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HUD's Failure to Preserve Subsidy in Multifamily Foreclosure Illegal

Third Circuit Holds and Remands Regarding Displacement

By Kevin Quisenberry

The Third Circuit recently ruled that the U.S. Department of Housing and Urban Development (HUD) unlawfully terminated the rental subsidy at a multifamily property in Pittsburgh when it foreclosed upon and conveyed the property with funding for redevelopment (Massie v. HUD, 620 F.3d 340 (3d Cir. 2010)). The Third Circuit’s decision ordered HUD to restore the rental subsidy and directed the district court to determine whether the property’s displaced residents received the relocation assistance required by law. Ultimately this decision should help protect tenants in similar circumstances and help preserve scarce affordable-housing resources. Moreover, the court’s careful analysis and rejection of HUD’s assertions regarding statutory interpretation, agency discretion, and judicial review under the Administrative Procedure Act are broadly instructive for public interest lawyers.

Factual Background

HUD targeted four HUD-assisted properties for redevelopment in the early 2000s as part of an effort to revitalize the East Hills neighborhood of Pittsburgh. One of those properties, Third Hills East Park, had been owned by a low-income tenant cooperative with rents subsidized by HUD under a project-based Section 8 housing assistance payments (HAP) contract since 1976. With this rental assistance the cooperative supplied 140 townhome rentals for families of limited means, almost all of whom were African American. In 2001 HUD’s national office evaluated whether to renew the HAP contract at Third Hills East Park. Because HUD found the property to be still viable, HUD awarded a new twenty-year contract and imposed a use restriction requiring the property to be used as affordable rental housing, with no reduction of units, for thirty years.

Although Third Hills East Park was viable, the surrounding neighborhood had declined over time. First East Hills Park and Second East Hills Apartments, adjacent multifamily properties, had deteriorated. The local school had closed, and a nearby public housing high-rise had been condemned. East Gate Mall, a once-regional shopping center situated above the properties, had struggled with new competition before shutting its doors. By 2001, however, efforts to revitalize the area were in motion.

HUD sold First East Hills Park and Second East Hills Apartments to profit-motivated developers awarded low-income housing tax credits for redevelopment in 2002 and 2003. The Housing Authority of the City of Pittsburgh planned to demolish the high-rise. And stakeholders, including Wal-Mart, were negotiating the development of East Gate Mall, foreshadowing significant employment opportunities and an improved tax base. “However,” as a planning document coordinated by the Federal Bureau of Investigation, HUD, Sen. Rick Santorum’s office, and the City of Pittsburgh later described, the “developers [we]re wary of investing in that neighborhood until and unless the physical and social issues [we]re resolved” (Lille Leonardi, FBI, Pittsburgh Division, East Hills Project Area Restoration Initiative Proposal Phase 1 – Assessment Perception of Security and Safety 1 (Feb. 1, 2006) (on file with me)).

The Urban Redevelopment Authority of Pittsburgh convened a task force, including a local HUD official, to create a “Visioning Plan” to coordinate revitalization efforts in the neighborhood in 2003. According to an affidavit taken of the architect who published the plan, the task force concluded that Third Hills East Park should be redeveloped with fewer rental and for-sale homes. A local HUD official explained that foreclosure was necessary to achieve that goal because the 2001 use restriction prevented any change in site use, existing debts and liens exceeded $1.8 million, and HUD could not obtain ownership of the property (and transfer ownership to another entity) without foreclosure. The task force decided that foreclosure was necessary and published the Visioning Plan on June 9, 2004 (Hanson Design Group Ltd., East Hills Visioning Stage iii: Final Plan (2004) (on file with me)). The plan cited “HUD and private developer” as responsible for implementing redevelopment of Third Hills East Park (id. at 36).

HUD declared that the cooperative had technically defaulted on its mortgage on November 10, 2004, after the property failed consecutive annual inspections for mostly minor deficiencies. HUD then notified the cooperative that HUD would pursue foreclosure. That same day HUD suspended all payments under the HAP contract. A week later HUD issued a notice of displacement to Third East Hills Park residents. Two days later HUD terminated the management company, leaving Third East Hills Park without professional management. HUD then began displacing residents.

Over the next twenty months the cooperative struggled to preserve Third Hills East Park. The cooperative repeatedly identified management companies for HUD’s approval, as the cooperative had done when the inspection failures began, and HUD continued to deny approval. HUD repeatedly warned residents—by letter, phone, and personal visit—that they must vacate by a deadline to receive relocation assistance. Residents vacated. The vacancies compounded the loss of HAP, which had accounted for 70 percent of property revenues. By February 2005 HUD had seized the property’s reserve funds, directed the cooperative to cease expenditures on capital repairs, and stopped approving expenditures except for general maintenance. Under these circumstances the cooperative was unable to cure the default.

