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Home What is Commercial PACE Financing? An In-Depth Look.

What is Commercial PACE Financing? An In-Depth Look.

Commercial Property Assessed Clean Energy, or Commercial PACE financing, is a creative way for commercial property owners to fund energy efficiency, water efficiency, and renewable energy upgrades to existing buildings. 

How Does Commercial PACE Financing Work?

At its core, Commercial PACE financing allows commercial property owners to borrow money for eligible upgrades through a voluntary special tax assessment on their property. Here’s a brief overview of the basic process:

  1. A commercial property owner works with a contractor to develop an energy efficiency, water efficiency, or renewable energy project for an existing building. Examples include HVAC upgrades, lighting retrofits, solar panel installation, water conservation measures, and more.
  2. The property owner then applies for Commercial PACE financing through their local Commercial PACE authority or program administrator. Underwriting evaluates the property, project cost/savings, and ability to repay.
  3. Upon approval, funds are disbursed to the contractor to complete the project. The property owner’s obligation becomes a voluntary tax assessment on their real estate tax bill.
  4. Assessments are repaid over a term of up to 25 years through a line item on the annual property tax bill. Payments are generally less than or equal to projected utility cost savings from the project.
  5. The special tax assessment is tied to the property rather than the owner. If the property is sold, the assessment stays with the building and is transferred to the new owner.

So, in summary, Commercial PACE provides upfront capital for efficiency projects through tax assessments, with payments scheduled to be less than the savings on utility bills. This model shifts the costs of energy upgrades to property tax payments, making large projects more financially viable.

Key Benefits of Commercial PACE Financing

There are several compelling advantages that make Commercial PACE an attractive financing option for commercial property owners considering upgrades. Let’s explore some of the top benefits in more detail:

Long repayment terms of up to 25 years

By tying repayment to annual property tax bills, Commercial PACE allows projects to be paid off gradually over extended periods of up to 25 years. This helps address the large upfront costs of equipment and installation that are often prohibitive with conventional financing options that have much shorter 5-10-year terms. The long payback duration through Commercial PACE lowers monthly payments and improves cash flow.

Payments are less than or equal to projected utility savings

Thanks to the long repayment timeline, Commercial PACE assessments can be structured such that monthly or annual payments are equal to or less than the estimated utility savings generated by an efficiency project each period. This provides an instant positive cash flow for building owners from day one – an appealing aspect that makes qualified projects cash flow positive without additional out-of-pocket costs.

Financing stays with the property upon sale

Since the repayment obligation is tied to the property tax bill rather than the individual owner, future buyers assume the remaining assessments when a building changes hands. This allows current owners to recoup a portion of their project investment through a higher sale price. It also enables sellers to transfer qualified projects and ongoing savings to buyers. This property assessability grants security and stability for long-term improvements.

No upfront costs or money down are required

Commercial PACE financing covers 100% of an eligible project’s costs. Property owners gain access to needed capital without requiring a large initial investment or down payment. They can make efficiency upgrades with $0 out of pocket. The full cost rolls into the long-term tax assessment. This eliminates many barriers to project implementation.

May increase property value and market appeal

Energy-efficient buildings with operational savings and a variety of “green” attributes are becoming more desirable among commercial real estate investors and tenants. By enhancing building performance and sustainable features, Commercial PACE projects may boost the appraised value, occupancy rates, and rent commanded for a property. This adds to the overall return on investment potential over the long run.

Supports resiliency and climate change initiatives

Beyond financial benefits, Commercial PACE also helps further strategic policy goals around energy independence, environmental protection, and climate change mitigation. Eligible upgrades produce savings while reducing utility consumption and greenhouse gas emissions from existing buildings. This bolsters a community’s energy resiliency and advances sustainability efforts at the local level.

Understanding Commercial PACE Assessment Nuances

While property assessments tied to annual tax bills provide certain advantages, as outlined above, it’s important for commercial property owners to have a clear grasp of specific assessment mechanics and considerations:

Voluntary Special Tax Assessment – Participation in Commercial PACE is completely voluntary. Owners consent to the special tax assessment for a qualified project through a written agreement. Payments can be prepaid without penalty at any time.

First Priority Lien – The Commercial PACE lien has a priority similar to standard property taxes and thus is very secure. It takes precedence even over existing mortgages on the property. However, lender approval will likely be required for projects involving occupied buildings.

Transferability Upon Sale – As noted, future owners assume remaining assessment obligations when a property changes hands. This can affect sale negotiations and value depending on project performance and timing. Buyers need to factor the tax payment schedule into their pro forma.

Prepayment Options – While terms are long, Commercial PACE programs often allow for prepayments of the entire remaining balance or portions thereof without penalties. Owners retain flexibility depending on circumstances.

Delinquency & Default – Failure to make annual tax assessment payments has the same statutory remedies/processes as standard tax delinquency, including interest and penalties. Property could potentially face tax foreclosure proceedings if unpaid balances grow too large over time.

It’s crucial for building owners considering Commercial PACE to consult experts and work through potential risks and long-term implications of the property assessment structure. Full transparency and clear underwriting are important to make an informed decision about projects and fit with ownership goals.

