California law allows cities, counties, and other authorized public agencies to establish voluntary financing districts to facilitate energy and water efficiency improvements to existing residential and commercial properties. Such financing is commonly referred to as Property Assessed Clean Energy (PACE) financing. Once established, property owners within the boundaries of such a district can opt to borrow funds from the district to make energy efficiency improvements, and repay the funds in installments on their property tax bill. PACE financing districts represent a form of lending activity that can generate both environmental and economic benefits to County residents. However, the extent of these benefits is uncertain because PACE financing is relatively new and the degree to which it might be utilized by property owners is unknown. Furthermore, because of regulatory intervention by the federal government to discourage the use of PACE financing, such programs carry potential risks and costs. Therefore, the County should carefully review the design of such programs before authorizing them to become operational.
On June 22, 2010, the Board of Supervisors adopted Resolution No. 2010/331 authorizing the formation of a PACE financing district for the CalforniaFIRST program, a partnership between a private financial services firm called Renewable Funding and the joint powers authority, California Statewide Communities Development Authority (CSCDA), of which Contra Costa County is a member. CSCDA is a public agency having the legal authority to establish a PACE financing district within the County. Shortly thereafter, however, the Federal Housing Finance Agency (FHFA) issued a statement advising Fannie Mae and Freddie Mac to avoid buying mortgages with PACE assessments and hinted at more drastic actions, such as finding PACE homeowners in default under their mortgages. These actions stalled the development of residential PACE programs throughout most of the State.
Many developments related to clean energy financing have occurred since the Board's resolution to join CaliforniaFIRST in 2010. These developments, which are discussed throughout this report, include:
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regulatory intervention by the federal government with consequential prohibitions and prospective negative actions,
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lawsuits challenging this federal intervention, in which the federal government's right to intervene was upheld,
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changes to State law expanding the authority to form and operate such financing districts,
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the establishment of a State-funded loan loss reserve for PACE loans,
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the emergence of additional firms proposing to operate Clean Energy Financing Districts within the county, and
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the emergence of conventional financing specifically for energy retrofit projects.
In light of the rapidly changing landscape of developments in energy retrofit financing, the Board of Supervisors, on August 14, 2012, referred to the IOC a re-evaluation of establishing PACE financing districts within the county. The matter was taken up by the IOC in December 2012, but as new information became available regarding legal and federal regulatory issues, Supervisor Mitchoff, who introduced the matter to the Board for study, decided to withdraw her committee referral.
Resolution in 2013 of the lawsuit filed by the State of California et al vs. FHFA, in favor of the FHFA, and also the establishment by the State of a loan loss reserve for PACE loans, have revived interest in offering PACE lending as an option to residential property owners within the county. The Board on September 9, 2014 referred PACE district financing to the IOC for further study and recommendation, to consider recent developments on this issue.
District Formation and Property Owner Participation
State law allows for the formation of a PACE district either under the Improvement Act of 1911 as amended by AB 811 or the Mello-Roos Community Facilities Districts Act of 1982 as amended by SB 555, for the purpose of financing energy or water efficiency improvements to existing residential and commercial properties. Once established, the district would raise capital either through selling bonds or securing financing from banks or other lenders. The raised capital would be made available to finance energy efficiency improvements on private property. If the County were to establish a PACE district, property owners within the district boundary could voluntarily opt into the district by entering into a contract with the County. By entering into such a contract, a property owner would be able to borrow funds from the district to construct energy or water efficiency improvements. The loan would be repaid in installments collected on property tax bills. If the property owner were to default on the loan, the County would have the authority to foreclose on the property to collect the outstanding balance.
Demand for PACE Financing Uncertain
PACE financing benefits property owners by providing an additional source of capital to fund energy efficiency improvements. Such lending activity also has the potential to produce indirect public benefits that are consistent with County policy objectives. Improved energy efficiency on private property reduces greenhouse gas emissions and the associated negative impacts of climate change, consistent with the County’s Climate Action Plan. Construction of energy and water efficiency improvements on private property also stimulates the local economy, expanding employment and increasing tax revenue for the County.
However, the extent to which PACE financing may generate public and private benefits within the County is unknown. PACE is a relatively new financial product, and the market for the services offered by PACE districts is still evolving. PACE financing is in competition with other established forms of energy efficiency financing, such as equipment leasing and conventional bank lending, that offer competitive financing terms (see examples in Attachments F and G). As the housing market recovers and home owners gain equity in their property, more will qualify for conventional financing, such as an equity line of credit. In light of the uncertain public demand for PACE financing, and the sensitivity of the free market, which is beginning to respond with competitive conventional financing options that do not conflict with FHFA regulations, the County should be judicious in expending its resources to form and operate a PACE program.
Federal Intervention to Regulate Residential PACE
In 2010, soon after the County adopted a resolution to participate in CaliforniaFIRST, the FHFA intervened and took the position that PACE financing represents a form of lending that is detrimental to the mortgage industry, and directed Fannie Mae and Freddie Mac to restrict their purchase of mortgages where PACE districts exist (Attachment A). Fannie Mae and Freddie Mac subsequently stopped purchasing mortgages for properties that had been opted into PACE districts (Attachment B).