By March 2005 HUD and the Urban Redevelopment Authority of Pittsburgh had been officially negotiating terms for the sale of Third Hills East Park. By June 2006 they had executed a contract of sale (contingent upon foreclosure). The contract required demolition of all existing structures and construction of forty-five rental and thirty for-sale units. On June 9 HUD authorized payment of a $3.4 million “up-front grant” for redevelopment.

The remaining residents, through counsel, tried to negotiate with the redevelopment authority and the developer to create a role for residents in the redevelopment and permit their return. When negotiations broke down, five shareholders filed a class action in federal court and moved to enjoin the sale.

District Court Litigation

The residents sued HUD under Section 706(1) of the Administrative Procedure Act. Plaintiffs sought to compel HUD to take actions that it had withheld when disposing of Third Hills East Park. Plaintiffs alleged that Section 311 of the Transportation, Treasury, Housing and Urban Development, the Judiciary, the District of Columbia, and Independent Agencies Appropriations Act, 2006 (§ 311) required HUD to preserve the HAP contract as part of the disposition of the property so that residents could regain the rental assistance (Pub. L. No. 109-115, 119 Stat. 2396, § 311 (2005)). They alleged that the Uniform Relocation Act and its implementing regulations required that displaced shareholders receive more assistance, including assistance to purchase a home and mobility counseling and services necessary to prevent segregation and the denial of housing choices on the basis of shareholders’ race (42 U.S.C. §§ 4601 et seq.; 49 C.F.R. §§ 24.2(a)(20)(ii), 24.2(6)(viii)(A), 24.401, 24.8(c)). They alleged a deprivation of property interests without due process.

The district court enjoined the sale but, after a hearing, declined to enter a preliminary injunction. HUD then foreclosed and conveyed the property to the redevelopment authority for $1 with the $3.4 million up-front grant. The redevelopment authority reconveyed the property to the developer. HUD then moved to dismiss the case for lack of jurisdiction and failure to state a claim.

The district court agreed with HUD that HUD had not waived its sovereign immunity because the “flexible authority statute” granted HUD absolute discretion to set the terms of multifamily foreclosures “notwithstanding any other provision of law” (12 U.S.C. § 1715z-11a(a); see also5 U.S.C. § 701(a)(2) (the Administrative Procedure Act “applies … except to the extent that … agency action is committed to agency discretion by law”)). HUD had convinced three other district courts of the validity of this position (Mays v. Cuomo, No. C01-96-929, slip op. at 9 (S.D. Ohio May 21, 1998); Chicago Acorn v. HUD, No. 05 C 3049, slip op. at 13–17 (N.D. Ill. Oct. 5, 2005); GP-UHAB Housing Development Fund Corporation v. Jackson, 2006 U.S. Dist. Lexis 7420, at *31–32 (E.D.N.Y. Feb. 7, 2006)). The district court agreed with HUD that Section 311 (which preempted the flexible authority statute) pertained only to dispositions of multifamily property, not mortgages, and the court dismissed the case.

Plaintiffs promptly sought reconsideration, pointing out that HUD had issued in 2006 a memorandum stating that Section 311 applied to its disposition of mortgages (Memorandum from Charles H. Williams, Deputy Assistant Secretary for Multifamily Housing Programs, U.S. Department of Housing and Urban Development, to All Multifamily HUB Directors et al. 4 (May 31, 2006)). Plaintiffs also argued that the flexible authority statute did not give HUD discretion to disregard its own relocation regulations or the Constitution (plaintiffs cited Service v. Dulles, 354 U.S. 363, 371–72 (1957); Webster v. Doe, 486 U.S. 592, 603 (1988); and Stehney v. Perry, 101 F.3d 925, 934 (3d Cir. 1996)). The district court based its dismissal of the Section 311 claim on HUD’s “incorrect statement” of Section 311’s applicability and reopened the case (Massie v. HUD, 2007 U.S. Dist. Lexis 14886, *4–5 (W.D. Pa. March 1, 2007)).

The reopening of the case in district court enabled plaintiffs to reengage with the redevelopment authority and the developer. Plaintiffs did not oppose the redevelopment fundamentally; they opposed their exclusion from reinvestment in their community. The continuation of the lawsuit gave leverage because it clouded title and prevented the developer from obtaining funding. An agreement was reached; it guaranteed residents the following: priority to occupy new rental units and purchase new for-sale units; increased affordability of for-sale units; consultation on decisions affecting the development, such as resident-screening standards; the opportunity to utilize programs and services at an affiliated community center; the ability to resolve disputes before an impartial hearing officer, with any resolution being appealable in state court; and, for those who remained at Third Hills East Park, the option to remain or relocate with assistance. Plaintiffs agreed not to seek title or prevent the redevelopment through the lawsuit. They preserved their claims, however, to restore the HAP contract and obtain relocation assistance at Uniform Relocation Act levels.

