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June 26, 2023 Deal Watch

Facing higher construction costs and interest rates, some developers turn to affordable housing projects

HBJ PHOTO | MICHAEL PUFFER Honeycomb Real Estate Partners Director of Development Stephen Caprio (left) and Managing Partner Lewis Brown at the West Hartford Inn. Honeycomb is transforming the declining property into a modern affordable housing development.
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Lewis Brown, principal of affordable housing developer Honeycomb Real Estate Partners, expects to launch a $26 million transformation of the run-down West Hartford Inn into 44 affordable apartments this fall.

The Farmington Avenue project is moving forward in a well-to-do area of West Hartford that’s already seeing numerous new market-rate and luxury apartment developments.

A stone’s throw to the west, developers Brian Zelman and Avner Krohn are partnered with Rich and Zach Korris on a roughly $20 million effort to build 48 market-rate apartments.

To the south, New York-based Continental Properties is building an amenity-rich project with 172 luxury apartments on the former West Hartford Children’s Museum site.

“There are a lot of market-rate apartments that are coming online,” Brown said in a recent interview. “That’s why we felt this particular property at 900 Farmington Avenue was going to be perfect for affordable. With all of the high-end luxury and market rate coming out of the ground, there was a need for affordable apartments.”

Brown, who has had a hand in building about 10,000 affordable housing units since 2005, could be getting some new company in the affordable housing space.

Soaring interest rates and construction costs, along with historic levels of state funding, have some of the biggest names in Connecticut’s multifamily development sector moving to add affordable housing to their portfolios.

Brown, for example, is in talks with Zelman, Krohn and well-known Hartford developer Martin Kenny, of Lexington Partners, about potential projects.

While they declined to share further details, the traditionally market-rate apartment developers did discuss the forces incentivizing their newfound interest.

Krohn said fast-rising rents have increased the need for affordable housing at a time when construction of market-rate units has become “extremely challenging” due to higher interest rates and materials costs.

He said these pressures are shrinking the number of market-rate projects that make financial sense.

“We are looking at opportunities where a market-rate project wouldn’t make sense, but where it would make sense for an affordable or mixed-rate project,” Krohn said.

Krohn isn’t exiting the market-rate space. He said he’s advancing a pipeline of about 500 market-rate units. But adding affordable projects to the mix will help him keep busy, and allow his company, Jasko Development, to retain its roughly 20-person construction team.

Marty Kenny

“Anybody who is successful as a developer is opportunistic,” Krohn said. “... Me, Marty (Kenny), we run construction in-house. We both have big staffs to keep busy. If there’s less opportunity, what you don’t want to do is lose staff members. So, (you try to figure out) how to bridge this time, until the market resets.”

Differing business models

Lexington Partners’ InnoConn Construction Management arm has been retained by Honeycomb for construction at the West Hartford Inn site. Honeycomb is also partnered on the project with Simsbury-based affordable housing developer Vesta Corp., Avon-based investor Corridor Ventures, and architect Joseph Vincent Vallone of Westport-based Vallone Ventures.

The redevelopment is being funded by debt through the Connecticut Housing Finance Authority (CHFA) and Connecticut Department of Housing, a state brownfields grant, a grant from the town of West Hartford, tax credits and a “seven-figure” deferral of development fees, Brown said.

Lexington Partners’ most recent projects have included some affordable units, mostly at the request of the municipalities involved, Kenny said. His transformation of the former Sisters of St. Joseph of Chambery campus in West Hartford into 292 upscale apartments is an example.

Town officials gave the “One Park” project a tax deal after Kenny agreed to set aside 10% of the units as affordable.

Now, he said he’s contemplating diving more directly into projects with higher percentages of affordable units, which will allow him to tap state financing.

Bond financing through CHFA allows a 6% rate locked for 35 years, Kenny said.

“We’ve had some of the highest increases in construction costs in history,” Kenny said. “The last two years, the increase is a record-breaker. We had interest rates two years ago on construction loans that were at 3 ½%, and now they are at 8 ¾%.”

The business model for affordable projects differs from market-rate developments, Kenny noted. Affordable housing depends on government contributions, and with less cash flow, profits typically come from developer fees.

“With market rate, your fee income is not as important,” Kenny said, because rents are higher and can be increased more easily. “When a developer does affordable housing, the bulk of the profit is in the development fee because it’s a long-term hold, usually 30 to 40 years. And management fees are based on the income. That’s not a high yield.”

Kenny said Lexington is contemplating projects that would mix affordable with market-rate housing. He’s focused on towns around Hartford, as well as southeastern Connecticut, which is experiencing a jobs boom being driven by Groton submarine maker Electric Boat.

“Clearly, there is a demand, and we think it’s a good way for us to grow and diversify the work we are doing beyond just market-rate multifamily,” Kenny said. “The governor has prioritized affordable housing and the demand is there.”

Like Krohn, Kenny is not giving up on market-rate projects. He continues to advance plans for a $100 million redevelopment of the 12-acre former Red Lion Hotel property in Cromwell into 265 apartments, 24 townhomes and 30,000 square feet of retail.

He is working on a pipeline of additional market-rate efforts.

Reggie Kronstadt

Reggie D. Kronstadt, principal of Krown Point Capital, has worked with partners to buy or build hundreds of upscale rental units in Connecticut since 2020.

In May, Krown Point and Fairfield-based Connecticut Realty Trust broke ground on 90 luxury townhomes in Bloomfield. The partners are currently seeking permits for 163 single-family homes in East Granby.

Kronstadt said Krown Point is contemplating affordable projects, given the growing number of funding supports. Even so, affordable builders face competition for the funds and, quite often, opposition from local residents, he said.

“It’s definitely an interesting property type and a lot of people are looking at it,” Kronstadt said. “We are softly looking. It takes the right project in the right location and the right municipality. We haven’t found the right site that works yet, but it’s definitely on my radar.”

Funding wave

The two-year budget Gov. Ned Lamont signed earlier this month included $810 million for affordable housing and housing supports, more than double the spending allocated in the previous budget that expires on June 30.

Michael Santoro, director of the office of policy, research and housing support at the Connecticut Department of Housing, said it’s been decades since policymakers allocated so much money for affordable housing.

Santoro said the new funding will allow the department to speed up the project pipeline.

However, state lawmakers failed to pass zoning reforms that had been sought by advocates and developers who contend local resistance to affordable housing is at least as big a factor in the current shortage as the need for additional capital.

Seilia Mosquera-Bruno

Department of Housing Commissioner Seilia Mosquera-Bruno said her department is stepping up outreach to deploy the new resources as effectively and efficiently as possible.

“We are bringing in more developers,” Mosquera-Bruno said. “We are working with companies that are providing homes for manufacturers. We are looking at all different avenues to achieve our goal.”

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