If you're keeping up with the Federal Housing Finance Authority (FHFA) caps, guidelines, and mission for 2022, you know it's getting interesting, with the interplay between green lending and affordable housing. Affordable housing loans are already complex, often accompanied by a tax credit play and a rehab/construction component. With varying guidelines between Fannie Mae and Freddie Mac, state-specific Low Income Housing Tax Credit (LIHTC) requirements, and now green lending targets, "mission-driven" lending could involve a lot of moving parts. While pursuing green financing on top of affordable may seem like an extra level of complication, broader benefits and cumulative savings may make the effort worthwhile.
Recapping the Caps: the 2022 Market and Mission
FHFA has capped multifamily loan purchases at $78 billion each for Fannie Mae and Freddie Mac ($156 billion total) for the 2022 calendar year. To keep the focus on affordable housing and underserved markets, FHFA requires at least 50 percent of that $156 billion to be loans on mission-driven affordable housing. Of the 50 percent, 25 percent must be for housing affordable to residents with incomes at or below 60 percent of area median income (AMI).
New in 2022, FHFA has allowed loans that finance energy or water efficiency improvements—Fannie Mae's Green Rewards and Freddie Mac's Green Up/Green Up Plus programs—to qualify as mission-driven if the improvements are for units affordable at or below 60 percent of AMI. You must also achieve 30% reduction of energy and water consumption with a minimum of 15 percent reduction in energy use. Per the FHFA 2022 Appendix A Multifamily Definitions, "For loans under the Fannie Mae Green Rewards and Freddie Mac Green Up and Green Up Plus loan programs, 50% of the loan amount will be classified as mission-driven if at least 20% but less than 50% of the unit rents are affordable at or below 60% of AMI, and 100% of the loan amount if the percentage of all affordable units is equal to or more than 50%." So, if you're lending on a project with 60% affordable units, and the loan goes green via Fannie or Freddie, 100% of the loan will be classified as mission-driven.
The Case for Green
Fannie Mae's Green Rewards and Freddie Mac's Green Up/Green Up Plus programs reward borrowers who commit to energy and water saving improvements. Each program has different benefits for borrowers and lenders, as well as different reporting requirements to close the loan.
For Fannie Mae's Green Rewards loans, lenders must engage a pre-approved third party to conduct a High-Performance Building (HPB) Report that identifies opportunities for energy and water savings. Up to 75% of owner-paid and 25% of tenant-paid utility cost savings can be underwritten.
Freddie Mac's Green Up/Green Up Plus loans require a Freddie Mac Green Assessment, which is an energy audit report detailing proposed property-level improvements to promote energy and water efficiency. Borrowers may underwrite up to 50% of projected owner-paid savings.
With Fannie and Freddie focusing their incentives on affordable housing, the days of 40 basis point discounts for green loans are, unfortunately, behind us. However, borrowers can still recoup the cost of due diligence required for a green loan. Fannie Mae covers the full cost of the HPB Report upon close of the Green Rewards loan. Freddie Mac will reimburse the cost of the report up to $4,000 when the borrower closes a loan with Freddie Mac—even if the property does not qualify for green financing. Borrowers may also qualify for reduced interest rates along with additional proceed returns. The actual amounts, however, are case-by-case, deal-by-deal and are directly issued by the agencies.
Perhaps most compelling is the savings your borrower will realize as a result of the efficiency improvements required to qualify for a green loan: a 30% increase in energy and water efficiency will result in lower utility bills. With no additional cost, long term utility savings, and the potential for a small bump in proceeds, green financing is worth pursuing—especially if the project also has a construction or LIHTC component.
The Construction Consideration
Most affordable housing projects will have a rehab or renovation component. Given the increasing efficiency and sustainability requirements for multifamily buildings in many states, your project may already include plans for green improvements. If it doesn't, perhaps it should, as the most cost-effective way to implement efficiency upgrades is while you're already renovating.
Maybe your borrower is using Freddie Mac's Mod Rehab Loan program as the appropriate funding for renovations on an affordable housing project. Incorporating efficiency improvements into your renovations will make the property more attractive to the end user (or potential buyers) from both cash-flow and compliance perspectives.
If you're lending on a project that has a construction component, energy and water efficiency are likely already part of the plan. Why not order the required reports to see if the project qualifies for green financing?
The LIHTC Link
Because LIHTC criteria includes tenant income limits, LIHTC projects will often qualify as mission-driven. (If you're unfamiliar with the LIHTC program, here's a primer.) LIHTC qualifications differ by state, with varying standards for accessibility, energy efficiency, and due diligence report requirements and scopes. Most states require a Level II ASHRAE Green Assessment or some form thereof. Since state LIHTC programs already require a green assessment and certain efficiency standards to be met, it just makes sense to consider green lending options. As with construction scenarios, your borrower may already be doing the work to qualify for a green loan.
The ESG Advantage
Another argument for green lending: ESG. ESG initiatives are cropping up everywhere, as more consumers and investors become environmentally and socially conscious in their choices. Green lending decisions may have a place in your institution's ESG program or may be quantified as a metric to demonstrate environmental commitment. Your borrower may have ESG goals to meet as well, and improving energy and water efficiency in their portfolio may be part of those goals. Qualifying for a green loan means the borrower has committed to better environmental stewardship, a commitment worth incorporating into ESG messaging.
Putting it All Together
Considering the big picture, green lending fits naturally with affordable housing. Increasing efficiency requirements for multifamily properties mean buyers will be making improvements anyway, so why not take advantage of green lending incentives? Energy and water improvements result in lower utility bills, improving the financial performance of collateral assets. However, given the amount of paperwork and compliance involved, pulling off a mission-driven loan with green, LIHTC, and construction components might feel like it requires supernatural effort. If you don't have expertise in all three of these complex arenas, it makes sense to engage a consultant who does. You'll save time, money, and more than a little sanity navigating the myriad of due diligence and submission requirements involved. Most importantly, by delivering the most possible benefits to your borrowers, you'll keep them returning to you for future deals.
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Drew H. McCreery
Drew H. McCreery serves as Managing Director, Multifamily and Technical Director of Agency Services at Partner Engineering and Science, Inc. Leveraging over 20 years of experience, Mr. McCreery is responsible for the overall quality and consistency of Property Condition and Environmental reports associated with the Agency Lenders including Fannie Mae and Freddie Mac.. He is a member of the American Institute of Architects and has a Bachelor of Architecture from California State Polytechnic University of Pomona. Drew frequently shares his deep knowledge of the policy, regulatory, and quality requirements as they pertain to the agency lending landscape through blogs, articles, and speaking engagements. He holds a BA in architecture from California State Polytechnic University of Pomona and pursued Architectural Studies at the National Technical University of Athens, Greece.
