presentation of financial statement disclosures – notes ... · presentation of financial...

Presentation of Financial Statement Disclosures – Notes Payable

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Discussion What financial statement disclosure format is the most useful to lenders and other financial statement readers for disclosing information about a not-for-profit affordable housing developer’s consolidated notes payable? GAAP Requirements A not-for-profit organization’s financial statement must disclose the following information about notes payable:

• Significant categories are identified, such as mortgages, related-party notes, etc. • Interest rates, maturity dates, pledged assets and restrictive covenants • Effective rate of interest for discounted notes for unreasonable stated interest rates • Amount of any capitalized interest incurred during the year • Principal payments due within each of the next five years • Description and terms of short-term debt expected to be refinanced, if excluded from current

liabilities, if the organization identifies current/noncurrent liabilities, which is recommended but not required for not-for-profit organizations

Analysis/Input While the financial statements of individual affordable housing properties include disclosure of each note payable, a consolidated financial statement typically groups similar loans and provides a summary disclosure that meets the GAAP requirements for each category of long-term debt. Lenders obtain the consolidated financial statements in order to assess the financial strength of the parent company, so more details for parent company debt is very helpful. Lenders are particularly interested in seeing more detail on unsecured parent company loans. The details could either be provided through a separate section of the Note Payable disclosure or in a supplementary schedule of parent-only debt. Lenders are also interested in guarantees provided by the parent company, even if the debt is included in the consolidated notes payable listing, because the obligations of the parent company are considered when evaluating the parent company’s financial strength. Although GAAP doesn’t require such disclosure since obligations to affiliates would be eliminated in consolidation, it is considered a best practice to disclose this information. Categorizing Long Term Debt Categories for grouping the long-term debt of consolidated affiliates vary in practice. Some organizations group the loans into categories such as permanent loans, construction loans, bonds, city, county, state and federal loans and disclose repayment terms for each grouping. Other organizations view the distinctions between types of governmental debt as less significant than the terms of repayment. A best practice is to group loans into categories such as mortgage loans due in monthly installments, permanent loans payable annually from net cash flow, permanent loans due at maturity, and permanent loans with interest-only


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payments due annually from net cash flow. Organizations may identify the type of lender (e.g. state, local government, commercial) if this adds value to the reader. Principal Payment Obligations The table of principal payment obligations for each of the next five years is also more useful if it discloses the maturities for each category of loans. Loans with repayment required only to the extent of net cash flow should not appear in the five-year table until their maturity date, since net cash flow is a contingency that cannot be reasonably estimated. Predevelopment or Construction Loans Predevelopment or construction loans will generally be refinanced with permanent debt or repaid from investor capital contributions. GAAP allows such loans to be treated as noncurrent when a written commitment from a refinance lender or an investor exists. Due to the uncertainty of the timing of the permanent loan conversion, it is also difficult to reasonably estimate the principal portion of these loans that will be repaid during each of the next five years. When no amount of estimated principal payments are included in the 5-year table of maturities for this category of loans, management has determined that such maturities are immaterial. Stated Interest Rates With respect to the GAAP requirement to convert an unreasonable stated interest rate to an effective rate, GAAP doesn’t define what an unreasonable rate of interest is. Affordable housing developers generally do not discount their long-term debt, even when the debt bears no interest, since programs that subsidize affordable housing impose restrictions on tenant eligibility. The market interest rate for such loans is often significantly lower than commercial rates and loans from governmental agencies are specifically exempted from the discount requirements under GAAP for this reason. Forgivable Debt Forgivable debt should also be disclosed. If there is only a remote likelihood that the debt will not be forgiven, not-for-profit organizations may have recognized such loans as contributions. A contingent liability disclosure is appropriate in such cases identifying the principal amount outstanding and summarizing the terms for forgiveness. Alternatively, if the forgiveness is not assured, the principal amount outstanding, annual debt service, interest rate, maturity date and security are disclosed either in the notes payable footnote, ideally as a separate category of notes payable, or in a separate footnote devoted exclusively to forgivable loans. A table format is recommended to disclose the terms of multiple forgivable loans. Recourse Debt Information about pledged assets, such as whether the loans are secured or unsecured, is required by GAAP. Generally secured debt is nonrecourse, but identifying the recourse debt is also helpful. Lines of Credit Available lines of credit should also be disclosed, including the amount available, amount drawn, accrued interest payable, interest rate, maturity date and security. A table format is recommended to disclose the


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terms of multiple lines of credit either in the note payable disclosure or in a separate note devoted to lines of credit. Covenants Covenants are often disclosed in the ‘Commitments and Contingencies’ note disclosure and material items such as minimum cash balances and certain ratios that must be maintained are listed there along with management’s assertion of compliance. Four sample disclosures are presented below: • Sample consolidated notes payable disclosure for a large not-for-profit affordable housing developer

and its affiliates • Sample parent company supplementary schedule of notes payable • Sample notes payable disclosure for a smaller entity • Sample line of credit disclosure for multiple credit lines


