C-PACE poised to grow in New York
Commercial PACE lending to make energy efficiency improvements and install renewable energy systems in office buildings and other commercial properties is expected to increase in New York after the Energy Improvement Corporation or "EIC" revamped its commercial PACE program.
"PACE" stands for property assessed clean energy. EIC administers the program statewide, other than in New York City.
Local governments encourage private lenders to make loans to finance energy-related improvements to buildings by allowing lenders to take senior liens on the buildings that trump existing mortgages. The borrower repays the debt over time essentially through a special assessment that is like an addition to the property taxes that it is already paying as the building owner. The government makes the property tax collection machinery available, although in the case of the EIC program, the PACE assessment is billed separately. If there is a default on the loan, then the lender can foreclose on the building.
C-PACE refers to PACE lending for improvements to commercial properties. Residential PACE focuses on improvements to homes.
Borrowers like PACE because of the favorable financing terms.
The New York PACE program dates to 2009 and can be found in article 5-L of the state general municipal law. EIC updated its C-PACE program in 2019 to make it easier for commercial property owners to access third-party capital financing on favorable terms. This is the third iteration of the program.
In the prior programs, unlike the current program, if a property owner did not pay the C-PACE assessment, then the local municipality would pay it for him, which introduced the creditworthiness of the municipality into the equation.
PACE assessment payments are bundled together and converted into current cash through securitizations. Between January 2014 and June 2018, the California state treasurer reported that PACE financing in that state has financed over $3 billion in efficiency upgrades. In Connecticut, the Connecticut Green Bank announced in early 2018 that the state's C-PACE program has financed 200 projects totaling more than $114 million.
C-PACE financing in New York dovetails with a Senate bill signed June 8 that requires a 40% reduction in greenhouse gas emissions statewide by 2030 and an 85% reduction by 2050. The June 8 law also requires that 70% of electrical usage must be derived from renewable sources. C-PACE funding is an effective tool for property owners in making these kinds of ambitious environmental changes possible.
What is C-PACE?
The "Energize NY Open C-PACE" program is available to finance improvements to commercial and industrial buildings, including multi-family properties with three or more units, but not single-family residential properties.
C-PACE loans are made by private, third-party lenders and are repaid over a long-term period. As per the law, "[e]very loan made under the sustainable energy loan program shall be repaid over a term not to exceed the weighted average of the useful life of such systems and improvements as determined by" the local municipality.
The property owner pays via a special voluntary assessment placed on the property, similar to property taxes and other municipal charges.
C-PACE is a growing sector of the PACE financing world. Currently, 33 states have enacted legislation enabling property owners to receive up-front financing from private lenders to install renewable energy systems or improve the energy efficiency of existing systems on their property. During 2009 to 2017, $588 million was invested in C-PACE projects, with $251 million of that in 2017 alone, a 75% increase from the previous year.
In New York, the Energy Improvement Corporation (EIC) is the statewide C-PACE program administrator other than for New York City. EIC overhauled its commercial PACE program recently to make program easier for commercial property owners to use. The PACE assessment is billed directly by EIC, on behalf of the local municipality, rather than through the property tax bill on the building, thereby reducing the administrative burden on municipalities of collection and enforcement of PACE assessments. EIC expects to close the first C-PACE financing under the new program this summer.
Improving the energy efficiency of commercial buildings through C-PACE is good for property owners, municipalities and communities at large. Owners who could not afford improvements can do so, and even commercial property owners who could otherwise afford environmental improvements to their buildings may wish to have greater financial flexibility by taking the up-front cost of development off their balance sheets. Because the annual savings generated by reduced energy needs typically exceed the PACE assessment, many property owners realize an immediate profit.
Local governments also have an incentive to participate in the program because C-PACE funding reduces the cost of doing business and attracts business owners to the community, encourages investment and creates green jobs. C-PACE investments are estimated to have created 5,600 to 8,800 new jobs in New York through 2017, with an $800 million to $1.5 billion impact on local economies.
Finally, C-PACE is attractive to the entire community because when properties are more energy-efficient, air quality becomes healthier, and the entire community benefits. Existing C-PACE improvements as of 2017 are estimated to save 6.3 million megawatt hours of energy over their lifetimes, reducing greenhouse gas emissions by 3 million metric tons, which is equal to the emissions from 345 million gallons of gasoline).
In a C-PACE loan, the lender takes a lien on the building where the energy efficiency improvements are made. This is different than the normal home improvement loan from a bank. The special assessment that is the source of loan repayment is attached to the building and not to the individual property owner. Because of this, the financing automatically travels with the building if the building is sold to a new owner.
Interest rates are competitive, and depending on marketing conditions range from 5.75% to 6.75%
In C-PACE transactions, existing mortgage-holders must provide written consent, thereby permitting the "benefit assessment lien" to take priority over all existing mortgages on the property.
However, the local government gets first claim on asset value, in the event of a foreclosure, to cover property taxes and other municipal assessments, such as sewer and water. The benefit assessment lien is subordinated to a lien for taxes of the participating municipality on real property, municipal charges and governmentally imposed assessments.
Parties to Transaction
There are five parties to any C-PACE transaction.
The first is the borrower. To qualify for the program, the borrower must jump through a number of hoops. It must be a "qualified property owner," meaning a commercial entity that owns commercial real property in the municipality offering C-PACE financing. Government entities, such as public universities and school districts, and natural persons owning commercial property are not eligible.
The borrower must not be in bankruptcy, and the building itself cannot be the subject of a bankruptcy proceeding. The borrower must be current on any existing mortgage on the property and its property tax payments.
Eligibility is based on a building's ability to carry the extra assessment burden and to generate savings through the energy upgrades, not on traditional credit metrics.
Another party to the transaction is the local municipality. This can be a county, city, town or village. It must have adopted a local implementing statute establishing a C-PACE program and contracted with EIC to administer the program on the municipality's behalf.
See a list of participating municipalities in New York. Other counties not on the list are currently in discussions about establishing programs.
EIC is also a party to any transaction since it will administer the PACE lien on behalf of the municipality.
Then there is a private lender. Lenders are pre-approved by EIC to participate in the program. Lenders may have different preferences for the types of energy efficiency improvements they are willing to finance, minimum or maximum financing ranges and geographic coverage. Some specialize in PACE financing.
The lender and borrower sign a financing agreement. EIC and the local government are considered third-party beneficiaries with a right to enforce provisions that affect them.
Finally, there is a contractor who does the work. Contractors must be on an approved list maintained by the New York State Energy Research and Development Authority (NYSERDA).
New York permits property owners to use C-PACE financing for a variety of projects. Subject to municipal-level regulations, funding may be used for energy audits, building improvements, renewable energy feasibility studies and installation of renewable energy systems (solar, wind, fuel cells, cogeneration units and geothermal heat pumps).
Qualifying improvements must be cost-effective, permanent (no appliances) energy-efficient improvements affixed to the property. Examples are retrofitting windows and doors, installing new lighting systems, caulking, weather stripping, replacing insulation and upgrading heating, cooling and water systems.
Many lenders have verification requirements to ensure that funding is not fully disbursed until improvements have been completed. A local inspector may be asked to sign a certificate of completion.
NYSERDA recommends that the borrower be required to covenant in the financing agreement to maintain the improvements, deliver status reports during construction and allow the municipality access to the property for the first two years after construction to inspect the work.
Some improvements may be owned by third parties, such as a long-term lessee. In such cases, the third party must promise not to remove the improvements until the loan has been repaid and to allow the building owner to transfer the rights to use the improvements to the new owner if the building is sold.