After the district court certified the class, HUD filed an administrative record, and plaintiffs requested discovery, which was denied. The parties moved for summary judgment, and the court entered summary judgment for HUD on all counts (Massie v. HUD, 2008 U.S. Dist. Lexis 74259 (W.D. Pa. Sept. 26, 2008)).

Litigation on Appeal: Threshold Issues

On appeal, as below, HUD attempted to limit the court’s review. HUD challenged, among other questions, the Third Circuit’s jurisdiction over the class because the notice of appeal had not named the lead plaintiff in a representative capacity; HUD cited Marrs v. Motorola Incorporated, 547 F.3d 839 (7th Cir. 2008) (per curiam). Rejecting HUD’s Marrs argument, the Third Circuit held that Federal Rule of Appellate Procedure 3(c)(3) required only that a person who was “qualified to bring the appeal as a representative of the class” be named in the notice (Massie, 620 F.3d at 348).

HUD claimed that the court must defer to its decisions unless they were arbitrary or capricious or unsupported by substantial evidence (see 5 U.S.C. §§ 706(2)(A), 706(2)(E)). The court agreed with plaintiffs that the relevant issue was whether HUD withheld action that HUD was legally required to take under 5 U.S.C. § 706(1) (Massie, 620 F.3d at 347).

HUD sought to limit judicial review to the administrative record. Plaintiffs argued that review under Section 706(1) was not limited to any such record, review under the Administrative Procedure Act was de novo when the agency’s decisions were based on adjudicative facts and there was inadequate opportunity to dispute the facts, and the administrative record was incomplete, evidenced by numerous HUD documents not included in it. Ultimately the Third Circuit agreed and, in considering the merits, reviewed the affidavit and other evidence submitted by plaintiffs.

Determination of the Merits: Section 311

Section 311 requires HUD to preserve HAP contracts when managing, selling, or otherwise disposing of properties unless preserving such contracts is infeasible. Overcoming HUD’s long-standing policy of eliminating project-based assistance is a key element in a pattern of Congressional actions since the turn of the century. Section 311 was first enacted for the 2006 fiscal year (and reenacted each subsequent fiscal year) and applies when HUD is “managing and disposing of [a] multifamily property” in the 2006 fiscal year and “rental assistance payments under Section 8” are “attached to ... dwelling units.”

The district court found that “payments” were not “attached” in the 2006 fiscal year because HUD had suspended payments in 2004. Rejecting this finding, the Third Circuit held that when a HAP contract was in place “payments” remained “attached to ... dwelling units.” This interpretation accorded with the use of “attached” in Section 8 of the U.S. Housing Act. The district court’s interpretation, the court found, conflicted with the legislative intent and would render Section 311 inoperative since HUD suspended payments in every disposition (Massie, 620 F.3d at 352–53).

HUD contended that Section 311 did not apply because it terminated the Section 8 contract before foreclosure occurred and because the sale occurred after the end of the 2006 fiscal year. Also rejecting this argument, the Third Circuit held that “the natural reading of ‘managing and disposing’ [in Section 311] is that this phrase refers to a process …. ‘Managing and disposing’ does not, as HUD argues, refer solely to the precise moment of foreclosure” (Massie, 620 F.3d at 350). Thus HUD must comply with Section 311 during the (long) process leading up to and through the actual foreclosure sale.

HUD argued that because Section 311 did not specify standards for determining whether a multifamily property was feasible for continued rental assistance, the court must defer to its standards; HUD cited Chevron v. Natural Resources Defense Council Incorporated, 467 U.S. 837, 843 (1984). HUD argued that its standards were articulated in its 2006 Memorandum: HUD does not preserve HAP subsidies when it suspends payments. Noting that “interpretations contained in policy statements … are not entitled to Chevron deference,” the Third Circuit found that HUD did not have discretion to create such an exception to Section 311’s feasibility requirement (Massie, 620 F.3d at 350 n.8).

The court then considered whether HUD determined that continuing rental assistance to Third East Hills Park would be infeasible. HUD had performed a feasibility analysis and found the property could be rehabilitated with HAP contract rents and would produce an annual net operating income of $343,933.52. HUD concluded that the property was “financially viable.” Reviewing these facts, the Third Circuit held that HUD’s determination that the property was viable “would appear to foreclose a conclusion that continued rental assistance is ‘not feasible’” (Massie, 620 F.3d at 355). The Third Circuit rejected HUD’s contention that the necessary repairs for Third Hills East Park exceeded the property’s value; the Third Circuit reasoned that even if the repairs were necessary and costly, that did not render the property ineligible for rental assistance after the repairs were completed—particularly where analysis showed that the property would produce an income. The Third Circuit concluded that HUD failed to comply with Section 311 and therefore must reinstate the HAP contract (id. at 356).

