When Erickson Retirement Communities filed for bankruptcy in October 2009, the senior housing and health-care operator joined a long list of businesses felled by the nationwide housing slump and subsequent recession. Erickson, a Baltimore-based operator of about 19 continuing care retirement communities with about 23,000 residents, was a casualty of the housing market as surely as any homeowner who lost a house to foreclosure.

When private-equity firm Redwood Capital Investments bought Erikson for $365 million in a December bankruptcy auction, the deal excluded its current debt. Now, owners of the tax-free municipal bonds the company issued to finance its expansion and development are sorting out the aftermath.

Erickson, which emerged from bankruptcy protection in April, declined to comment.

The assisted-living business has been squeezed doubly by the downturn, says Kevin Ellich, an analyst with RBC Capital Markets. Residents must pay an entrance fee, often as much as $150,000, simply to move into a community, which generally includes independent living facilities, assisted-living services and nursing care. They pay monthly fees in the thousands of dollars, and generally pay them out of the proceeds of the sale of their homes.

Many comprehensive care complexes loaded up debt during the boom, when credit was cheap and available, and they could count on paying the debt back based on rising enrollments from aging baby boomers. Nonprofit sponsorship of the bonds gave them tax-free status, and what Elllich calls a time-honored model for health-care financing was well in place.

It didn't work out as well as the operators hoped. According to the Standard & Poor's Case-Shiller housing price index, Chicago home prices in March hit their lowest levels since May of 2002, and were down 2.3% from the year-ago period.

That market kept many boomers from moving into retirement communities. "With the slowdown it's been difficult for them to sell their houses and get into these communities," says Daniel Solender, director of municipal bond management at Lord Abbett, a New Jersey-based mutual fund company.

Erickson will be paying bondholders about $3.5 million of the $95 million total debt associated with its Chicago-area Sedgebrook assisted living complex, according to Matt Fabian, managing director of Municipal Market Advisors, a research firm that tracks many of the estimated 60,000 municipal bonds on the market. His data show that there are 23 retirement facilities-related bond issues representing about $673 million worth of debt that have missed payments and defaulted. Another $1.4 billion of retirement bonds are either making payments from reserves or are in technical default, making the sector one of the shakiest in the still relatively sedate muni marketplace.

One of the Sedgebrook bonds defaulted in December, and now trades at 14 cents on the dollar, according to MMA data. The bonds are mostly owned by big mutual fund companies that put the unrated series, which paid 6%, into high-yield municipal bond funds.

Because most funds spread the risk into as many as 200 different bonds, the impact isn't really felt by investors, Solander says. "Given that most of these bonds are not huge deals in terms of size each [default] on its own doesn't change anything."

Lord Abbett funds previously owned some of the bonds in question, but sold most of them off, making it a fairly insignificant part of the overall portfolio, according to company spokeswoman Marsha Mistry.

Mitchell Savader, CEO of Savader Asset Advisors, a municipal bond-research firm in New York, says the fate of the Sedgebrook bonds doesn't herald a widespread collapse of the unrated muni sector. However, it should prompt calls to financial advisers for bond portfolio reviews.

"Retail investors aren't the ones best qualified to do that," he says. "Investors should still look to invest in municipals based on their relative value, but maybe the best thing to do now is to make sure that advisers and money managers are keeping an eye on their holdings."