Multifamily Affordable Housing Decarbonization Toolkit
Although the IRA presents promising opportunities to invigorate the retrofit market, it is important to note that funding availability will vary across states. Furthermore, closing the gap between incentives and overall project costs will likely require additional financing. Despite persistent concerns about project economics, workshop participants expressed optimism that strategic coordination of policies, incentive programs, and financing could help address this challenge. A notable example is the deployment of the EPA’s Greenhouse Gas Reduction Fund to green banks nationwide, offering a flexible and concessionary funding source. While additional financing tools will be necessary, this infusion of funds is expected to empower owners to advance with decarbonization and electrification projects.
Challenges and Recommendations
Flexible Funding
Even after leveraging available subsidies and incentives, most retrofit projects still have a significant funding gap and require additional financing to cover the balance of project costs. In particular, asset-based construction loans present a challenge to developers of affordable multifamily housing due to the need for up-front collateral and a guarantor. Having up-front collateral is particularly challenging for smaller developers and nonprofit developers that might have lower reserves. Additionally, traditional lenders often demand extensive documentation and a proven track record, making it more difficult for smaller, community-based nonprofit developers to access necessary funds. Furthermore, discrepancies between incentive disbursement and project timelines can create liquidity challenges during the project for many owners, especially in predevelopment stages. Developing financing practices and products to address these challenges will be critical to scale decarbonization in affordable housing. Potential solutions identified include:
- Coordinated Program and Funding Deployment: To facilitate effective capital distribution, lenders and program administrators should take a more proactive, collaborative approach in leveraging program funding that can be paired directly with existing financing products. For example, the Greenhouse Gas Reduction Fund will deliver billions of dollars in concessional finance to catalyze investment in net-zero buildings through a national network of community lenders. Coordination with fund awardees and sub-awardees can aid in delivering these funds to serve communities most in need.
- Expanded Lending Activity and Liquidity for Projects: Syndicating Commercial Property Assessed Clean Energy Program (C-PACE) loan portfolios to community development financial institutions and securitizing these portfolios to replenish capital at a lower cost can help borrowers unlock lower interest rates on C-PACE loans. This will also allow lenders to steadily increase lending activity on C-PACE loans at lower interest rates, garnering greater market adoption.
- Credit Enhancement Mechanisms: Partnerships between financial institutions and state and local governments aimed at establishing loan loss reserves or credit enhancement mechanisms can help reduce potential financial uncertainty. This approach benefits both borrowers and lenders because the risk is partially redistributed to state and local governments if a borrower defaults.
- Bridge Financing: For some decarbonization programs, incentives are not provided to the owner up front, but rather at certain benchmarked points during or after construction. However, low- or zero-interest rate bridge loans can be used as a short-term financing solution at the start of construction when funding is needed. The loan would become a traditional loan or be paid back as project incentives are received. Bridge loans can be made available to the building owner or to contractors, through which certain incentives would flow, to jump-start the retrofit process.
- Program-Related Investments can provide flexible bridge financing while unlocking low-cost, below-market interest rates. Although this up-front capital is usually deployed by philanthropic foundations, program-related investments with low- or no-interest terms can aid in improving an owner’s debt-to-income ratio.
Underwriting Barriers
Underwriting policies are effective levers that are oftentimes underutilized or not adequately used to shape project scopes. Today, most financing entities will not underwrite operational savings when there is no guarantee of cost savings. As a result, owners must cover project funding gaps out of pocket. Recommendations to address this issue include:
- Cost Data Research: Some state energy offices, including NYSERDA, have started to build a performance database for energy efficiency projects. By streamlining and analyzing this data, energy offices and other central organizations can provide a variety of resources to lenders, including case studies and utility cost-savings estimation tools. These standardized data points can inform lender underwriting processes, ensuring more favorable lending terms for borrowers. For example, if electric systems have longer life spans, financing entities could adjust underwriting standards to permit owners to set aside fewer reserves, freeing up cash flow at the property and portfolio levels. As a result, more owners would be willing to pursue decarbonization projects due to the cost benefits, thereby driving market growth.
- Underwriting Cost Savings: If building owners were able to underwrite a portion of projected energy savings or avoided fines for compliance in regulated markets, they would be able to keep the savings in project budgets, allowing projects to be more ambitious with larger capital improvements.
- Improve Debt Service Coverage: The up-front cost of decarbonization upgrades may prompt building owners to raise rents. However, if owners can demonstrate the long-term operational savings of whole building retrofits, they could negotiate the debt terms, including extended amortization schedules or lower interest rates. Boosting a building’s net operating income by reducing energy consumption and operating costs enables owners to achieve a higher debt service coverage ratio, making them more likely to meet debt obligations.
- Inclusive Utility Investments: Inclusive utility investments offer a compelling way for owners to make energy improvements to their building without facing up-front financial strain. Also commonly known as tariffed on-bill financing, inclusive utility investments can be used to cover the initial costs of energy efficiency or clean energy upgrades. Up-front investment costs are recouped through fixed charges on a customer’s utility bill. This approach eliminates the need for individual credit evaluations because the tariff is tied directly to the building or unit’s meter.
- Recognize Carbon as a Pollutant: Today, many originators require that borrowers demonstrate plans to remediate pollutants prior to closing a loan. Yet, despite carbon’s well-documented negative effects on both human health and the environment, it is not classified as “pollutant” in the same way radon, asbestos, and lead are. Introducing protocols to recognize carbon as a pollutant and factoring it into Phase I Environmental Assessments or in state-mandated assessments, such as New York’s Integrated Physical Needs Assessment, would be a significant first step. This would signify a powerful incentive for the adoption of low-carbon upgrades, making carbon reduction a standard due diligence practice.
NYC and MSP Financing Tools
In addition to traditional financing products issued by financial institutions, both NYC and MSP offer specialized financing tools to support various property improvement initiations. These products are designed to finance sustainability, health, and safety upgrades for properties that are in the middle of a financing cycle and may not otherwise have access to project financing.
Contact Us
If you'd like to learn more about this workshop series, please reach out to: