Property Assessed Clean Energy tax financing mechanisms, which pay off energy upgrades through a surcharge on real estate taxes, came of age several years ago. Known as PACE, they got their start with “the Berkeley model” for residential home financing of energy improvements and have now spread across the country. With the infamous Federal Housing and Finance Authority (FHFA) “letter” of a few years ago, most of these programs came to a grinding halt. But to paraphrase Mark Twain – reports of their death have been greatly exaggerated.
Residential PACE legislation took myriad forms, but the most frequent approach placed the lien for PACE financing senior to first mortgage liens in the event of a default. While a number of liens operate in a similar manner, they use the rubric of a “public benefit” to justify their senior position to a first mortgage. The FHFA letter asserted that there was no “public benefit” to energy efficiency or renewable energy investments and that they would not honor loans that were structured with these liens attached.
Almost immediately, most of the 25 states that had initiated PACE financing in the residential sector ceased issuing PACE assessments and abandoned the program. Measures to fix the issue were introduced in Congress but have stalled and seem to be in a perpetual state of limbo.
The FHFA letter specifically referred to loans that were backed by Fannie Mae and Freddie Mac – namely residential loans. Across the country, PACE continues to thrive for commercial properties that do not involve Fannie Mae, Freddie Mac or their regulators.
This year, legislation supported by the AEE network of partners to authorize commercial PACE financing, has passed in Arkansas, and is in its final floor hearing in Colorado. Texas has legislation moving forward and last year, C-PACE legislation passed in Connecticut. Increasingly states are recognizing the opportunity that commercial PACE legislation offers to address a key target of energy efficiency efforts: the commercial customer.
Residential programs, which offer rebates and other incentives, including in some cases low-interest loans, have been around for years, targeting homeowners who are willing to make an investment that will pay off in savings over a number of years. Energy Service Companies target what is known as the “MUSH” market – Municipal, University, Schools and Hospitals – high energy using institutions that will be around for decades. But the commercial market is one that has proved hard to crack for energy efficiency programs and providers. Most of the properties are leased under “triple net” arrangements that include utility costs – so there is no incentive for the property owner to assume debt to pay for infrastructure upgrades.
With a PACE assessment, the cost of the upgrade is spread out over a much longer period of time than is possible through a typical commercial loan, so the savings from the reduced energy usage can offset the increased cost assessed against the property tax payment. The property owner can finance otherwise expensive capital upgrades to the property and tenants can benefit from the increased comfort associated with an efficient property, with the PACE assessment passed on to tenants through most leases.
Legislation can take several forms: 1) authorizing local government entities to create special taxing districts; 2) authorizing special taxing districts that can be formed statewide, and; 3) authorizing districts to join together for the purposes of issuing bonds. The debt is then covered by the bond market and repaid through an assessment on the owner’s property tax which goes to the special taxing district.
You can follow the Texas Commercial PACE legislation as it’s moving through the process on this Texas PACE Update Blog.
We are seeing a trend toward more commercial PACE legislation and expect to see this trend continue in the coming years as states and local governments seek to advance mechanisms to address the critical commercial energy efficiency market.
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