The federal government’s assertion that PACE financing has an adverse impact on mortgage lenders results from the senior position the PACE lien has over other debts on the property, such as a mortgage or other forms of private lending. The federal government argues that the senior position of a PACE lien undermines the credit value of other debt on a property, such as a mortgage.
FHFA’s actions have created negative financial impacts for property owners with PACE loans. Due to FHFA’s actions and resulting decisions by Fannie Mae and Freddie Mac to cease purchases of mortgages for properties with PACE liens, home owners have sometimes been required to pay off their PACE loans in order to obtain new mortgage financing on their property, as is typically necessary to sell a home or refinance an existing mortgage. For residential properties, this requirement countervails one of the primary features of PACE financing, which is that the loan obligation attaches to the property rather than the initiating property owner. However, FHFA rules notwithstanding, the PACE industry reports that the banks are permitting the transfer of the PACE lien during sale and refinancing.
In November 2014 we updated the Committee on several new developments:
State and Federal Officials in Continuing Disagreement Regarding PACE
Shortly after FHFA intervened to regulate residential PACE lending in 2010, the State of California and several local jurisdictions, including Sonoma County, litigated against the federal government over its regulatory intervention into this area, arguing that FHFA had not followed the required rulemaking process for establishing such regulation. The State ultimately lost this lawsuit in federal court in 2013.
Failing to overturn FHFA’s position in court, the State has subsequently attempted to address FHFA’s concerns regarding the negative impacts of PACE on the mortgage industry by establishing a PACE Loss Reserve Program to insure mortgage lenders against financial losses resulting from PACE liens (Attachments C ahd H). The creation of California’s Loss Reserve Program has resulted in renewed interest in residential PACE lending throughout the state. This program represents a positive step by the State to provide appropriate regulation of the emerging PACE industry to ensure basic standards of lending criteria and program effectiveness are being achieved. However, despite these efforts, FHFA remains opposed to residential PACE lending and continues to prevent Fannie Mae and Freddie Mac from purchasing mortgages on properties with a PACE lien. This position was reiterated in a recent letter from the Director of FHFA to Governor Brown (Attachment D).
The ongoing dispute between the State of California and FHFA places local jurisdictions that implement residential PACE programs and consumers who subordinate their mortgage loan with a PACE loan at risk of potential negative action by FHFA. The magnitude of this risk is unknown. However, FHFA’s General Counsel has recently sent letters to county counsels in California, such as the County Counsel for Santa Clara County (Attachment E) requesting that counties participating in PACE disclose the potential adverse implications of PACE loans to property owners.
City Participation in PACE Programs
Most of the PACE lenders do not require formation of a county PACE financing district as a prerequisite for city participation. CalforniaFirst recently announced that in early 2015 it will, likewise, offer individual cities the option to participate in CaliforniaFirst without participation by the county in which the city is located.
Free Market is Responding
For both the lease and purchase of solar panels for residential properties, other types of private financing are emerging that will be in direct competition with PACE financing (Attachment F). While qualifying for PACE financing is easier than conventional financing, the interest rates for PACE financing are generally 1-2% higher than comparable conventional financing and are repaid in fewer installments and possibly over longer periods of time. |
At the conclusion of our November 2014 report and after public comment and discussion including receipt of written public comment (Attachment I), the Committee asked that this matter be brought back in March 2015 and that the following information be gathered by staff, PACE lenders/administrators, mortgage lenders, and the realtors' association:
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How many counties and cities have implemented PACE Programs and what are the populations of those jurisdictions? Of the counties that have implemented a PACE program(s), which, if any, are Teeter counties?
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From the PACE lenders, what is your monitoring and foreclosure process for Teeter counties?
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With regard to the State's PACE loss reserve, what constitutes a default that is covered by the reserve? Is the lender not being paid or the tax lien not being paid? (This is significant for Teeter counties.)
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In those counties or cities that obtained indemnification agreements, what did the indemnification cover? In the case of a JPA, who is the indemnifying party?
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What is the measurable increase in property tax revenue due to the energy efficiency upgrades? Assessor/industry.
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What problems do mortgage lenders report regarding mortgage sales and refinancing of properties withe PACE liens?
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Number of PACE loan defaults by implementing jurisdiction and how much was defaulted?
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What remains of the State of California's PACE loan loss reserve and what is the mechanism to replenish the reserve? Is the fund protected from seizure or the whims of the state budget process?
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What is the position of the local real estate association boards on PACE financing?
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What happens when a new buyer doesn't want to assume the PACE lien?
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What financing alternatives to PACE currently exist for energy efficiency upgrades?
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How is the property owner protected from being misled or inadequately informed of the possible consequences of PACE financing?
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How many PACE lienholders were able to sell/refinance since the settlement of the FHFA lawsuit without having to repay the entire PACE loan balance? How many instances have occurred of a buyer withdrawing from a sale or requiring the owner to remove equipment or repay the PACE balance because the buyer refused the PACE upgrade/encumbrance?
