Profile: Climate Benefit Districts, powered by green finance

District-wide sustainability is hot!

As we blogged about last week, equally hot are the green finance tools and mechanisms being created to pay for it.

Mithun Architects‘ has developed the Climate Benefit District (CBD) in the State of Washington (disclosure: Galley Eco Capital works with Mithun on other projects). The definition from their own documentation is here:

A CBD is an independent taxing district and a quasi-municipal corporation. It will have its own
taxing authority and its own debt capacity independent of the city.

A CBD must be located within an urban growth area and should approximate “neighborhood”
scale, or roughly a square mile. It may include unincorporated territory that is within the city’s
urban growth boundary, but only if the unincorporated territory is less than 50% of the total area
and only after the city and county enter into an interlocal agreement. Multi-city CBDs may be
created pursuant to interlocal agreement.

While Climate Benefit Districts are not yet in action, parts of the structure are similar to other initiatives emerging across the nation, so this brief profile might be helpful to your efforts to expand your green finance toolbox.

How are Climate Benefit Districts financed?

A CBD is an independent taxing district with ability to issue general obligation, revenue or special assessment bonds.

It’s structure makes it eligible to create tax credit partnerships to take advantage of federal tax credit incentives such as: low-income housing tax credits, renewable energy tax credits, new markets tax credits, historic preservation tax credits and other federal tax credits that may be created. A CBD may also administer federal grant funds, is eligible to receive priority consideration for state grant and loan programs, and is eligible to create energy efficiency loan program.

Additionally, revenue can come from funds earmarked by the City where the CBD is located or from direct assessments within the CBD. The CBD chooses those assessments from a menu of “local option revenue tools”:

• Climate benefit services charges (similar to fire benefit charges, based on measurable benefits from CBD projects and services)
• A parking tax on commercial parking facilities
• A vehicle license fee
• The local option revenues available to transportation benefit districts
• Special assessments for the financing of local improvement district (LID) improvements.
• Voter approved excess property taxes for the repayment of bonds issued to finance climate benefit projects.

How is performance measured?

Performance measurement is a key strength of the Climate Benefit District. Each district’s sustainability plan would include “climate benefit targets” for:

• utility infrastructure and service;
• vehicle miles traveled reduction strategy;
• land use, green building and energy efficiency; and
• neighborhood social sustainability programs and services.

Opportunities & Challenges

One advantage within the mechanism is that the financing platform is based purely upon the coordination of existing financial products, allowing the municipal sponsor to “look under the hood” and quickly understand the proposed business plan.

But a challenge might lie within understanding ‘how much additional assessment buys how much additional value?‘ One of the primary arguments for climate benefit districts are that property within such districts would be worth more to those property owners.

We definitely agree from our own work that mixed-use projects usually achieve a sales premium to competing existing projects within their local market. There is also strong industry evidence that tenants typically prefer green buildings. Extending those facts to an entire district makes us think that this assertion of higher property value is very plausible.

But at what cost? And who pays?

Remember that this mechanism is based upon compulsory district-wide assessments based upon proportional benefit creation, as opposed to the voluntary opt-in by owners within energy efficiency financing districts here in California. That means that you are required to pay your calculated share of the additional costs if you live or do business there.

So we wonder how this mechanism works for the parts of town, where low-to moderate income residents and small businesses are too cash constrained to pay the special assessment for a district-wide sustainability program.

Will the City step in to subsidize improvements in order to allow those lower income residents and small businesses the same district-wide sustainability benefits?

Nonetheless, the Climate Benefit District offers deep green performance measurement, coupled with practical ideas that should stimulate thinking for many practitioners and communities needing district-wide solutions.

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Finance Industry Spin or Denial on Sustainability?

I thought I’d share some of the latest that has made its way over to my inbox over the past  few days. Take a look and let me know what you think. Is it spin? Denial? Spinial?

The Mortgage Bankers Association on Green Lending: “We’re already underwriting green.”

MBA research director Jamie Woodwell put out an article in the March 2008 issue of Mortgage Banking, their trade magazine, titled “Class G–The New Class A” (sorry, folks, no link, it was sent to me from a subscriber). Within a piece that includes decent info on the greenwave hitting finance, begins a decent lead-in to the MBA’s take on green lending:

“For most lenders, green lending is simply a new shade of their traditional lending programs.

As with any request for financing, a lender approaches the financing of a green building by developing an underwriting of the property that takes into account property-specific income, expenses, property value and costs. The extra challenge in financing green buildings has been the degree to which the underwriting associated with a building’s green features differ from those of a standard building.

But the commercial/multifamily lending industry is accustomed to heterogeneity in the same properties it underwrites. No two properties have the same location, tenants, lease rolls, rents expense mix, purchase price and cap rate — think, for example, 1970’s New York office tower, 1980’s Sacramento, California, industrial park; and 1990’s Atlanta apartment building. The industry has become extremely adept at recognizing these differences through underwriting — a process in which a property’s unique circumstances are researched, assessed and factored in.”

