During the past year, two of the top stories that dominated American business news headlines were the turmoil in the housing market and rising prices on energy.Â While these crises seem to run on parallel tracks, there is one point where they overlap: the energy efficient mortgage (EEM).
As its name would suggest, the EEM enables borrowers to finance the cost of adding energy-efficiency features to new or existing housing. The product can be used either in the purchase of a new home or in the refinancing of an existing mortgage.
In concept, the EEM is designed to provide the borrower twin savings: from the time and financial expense of taking out a separate loan for energy improvement installations, and in the borrower's monthly savings on the utility bills.
In many ways, the timing for interest in EEMs could not be better, in view of the public's increased awareness and concern over environmental issues.Â
‘Forty percent of carbon emissions come from buildings,’ observes Steve Baden, executive director of Residential Services Energy Network (RESNET), a nonprofit partnership between the mortgage industry, Energy Rated Homes of America and the National Association of State Energy officials. ‘Twenty-one percent of U.S. carbon is produced by homes, which is a little bit more than the carbon produced by automobiles. You cannot talk about carbon or energy issues without talking about buildings.’
But at the same time, it doesn't appear that many people are talking about EEMs. In 2007, the New York Times estimated that less than 1% of all loans are energy efficient mortgages. In view of current events, and considering that EEMs have been available for two decades, this appears to be a curious situation.
‘You'd think this would be going like gangbusters,’ adds Baden. ‘But people and lenders don't known about them. With loan credit getting harder and energy prices rising, it would make sense.’
So what is holding EEMs back?Â It would appear that a number of factors are creating problems.
The paper chase
For starters, EEMs are modeled on the home energy rating system (HERS) developed by the U.S. Department of Energy and the Environmental Protection Agency. Getting the HERS rating done is often seen as a time-consuming process that adds extra costs to the origination process. Even entities that offer EEMs acknowledge the burden and bother.
‘We found a number of years ago, when we got involved with EEMs, that the more complicated the program, the more difficult it was to implement and execute,’ recalls Pete Milewski, director of the mortgage insurance fund for MassHousing, the Bay State's housing finance agency, which offers EEMs that are partially financed by Fannie Mae through Bank of America and the NE Moves Mortgage LLC division of Coldwell Banker Residential Mortgage.
‘Our early programs were extremely sophisticated,’ he adds. ‘We attempted to quantify the exact dollar value of the energy efficient mortgage with ratings performed by engineers. But it became so convoluted that it had very minimal activity.’
And many lenders do not enjoy the prospect of having the additional work injected into the process. Jim Simcoe, an independent mortgage broker in Encinitas, Calif., notes from his experience that lenders have little enthusiasm in pursuing the effort required in originating EEMs.
‘They're not desiring to go through the extra paperwork to get those products done,’ he says. ‘And there's not much of a fiscal invective for mortgage bankers to learn about this product and participate in it. I've had customers ask for them, but when we turn to the mortgage banker, we're told there's not much difference between a regular deal and an energy efficient mortgage.’
Stuart Tyrie, vice president of Wells Fargo, one of the leading originators of energy efficient mortgages, agrees that the product's long-term savings are often complicated in the short term.
‘When you buy a home and spend more money trying to make it a zero energy setting, it substantially increases the cost of the home,’ he says, adding that this also complicates appraisal efforts because there is more likelihood that there will be few similar properties in close proximity to an energy efficient residence.
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Tyrie acknowledges that while the time seems right for a mortgage with a green hue, it is actually not the right time for any mortgage of any hue.
‘Today, trying to introduce a new product when the industry is clapping down on credit risk is difficult,’ he says.Â
Indeed, the state of the mortgage market has not helped the EEM gain footing as a valued product. Even in Washington, where EEMs are purchased by Fannie Mae and Freddie Mac, and several government agencies offer their own EEM programs, support for the product has evaporated.
‘I'm afraid that I can't give you much on our energy efficient mortgage program,’ rues Lemar C. Wooley, a spokesman with Office of Public Affairs at the U.S. Department of Housing and Urban Development (HUD). ‘We don't do many of these loans. HUD's Federal Housing Administration-insured energy efficient mortgage is not as competitive as some others on the market because of restrictions we have to deal with as a government agency. The maximum amount is the higher of five percent of the property's value (not to exceed $8,000) or $4,000, which ever is greater.’
Wooley also notes that HUD has another restriction working against its EEM endeavors. ‘The loan limit was established by Congress in 1992 without an annual adjustment provision,’ he adds. ‘As a result, the maximum amount for energy efficient improvements often isn't adequate to complete the recommended improvements. This is something that we would like to change, but without success.’
Tyrie notes that secondary marketing opportunities for EEMs remain questionable. ‘Private label is pretty dry,’ he says. ‘The agency programs are all but gone – automated underwriting looks at other factors.’
He also adds that there is the problem of monitoring EEM performance as a secondary market selling point. ‘There is no long-term data to isolate 100,000 homes and track them over the last five to ten years,’ he says.
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So what can be done to bolster EEM acceptance?
Jeffrey Cole, program director for the Atlanta-based program MyEnergyLoan, believes the problem is the product itself, as the added expense of energy efficiency in residential construction is often financially detrimental to the borrower.
‘The product is misplaced,’ he says. ‘Green buildings on the residential side are not in the price range of conventional loans. The product has to change from what it is and get tweaked a bit to provide real benefit.’
RESNET's Baden believes more support needs to come from Washington. His organization has called on Congress to create a new federal policy requiring a 50% increase in new home energy efficiency by 2020, with Fannie Mae and Freddie Mac being required to provide annual reports to Congress on how they would assist in this endeavor. Baden sees this push as ultimately saving homeowners' money.
‘The price of heating, cooling and hot water is the second greatest expense for homeowners, outside of the principal payment,’ he says. ‘We're advocating for Congress to address the issue of climate change and the energy situation, and we're calling on the secondary market to assist.’
While RESNET's proposal has yet to gain traction on Capitol Hill, EEMs are finding traction at other levels.Â The Structural Insulated Panel Association, a construction industry trade group, advocates the product on its Web site, noting that ‘homeowners purchasing homes built with structural insulated panels may qualify for an EEM.’
Wells Fargo's Tyrie has also targeted the construction trade, most recently speaking at the June 2008 gathering of the Pacific Coast Builders Conference to highlight EEMs.
‘The more we talk about it, the better the chance we can get the word out to builders, homeowners and investors,’ he says.
At a state level, MassHousing overcame the early hiccups in its EEM program and is now bringing the product to its affordable housing mission.
‘It is now integrated into our loan underwriting policy to allow more flexible underwriting of debt ratios,’ says Milewski. ‘For example, if you have a normal 41 percent debt ratio, an EnergyStar-rated project can get a 45 percent maximum debt ratio. Most borrowers get a four-to-five percent kicker.’
Milewski estimates that 5% of MassHousing's lending involves EEMs. However, it is not a green trumpet that his agency regularly blows.
‘It is part of our general lending,’ he says. ‘There is no specific energy efficiency program. It is just part of what we do every day.’