend such 90-day period by no more than an 
additional 90 calendar days if the Commissioner determines that such an 
extension is in HUD's interest.
    (b) * * *
    (1) * * *
    (i) If the mortgagee elects to assign the mortgage to the 
Commissioner, the mortgagee shall, at any time within 30 calendar days 
after the date HUD acknowledges the notice of election, file its 
application for insurance benefits and assign to the Commissioner, in 
such manner as the Commissioner may require, any applicable credit 
instrument and the realty and chattel security instruments.
* * * * *

PART 232--MORTGAGE INSURANCE FOR NURSING HOMES, INTERMEDIATE CARE 
FACILITIES, BOARD AND CARE HOMES, AND ASSISTED LIVING FACILITIES

0
8. The authority citation for 24 CFR part 232 continues to read as 
follows:

    Authority: 12 U.S.C. 1715b, 1715w; 42 U.S.C. 3535(d).


0
9. Throughout part 232, the word ``mortgagor'' is revised to read 
``borrower'' wherever it appears.

0
10. Revise Sec.  232.1 to read as follows:


Sec.  232.1  Eligibility requirements, generally; applicability of 
certain requirements.

    (a) Eligibility, generally. All of the requirements set forth in 24 
CFR part 200, subpart A, except for the requirements for ``eligible 
mortgagor'' in 24 CFR 200.5, apply to mortgages insured under section 
232 of the National Housing Act (12 U.S.C. 1715w), as amended.
    (b) Applicability of certain requirements. As of October 9, 2012 
the provisions in 24 CFR 207.255(b)(5), 207.258, 232.3, 232.11, 
232.254, 232.903(c) and (d), and subpart F of part 232, excluding 
Sec. Sec.  232.1007, 232.1009, and 232.1015 of subpart F are applicable 
only to transactions for which a firm commitment has been issued under 
this part on or after April 9, 2013.


Sec.  232.3  [Redesignated as Sec.  232.7]

0
11. In subpart A, redesignate Sec.  232.3 as Sec.  232.7 and add a new 
Sec.  232.3 to read as follows:


Sec.  232.3  Eligible borrower.

    The borrower shall be a single asset entity acceptable to the 
Commissioner, as may be limited by the applicable section of the Act, 
and shall possess the powers necessary and incidental to owning the 
project, except that the Commissioner may approve a non-single asset 
borrower entity under such circumstances, terms, and conditions 
determined and specified as acceptable to the Commissioner.

0
12. Add Sec.  232.11 to subpart A to read as follows:


Sec.  232.11  Establishment and maintenance of long-term debt service 
reserve account.

    (a) To be eligible for insurance under this part, and except with 
respect to Supplemental Loans to Finance Purchase and Installation of 
Fire Safety Equipment (subpart C of this part), if HUD determines the 
mortgage presents an atypical long-term risk, HUD may require that the 
borrower establish, at final closing and maintain throughout the term 
of the mortgage, a long-term debt service reserve account.
    (b) The long-term debt service reserve account, if required, may be 
financed as part of the initial mortgage amount, provided that the 
maximum mortgage amount as otherwise calculated is not thereby 
exceeded.
    (c) The amount required to be initially placed in the long-term 
debt service reserve account and the minimum long-term balance to be 
maintained in that account will be determined during underwriting and 
separately identified in the firm commitment. Although HUD may, when 
appropriate to avert a mortgage insurance claim, permit the balance to 
fall below the required minimum long-term balance, the borrower may not 
take any distribution of mortgaged property except when both the long-
term debt service reserve account is funded at the minimal long-term 
level and such distribution is otherwise permissible.

0
13. Add Sec.  232.254 to subpart B to read as follows:


Sec.  232.254  Withdrawal of project funds, including for repayments of 
advances from the borrower, operator, or management agent.

    Borrower may make and take distributions of mortgaged property, as 
set forth in the mortgage loan transactional documents, to the extent 
and as permitted by the law of the applicable jurisdiction, provided 
that, upon each calculation of borrower surplus cash (as defined by 
HUD), which calculation shall be made no less frequently than semi-
annually, borrower must demonstrate positive surplus cash, or to the 
extent surplus cash is negative, repay any distributions taken during 
such calculation period within 30 calendar days unless a longer time 
period is approved by HUD. Borrower shall be deemed to have taken 
distributions to the extent that surplus cash is negative unless, in 
conjunction with the calculation of surplus cash, borrower provides to 
HUD documentation evidencing, to HUD's reasonable satisfaction, a 
lesser amount of total distributions. To the extent that the provisions 
of this section are inconsistent with the provisions in a borrower's 
existing transactional loan documents, including without limitation any 
HUD-required regulatory agreement, the provisions of the transactional 
loan documents shall apply.

