The Salvation Army has decided against buying state homes off the Government, a blow the Labour Party says is "hugely embarrassing".
The decision came after a study to test its capacity to become a major social housing landlord.
Prime Minister John Key confirmed earlier plans to go through the transfer in January. The plan is to transfer more of the responsibility for housing low-income and vulnerable tenants by selling a portion of housing stock to community providers such as churches, iwi and non-government organisations.
But Major Campbell Roberts, of the Salvation Army, says the church organisation does not believe "the lives of tenants would be sufficiently improved by such a transfer".
Nor did it have the "expertise, infrastructure and resources to successfully manage any social housing transfer of size", he said.
"It's just that to take on a significant number of houses is a very complex operation ... the numbers require huge inputs of capital." Housing NZ was in an appalling state, he said.
"The reality is with Housing NZ that through successive governments it's really making a mess of what it's doing. Housing NZ has massive delayed maintenance ... from a government and management point of view, appallingly done and so you can't leave it how it is."
However, the Sallies would be keen to pursue any other models of housing partnerships, carried out in more of a consortium approach.
Finance Minister Bill English said he wasn't surprised by the Sallies' response. He said the Government had full confidence in the proposal and was in talks with other parties, including property developers and people with property finance experience. "We're taking it pretty slowly and carefully to make sure we all learn how this can be done."
Mr English told Radio New Zealand the policy wasn't sunk and a consortium would likely be formed.He said the Sallies were not completely out of the picture.
"The Army is interested in participating as the owner of new houses... and they're interested in being part of a consortium.
Labour leader Andrew Little said he was "stunned" by the decision and said it would be a blow to the Government which had kicked off its political year with the issue. "I suspect that if the Salvation Amy are saying that, I can't imagine there's any other community housing group that will be saying that they can do it either."
Mr Little questioned how the Government thought the Salvation Army had the capability to pick up the load.
Mr Little told Radio New Zealand the government was "back to square one".
"I always doubted whether community housing organisations, even large ones like the Salvation Army, would have the balance sheets and resources to pick that up and also then to administer effectively that part of the state housing program."
He said it was now up to private property developers to purchase the 8000 houses flagged by the government for sale.
Mr Little said National's housing policy was "a fiasco".
"If the Salvation Army doesn't have the resources or the capacity to take over Housing NZ's responsibilities, who does?
"House prices are sky-rocketing, first home buyers are locked out of the market and not enough houses are being built. And to add to National's list of housing failures, its big plan for state housing is now turning to dust."
Sale of state houses
November: Prime Minister John Key announces possible state house sale to community groups.
January 28: Prime Minister confirms plans.
February: Salvation Army releases State of Nation report; reveals 4000 houses short.
March 23: Salvation Army turns down opportunity to negotiate transfer of Housing NZ stock.