Property Assessed Clean Energy Loans Basics
What is a PACE Loan?
Are you looking for a loan that can help you make energy efficient upgrades to your home? A Property Assessed Clean Energy (PACE) loan may be able to help. PACE loans help homeowners finance energy-efficient home improvements like solar panels, water heaters, insulated windows and doors, and energy efficient roofing. Unlike federal loan programs, PACE loan programs depend on state legislation -- so, while some states have large PACE programs, other states don’t have them at all.
While state legislation has authorized PACE programs in 33 states, only 16 states and Washington, D.C. currently have active programs. State governments are also responsible for determining specific statewide requirements, such as the exact uses for PACE loans, minimum and maximum loan amounts, and loan-to-value (LTV) requirements. While PACE programs usually require the approval of state lawmakers, the programs are actually implemented on a local level, so you may want to check with your city or county government to learn which programs are available in your area.
PACE Loans: A Primer for the Homeowner
If you’re a homeowner hoping to finance energy-efficient upgrades with the PACE program, you’ll want to read this first.
Here’s why. Though it’s a useful tool for upgrading older commercial, industrial, or residential properties, the Property Assessed Clean Energy (PACE) program has come under fire for its potentially misleading financing structure -- especially when it comes to vulnerable property owners, like first-time home buyers and elderly homeowners.
PACE: A Quick History of the Controversy
The concept of PACE first came to light in 2005, as a means to help property owners fund improvements that were very costly upfront. It isn’t structured like a typical loan with amortizing payments; instead, homeowners pay for PACE annually as a part of their tax assessment. Another way that PACE is different from a traditional loan is that PACE is attached to the property, not the homeowner, meaning that a homeowner is no longer responsible for paying back a PACE lien as soon as they sell their home -- but whoever moves into the home now becomes responsible for it.
As you can imagine, this has the potential to make it difficult for homeowners with a PACE lien to sell their home.
Further, the process for approving a property owner for the PACE program is different from that of a mortgage or home equity loan. While traditional loan products assess the applicant’s financial status to determine whether they’ll be able to pay back the loan, PACE doesn’t factor this information in. PACE doesn’t review a potential borrower’s credit history, debt obligations, or income. Instead, it looks at the value of the property itself.
Without these consumer protections in place, property owners can wind up with unaffordable tax bills that make it difficult, or impossible, to continue living in their homes. The Mortgage Banker’s Association highlights the fact that PACE funding doesn’t involve the typical underwriting process involved in traditional mortgage lending, which means homeowners may get in over their heads with the expenses associated with PACE.
With all of these drawbacks, you may wonder why it would be beneficial to engage in the PACE program. There are certainly benefits, but it takes a savvy homebuyer or investor to use the program to their advantage.
What is PACE?
PACE financing is a way for investors, guarantors, and homeowners to afford expensive energy-efficient upgrades. PACE is most commonly used for the following:
Solar photovoltaic systems (solar panels)
Energy-efficient windows and doors
Energy-efficient water heater
Landscaping and irrigation systems
PACE is not a loan or grant program. It is a method of financing that is figured into your property tax bill annually. Your PACE assessment is a debt that’s tied to your property, not the property owner.
PACE Loans for Solar Power
Residential solar power installation is one of the most popular uses for PACE loans, since owners can usually see an immediate financial benefit in reduced electricity bills.
And, as long as the amount of money a homeowner saves each year in power costs is larger than the increase to their property tax bill, the PACE loan will consistently result in a net financial benefit.
Getting a PACE loan for solar power installation is usually a smarter financial idea when you:
Already have high electric bills
Live in an area with high sunlight exposure
Have a home in a state that offers tax breaks and other incentives for solar installation
As solar power becomes less expensive, both state and federal governments seem to be reducing the incentives they provide for homeowners. For example, due to a federal tax credit program, homeowners can claim 30% of the expense of solar systems installed by the end of 2019 and 26% of the expense of solar systems installed by 2020. That credit dwindles to 22% in 2021, and expires at the end of that year.
To determine if your area has good solar incentives on the state and local level, you can check out this database maintained by The North Carolina Clean Energy Technology Center, an academic research organization funded by the U.S. Department of Energy.
Where Can I Take Advantage of PACE?
Unlike federal loan programs, PACE loan programs depend on state legislation -- so, while some states have large PACE programs, other states don’t have them at all.
While state legislation has authorized PACE programs in 33 states, only 16 states and Washington, D.C. currently have active programs. As of 2018, Florida, California, and Missouri have traditional residential PACE programs, while Maine has a unique PACE program that does not require a lien to be placed on the borrower’s home.
State governments are also responsible for determining specific statewide requirements, such as the exact uses for PACE loans, minimum and maximum loan amounts, and loan-to-value (LTV) requirements.
While PACE programs usually require the approval of state lawmakers, the programs are actually implemented on a local level, so you may want to check with your city or county government to learn which programs are available in your area. Industry leaders like Renovate America operate in multiple states, but it’s wise to do your research, because not all PACE lenders provide the same degree of support for homeowners.
Benefits of PACE Loans
Since energy-efficiency improvements often take years to result in a return on investment, the theory is that it would be more beneficial for property owners to finance these as a tax assessment rather than as a traditional loan.
Imagine this: you want to upgrade your home with new insulation. This is an extremely expensive project. You would have to pay for contractors to completely gut your house, you’d have to make temporary housing arrangements, and you’d also have significant cosmetic repairs to consider after the new insulation is added.
On top of the initial expense, the return on this investment would be minimal in the short term. It would reduce your utilities bill by a fraction, but it wouldn’t immediately improve your quality of life in a visible way. In the long run, it could bring you massive savings if you stay in the same house. It could extend the longevity of an older house and make it more appealing to buyers in the future. Is it a responsible thing to do, in terms of improving the environment?
