Harnessing Owners’ Equity for Energy Efficiency
The EU has a renovation problem. To achieve its net zero emissions goals, it must dramatically increase the energy efficiency of tens of millions of homes over the next few decades. This will require an investment of almost 1 billion euros ($976.99 billion), a doubling of the current renovation rate of 1% each year and a 10-fold increase in the rate of deep renovations.
There are many reasons why it’s proving difficult to persuade homeowners to invest in improving their home’s energy efficiency, but, as with so many things, it all comes down to money.
“People aren’t crazy,” says Peter Sweatman, CEO of Climate Strategy & Partners, a Madrid-based consultancy specializing in energy efficiency. “When they are offered a loan at 7-10% [interest] for a deep retrofit, and they’re looking at the energy savings they can get…the numbers just don’t add up.
Homeowners, he argues, “need access to extremely low and attractive financing to save large amounts of energy.”
Climate Strategy, with funding from the European Climate Foundation, has developed a new financial instrument, the EU Renovation Loan (ERL), which could provide this access. The idea is to tap into trillions of euros of equity locked up in the EU residential housing stock.
In other words, with the support of EU policymakers and the European Central Bank (ECB), the deep renovation market could be boosted – creating jobs, helping to green the financial sector and significantly reducing energy use, consumer bills and carbon emissions on the path to net zero emissions.
The €900 billion challenge
According to a study by Climate Strategy, around 50 million homes in the EU could benefit from deep renovation to significantly improve their energy efficiency. The EU renovation wave strategy proposed by the European Commission in 2020 aims to renovate 35 million buildings by 2030 – an effort that would require an investment of 900 billion euros.
As Sweatman argues, this financing can be found in equity stored in residential properties. European residential buildings are valued at €17 billion, against which €7 billion in mortgages are outstanding, leaving €10 billion of building capital from which owners can borrow to finance renovations in depth.
However, existing financing products are unattractive to many homeowners for a number of reasons. The first is cost, Sweatman says, since they’re often short-term (around seven years) and carry high interest rates. The second is that, for many new homeowners, an additional mortgage would exceed the income multiples that lenders are willing to lend.
The proposed ERL would be for a long term of 30 years and have a zero coupon structure, meaning the borrower would make no cash interest payments over the life of the loan. Instead, the loan principal and interest would be repaid together at maturity. They would charge interest at EU borrowing costs over 30 years, currently 2.2%. As a rough guide, a $20,000 loan would be paid off in $38,400 at maturity in 30 years, Sweatman says.
The benefit for the owner would be immediate energy savings, as well as a “green premium” on the value of the property. EU studies Joint Research Center and the Energy Efficiency Financial Institutions Group set that premium at between 3 and 8 percent, Sweatman says. This premium would in principle cover the repayment of the loan when the home is sold.
ERL’s low interest rate is critical, he adds. “The premise of ERL is that it can provide really attractive financing to help save energy [without homeowners needing to dip into their savings],” he explains.
EU renovation loan needs collateral and cash
Obtaining the low rate depends on two elements. The first is an EU guarantee against non-repayment of loans when due, removing the need for lenders (retail banks) to charge for credit risk. A model exists for such a guarantee in the InvestEU program, which, among other things, guarantees financial institutions to lend to support the Covid recovery. An ERL guarantee would be low risk for the EU as property prices have, on average, increased by 5% per year. Over any given 30-year period, house prices have never fallen since records began in 1839, Sweatman says.
The second is the provision, by the ECB, of refinancing for the banks originating the ERLs. The ECB could adapt its Targeted Longer-Term Refinancing Operation (TLTRO), which provides liquidity to EU banks that offer credit to the real economy, by allowing them to fund ERL portfolios with the ECB. Such an “e-TLTRO” program would allow banks to offload portfolios of ERLs to the ECB, removing risk and freeing up their balance sheets for more traditional lending. In turn, this would mean the ECB gradually “greening” its own balance sheet and delivering on its commitment to support EU climate action.
For banks to offer ERLs, Sweatman sums up, they “need the collateral to get [the ERL] approved by their credit departments and they need cash [from the e-TLTRO] to ensure that the ERL is cash positive”.
“[This approach] fits very well into the landscape of different types of finance needed to accelerate the renovation wave,” says Adrian Joyce, Managing Director of the European Business Alliance for Energy Efficiency in Buildings and Director of Renew Europe Campaign. “We need several different types of financial packages suited to different incomes and socio-economic groups,” he adds, noting that ERL would appeal to owners “with little financial flexibility,” such as retirees. or young professionals.
A complementary proposal
Sweatman says ERLs would not aim to displace subsidies for low-income households, and could complement existing renovation support programs, such as Germany’s highly successful KfW program and eco-loans to zero rate in France for vulnerable families, the eco-PTZ. In both of these existing cases, the interest rate payments are subsidized, requiring a commitment of taxpayers’ money that would not be necessary for an ERL.
Joyce suggests the main challenge will continue to be persuading homeowners to take out financing. He believes that banks have a key role to play here and notes that some are increasingly interested in energy efficiency. “Fintro Bank here in Belgium has a policy in place that whenever a customer applies for a loan for their home, the banker is required to address the subject of energy efficiency and building performance” , he said. A promising mechanism could be the introduction of mortgage portfolio standards, requiring banks to gradually improve the overall energy efficiency of the mortgage portfolio.
Another incentive, adds Joyce, is the soaring energy prices. “People are finally wondering why they use so much energy,” he says.
Sweatman notes that an EU renovation loan has been discussed in the European Parliament’s Industry, Energy and Research Committee to support funding for mandatory renovations that will be required in a revised directive. on the energy performance of buildings (EPBD). Sweatman believes that political tensions around mandatory measures designed to modernize buildings in the EU more quickly can be eased through more attractive financing solutions and the commitment of mortgage lenders. The European Council and the European Parliament are due to start negotiations on the Commission’s proposal to revise the EPBD, following the agreement of the a common position of the Council in October.
“We need to incorporate this idea of an energy renovation loan into the revised EPBD,” said Claude Turmes, Luxembourg’s Minister for Energy and Spatial Planning, in a recorded speech during a webinar for launch the ERL on 3 November. “If we do, we have a solution to bring money to young people who want to build their nest and to retirees who want to prepare for their last decades.”
Editor’s note: Energy monitor is a media partner of the launch of the European loan project for the renovation of the climate strategy during a webinar on November 3, 2022. Full event details are available here.