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Sample – Real Estate Properties are Owned by Parent Company and by Affiliates NOTE __ - NOTES PAYABLE Notes payable are generally nonrecourse and secured by the respective properties and bear simple interest rates unless otherwise noted:

2012 2011 Interest Payable Principal

Interest Payable Principal

Parent-Company Loans: Permanent secured full-recourse conventional loan for office building, bearing compounded interest at 6.5%, with principal and interest due monthly, to be repaid in full in June 2022. Interest expense was $10,401 and $4,112 in 2012 and 2011, respectively. $ 186 $ 227,177 $ 297 $ 58,276 Deferred payment loans from local agencies, bearing interest from 0% to 6%, generally payable annually from property net cash flow, if any, to be repaid in full at various dates through 2072. Interest expense was $348,945 and $338,600 in 2012 and 2011, respectively. 6,493,021 19,731,751 6,144,075 19,770,429 Deferred payment loans from local agencies, bearing interest from 5.67% to 6%, with principal and interest payments deferred until maturity at various dates through 2049. Interest expense was $123,588 and $123,589 in 2012 and 2011, respectively. 1,828,265 2,169,813 1,704,677 2,169,813 Deferred payment loans from state agencies, bearing interest at 3%, with interest payable annually from property net cash flow, if any, to be repaid in full at various dates through 2044. Interest expense was $18,903 annually for 2012 and 2011. 328,342 630,100 309,439 630,100 Deferred payment loan from federal Affordable Housing Program bearing no interest, with entire principal to be repaid in full by 2027. - 676,000 - 572,673 Working capital unsecured full-recourse loans from a bank, bearing 2% interest, generally with interest due quarterly, to be repaid in full in various dates through 2016. Interest expense was $25,074 and $26,000 in 2012 and 2011, respectively. - 1,120,826 - 1,300,000 Subtotal – Parent-Company Loans 8,649,814 24,555,667 8,158,488 24,501,291


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Affiliates’ Loans: Permanent conventional loans, bearing compound interest from 5.95% to 6.9%, generally with principal and interest due monthly, to be repaid in full at various dates through 2036. Interest expense was $750,785 and $753,656 in 2012 and 2011, respectively. 50,766 10,452,944 32,121 11,092,312 Predevelopment / construction loans, bearing interest from 3% to 7%, generally with interest-only payments due monthly, to be repaid in full or partially converted to permanent loans through 2070. Interest capitalized was $870,684 and $854,228 in and , respectively. Interest expense was $-0- and $234,524 in 2012 and 2011, respectively. 484,912 17,868,803 350,051 15,798,867 Bond loans, bearing variable interest rates, generally with principal and interest paid monthly, to be repaid in full at various dates through 2036. Principal payments are generally accumulated in a principal fund held by a trustee. Interest expense was $13,305 and $180,431 in 2012 and 2011, respectively. See Note X regarding fixed-rate swap arrangements. 13,770 7,774,498 14,334 8,175,000 Local agency loans, bearing interest from 0% to 10%, generally payable annually from property net cash flow, if any, to be repaid in full at various dates through 2065. Interest capitalized was $539,880 and $488,815 in 2012 and 2011, respectively. Interest expense was $3,122,578 and $3,282,260 in 2012 and 2011, respectively. 30,237,864 149,053,343 27,049,205 148,688,645 State agency loans, bearing interest from 0% to 7.4%, generally payable annually from property net cash flow, if any, to be repaid in full at various dates through 2066. Interest expense was $936,919 and $784,991 in 2012 and 2011, respectively. 3,718,146 29,050,553 3,111,604 27,757,907 Federal agency loans, bearing interest from 0% to 3%, generally with principal and interest deferred through 2065. Interest expense was $31,850 and $31,849 in 2012 and 2011, respectively. 321,941 61,466,419 290,120 50,868,810 Subtotal – Affiliates Loans 34,827,399 275,666,560 30,847,435 262,381,541


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Total loans 43,477,213 300,222,227 39,005,923 286,882,832 Less: current portion (367,442) (2,298,913) (473,114) (2,880,939) Long-term portion $ 43,109,771 $ 297,923,314 $ 38,532,809 $ 284,001,893

Principal payments toward notes payable for the next five years are subject to changes in net cash flow, which is a contingency that cannot be reasonably estimated. Minimum required payments are estimated as follows: 2013 2014 2015 2016 2017 Thereafter Total (In thousands with $000 omitted) Permanent $ 1,923 $ 1,926 $ 2,026 $ 1,304 $ 1,500 $ 1,774 $ 10,453 Construction (1) - - - - - 17,869 17,869 Bonds 255 275 285 295 305 6,359 7,774 Local - - - 53 12,000 137,000 149,053 State - - - 51 1,000 28,000 29,051 Federal - - - - 466 61,000 61,466 Parent-only 121 131 156 1,275 192 22,681 24,556 $ 2,299 $ 2,332 $ 2,467 $ 2,978 $ 15,463 $ 274,683 $ 300,222

(1) Principal payments of construction loans for the next five years cannot be reasonably estimated since the loans will be extended or repaid using funds already committed by permanent lenders and limited partners. Principal payments due under refinanced construction loans within the next five years are not expected to be significant. $200,000 of the construction loans payable will be repaid with limited partner capital contributions.


