Using Energy-Efficient Practices to Preserve Affordable Homes

Published by Peter Lawrence on Friday, July 26, 2019 - 12:00am

Harvard’s Joint Center for Housing Studies released its State of the Nation's Housing report last month, and among its most salient points was the decline in number of affordable homes being built. Knowing this, preservation of existing affordable housing is proving to be crucial, especially as 2020 nears, when some low income housing tax credit properties (LIHTC) will reach "Year 30." For properties placed in service after 1989, owners are required under the LIHTC statue to adhere to income and affordability requirements for a minimum of 30 years, although states like California may require longer periods. After Year 30, owners may choose to end the affordability requirements, and for many aging properties, energy costs are a significant drag on property performance. Of the various strategies employed in the fight to preserve existing affordable housing, one tool gaining traction is the use of energy efficiency investment to reduce the costs associated with affordable housing.

Energy Insecurity

When speaking about the current affordable housing crisis the focus is often on the percentage of households paying more than 30 percent or 50 percent of their income towards rent. But the high costs of utilities and the energy insecurity it creates should also be discussed. The U.S. Energy Information Administration reports that almost one-third of U.S. households faced energy insecurities in 2015, due to circumstances ranging from difficulty paying bills to receiving disconnection notices. This energy insecurity is even more common among low-income households. In 2017, households earning less than $15,000 per year spent 17.5 percent of that income on energy costs, and households earning between $15,000 and $29,000 spent 8 percent of their income on utilities. This sits much higher than the national median for all households’ expenditure on energy, which is around 3.1 percent.

Age of housing plays a role, as the struggle to pay utilities is more common for households that live in a house built before 1990. A recent RAND report has found that this is true despite differences in geographic regions, indicating that the problem is due to structural features of the house as opposed to climate differences. According to multiple studies, the cost of energy is the largest controllable, variable operating expense in affordable housing. Despite this and the fact that low-income households use more than 30 percent of U.S. residential energy, the U.S. only dedicates 6 percent of energy efficiency spending to low-income programs.

The State of the Nation’s report acknowledged that rental housing is being built, but because land costs are so high, among other reasons, most rental properties created are those targeting at the high end of the market. Since there is a lack of new affordable homes, preserving the affordable housing that already exists must be prioritized. Encouraging energy efficiency (EE) investments in multifamily affordable housing can help with that preservation. However, there are certain barriers that are addressed below. Energy efficiency covers measures such as quality insulation, upgraded windows, efficient hot water systems, and more.

History of Federal Involvement in EE

The Federal Housing Administration (FHA), Fannie Mae, and Freddie Mac have been the primary drivers of the growth in green lending for affordable housing since 2009. This trend in growth has continued - Fannie Mae expanded their Green Mortgage Backed Securities issuances to $22.8 billion from 2016 to 2017, and Freddie Mac expanded their Green Advantage issuances by $15.6 billion in the same period. Part of this is due to the exemption from multifamily lending caps that Freddie Mac and Fannie Mae benefit from.

This growth in green lending has created a self-sustaining model: affordable housing that are being built through green loans are proving to be cost effective, and so the market, investors, and lenders are participating at higher rates. That being said, now is the time to capitalize on this green lending trend by expanding and improving EE programs that focus on affordable housing.

How to use EE in LIHTC

Although there are already certain energy efficiency standards that new LIHTC properties must meet, according to the U.S. Department of Housing and Urban Development (HUD) LIHTC database, there has been 3.13 million homes created since the program was established in 1987. This leaves a good portion of older homes that do not meet these current energy efficiency standards.

While the Global Green's Qualified Allocation Plan (QAP) 2017 Analysis Report reveals there is a record high amount of states incentivizing third-party building certification programs, it also reveals a troubling trend of developers moving away from these certifications. This may be due to the rising costs of participating in energy efficient programs, as well as a misguided interpretation of the decline in aggregate prices of natural gas that have been reported by the U.S. Energy Information Administration. Some policymakers may interpret this to mean that utilities now cost residents less. However, renters do not benefit from this decline in the cost of natural gas, as 76.8 percent of low-income renters are not billed separately for natural gas. In 2016, low-income renters spent 5.4 percent of their income on natural gas.  Also influencing the cost of utilities for renters is the price of electricity, which has actually risen in recent years. The U.S. Census Bureau reports that low-income renters that spent 11.8 percent of their income on electricity in 2005 are still spending more than 10 percent of their income on electricity in 2016. 