0
14. In Sec.  232.903, revise the introductory text and paragraphs (c) 
and (d) to read as follows:


Sec.  232.903  Maximum mortgage limitations.

    Notwithstanding the maximum mortgage limitations set forth in 24 
CFR 200.15, a mortgage within the limits set forth in this section 
shall be eligible for insurance under this subpart.
* * * * *
    (c) Project to be refinanced--additional limit. (1) In addition to 
meeting the requirements of paragraphs (a) and (b) of this section, if 
the Project is to be refinanced by the insured mortgage, the maximum 
mortgage

[[Page 55137]]

amount must not exceed the cost to refinance the existing indebtedness. 
For the purposes of this requirement:
    (i) The Project shall not have changed ownership subsequent to the 
date of application, or
    (ii) The Project shall have been sold to a purchaser who has an 
identity of interest with the seller (as defined by the Commissioner).
    (2) The cost to refinance the existing indebtedness will consist of 
the following items, the eligibility and amounts of which must be 
determined by the Commissioner:
    (i) The amount required to pay off the existing indebtedness;
    (ii) The amount of the initial deposit for the reserve fund for 
replacements;
    (iii) Reasonable and customary legal, organization, title, and 
recording expenses, including mortgagee fees under Sec.  200.41;
    (iv) The estimated repair costs, if any;
    (v) Architect's and engineer's fees, municipal inspection fees, and 
any other required professional or inspection fees; and
    (vi) The amount of any long-term debt service reserve account 
required by the Commissioner pursuant to Sec.  232.11.
    (d) Project to be acquired--additional limit. In addition to 
meeting the requirements of paragraphs (a) and (b) of this section, if 
the project is to be acquired by the borrower and the purchase price is 
to be financed with the insured mortgage, the maximum amount must not 
exceed 85 percent for a profit-motivated borrower and 90 percent for a 
private nonprofit borrower of the cost of acquisition as determined by 
the Commissioner. The cost of acquisition shall consist of the 
following items, to the extent that each item (except for paragraph 
(d)(1) of this section) is paid by the purchaser separately from the 
purchase price. The eligibility and amounts of these items must be 
determined in accordance with standards established by the 
Commissioner.
    (1) Purchase price is indicated in the purchase agreement;
    (2) An amount for the initial deposit to the reserve fund for 
replacements;
    (3) Reasonable and customary legal, organizational, title, and 
recording expenses, including mortgagee fees under Sec.  200.41;
    (4) The estimated repair cost, if any;
    (5) Architect's and engineer's fees, municipal inspection fees, and 
any other required professional or inspection fees; and
    (6) The amount of any long-term debt service reserve account 
required by the Commissioner pursuant to Sec.  232.11.

0
15. Add subpart F to read as follows:
Subpart F--Eligible Operators and Facilities and Restrictions on Fund 
Distributions
Sec.
232.1001 Scope.
232.1003 Eligible operator.
232.1005 Treatment of project operating accounts.
232.1007 Operating expenses.
232.1009 Financial reports.
232.1011 Management agents.
232.1013 Restrictions on deposit, withdrawal, and distribution of 
funds, and repayment of advances.
232.1015 Prompt notification to HUD and mortgagee of circumstances 
placing the value of the security at risk.

Subpart F--Eligible Operators and Facilities and Restrictions on 
Fund Distributions


Sec.  232.1001  Scope.

    This subpart establishes requirements applicable to the operators 
of healthcare facilities and the facilities under this part.


Sec.  232.1003  Eligible operator.

    Operator shall be a single asset entity acceptable to the 
Commissioner, and shall possess the powers necessary and incidental to 
operating the healthcare facility, except that the Commissioner may 
approve a non-single asset entity under such circumstances, terms, and 
conditions determined and specified as acceptable to the Commissioner. 
A master tenant under a master lease approved by the Commissioner who 
has subleased the healthcare facility to an operator is not an 
Operator.


Sec.  232.1005  Treatment of project operating accounts.

    All accounts deriving from the operation of the property, including 
operator accounts and including all funds received from any source or 
derived from the operation of the facility, are project assets subject 
to control under the insured mortgage loan's transactional documents, 
including, without limitation, the operator's regulatory agreement. 
Except as otherwise permitted or approved by HUD, funds generated by 
the operation of the healthcare facility shall be deposited into a 
federally insured bank account, provided that an account held in an 
institution acceptable to Ginnie Mae may have a balance that exceeds 
the amount to which such insurance is limited. Any of the owner's 
project-related funds shall be deposited into a federally insured bank 
account in the name of the borrower provided that an account held in an 
institution acceptable to Ginnie Mae may have a balance that exceeds 
the amount to which such insurance is limited.


Sec.  232.1007  Operating expenses.

