For New Construction Projects, An Innovative Approach To The Capital Stack

With rising interest rates and development costs, real estate developers’ risk is climbing higher, while their ability to make a project profitable is increasingly more difficult. But experts say a new kind of financing not only reduces risk, it lowers the overall cost of capital for new construction development projects by as much as 20%.  

Commercial Property-Assessed Clean Energy, or C-PACE, financing allows developers to borrow money for energy-efficient materials, equipment or building features. Rather than paying back a loan to a debt provider, borrowers repay the financing as a fixed-rate additional payment on their property taxes over a long term.

“In projects where developers are looking to fill the gap in their capital stack between debt and sponsor equity, C-PACE can be a great benefit,” K2 Clean Energy Capital Managing Director Stephen Tsu said. “Nonrecourse, off-balance sheet and available at lower rates than mezzanine debt or equity, it saves up front, plus it can fund energy and water efficiency or renewable energy measures that reduce operating costs in the long term.”

Thirty-six states have passed C-PACE legislation, and over half of them have individualized active programs. To date, over $930M of C-PACE projects have been funded across the nation. Approximately $300M of those projects have been in California.

The biggest barriers to entry are simply knowing how it works and navigating the program requirements, Tsu said. 

When helping developers through the application process and consulting on how to maximize the C-PACE dollars available, here are four things Tsu said his company can’t stress enough:

1. Developers Need To Determine The Amount Of PACE-Eligible Funding Before Approaching Debt Providers  

Since delinquent tax payments are senior to debt, developers who want to use C-PACE need to seek approval from their debt providers in advance. 

“Developing a comprehensive C-PACE financing package and showing how it can benefit the project is key to obtaining lender consent,” Tsu said.  

2. C-PACE Covers More Than Just Solar Systems and LED Lighting 

When C-PACE first got off the ground in California, it was only applicable for existing structures. New legislation has opened the door for C-PACE on new construction projects as well, including hotels and multifamily apartment complexes.

Tsu said this can include the mechanical, electrical and plumbing work, glass and glazing, insulation, roofing and any other materials or aspects of the construction that help reduce heat loads, energy and water consumption — everything from low-flow toilets and water boilers to elevators and building-management systems. 

Developers can also apply C-PACE toward electric vehicle charging stations, co-generation units and even natural disaster mitigation measures.  

“Here in California, we can do seismic upgrades. In Florida, wind-resistance upgrades are covered by C-PACE,” Tsu said. “Recommending energy-saving technologies and developing a solid engineering package to prove eligibility and to maximize the PACE funding is a key way we help developers get the biggest benefits from this financing option.”

3. C-PACE Is Not A Loan. It’s A Property Tax Assessment — And That Has Big Benefits

As a tax assessment, C-PACE is an operating expense generally viewed as off-balance sheet. It doesn’t increase the debt load or debt service coverage of a project, and no personal guarantee is required, Tsu said. 

Secondly, tax assessments are non-accelerating. If a loan payment to a bank is missed, the lender can call in the entire amount. But if a C-PACE payment is missed, the maximum amount that can be called in is the amount of that single payment.

Another benefit is that C-PACE rates are fixed with long amortization terms of usually 20 to 25 years. This means lower individual payments.

“The payments are generally semi-annual,” Tsu said. “And the first payment can often be pushed out up to 24 months so this helps developers with cash flow during construction.”

4. If You Sell Your Property, You Don’t Have To Pay Back Your C-PACE Financing 

Because C-PACE is a tax assessment, payments are transferable to a future buyer of the property. 

“If you have a loan and you sell your property, you have to pay back the loan,” Tsu said. “With C-PACE, if you sell your property, the tax assessment automatically transfers to the new owner. They may be getting a property that has free electricity from your solar system. So, while their taxes are higher, they don’t have an electricity bill. Also, since the rates are fixed, the new owner may benefit from the financing.”

If a property can generate more energy than it pulls from utility companies, lowering its utility bills, a future buyer could save money in the long run, even with the increased tax property payment.

This feature was produced in collaboration between Bisnow Branded Content and K2 Clean Energy Capital LLC. Bisnow news staff was not involved in the production of this content.