We have a team of loan abstract specialists that dig through loan docs all day and we wanted to share a little bit about what they've found in your loan docs! Not all of the loans they've seen have something on sustainability or going green, but there’s a fair share. Here are some of the rules and regulations with regards to environmental impact that they've seen.
There are two main types of loans that give borrowers incentives to go green and/or hit ESG targets, Green Loans and Sustainability Linked Loans.
The intention of a green loan is focused on the financing side of an asset. Green loans are defined by the Green Loan Principles that stand as a guide for green projects, outlining how to use the proceeds, how the project should be evaluated and selected, how to report the usage of proceeds, and more.
An example we see often is with Agencies and their Green Improvements Rider.
Borrowers of these specific Agency loans are required to satisfy water and energy conservation measures through Green Improvements to the building. These Green Improvements are required Repairs to make the building more energy efficient — their costs are included as part of a Repair Reserve, but are only eligible for water/energy-efficient changes as determined by a Green Report (such as a Green Assessment).
Lenders ask for all types of supporting documents to show proper completion; they reserve the right to request supporting evidence/documentation of completion, including but not limited to, estimates and contracts for Repairs, pictures of the completed Repairs, utility bills and usage reports, savings calculations, benchmark metrics, etc.
Most loans require the Improvements to be completed within two years, but there are some exceptions; for a Value-Add, changes have to be made by the time of completion. 30 days after the completion of the Improvements, a verification certificate (Green Improvements Verification Certification) is also required to be filled and delivered to the Lender.
The purpose of a sustainability linked loan is to require a borrower to hit an ESG target; they focus on the borrower and the standards they are trying to meet. These came to place as an attempt to increase ESG efforts and address some of the challenges with sustainability in commercial real estate such as data attainment/information disclosure.
Some of these are simple, like tracking and reporting water/energy consumption or staying in compliance with state and federal environmental laws. Some are more complex, like reporting energy scores based on benchmarks such as the ENERGY STAR score. Regardless of the target, sustainability linked loans have a predetermined set of KPIs (key performance indicators) for the borrower to reach.
Common examples we've seen are with Environmental Indemnity Agreements and Hazardous Substances Agreements.
While sometimes considered separate from “loan docs”, these agreements place the responsibility of staying in compliance with environmental laws on the borrower. The borrower (and sometimes the guarantor) becomes the indemnitor for potential contamination of substances in or on the property.
The purpose of both agreements is to legally establish that liabilities do not fall onto the lender, protecting them from federal and state environmental laws if the borrower were to default on the loan. Borrowers are typically indefinitely responsible unless otherwise stated in provisions. Such provisions include a sunset provision, stating that after repayment of the loan in full, the indemnity is void after a certain period of time and if certain conditions are met.
Environmental, Social, and Governance initiatives have been everywhere, at every stage of CRE — and it doesn’t seem to be slowing down anytime soon. We’ve seen a lot of sustainability related provisions in your loan docs and we're not mad about it! From financing to ongoing performance, sustainability in your loan docs seems to be the new normal.
Have you found any interesting ESG related provisions in your loan docs?