    Goods and services purchased or acquired in connection with the 
project shall be reasonable and necessary for the operation or 
maintenance of the project, and the costs of such goods and services 
incurred by the borrower or operator shall not exceed amounts normally 
paid for such goods or services in the area where the services are 
rendered or the goods are furnished, except as otherwise permitted or 
approved by HUD.


Sec.  232.1009  Financial reports.

    The borrower must provide HUD and lender an audited annual 
financial report based on an examination of its books and records, in 
such form and substance required by HUD in accordance with 24 CFR 5.801 
and 24 CFR 200.36. Operators must submit financial statements quarterly 
within 30 calendar days of the date of the end of each fiscal quarter, 
setting forth both quarterly and fiscal year-to-date information, 
except that the final fiscal year end quarter must be submitted to HUD 
and lender within 60 calendar days of the end of the quarter, in 
accordance with 24 CFR 5.801(c)(4).


Sec.  232.1011  Management agents.

    (a) An operator or borrower may, with the prior written approval of 
HUD, execute a management agent agreement setting forth the duties and 
procedures for matters related to the management of the project. The 
management agent, each initial management agent agreement with that 
agent, and any amendments to such management agent agreements deemed 
material by the Commissioner must be acceptable to HUD and approved in 
writing by HUD.
    (b) An operator or borrower may not enter into any agreement that 
provides for a management agent to have rights to or claims on funds 
owed to the operator.


Sec.  232.1013  Restrictions on deposit, withdrawal, and distribution 
of funds, and repayment of advances.

    (a) Deposit of funds. An operator must deposit all revenue the 
operator receives directly or indirectly in connection with the 
operation of the healthcare facility in an account with a financial 
institution whose deposits are insured by an agency of the Federal 
Government, provided that an account held in an institution acceptable 
to Ginnie Mae may have a balance that exceeds the amount to which such 
insurance is limited.
    (b) Withdrawal of funds. If a quarterly/year-to-date financial 
statement demonstrates negative

[[Page 55138]]

working capital as defined by HUD, or if the operator fails to timely 
submit such statement, then until a current quarterly/year-to-date 
financial statement demonstrates positive working capital or until 
otherwise authorized by HUD, the operator may not distribute, advance, 
or otherwise use funds attributable to that facility for any purpose 
other than operating that facility.


Sec.  232.1015  Prompt notification to HUD and mortgagee of 
circumstances placing the value of the security at risk.

    (a) HUD and the mortgagee shall be informed of any notification of 
any failure to comply with governmental requirements including the 
following:
    (1) The licensed operator of a project shall promptly provide HUD 
and the mortgagee with a copy of any notification that has placed the 
licensure, a provider funding source, and/or the ability to admit new 
residents at risk, and any responses to those notices, provided that 
HUD may determine certain information to be exempt from this 
requirement based upon severity level. With respect to the requirements 
of this section:
    (i) The operator shall deliver to HUD and the mortgagee 
electronically, within 2 business days after the date of receipt, 
unless a longer time period is approved by HUD, copies of any and all 
notices, reports, surveys, and other correspondence (regardless of 
form) received by the operator from any governmental authority that 
includes any statement, finding, or assertion that:
    (A) The operator or the project is or may be in violation of (or 
default under) any of the permits and approvals or any governmental 
requirements applicable to the operation of the facility;
    (B) Any of the permits and approvals is to be terminated, limited 
in any way, or not renewed;
    (C) Any civil money penalty (other than a de minimis amount) is 
being imposed with respect to the facility; or
    (D) The operator or the project is subject to any governmental 
investigation or inquiry involving fraud.
    (ii) The operator shall also deliver to HUD and the mortgagee, 
simultaneously with delivery to any governmental authority, any and all 
responses given by or on behalf of the operator to any of the foregoing 
and shall provide to HUD and the mortgagee, promptly upon request, such 
additional information relating to any of the foregoing as HUD or the 
mortgagee may request. The receipt by HUD and/or the mortgagee of 
notices, reports, surveys, correspondence, and other information shall 
not in any way impose any obligation or liability on HUD, the 
mortgagee, or their respective agents, representatives, or designees to 
take (or refrain from taking) any action; and HUD, the mortgagee, and 
their respective agents, representatives, and designees shall have no 
liability for any failure to act thereon or as a result thereof.
    (2) The operator shall provide additional and ongoing information 
as requested by the borrower, mortgagee, or HUD pertaining to matters 
related to that risk. Controlling documents between or among any of the 
parties may provide further requirements with respect to such 
notification and communication.
    (b) This section is applicable to all operators as of October 9, 
2012.

    Dated: August 31, 2012.
Carol J. Galante,
Acting Assistant Secretary for Housing--Federal Housing Commissioner.
[FR Doc. 2012-21982 Filed 9-6-12; 8:45 am]
BILLING CODE 4210-67-P