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Sample – Parent Company Supplementary Schedule of Notes Payable



West Coast Bank, unsecured, due April 12, 2016, with 2% interest payable quarterly. $ - $ 500,000 $ - $ 500,000 West Coast Bank, unsecured, due April 30, 2014, with zero interest in the first five years, and 3% interest payable quarterly beginning in 2004. - 500,000 - 500,000 National Foundation, unsecured, due July 16, 2022, with 1% interest payable quarterly. Loan proceeds are designated to be used in homeownership developments. - 120,826 - 300,000 Total - 1,120,826 - 1,300,000 Less: current portion - - - - Non-current portion $ - $ 1,120,826 $ - $ 1,300,000

Sample – Notes Payable Disclosure for Smaller Entity

NOTE ___ - NOTES PAYABLE

Notes payable are secured by real estate unless otherwise noted and are summarized as follows as of June 30, 20X1:

x.x% note payable to A Bank, principal and interest payable $x,xxx per month, with a balloon payment due December 20X6 $ xxx,xxx

x.x% note payable to B Bank, principal and interest payable $x,xxx per month, with final payment due August 20X5. xxx,xxx Prime interest rate (x.xx% over prime) line of credit to B Bank, secured by accounts receivable, authorized limit of $xx,xxx, interest (currently xx.xx%) payable monthly, principal due on demand. x,xxx Total xxx,xxx Less portion considered current xx,xxx Total long term liabilities $ xxx,xxx


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Maturities of long-term debt for the next five years are as follows: Year Ending June 30 Amount 20X2 $ xx,xxx 20X3 xx,xxx 20X4 xxx,xxx 20X5 xx,xxx 20X6 x,xxx

Interest paid was $xx,xxx during the year ended June 30, 20X1. Sample Line of Credit Disclosure NOTE __ - LINES OF CREDIT

In 2001, ABC Developer entered into an unsecured line of credit with West Coast Bank for $2.0 million. The line of credit bears interest at LIBOR plus 3% (4% floor) with an expiration date of April 18, 2014. At December 31, 2012 and 2011, no amounts were drawn on the line of credit. At 12/31/12, a letter of credit of $1 million has been applied towards the line of credit’s maximum borrowing limit.” In 2012, ABC Developer entered into an unsecured line of credit with Midwest National Bank for $3.5 million. The line of credit bears interest at LIBOR plus 1.8% with an expiration date of October 1, 2014. At December 31, 2012 and 2011, no amounts were drawn on the line of credit.


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Acknowledgements STRENGTH MATTERS® gratefully acknowledges the work of S. Scott Seamands from Lindquist, von Husen & Joyce LLP and the following individuals that contributed to this paper: Denise DeMaio, Consultant, F. B. Heron Foundation, New York, NY

Art Fatum, Chief Financial Officer, MidPen Housing Corporation, Foster City, CA Caroline Horton, Chief Financial Officer, Aeon, Minneapolis, MN David Keene, Director of Finance and Operations, The Neighborhood Developers, Chelsea, MA John Maneval, Director of Lending, NeighborWorks Capital Corporation, Silver Spring, MD Timothy Martin, Chief Credit Officer, Enterprise Community Loan Fund, Columbia, MD Mary White Vasys, Principal, Vasys Consulting Ltd, Chicago, IL

Last Updated: September 2013

DISCLAIMER

This paper contains certain recommended financial statement presentation best practices for nonprofit affordable housing organizations that develop and own affordable housing in the United States. This paper

was developed by a working group comprised of chief financial officers from certain leading nonprofit affordable housing organizations active in the networks of NeighborWorks® America, Housing Partnership

Network and Stewards of Affordable Housing for the Future, as well as representatives of socially responsible lenders, working in conjunction with a representative from Lindquist, von Husen & Joyce LLP, an independent public accounting firm. This publication should not be construed as accounting or other

advice on any specific facts or circumstances. The contents of this paper are intended for general informational purposes only, and you are urged to consult your accountants and other professional advisors

concerning your specific situation and any financial reporting or accounting questions you may have.

For further information, contact [email protected].

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