Five Considerations: Using Commercial PACE for Condominium – Real Estate and Construction

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United States: Five Considerations: Using Commercial PACE for Condominiums

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With the introduction of increasing and costly environmental regulations on buildings across the country, Commercial Property Assessed Clean Energy (CPACE) finance provides a unique tool to finance skilled energy efficiency and renewable energy projects at a lower effective cost than traditional credit. CPACE has recently become available in New York City for
retrofit Projects in commercial real estate, and the city is expected to pass a law to provide CPACE funding New development Projects as early as September 2021.

A key element of CPACE financing is that, unlike traditional debt financing, a CPACE loan is repaid in installments through a charge on the respective property tax bill, which usually enables long loan periods of 20 to 30 years. This structure creates an interesting dynamic in the condominium context where a property is divided into multiple units and typically given to a third party rather than being held by a single person or unit. The CPACE program guidelines state that “residential units currently jointly owned by a commercial entity” are eligible for CPACE funding “if and until such unit is sold”.

Here are five considerations this requirement raises for condominium developers, multi-family owners converting and converting their properties to condominiums, and lenders regarding the applicability of CPACE to their properties:

  1. Prepayment penalties. If individual condos are sold, the CPACE loan must be partially paid back on each closing. Therefore, a lender will seek to set prepayment penalties and repayment fees that offset the increased likelihood that all or a substantial portion of the loan will not be due. In turn, a borrower must take this penalty into account in their own risk assessment to determine whether the total cost of the CPACE loan will yield the desired projected net sales.
  2. Interaction with senior lenders. Senior loan documents stipulate that each unit can only be released from the senior loan if a minimum release price is achieved, which typically also represents an upper limit for amounts that can be deducted from the gross sales of a unit. The partial early repayment of the CPACE loan will have a significant impact on these calculations. This will be a critical point in the negotiation as developers seek approval of CPACE funding from a senior lender, which is almost always a requirement for senior loan documents. Given this requirement and the requirement to prepay the CPACE loan along with a contractual penalty as detailed in the previous paragraph, developers could consider CPACE as short term funding and attempt to recapitalize a project and add the new capital prior to building the condominium use the CPACE loan to repay in full.
  3. Missing details in the program guidelines. The discussion of condominiums in the program guidelines is limited to the above case. Having condos explicitly named as eligible is good news, but the lack of meaningful detail leaves it up to market participants to figure out the many nuances of how the condominium development program is actually implemented. This could lead to a myriad of interpretations and conflicting approaches from lender to lender and project to project, and has created a great unknown about what happens when a project finds that it is in violation of the program guidelines. For CPACE to be most useful, clarifying guidelines are needed.
  4. Direct sales. Sometimes the owner of a condominium sells units in bulk to an operator or investor. In a scenario where the developer / CPACE borrower sells all of their units, would the units still be “jointly owned by a commercial entity” so would the CPACE loan persist? Alternatively, if only a portion of the units are sold, is there flexibility in order for the CPACE loan to remain in effect on the units sold as long as they are operated by a commercial entity? Again, the lack of detail in the program guidelines leaves these questions open for the market to interpret.
  5. Cooperatives. In contrast to condominiums, a cooperative property is owned by a single company, which then sells shares in that company to the apartment owners. Because of this structure, CPACE financing is perfect for cooperatives. In addition, certain condominiums have cooperatives that exist within a condominium unit. The particular legal structure of a property could make for an easier route to a CPACE loan for a condominium property, although condominium offers are generally seen as more marketable than cooperatives.

Kramer Levin is uniquely positioned to advise clients on CPACE financing in general and condominium in particular. Lawyers from our nationally recognized real estate practice and the market leading condominium group work together to provide a business-focused, comprehensive and integrated approach to every transaction. In addition, Kramer Levin’s market-leading securitization practice regularly advises participants in securitization facilities with CPACE loans. Customers and contacts are encouraged to reach out to the authors of this article to discuss CPACE financing and condominium development and CPACE loan securitization.

The content of this article is intended to provide general guidance on the subject. Expert advice should be sought regarding your specific circumstances.

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