Today's credit crisis has put traditional financing out of reach for many businesses. For a healthcare facility looking to borrow tens or hundreds of millions of dollars for improvements or expansion projects, it can be virtually impossible to obtain a conventional bank loan or secure credit enhancement for a fixed-rate bond financing. And while other financing options do exist, most of them present additional risks.

Yet many aging hospitals cannot afford to wait for a better economic climate to make much needed renovations and upgrades. In many cases, hospitals need to replace their facilities to provide adequate care, which involves substantial new debt expenses but the same revenue base. In light of this, many healthcare facilities are turning to a previously little-known, government-backed form of financing: FHA hospital mortgage insurance.

What is FHA hospital mortgage insurance?

Known to lenders as the FHA Section 242 program, FHA has supported the development of hundreds of communities across America by insuring 358 hospital mortgages totaling $13.5 billion since its inception in 1968.

Healthcare facilities can tap FHA-insured loans for a variety of funding needs such as remodeling, expansion, modernization, equipment, and even refinancing. Once an FHA loan is executed, a hospital has numerous ways to secure additional FHA approvals for future capital projects and refinancing as market conditions change.

Basic parameters of the Section 242 program:

  • Tax-exempt (bonds) or taxable (GNMAs)

  • LTV < 90%

  • Loan term is 25 years postconstruction

  • Up-front fees of .80% of loan amount

  • Ongoing fees of .50% of declining loan amount

  • FHA insurance results in AA bond rating

  • Mortgage Reserve Fund (grows to 2 years debt service)

Funding comes from a variety of sources. This collateral structure allows FHA Insured Mortgage Bonds to be rated on the basis of the FHA's creditworthiness rather than that of the hospital, which can mean lower interest rates and more spending power for your healthcare facility.

Unlike traditional financing, FHA loans allow for design-build contracting on projects less than $30 million in value.

Primary drivers for FHA Section 242 financing:

  • Maximum debt capacity-FHA's lenient underwriting criteria

  • Cost-effectiveness-lowest overall cost of capital due to higher bond ratings

  • Debt covenants-typically deemed acceptable by hospital management

  • Future access to capital-FHA underwriting criteria can maximize a hospital's access to capital for future projects

If the hospital's credit profile improves in the future and market conditions allow, the hospital can refinance into another financing vehicle at the appropriate time. (Learn More About FHA Section 242 by visiting the FHA/HUD Web site at and clicking on “Healthcare Facilities” in the left-hand column.)

With appropriate financial, architectural, and construction advice in hand, only your team can make the decision about whether FHA Section 242 mortgage insurance is right for your healthcare facility. But one thing is certain: in today's uncertain economy, it's worth exploring every option, even one that dates back 40 years.

Navigating the system

First and foremost, it is critical to assemble a team familiar with program requirements to successfully navigate the intricacies of the Section 242 process in a timely manner. Having an experienced financial, architectural, and construction team familiar with FHA hospital financings can save millions of dollars in project costs and management time.

Recently, the FHA has implemented improvements to its Section 242 program application process designed to make it more user-friendly. The FHA clearly outlines the process and even offers an Applicant's Guide to assist in filling out the program application.

There are a number of additional key issues that should be addressed early on:

  • Engage architect and construction manager

  • Declaration of intent to reimburse with tax-exempt bonds

  • Feasibility projection comparison against HUD criteria

  • Site location and environmental phase 1 assessment

  • Working capital and bond letters of credit

  • Management team and physician recruitment

  • Ramp-up plan when construction is complete

  • Medicaid/Medicare provider numbers

  • Accreditation for managed care

  • Flood plain compliance

  • Precommitment construction work plan (if any)

  • Proposed mortgage parcel

FHA processing times have improved dramatically since the 1990s and today FHA approvals typically are issued in under 120 days, and in some cases, as quickly as 60 days. (FHA does allow, subject to its approval, hospitals to commence work ahead of the FHA financing with their own funds and at their own risk.)

A hospital CFO experiences the benefits of HUD first-hand

Kim Repac, CFO of Western Maryland Health System, led the HUD financing process for the construction of its new replacement hospital (see sidebar, “Success with HUD Financing.”) Repac utilized HUD financing for the project and found it to be a huge success. “I was skeptical at first,” Repac says. “Everyone said to stay away from HUD because there's the perception that it is time consuming and difficult to get approvals in place to keep the project on time.

“My experience was completely the opposite. With a strong team that is committed to the success of the project and that has a proven track-record with HUD-in my case it was Rolf Haarstad, architect, and Stephen Pack, financial expert-we were able to move the process along seamlessly and work closely with HUD to meet all of the requirements. Having strong relationships with key people at HUD is very important; Stephen has more than 21 years experience working with HUD and was able to use his relationships efficiently to navigate the system and move the project along smoothly.”

When considering financing alternatives, Repac recommends the following tips:

  • Do not write off HUD as an option-it is a viable program for any organization

  • Take the time to gather a dedicated team of experts to assist in the HUD process

  • The process is more complex than traditional financing; having a strong team in place that includes someone who knows how to navigate through the HUD process is key to the success of the process

  • Consider the extra required HUD approvals as a built-in quality control system throughout the project and use this when selling the project internally and externally

FHA Section 242 program criteria and conditions

  • The project must demonstrate a clear community need and financial feasibility under conservative assumptions

  • The facility must be an acute care hospital with no more than 50% of patient days attributable to chronic convalescence and rest, drug and alcoholic, epileptic, nervous and mental, mental deficiency, and tuberculosis (this restriction does not apply to Critical Access Hospitals)

  • A Certificate of Need must be issued or pending in states with a CON process

  • The FHA-insured lender must be granted a first mortgage on the entire hospital, including property, plant, equipment, and receivables

  • Once construction is completed, monthly payments must be made into a restricted Mortgage Reserve Fund that will build to a balance equal to two years of debt service after 10 years

  • Over the past three full fiscal years, the hospital's average operating margin must have been equal to or greater than 0.00 and the average debt service coverage ratio equal to or greater than 1.25

  • The project must not have environmental issues such as soil contamination, wetlands issues, or endangered species

For start-up facilities, additional considerations apply and the project must have a management team in place that is experienced in starting new hospitals, must develop a detailed plan for the absorption period, and, most importantly, have sufficient working capital at closing as determined by OIHCF until one to two years. HD

Stephen R. Pack is President of Armadale Capital Inc. Previously a leader at two Wall Street firms, he founded Armadale Capital Inc., in 2008 to specialize in FHA Section 242 financings for hospitals.
Rolf Haarstad, AIA, LEED AP, is Principal, Hord | Coplan | Macht, Inc.

For more information, visit

For additional project information, visit the Hord | Coplan | Macht Web site at

Healthcare Design 2009 July;9(7):61-64