And that leads to this:

“As a result, in most cases, the existing commercial/multifamily lending paradigm already takes into account a property’s green characteristics. When fully revealed, a full underwriting and appraisal discounted cash flow (DCF) takes into account, for example, that a green property’s initial cost may be higher, its rents  higher, its utility expenses lower, its lease rollovers shorter and its terminal value higher. The result is that economic costs and benefits inherent in a green building can be recognized in, and will generally flow through its underwriting.”

Green Journey Take: Two observations: 1) Green buildings in total make up only about 2% of the entire real estate market, and 2) the nationwide credit crunch has been going on for much of the time that sustainability has been getting traction within commercial real estate. There are lots of deals out there that are not getting done. Nevertheless, the MBA has already counted so many private sector green loans being underwritten, not to mention confirming the underwriting on those loans as being ‘green’, that it can publish “typical” underwriting standards.

At the time of this writing, two major industry coalitions, the Green Building Finance Consortium, and the Market Transformation to Sustainability, are still pushing hard for leading institutions, some of whom are named in the article as green lenders, to adopt a common set of underwriting protocols for sustainable real estate. Also note that there are some major lenders cooperating with these efforts — they’re just not quite ‘there’ yet. Real estate investors are filling conferences, looking for elusive ‘green finance’ packages.

But you can prove me wrong and educate all of us: How many commercial real estate loans have you done with your lender, where they’ve already given you economic underwriting credit for the green features on your investment property? Please share your comments here, as there are many in the industry who would like to know. Plus these pacesetters deserve to get credit where credit is due.

The Mortgage Reports: Even $150/Barrel Oil Doesn’t Matter — Consumers Will Keep Drivin’

I dig Dan Green. He gives some of the most consistently straight-up download on the residential finance market. And he’s big on the crunchy technicals, which is good. Regular Green Journey readers also know that I’ve got a “thing” about energy price risk’s negative effects on US real estate.  Actually, it is fair to say that quite a few of us in the real estate industry do. Now read Dan’s recent post about oil prices and consumers.

You make the call: Is Dan tellin’ it like it is or like it ain’t?  Are US consumers really going to keep up their current driving habits no matter how high gas prices rise?

Please tell us what you think.

So What Makes a Commercial Real Estate Loan Green?

This is PART 1 of a 2-part series on green real estate lending.

This is an actual question from a lender that I received recently, and quite timely, since even though there are many of us championing green real estate financing, there has not been enough of it happening to help the commercial real estate industry identify exactly what it is.

Green Real Estate Loans Today: “I know it when I see it!”
We are seeing more banks offering green financial products or making public announcements of multi-billion dollar commitments to investing and financing green business across many sectors. This increased activity as well as the subjectivity of defining green products creates fertile ground to focus anew on what green loans should look like and the issues banks and investors will deal with as they do green finance deals together in the future.

Good Green Loan Design: Agree on a Clear Definition
The big deal about green building is that a green property represents a change in our expectations about how buildings are embedded into the neighborhood plan, greater energy and water efficiency, being built using more sustainable materials and resources, creating healthy living and working environments, not to mention operating the property to standards which maintain those benefits.

Defining “green” up front gets lenders and investors on the same page about those expectations in order to assure that each party gets what they paid for. In the integrated design process, the project team conducts charrettes with designers, the owner and community representatives to reduce the risk of stakeholders not having their expectations addressed. However, at this stage of the process, the mortgage lender is no where in sight. Often regarded as the ‘boring’ part of a deal, defining is critical because the particular risks of the green project stem from the failure of the finished property to perform to stakeholder expectations – i.e. green components and systems not delivering the promised savings and performance enhancements that the lender, investor, tenant or city official was anticipating.

The Green Journey take on this is that the definition of green for a real estate transaction contains specifics about 1) the rating system to be used, 2) the certification level within that rating system to be achieved and 3) quantifying certain performance thresholds that are to be achieved either during construction or upon stabilization.

Talk in Shorthand, but Don’t Take Shortcuts in Defining Green Performance
So what’s happening today? Most of my conversations with lenders and investors involve defining a property’s greenness in terms of a specific LEED certification level. LEED provides the shorthand that is supposed to cover the specific performance concerns that each party has about the asset. And since it is currently the most widely acknowledged third-party rating system for green buildings in the United States, using it helps assure the continued marketability of the property as being green – helping to reduce lenders and investors exit risk at the end of their hold period.

Keep in mind, however, that while LEED prescribes design and construction processes that are considered best practice and higher certification levels are tied to better energy performance, it does not guarantee a particular performance result. Moreover, not properly reconciling the building performance specified by the certification level with other stakeholder-defined thresholds can result in a less than optimal business case.

