The Federal Housing Administration has weighed in on loans used to finance energy efficient home improvements, which have been a point of contention between mortgage lenders and the municipalities and private companies that make them.
Property Assessed Clean Energy (PACE) loans allow homeowners to make energy-efficiency upgrades, such as adding insulation and installing energy efficient windows or solar panels; they are repaid via an annual assessment on the homeowner’s property tax bills.
To date, two private companies, Renovate America and Ygrene's Energy Fund, have securitized these loans in five transactions.
The lenders, as well as credit rating agencies, have argued that, as PACE liens are essentially tax assessments, they are senior to the liens of mortgage lenders.
But on Monday, the FHA said it was developing lender guidance that says PACE loans are subordinate to a first lien mortgage.
Renovate America has welcomed the news; on Monday, CEO J.P. McNeill issued a statement saying that it "has the potential to unlock alternative sources of capital to accelerate renewable energy and efficiency retrofits for households, and reduce energy costs for consumers.”
Cisco DeVries, the CEO of Renew Financial and the inventor of PACE financing, said in a press release Monday that "regulatory uncertainty" had until now limited the expansion of such financing.
The FHA’s move may set the stage for the Federal Housing Finance Agency, which oversees Fannie Mae and Freddie Mac, to take a similar stance. Currently, the FHFA does not allow either company to purchase mortgages with a PACE lien, although such liens have been imposed on properties already encumbered by a Fannie or Freddie mortgage.
FHA said it has had "ongoing conversations with the Federal Housing Finance Agency." However, that is no guarantee the finance agency will follow the FHA's lead.
The five securitizations done to date pool mostly PACE liens on property in California that have been made via the HERO Funding Program; all have been executed under the assumption that these assessments have equal lien priority with real estate taxes and are senior to all non-tax liens, including mortgages.
However McNeill said Monday that McNeil also said that PACE loans originated via the HERO since April have been subordinating the assessment to mortgage liens.
Renovate America has completed a four PACE securitizations for a total volume of $633 million. A substantial part of the pool for each deal is backed by properties that also serve as collateral for mortgages insured by Fannie or Freddie.
Ygrene's securitization was privately placed; there is less disclosure about the pool of collateral.
All five PACE securitziations are protected by a state law that deems PACE assessments collectible in the same manner as general property taxes and with the same lien priority.
However, until the FHFA announces that it plans to follow the FHA's endorsement of PACE loans, PACE loans in these deals are exposed to the risk that the regulator could require PACE liens to be paid in full before it lends to borrowers looking to secure financing on the homes. In other words, if the owner of a home with a PACE lien wants to sell to a borrower looking to secure Fannie Mae or Freddie Mac financing, the lien would have to be settled.
The FHA also plans to endorse the way PACE loans are transferred. Once a property is sold, the PACE loan transfers to the next owner who is responsible for repaying the loan. This ability to transfer the loan is key to the PACE financing because it allows for both the payment and the value of the retrofit to be transferred from one owner to the next.
In PACE securitizations, the ability to transfer the lien from one homeowner to the next provides some protection in the event of foreclosure. "Unlike in the case of residential mortgages where the entire loan balance would be due at foreclosure, only current amounts and the amounts in arrears on a PACE assessment, including fees and penalties, are due," Kroll Bond Rating noted in a presale report it published on Renovate America's 2015-2 transaction.
"The purchaser of the property out of foreclosure will continue making the payments on the assessment once the property is taken over. As a result, the amount at risk when a property owner fails to pay is not the full amount of the assessment but only the assessment installment amount that is in arrears."