HUD estimates that utility costs account for around 21 percent of public-housing budgets, and that money could be spent elsewhere if public housing was more energy efficient.

Barriers for LIHTC Properties

Split incentives is an issue that continues to challenge the implementation of energy efficient measures in all housing markets, both affordable and market rate. “Split incentives” refer to the misaligned interests of the landlord and tenant, dependent on whether the property is “tenant-metered” or “master-metered.” If the property is tenant-metered, the renters pay for the electricity and gas individually, through accounts they themselves establish with utility companies. Master-metered properties are reversed – the owner pays for all the utility costs and passes them on to tenants within their rent costs. In tenant-metered situations, there is little the tenant can do to lower utility costs, save turning the thermostat down (or air conditioner, if available). In master-metered situations, property owners lack the incentive to bore the up-front cost of installing energy efficient methods, because they cannot recoup the cost through increased rents.

This split incentive exists in federal rental assistance programs as well. For example, through the Project-Based Section 8 Rental Assistance program, a lowered utility allowance will reduce the monthly subsidy that the landlord receives from HUD, lowering the likelihood that the landlord will prioritize reducing utility costs. However, there has been some innovative thinking when it comes to solving this problem. For example, Fannie Mae increases multifamily owners’ incentives if the owner can prove that the tenant will benefit from energy efficient measures.

Benchmarking and Disclosure

Benchmarking and encouragement of data collection is a way in which EE measures can be prioritized. Wegowise's 2017 report on benchmarking looked at over 50,000 multifamily buildings and found that after benchmarking data for a year, energy and water use is reduced by 4 percent. Collected data can be used in a variety of ways to improve EE in affordable housing. For starters, access to public data regarding energy-use can help owners of affordable housing compare their energy-use amongst similar properties, and incentivize them to ensure their properties are the greenest in their region. Additionally, this data can lead to quantification of the benefits of EE investments – including the already established fact that EE investments improves cash flow. Lastly, this data could help policy decision makers identify the properties that are underperforming when it comes to energy efficiency. These decision makers could then target incentives and programs to a narrower market of affordable housing, raising their cost-effectiveness.

All in all, an increase in data collection and analysis of current energy usage for affordable housing could improve and expand current EE incentive programs and possibly create more federal incentive programs where needed.

Moving Forward

EE investments should be a crucial component of affordable homes because of its myriad benefits, spanning from improved health for residents to reducing our carbon footprint.

The trend of market growth for this area will most likely continue, because EE investments is a fiscally responsible tactic for home owners, although it is a bit more nuanced for owners of affordable housing due to the split incentive. However, programs have been implemented that have proven cost effective for affordable housing. Elevate Energy, a program that focuses exclusively on EE for affordable housing, is an example of one such program. In an assessment of three LIHTC properties based in Chicago that participated in the Elevate Energy program, researchers found that Net Operating Income increased by 2.95 percent ($55.96/unit) by one year after EE improvements were completed. Additional research has found that implementing EE improvements are cost effective in affordable housing in the long run

With renewable energy sources such as solar panels now more readily available and accessible, experts in the field report that installation of renewable energy sources will be the next trend to track for affordable housing. One of the most cited reasons multifamily property owners do not engage in current EE programs is the lack of credit and capital. Issues are further complicated by the current practice of employing a basis reduction when the LIHTC is combined with the Section 45L New Energy Efficient Home Tax Credit, the Section 179D Energy Efficient Commercial Building Deduction, and the Section 48 Investment Credit (used to finance solar panels). One of the provisions of the recently re-introduced Affordable Housing Credit Improvement Act (AHCIA) proposes to eliminate this basis reduction, thus making it easier for developers to create affordable housing and benefit from the tax benefits provided by these EE and renewable energy incentives.  

Closing

The LIHTC program has been and continues to be one of the most successful programs in creating affordable housing since its inception in 1987, and many of these homes are nearing the end of their compliance period. The severe lack of construction of affordable homes means the affordable housing community should focus on existing tools that can preserve current LIHTC homes. Although owners of LIHTC properties may face issues that market-rate owners do not, there continues to be new financial tools and programs in this field that LIHTC property owners should keep an open mind toward. Coupling these tools and programs with mandatory benchmarking and quality data collection will lead to improved living situations for affordable housing renters, more cash flow for LIHTC property owners, and affordable homes that serve communities way beyond its initial 30 years.