by David A. Smith

As mark-to-market becomes real, stakeholder complaints rise in pitch. Perhaps this was inevitable. After annoying delays, the program is coming into permanent effect 21 months after enactment, 9 months later than Congress mandated. The amazing American economy is making properties opt-out viable from coast to coast. And no one wants to go to the dentist. Whatever the reason, even before the program starts, stakeholder shrillness is giving Congress pre-closing remorse.

But mark-to-market's inexorable approach has also revealed several unexpected consequential benefits beyond its discretionary cost savings. Dimly if at all recognized when the statute was being written, seldom mentioned by commentators and pundits, overlooked by OMB or CBO scores, these benefits are nonetheless real, valuable, and important. There are five of them:

Whatever happens – opt out, renewal without restructuring, or debt writedown – Section 8 expiration and mark-to-market trigger a new and genuine underwriting of the property as real estate:

All of this is healthy – the lifeblood of real estate, in fact – and for 20+ years, it has not been done for this property. Indeed, if the original underwriting was predicated on property-based Section 8 or rents well below market, real estate underwriting may never have been done before.

About time, don't you think? Real estate evaluation of every property in the HUD portfolio. Placing the property on a solid foundation instead of the rickety stilts of government subsidy. Worth doing, is it not?

Overtime regulations, like entropy, always increase. For HUD properties, 20+ years' of overlapping and stealthily encroaching laws has created a ponderous and largely dysfunctional system of process compliance, where following the recipe matters and baking the cake does not. Is Fed Exing payroll checks to the site an allowable project expense or must it be paid from the management fee? Was that lawyer's bill for contesting a real estate tax assessment (permissible project cost) or responding to a HUD management finding (impermissible project cost)? Is buying a management company and paying some of the fees back to the seller improper? And are these questions really the ones to argue about? What do they have to do with running a good property?

Even though the mark-to-market recapitalization sequence is complicated and process-intensive, when a property completes mark-to-market restructuring, process compliance is drastically trimmed. Properties that are recapitalized will most likely have a simplified outcome-oriented compliance: Did you rent to income-eligible folks? Is the property in good physical condition? Did you pay 75% of cash flow on the soft second note? Mark-to-market asks the questions that matter, not the procedural dross.

Meanwhile, incentives will be much better aligned. The end of dividend limitations and budget-based rents means owners will be motivated to cut operating costs. Sharing upside means they will be motivated to flow cash, and rewarded for what works, not what can be claimed to work.

Fewer regulations, better incentives. A breath of fresh air.

As anyone who has ever taken a small birthday child to a toy store knows, he who benefits does not always pay, and he who pays does not always benefit. Existing HUD affordable housing benefits states and localities, but today HUD pays all the costs – and takes all the blame.

Four years ago, states argued that mark-to-market was exclusively a Federal problem and they could not and would not allocate any of 'their' money (that is, Federal block grants such as HOME, CDBG, and LIHTC's) to preservation … but as the reality looms, many states have elevated preservation into a major priority, as it deserves to be.

Mark-to-market stops the buck where the bucks will stop. Having state HFA's as participating administrative entities (PAE's) puts them front and center in the economic and policy decisions. Capping Federal resources and exposing properties to opt-out risk reveals which states and localities will put their funding where their editorials are.

Each of the last three HUD secretaries has come to Washington proclaiming that the Department is fundamentally flawed and that it cannot handle all its responsibilities. Reasonable observers might take them at their word, and wonder if HUD should continue as these properties' steward. Such 535 persons might decide that the nation's only Federal affordable housing program – the Low Income Housing Tax Credit – should be allocated by the states and administered outside of HUD. The same group might decide that PAE's should be anyone other than HUD, that their PAE performance should be administered by someone other than HUD (OMHAR), and that OMHAR's director should report directly to Congress, not to the HUD Secretary.

As properties achieve their Section 8 expiration, they will move out of HUD's regulatory orbit. Some will go into the market, others will fall into new affordability orbits administered by the states. Either way HUD's workload will diminish and the properties' vulnerability to an overloaded HUD will likewise decline.

Though HUD has many dedicated and qualified employees, reducing the burden of the only Department GAO annually classifies as 'high risk' has to be a step in the right direction.

Long, long ago, in a galaxy far, far away, Fair Market Rents (FMR's) were fair and market. Today they are neither. Instead FMR's are a subsidy payment deliberately calibrated to a below-market standard that is unfair to voucher recipients (who are economically concentrated in poorer neighborhoods and inferior housing) and owners. But so seductively self-explanatory is the name – Fair Market Rent – that, until mark-to-market, most people accepted without question that existing Section 8 rents were way above market because they were well above FMR's.

Be careful what you wish for, as you may get it. Driving the portfolio to market rents has revealed that in state after state, big city or small town, FMR's are below local rents – often absurdly below. Several sources – experience in the demonstration, statistical analysis of HUD's FMR derivation procedure, and a raft of newspaper stories throughout the country – all document that true market rents are much closer to 115-120% of FMR.

For years we have been measuring cost using a ten-inch ruler and calling it a foot. No wonder we have mis-measured the costs. And without mark-to-market, we would still be mis-measuring – and making foolish policy choices.

Mark-to-market will stress properties and owners. It will (often needlessly) cause residents anxiety. It will risk losing valuable affordable housing. These are real costs, and they are high. But before we pronounce judgment, let us also recognize that mark-to-market should give us genuine real estate underwriting, streamlined regulation, aligned incentives, renewed state and local financial commitments, properties released from HUD's thicket, and a mountain of useful rent data. Those are powerful long-run benefits.

Let's give the experiment a chance to work.