But is it worth it as a homeowner to take out a loan for thousands of dollars on this project, with the possibility that you may have to sell the home at a net loss?
Here’s where PACE comes in. PACE financing helps homeowners make costly energy-efficient home improvements like adding solar panels, insulated windows and doors, and energy efficient roofing.
The Risks of PACE Loans
While PACE loans are perhaps the easiest way for homeowners to fund energy-efficient home improvements, they also carry a certain degree of risk to both borrowers and traditional mortgage lenders.
Since PACE loans usually take precedence over regular mortgages, PACE lenders actually get paid back first if a homeowner defaults on their mortgage. For that reason, Fannie Mae and Freddie Mac do not typically back PACE loans, and, as of 2017, the FHA (Federal Housing Administration) will no longer insure PACE loans, either.
Here are the top reasons you should approach PACE with caution.
PACE Loans Could Make It Harder to Sell Your Home
Unlike a mortgage, which typically ends when you sell your home, a PACE loan requires a lien attached to the property itself. This can make selling your home a little tricky. If you haven’t paid off your PACE loan before you want to sell your home, the remainder of the money owed will transfer to the new property owner. For potential buyers, those extra property tax bills could make your property a lot less desirable.
If you’ve used a PACE loan to outfit your home with solar power, a potential owner may be okay with taking on the extra payments, as they’ll also likely see immediate savings with lower energy bills. But, if you’ve taken on a PACE loan to replace a roof or add insulation, the benefits to the next owner may not be so obvious, making it harder for you to sell your home at a good price.
Aggressive Lenders May Be Over-Marketing PACE Loans
While PACE loans can provide a great opportunity for homeowners to make energy-efficient improvements, experts say that some lenders may be over-promising the benefits of these loans -- while not informing borrowers of the true costs. In many cases, contractors, who may contact customers through door-to-door sales, can have borrowers approved on the spot for a PACE loan.
That lighting-fast approval process can be risky, especially for elderly borrowers, who may not know what they’re getting into. And, since PACE loans are legally classified as a tax assessment, lenders are not legally required to consider a borrower’s ability to repay. So, if you’re consider a PACE loan, make sure you know exactly what you owe, and that you have the cash each year to afford your annual payment.
The Pros and Cons of PACE Loans
Here’s a breakdown of the pros and cons of the PACE program.
No money down. PACE loans require zero down payment or upfront costs, as the first payment comes as a part of your annual property tax assessment.
No credit score or income requirements. PACE loans only take into account a homeowner's home equity when determining loan eligibility.
PACE loans for solar power may provide a net financial benefit within the first year. Since solar panels can lead to a significant reduction in your utility bill, that savings could outweigh the additional property taxes you'll have to pay for your PACE loan -- even within the first 12 months.
The entire loan amount is due once a year, in full. Unlike mortgages or home equity loans, which are usually divided into monthly payments, PACE loans are added to property taxes, which means they need to be paid at once.
Lenders do not have to check out a borrower's ability to repay. Even if your income is very low, you can still easily get approved for a PACE loan -- even if you might not be able to repay it.
May make it more difficult to sell your home. Not all home buyers are cool with paying the additional property tax assessment that comes along with PACE loans -- especially since the loan sticks with the house, not the homeowner.
Higher interest rates. The interest rate for a PACE loan varies from 6.5 - 8.49%.
Who’s an Ideal Borrower for a PACE Loan?
PACE loans can be a fantastic way for homeowners to make their homes more environmentally friendly, but they're not right for everyone.
In most cases, the ideal borrower for a PACE loan:
Will be staying in their home long enough to pay off a significant part of their PACE loan.
Can afford to pay the PACE loan amount as a part of their annual property tax assessment .
Wants to make energy-efficient upgrades to their home, but doesn't have significant cash to do it.
PACE Loan Interest Rates:
One potential drawback of PACE loans is the fact that, while they don’t require a downpayment, the interest rates can often be somewhat high. On average, PACE loan interest rates sit around 6.5% to 8.49%.
This means that, in many situations, a borrower with good credit may be able to get a home equity loan for a lower rate. Unlike a PACE loan, that home equity loan won't still be attached to the property when the homeowner sells it, which could be a significant advantage when it comes to selling your home.
Eligibility for PACE Loans
Unlike most other kinds of home loans, the PACE loan approval process does not usually take into account a homeowner’s income or credit score. Instead, lenders judge loan eligibility solely by looking at the equity you have in your home.
In most cases, applicants will need to be current on all tax bills and cannot have a loan-to-value (LTV) ratio of more than 90%. Since PACE loan programs vary by city and state, check into the programs in your local area to learn about their specific requirements.
How Homeowners Pay for PACE Loans
The loan approval process isn’t the only thing that separates PACE loans from other kinds of home loans. If you get a PACE loan, you won’t pay for it like a traditional mortgage. Instead, a PACE lien will be attached to your home, and your payments will be added to your annual property tax bill, usually over a period of 10 to 20 years.
PACE Loans: In Review
PACE loans are designed to help ordinary Americans make their homes more energy efficient, which helps both the environment and the homeowner.
While they provide a way for people to make improvements to their homes with no money upfront, they should only be used to make improvements that will actually improve the value of the home -- or, in the case of solar power installations, significantly decrease the costs of owning a home.
While we're happy to give you our two cents here at home.loans, every borrower is different. You should make a decision that's right for your financial future -- not just jump into any old loan that seems like a good fit.
If you have any questions about whether a PACE loan could be a smart financial decision for you, ask us! We’re here to help.