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Is there any evidence that PACE projects actually increase a property's appraised value or, conversely, that a PACE lien has been a hindrance to resale?
PACE Programs. CaliforniaFIRST, Figtree, and HERO PACE Programs collaborated to provide the unified response to all of the Committee's questions, representing the PACE financing industry, included as Attachment J. Attachment J includes the following exhibits:
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A: Where is PACE in California as of 1/25/14
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B1: Draft Indemnification Agreement_CA First and City of Concord
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B2: Draft Indemnification Agreement_ HERO and City of Antioch
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C: Dec 2014 email from California Alternative Energy and Advanced Transportation Financing Authority indicating no PACE defaults
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D: Energy upgrade financing alternatives comparisons
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E: Consumer protections and Quality Assurance Measures in PACE Programs
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F: Annotated Excerpts from November IOC meeting comments
Contra Costa Association of Realtors. The Contra Costa Association of Realtors collaborated to provide the unified response to Items 6, 9, 10, 13 and 14, contained in Attachment K. Attachment K includes the following exhibits:
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A: American Bankers Association, Consumer Mortgage Coalition, Housing Policy Council of the Financial Services Roundtable, Independent Community Bankers of America and Mortgage Bankers Association – September 13, 2012
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B: Inland Valleys Association of REALTORS® Backgrounder
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C: Statement of Melvin L. Watt Director, FHFA Before the U.S. House of Representatives Committee on Financial Services (ref on page 12 of the statement)– January 27, 2015
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E: Statement of the Federal Housing Finance Agency on Certain Super Priority Liens – December 22, 2014
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F: Two letters to California Governor Brown – May 1, 2014
County Staff: County Auditor-Controller Bob Campbell researched Item 3 and the 1/22/15 email message, included as Attachment L, provides the explanation.
Staff surveyed California counties to determine the current status of PACE programs implemented at the county level. The compilation of survey responses is included as Attachment M for reference.
We received responses from 17 counties, nine of which reported that they had formed PACE districts and eight of which reported that they had not done so. Of the eight no-PACE respondents, three are currently researching it and one, San Diego County, opted to join statewide PACE districts in lieu of establishing its own. Attachment N contains San Diego County's April 2014 Board documents containing actions to expand that County’s existing PACE program participation to include residential properties.
Of the nine responding PACE counties, two -- San Bernardino and Yolo -- reported funding any residential loans as of December 2014. Placer has funded loans but it is unclear whether any of the loans were residential. Note that Sacramento County, which has an active PACE program did not respond to the survey. Administration or processing fees appear not to be of significant concern or issue for the reporting counties. Most of the PACE counties use a third-party administrator to operate the programs and the few that have incurred staff costs either planned for them or recouped those costs through fees. The PACE counties generally were unable to report much in the way of statistics because the programs are so new. No loan defaults were reported. Both Placer and San Bernardino reported that a small percentage (less than 1% for Placer) of PACE loans had to be paid off due to FHFA restrictions. Interest rates ranged from 6-9% depending on the length and type of loan.
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The potentially significant environmental and economic benefits of PACE financing suggest the County may want to consider participating in such programs. However, ongoing efforts by FHFA to discourage mortgage lending on residential properties with PACE loans requires that the County act prudently in considering the formation and operation of PACE financing districts.
Should the Board decide to permit PACE financing within the county unincorporated area, each proposal to form a PACE district should be evaluated by County staff to ensure the benefits of PACE financing can be made available while also protecting the interests of the County and the public. Factors such as a PACE program's participation in the State's Loss Reserve Program, disclosure of potential negative impacts to participating property owners resulting from federal regulatory action, and agreement to release the County from liability associated with operation of the program should all be considered as preferred program elements.
To this end, we recommend that entities interested in forming PACE financing districts within the unincorporated area of the county submit an application with their proposal to the Department of Conservation and Development (DCD), which will serve as the central point of contact for applicants and would work closely with other County departments, including County Counsel, the County Auditor-Controller and the County Treasurer Tax-Collector, in the review of applications. Following a satisfactory review of application materials, staff would proceed to develop contracts with program providers to operate PACE programs within the county. Such contracts would be developed in consultation with County Counsel and would include terms requiring that program providers participate in the State’s PACE Loss Reserve Program, disclose potential mortgage risk to borrowers resulting from federal regulatory actions, and indemnify the County from claims that may arise from operation of PACE programs within the county. Other conditions may also apply based on staff review of application materials. Following successful negotiation of contracts with PACE providers, staff would submit such contracts to the Board of Supervisors for consideration.
DCD proposes to collect an initial deposit of $5,000 from each applicant to pay for County staff time and other costs incurred by the County to review an application. Staff may seek additional reimbursement of application processing costs from program providers if such costs exceed the initial $5,000 application fee deposit. Any portion of the deposit not spent will be returned to the applicant at the conclusion of the application process. |