Today, we talk about the last, and potentially most difficult issue: complexity.
This complexity translates into the frustrations, difficulties and long waits associated with most major energy efficient improvements.
As we’ve discussed, one of the most significant barriers to increased adoption of energy efficiency is the upfront cost. Even if homeowners believe in (or are guaranteed) the savings, they are reluctant to pay upfront for benefits that will accrue in the future. The table below from a great new report out of Vermont by GDS Associates breaks down the different ways people don’t like to pay money for efficiency :).
And while some people (largely upper income) pay cash, most homeowners will either finance efficiency or not do it at all. Unfortunately, this financing process it typically so cumbersome, lengthy and frustrating that a large number of homeowners abandon the process somewhere in the middle, if they ever get started in the first place
Here is what a typical process looks like here in New York:
1. Fill out a financing qualification form(s), looking up old tax returns, income statements, etc.
2. Wait 2-3 weeks
3. If credit or debt to income ratios not perfect (most of us), send bill payment and/or mortgage payment information
4. Wait 2-3 weeks
5. Receive credit approval
6. Wait another 2-5 weeks for construction to commence
7. Sign paperwork at the end
It is even worse for the contractors that have to manage the process with the finance administrators (some still have to fax documents). There is so much paperwork that many contractors abandon the financing programs altogether, and only do jobs that pay cash.
Why is this so hard??
Ultimately, it comes down to the terms and processes demanded by the institutions providing the financing. While there is some private finance available, most financing is done through states and utilities. This Resources for the Future (RFF) report summarizes the challenges of financing energy efficiency:
- Energy-efficiency loans are typically unsecured and thus inherently risky, leading to relatively high interest rates and lending that is mainly based on the credit-worthiness of the borrower—not the value of the investment.
- Obtaining these loans often involves significant transaction costs for borrowers and contractors who perform the retrofit work. Energy audits often are required before applying for a loan; the amount of paperwork can be substantial; there can be delays in getting loan approval; and repayment usually involves a new monthly bill for property owners. These extra transaction and administrative costs limit borrowers’ interest in financing.
- In the residential and small business sectors, the value of energy-efficiency loans is low relative to the origination and processing costs. The small margins on these loans make them of limited interest to many lenders.
- Without a standardized energy-efficiency loan product, lenders are limited in their ability to take loans to a secondary market. Without access to secondary markets, there is no ability to recapitalize loan programs and increase the amount of money available. For government and utility loan programs, this inability to recapitalize has been a matter of some concern.
- Asymmetric information may lead to an adverse selection problem that contributes to credit rationing, although the extent to which this problem exists in energy-efficiency markets is an open question. The one factor that suggests it may exist to some extent is the lack of good information about the energy savings payoff from the investment. This lack of information may be contributing to a credit market failure.
In other words, loaning money for energy efficiency today is risky, small, and data poor. In response, financing programs offer some combination of poor terms (high interest rates, short loan lengths) and onerous credit requirements (high FICO score, low debt to income ratio, proof of on-time payments).
Even in states that substantially subsidize the financing to provide attractive terms for lower-income households, credit requirements are oftentimes too high. For example, New York offers energy efficiency loans at a 3.49% interest rate for up to 15 years. However, despite large subsidies from federal stimulus money and a state law that allows the utility company to shut off power if the homeowner doesn’t pay, the private market still requires credit scores and other metrics that lead to large numbers of middle class and lower-income homes from being disqualified.
Of course, we can blame the greedy, stupid banks all we want, but the market is the market. From the banks’ perspective, they are lending to unsecured creditors with no data to back up the claims that the lower operating costs from energy efficiency investments will pay back the investments.
This all this sounds pretty bad. So how do you fix it?
First of all, you have to deal with the underlying issue of data availability. Fundamentally, banks lend money because they have enough data to support the notion that any losses will be offset by the amount they receive in interest. The lower that risk loss, the lower the interest rate and credit requirements. Right now banks don’t have the data they need to make intelligent decisions so they simply lend at rates / terms similar to regular unsecured credit (e.g. close to credit card rates).
The Investor Confident Project (ICP) is one prominent organization trying to unlock the data needed to improve private sector lending. Unfortunately, this is a long process because it involves working with utilities, regulators and government to release data that is not publicly available today (more on why this is so difficult in later posts).
Given that situation, how can Sealed help?
Unfortunately we can only do so much today, but by collecting data on customers with the explicit purpose of optimizing the most amount of energy savings, Sealed provides market pressures to enforce quality of work and real, persistent energy savings. As Sealed grows, the amount of data we collect from contractors and homeowners will provide the seed for the data sets required to dramatically improve financing terms.
Because Sealed is small and has a higher risk tolerance than banks, we can test real-world strategies to optimize the financial benefits of energy efficiency. And while we can’t always help with credit approvals, we can give more confidence to homeowners in the energy savings, no matter how they pay for the work.
More than issue, however, the issue of complexity is one that must be undertaken by many stakeholders, and here at Sealed we are committed to doing our part!