Eligible Commercial PACE Project Types

Not all building improvement projects qualify for Commercial PACE financing. Programs adhere to regulations defining permissible energy and water efficiency upgrades, as well as renewable energy investments. Some common eligible project categories include:

  • HVAC retrofits such as high-efficiency boilers, chillers, air handlers, and condensing units
  • LED lighting upgrades, occupancy sensors, and lighting controls
  • Building envelope upgrades like cool roofs, insulation, energy-efficient windows
  • On-site solar panel installations for solar thermal and photovoltaic energy
  • Water conservation measures, including sub-metering, rainwater harvesting, and irrigation controls
  • Geothermal and ground-source heat pump systems
  • Combined heat and power (CHP) technologies
  • Building automation systems for advanced energy management
  • Electric vehicle charging infrastructure

Project proposals undergo technical and financial review to validate projected utility savings and cost-effectiveness. Technologies must meet defined performance criteria to qualify. Owners work closely with energy consultants and auditors during the assessment process.

Comparing Commercial PACE to Alternative Financing Options

With conventional lending, the upfront capital requirements and short payback periods of large efficiency upgrades often pose barriers. Commercial PACE aims to fill this niche by offering more appealing terms. How does it stack up versus common alternatives?

Conventional Bank Loans – Typically require large down payments (20-30%), have shorter 5-10 year terms, and have higher interest rates of 5-8%. Projects must stand alone financially.

Equipment Leasing – May fund 100% of costs but require equipment as collateral. Customization is limited, and ownership transfers at lease-end.

Public Utility & State Rebate Programs – Provide incentives but rarely cover entire project costs. One-time rebates lack long-term financing support.

Internal Cash Flow or Capital Reserves – Building owners repurpose existing funds, but large audits/retrofits may exceed available reserves.

Municipal Bonds – Can access tax-exempt rates below bank rates but involve legal/administrative hurdles and a complex issuance process.

Commercial Energy Efficiency Loans – Newer pilots aim to bridge gaps but may still lack features like 25-year payback of PACE.

Overall, Commercial PACE presents a very competitive financing package versus typical traditional and public sector alternatives available to commercial property owners nationwide. The structure directly addresses barriers that stall efficiency upgrades.

Common Misconceptions About Commercial PACE Financing

Given its uniqueness, several myths and misperceptions about Commercial PACE have emerged over time. Let’s address some of the most prevalent inaccuracies:

“PACE financing will negatively impact property saleability or value.” – Studies show properties typically command a sale premium equivalent to between 2-4% of project costs due to utility savings and sustainable attributes added.

“PACE liens will reduce access to conventional financing in the future.” – Most major banks and commercial mortgage lenders have developed clear policies supporting PACE when originations consider projected utility savings.

“PACE loans are too risky or expensive.” – Default rates are comparable to property taxes, and interest rates tend to be fixed below 5%. Costs mirror projected utility bill reductions, creating positive cash flow.

“Projects may not deliver expected savings.” – Rigorous technical review validated by energy modeling ensures quantified savings projections are sound. Ongoing measurement and verification further safeguard estimates. Underwriters factor conservative savings assumptions into financing terms.

With any new program, uncertainties can understandably foster skepticism. However, significant real-world data now supports the viability and low risks inherent to the Commercial PACE model. When structured properly with performance guarantees, projects benefit both property owners and local communities through reduced energy costs and emissions.

Commercial PACE in Action: A Case Study

To put these concepts into a practical context, let’s examine a hypothetical Commercial PACE project case study:

The owner of a 50,000-square-foot office building in Denver conducted an energy audit in 2021 that identified several no-cost and low-cost efficiency opportunities. However, the audit also found that HVAC systems were badly outdated and in need of replacement. Estimates to upgrade the aging roof-top units, air handlers, controls, and associated mechanicals totaled $750,000.

Conventional financing was ruled out due to the high costs and pressure to maximize cash flow from the property. The owners learned about a new Colorado Commercial PACE program launching in their area. An application was submitted and approved based on energy modeling, showing the HVAC equipment replacement would reduce gas and electric expenses by 25% annually – a savings of over $50,000 per year.

The PACE program structured a 20-year $750,000 tax assessment amortized at a 4% fixed interest rate. Annual tax payments of $58,000 would match the utility savings from the project dollar for dollar, resulting in immediate positive cash flow. Construction was completed in early 2022. An independent M&V report after one year validated the HVAC retrofit and realized the projected 25% energy reduction as planned.

Through the introduction of Commercial PACE financing, this case example illustrates how a large efficiency upgrade became financially viable. The building owners now enjoy lower operating costs, more competitive leases renewed longer-term, and increased property value – all thanks to the flexibility of tax-based project funding.

Commercial PACE Program Participation and Growth

Commercial PACE has experienced exponential growth since the program first launched a decade ago. As of 2022, an estimated 30 states and Washington D.C. have enacted authorizing legislation allowing local participation. Within those states, dozens of Commercial PACE districts and regional authorities have formed to service various counties and municipalities.

The scale and size of completed deals continue to increase each year. According to the PACE Nation, the commercial sector amounted to over $500 million of PACE investment nationwide in 2021 alone. Thousands of buildings totaling tens of millions of square feet have accessed financing through Commercial PACE programs so far.

Major commercial real estate firms like Equity Residential, Boston Properties, and Vornado Realty Trust have completed portfolios of high-profile PACE projects. Numerous public sector facilities and buildings also participate. Commercial PACE is credited with catalyzing over $3 billion of economic activity and producing permanent local jobs. Industry stakeholders expect further accelerating deployment to continue.

Clearly, Commercial PACE has achieved rapid adoption and proven ability to handle increasingly large, complex efficiency upgrade projects. As more state and local government partners establish Commercial PACE options, availability will continue expanding to benefit even more communities and property owners across diverse building sectors nationwide. Widespread program availability makes Commercial PACE a financing mechanism worth serious consideration by commercial real estate stakeholders.

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