A little over 20 years ago, Bill Kaplan had a fateful meeting with Chicago Mayor Richard Daley.
At the time, Kaplan was an entrepreneur of growing stature in the Windy City. The company he had co-founded, Senior Lifestyle Corp., had a small but growing portfolio of private-pay senior living communities. Seeing that success, Mayor Daley challenged Kaplan to create a more affordable model, through a public-private partnership.
Kaplan and his Senior Lifestyle team rose to that challenge by developing the Senior Suites product. Today, there are 24 Senior Suites communities in and around Chicago. And while that is a small portion of Senior Lifestyle’s total portfolio of about 200 communities nationwide, it’s still a notable part of the company — and holds valuable lessons about what it takes to develop and operate more affordable senior housing, which is an increasingly pressing concern as the huge baby boomer demographic ages.
The Senior Suites model
Senior Suites properties were intended to be service-enriched communities that could bridge the gap between public housing and market-rate apartments. Essentially, they are “top of the market” products within the affordable housing spectrum, Senior Lifestyle Vice President of Development & Acquisitions Bob Gawronski told Senior Housing News.
Located close to O’Hare International Airport on the northwest side of Chicago, Senior Suites of Norwood Park provides a good example of how Senior Lifestyle has been able to meet the goals that the company set out when devising this more affordable product.
At Norwood Park, monthly rental rates are determined on a sliding scale depending on unit size and residents’ income. Someone making 30% of the average median income might pay as little as $468 a month for a studio, while residents making 60% of AMI might pay about $1,200 for a two-bedroom unit.
These rates are dramatically lower than typical independent living and assisted living rents, with median monthly costs that range from around $2,500 to about $4,000, according to A Place for Mom data. However, Senior Suites’ rates are higher than other types of affordable housing, which has raised the eyebrows of some municipal officials at times.
“If there’s criticism from some local politicians, it’s that we don’t skew low enough, because our rents are what they are [based upon maximum rates typically set at 30%, 50%, and/or 60% of the area median income],” Gawronski said.
However, the rates are set where they are to support the type of service enrichment and physical plant that Senior Lifestyle wanted to deliver with Senior Suites.
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At Senior Suites of Norwood Park and in other communities within the portfolio, the monthly rates include services and amenities such as: heat, electric and air conditioning; free use of laundry facilities; monthly housekeeping; emergency pull cords; weekly transport to the grocery store; planned social activities and programs.
It’s in the physical plant that Senior Suites of Norwood Park really shines, and shows just how design-forward these buildings can be. The community is located adjacent to Immaculate Conception, a Catholic church and school, and it used to be a monastery for the Passionist priests. With the number of priests having dwindled, the order brought in Plante Moran to market the property for sale. Plante Moran believed that the property could be repositioned as senior living, but Gawronski did not immediately spring at the project.
For one, he lives nearby and was mindful of conventional wisdom not to develop in his own backyard, he told SHN — particularly because he had already lost a past zoning battle in the neighborhood. Furthermore, he perceived that significant work would be required to make the historic building suitable for age-restricted rental housing.
“But I realized, somebody’s going to do it, and they’re either going to screw it up, and I’m going to be mad, because I live in the neighborhood, or worse, they’re going to be successful with it, and I let pride get in the way,” he said. “So I went to talk to Bill [Kaplan], and he [said], ‘Don’t ever let your feelings get in the way of a good deal.’”
So, Gawronski moved ahead on lining up the capital for the transaction. Affordable housing projects generally have a reputation for capital stacks that are so complex, they resemble “lasagna,” he said. In the case of Senior Suites, Mayor Daley’s administration played a key early role in paving the way for tax credits to support these projects. For the Norwood Park project, the state of Illinois provided a tax credit allocation of about $1.7 million, to be taken over the course of roughly 10 years — meaning that Senior Lifestyle had about $17 million in tax credits to sell. In addition, the project received a one-time tax credit of $1.6 million after Senior Lifestyle pledged to preserve the building.
With those two tax credit incentives, Senior Lifestyle raised almost $18 million in equity. Given the restricted rents and high operating costs of the building — which run to around $7,000 a year per unit including taxes — the project stakeholders only were able to secure a first mortgage of about $640,000. A variety of grants and a soft second mortgage from the City of Chicago through its allocation of funds from a HUD pass-through program filled the gap to meet the $24 million project cost.
With the money lined up, the ambitious redevelopment got underway. The work entailed renovating the historic building and adding a new, attached structure, bringing the total unit count to 84. Design highlights include the preservation of a grand staircase, which can be seen behind glass while walking down a second-story hallway.
The renovated building opened in 2014 and is currently full, with a waitlist. Across the Senior Suites portfolio, occupancy is strong, with occasional dips into the low 90% range only in certain buildings in extremely low-income neighborhoods where the rent levels are more challenging, Gawronski said.
Senior Suites benefits, lessons
Senior Suites fits into the overall Senior Lifestyle mission to serve older adults, and workers across the organization derive a sense of pride from these communities, according to Gawronski.