The Third Circuit also found that HUD failed to “consult” with tenants in providing “other rental assistance,” as required by Section 311. HUD argued that it satisfied the consultation requirement by providing a copy of its disposition plan to residents and permitting written comments. The Third Circuit found that “HUD’s process of developing a … disposition plan, without any input from the tenants, and then providing that plan to the tenants with a request for written comments simply fails to satisfy the plain meaning of the term ‘consultation….’ This failure to consult constitutes a separate basis for our conclusion that HUD violated Section 311 and therefore must reinstate the HAP contract …” (id. at 357).

Relocation Assistance

The Third Circuit considered the district court’s holding that 24 C.F.R. § 290.17(d), which requires assistance at Uniform Relocation Act levels for persons displaced as a result of a federally assisted project, does not apply to HUD foreclosures. The district court also found that plaintiffs were not “displaced persons” under Section 290.17(d) because they relocated voluntarily to avoid indecent property conditions. The Third Circuit agreed with plaintiffs that the redevelopment of Third East Hills Park with federal funding was a federally assisted project and that Section 290.17(d) applied to subsidized foreclosure sales. “The question that remained,” the court stated, was “whether tenants were displaced due to this project or instead … due to conditions at the property” (Massie, 620 F.3d at 358).

After reviewing the evidence, the Third Circuit “agree[d] with [p]laintiffs” that “[t]he record contains evidence from which a reasonable fact finder could conclude that HUD sought to foreclose upon the property and refused to make feasible repairs in order to facilitate a redevelopment project that it financed” (id. at 359). The Third Circuit did not agree with the district court that relocation was voluntary. The district court had relied on language in HUD’s notice of displacement stating, “We at HUD hope you will take full advantage of this opportunity to receive a housing voucher and relocate to the type of housing of your preference.” The Third Circuit found that “the tenor of the letter, read as a whole, clearly indicates that relocation was presented as necessary and required, not as an option, and that HUD merely wished that tenants would make the process as smooth as possible” (id. at 357 n. 15).

HUD contended that even if Section 290.17(d) applied, plaintiffs had not exhausted their administrative remedies to challenge HUD’s determination of their eligibility for relocation assistance. Rejecting that argument, the Third Circuit found that the relevant regulation, 24 C.F.R. § 290.17(f), merely allowed for administrative review but did not require it. Accordingly the Third Circuit remanded the issue for fact finding (id. at 359).

Lessons Learned—Be Persistent, Be Precise, and Get Help

The Massie decision makes certain that tenants in federally assisted housing will retain certain rights when tenants are displaced in connection with federally assisted projects. It provides guidance for residents and advocates who seek to prevent the loss of affordable housing in their communities due to HUD enforcement actions. More broadly, the decision is notable for its thoughtful analysis of statutory language and purpose and its searching review of HUD’s legal assertions. The decision demonstrates that federal agencies, having broad discretion to implement their mandates, nevertheless must comply with express requirements in the law, including their own regulations. In cases involving Section 311 or similar directives, the opinion validates the use of the Administrative Procedure Act to obtain a specific remedy—ordering the agency to take the action withheld—rather than a remand to the agency for yet another administrative decision making.

The case presents practical lessons that may help advocates endeavoring litigation of this sort. The principal lesson is that there is no substitute for persistence. Practitioners and their clients must saddle up for the long haul to overcome determined opposition from the agency and its counsel and the courts’ inherent reluctance to interfere with agency decision making. Convincing yourself and your clients of the strength of your case and maintaining skepticism toward agency positions that may initially appear convincing may help you in refusing to take no for an answer.

Caution and clarity are key. To cut through the myriad positions that the agency will raise, you must be able to get to the heart of the issues, concisely dispose of arguments that are factually or legally incorrect, and communicate your argument in a way that cannot be avoided or ignored. You may find it helpful to conduct the research and factual development (including document review and maintenance) yourself. Particularly where the law is susceptible to alternative interpretations, effective presentation of the facts and legislative purpose, history, and context will influence the court’s interpretation.

Getting experienced help is extremely beneficial in framing your strategy. In this case, Jack Cann of the Housing Preservation Project and Jim Grow of the National Housing Law Project provided invaluable litigation support and a persuasive amicus brief.

The positive results of this protracted litigation were possible only because the residents and their advocates were committed to pursuing this case. Arduous appellate litigation demands such commitment. The U.S. Attorney’s Office, like HUD’s Office of General Counsel, is a zealous advocate. This, however, should not deter litigation against federal agencies. And, if the case is a good one, there may be attorney fees at the end of the tunnel under the Equal Access to Justice Act (28 U.S.C. § 2412).

Author’s Note

Donald Driscoll of the Community Justice Project and I represented the residents throughout the four years of litigation.

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