• Reconcile LEED certification requirements with actual performance targets. The LEED point system allows for certain tradeoffs among the categories. Though some categories have fixed prerequisites, which must be fulfilled no matter what, the rating system offers the opportunity to make up points not achieved in one category with achieving more points in other categories. So lenders and investors still have to define minimum expectations about energy and water efficiency thresholds, for example, regardless of the project’s certification level, and reconcile their minimum expectations with the LEED points that their target threshold intends to achieve and the financial impact of those choices on the green project’s business case.

• Don’t underwrite financial incentives out of the deal. Secondly, many of the rebates and incentives being offered by governments and utilities require utilizing specific technologies as well as achieving stipulated thresholds of energy and water efficiency. Simply looking to a LEED certification level, without reconciling the design and construction choices against the requirements of rebates and incentive programs might result in the property missing out on a valuable source of capital to pay for those green components – and loss of a great boost to net project value.

• Target a smaller carbon footprint. The third consideration in establishing the green definition is that local, state and even the federal agencies are mandating greenhouse gas reduction targets for many industries within their jurisdiction. In order to ‘sell’ their project to officials, the real estate investor will increasingly have to demonstrate that the green project has a carbon footprint that helps the region to achieve their climate change goals. In these regions, a green definition which integrates a carbon footprint reduction target goes a long way to addressing the concerns of this important stakeholder group and is a way for the real estate investor to show that their partners and lenders they have taken reasonable initial steps to shield the project from any future carbon tax regulation.

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This is Part 1 of a 2 part series on green real estate lending. In coming posts, we’ll deal with related questions about due diligence and underwriting green real estate deals.

Please let us know your thoughts. Our Green Journey is a forum for sharing and your perspective is valuable.

Photo credit: Flickr/Fatmanwalking - Green is the Color of Money

Green Mortgages 2.0: Less Carbon & More Money

Is your mortgage rewarding you for being an environmentally conscious homeowner?

Not many can say ‘yes’, so read on. I was at West Coast Green over the weekend and learned that green home mortgages have undergone a radical revamp, and now help you to fight carbon emissions, boost your wallet and enable you to direct your investment to a complete supply chain of green investors.

The Prototype: Energy Efficient Mortgages
Energy Efficient Mortgages (EEMs) came about in the 1970’s when former President Jimmy Carter challenged government agencies to create home loans that counted energy and water savings as additional income for use in paying debt service. In the past ten years, EEMs from Fannie Mae, Freddie Mac, the Veterans Administration and the Federal Housing Administration have all offered homeowners the opportunity to stretch their debt-to-income ratios by slight amounts, so long as the loan was used to purchase a new energy efficient home or helped to install energy-saving improvements. Unfortunately, the structure of EEM programs ignored the basic realities of homebuying, so they’ve never been a hit. For starters, they do not pay sufficient loan proceeds – for example, the maximum loan amount you can receive under the Fannie Mae EEM is $417,000, rendering the product irrelevant for most of us in high cost markets such as California. Additionally, features such as loan docs and closing costs were not streamlined with today’s market standards, making them seem more cumbersome and less competitive.

The Upgrade: Green AND Competitive
Now private investment banking firms such as Oakland-based Sustainable Capital, are coming to market with a redesigned green mortgages enhanced with best practices in residential rating systems, realtime energy monitoring, reduced interest rates as well as a true green capital supply chain. Here’s how to distinguish the newer green mortgages from their predecessors:

• A smaller carbon footprint. Reducing the home’s carbon footprint is now the goal, as opposed to only water conservation and energy use reduction. The outcome of you having additional income from energy and water savings is still a main goal but the new green mortgages go steps further. Using best practice independent rating systems such as Build-It-Green’s Greenpoint system, a more in depth assessment of the home includes indoor air quality, construction materials, paints and carpets as opposed to merely better appliances, light bulbs and plumbing. Additionally, specialist vendors supply cutting edge monitoring technology, which provides you and the lender with continuous verification of the reduced energy usage and water conservation over the life of the loan.

• Higher loan proceeds and lower interest rate. The loan qualification process and proceeds are comparable to what is on the market today from most banks, fixing a basic problem of the EEMs. Your rate of interest is reduced from comparable current market rates, based in part upon post-financing audits verifying the success of the green renovations and the results of ongoing energy monitoring.

• Integration of incentive financing. The new green mortgages manage to integrate the diverse financial incentives offered to you from other sources such as local utility companies, state and federal governments. So you get additional help in the complicated search for the necessary funds to green your home.

• True green supply chain. The new green lenders source loans using certified Eco-brokers, who are trained to sell green homes and can provide additional support and tips on going through the process of greening the house. Finally, the funded loans are packaged and sold off to socially-responsible funds, concluding a supply chain of totally aligned consumers, contractors, intermediaries, lenders and secondary market sources.

So now you do not have to put up with substandard financing alternatives in order to live (and invest) according to your values. Definitely much better than a few bucks off the closing costs and a new toaster!