Still, the company is a for-profit business that needs to deliver strong bottom line results, and one major lesson of Senior Suites is how Senior Lifestyle learned to pencil these communities out.
“The reality is, the programs that are utilized to incentivize investment in these developments are fairly profitable from a development standpoint, on a short-term basis, but only profitable [in the long-term] if your investor is looking for the after-tax return on investment,” Gawronski said.
In other words, a traditional market-rate senior living investor is driven by cash return on investment, whereas tax credit deals will attract corporate investors looking to shelter their tax liability or meet federal obligations to reinvest in the communities where they do business — and there is no shortage of willing capital partners for these transactions from that standpoint. BMO Harris Bank, for example, has both debt and equity investment in Senior Suites of Norwood Park.
Operating the buildings is a trickier proposition. Garnering a fee of 5% or 5.5% on a relatively low-revenue property means no single project can support a management company — it’s only because Senior Lifestyle operates two dozen that the company can justify having this particular division, Gawronski said.
“And because your institutional investor is singularly motivated by the after-tax benefits … they’re willing to give the lion’s share of whatever limited cash flow there is to the general partner/developer as a kind of incentive management fee,” he said.
Having a large-scale, diversified portfolio also has helped drive efficiencies in the operations themselves, although lessons have been learned here over time. For example, in the first Senior Suites developments, the company was able to install emergency pull cords and route those alerts through its market-rate highrise, The Breakers.
Senior Lifestyle also initially supported dining at Senior Suites by bringing in food prepared off-site at market-rate communities. That practice was discontinued due to lack of interest on the part of residents.
Because these communities are essentially age-restricted apartments with a light layer of services, and this product is highly in demand among its target demographic, the buildings tend to fill up quickly and attract a younger resident than is typical in a market-rate building. This pattern translates to a longer length-of-stay as well. While these are operational advantages, scaling up service packages on an a la carte basis is difficult for this resident population that is active and value-motivated — in other words, they’re unlikely to pay more for catered meals as long as they are able to prepare their own food.
Learning these lessons and adapting quickly has been essential given the tighter margins of an affordable product.
“Finding that balance of covering your operating costs and keeping your apartments 100% occupied is an interesting challenge,” Gawronski said.
It’s a challenge that the senior living industry as a whole is contemplating with increased vigor, as data shows that the large cohort of middle-income baby boomers will not be able to afford senior living should prevailing market rates hold.
Senior Lifestyle is certainly aware of these statistics and has already made forays into creating a product with a price point that is higher than its Senior Suites rates but below its market-rate communities. In the midst of the recession, the provider was able to tap tax increment financing to redevelop two blighted properties into Autumn Green-branded communities that offer this middle-market independent living and assisted living.
In coming up with that Autumn Green operating model, Senior Lifestyle was able to consult with its Senior Suites team to determine how to layer on additional services and amenities while maintaining operational efficiencies to keep costs in check. This approach proved more effective than starting with the company’s higher-end model and trying to strip those operations down, Gawronski said.
Still, despite the pressing need for middle-market senior living, the current environment is unfortunately not particularly conducive to the type of creative public-private partnerships that drove the creation of Senior Suites and Autumn Green.
Recent cuts to corporate taxes in effect devalue tax credit dollars, and HUD budget cuts have limited these federal funds, Gawronski noted. Simultaneously, development and construction costs have been on the rise. Add to these large-scale challenges the peculiarities of individual states and municipalities, which may give preference to senior housing in some years but other types of projects in other years, and the conundrum deepens.
And the challenges don’t end there. With the need for low-income housing remaining acute, government subsidies are not likely to flow toward people on the higher end of the middle market, meaning they might have an annual income in the $50,000 range. Private investors, for their part, are still able to earn sizable returns on market-rate senior housing.
“The cynic in me says you’re not going to see a bunch of folks who are used to demanding certain returns on their investment be willing to take a significantly lower return on their investment for altruistic reasons,” Grawnoski said.
For these reasons, among others, Senior Lifestyle has in the last few years halted Senior Suites development and shifted its focus to expanding other parts of the portfolio.
That said, the outlook is not entirely bleak for senior housing at lower price points. Overbuilding has occurred in various markets around the country, making it more difficult to find opportunities for higher end developments; plus, there is the sheer size of the middle market demographic, which is set to boom in the years ahead.
In other words, Senior Lifestyle’s current focus on other product types should not be mistaken as disinterest in middle-market and affordable senior housing. The company views Senior Suites not only as a successful solution to the challenge posed by Mayor Daley 20 years ago, but as a start toward solving the affordability challenges to come in the years ahead.
“The knowledge of how those tax credit programs work, and the knowledge of how to operate middle-market [communities] will always help us acquire existing communities that might be a middle-market segment and eventually start developing [affordable housing] again when there’s a likely path to making the financial numbers work,” Granowski said.