As institutional investors increasingly consider environmental, social, and governance (ESG) principles in their investment decisions, the institutional real estate market is evolving to meet these demands. In the lending market, some financial institutions—predominantly the government-sponsored entities, Fannie Mae and Freddie Mac—are offering more favorable debt terms for assets demonstrating a positive environmental impact. This green financing can result in discounts that range from 5 to 50 basis points, according to real estate investment managers. In today’s rising interest rate environment, these benefits will likely be even more attractive as institutional real estate investors seek creative ways to reduce borrowing costs.

This blog post will outline the various green financing programs offered by Fannie Mae and Freddie Mac. For more detail, please see our white paper on the topic, available through the link above, which also covered various impact investing programs.

Key Green Financing Programs

Fannie Mae offers a Green Rewards Improvement Program that provides favorable loan terms to finance sustainable property improvements. To qualify for this, borrowers must commit to improvements projected to reduce the property’s annual energy and/or water usage by at least 30%, including a minimum of 15% from projected savings in energy consumption. These property improvements must be installed within 12 months of loan origination. Annual energy and water reporting is required throughout the life of the loan. While the specifics vary by multi-family product type, all U.S. multi-family assets with at least 12 months of stabilized residential occupancy—with the exception of manufactured housing—are eligible.

Fannie Mae also offers preferential pricing that allows borrowers to benefit from a lower interest rate for new construction, renovation, or existing properties that have been awarded a green building certification. Certifications are arranged in four groups—Towards Zero, 1, 2, and 3—based on how well the minimum certification requirements align with the social and environmental benefits that Fannie Mae Green Mortgage Loans are designed to encourage. Towards Zero certifications will receive the best pricing and are designed for green building certifications that are reaching for Net Zero energy standards.

The Fannie Mae Healthy Housing Rewards initiative focuses on health-promoting design features and practices or resident services in newly constructed or rehabilitated multi-family properties. Borrowers can either follow the Healthy Design Pathway, which requires that properties meet or exceed the minimum certification standards of the Fitwel, WELL, or Enterprise Green Communities Certification System, or the Enhanced Resident Services Pathway, which requires that borrowers incorporate a system of resident services such as health and wellness services, work and financial capability support, and child education and academic support.

Freddie Mac has various programs under the Green Advantage umbrella that offer preferred pricing and additional loan proceeds. For example, under the Green Up and Green Up Plus initiatives, borrowers on workforce housing properties that commit to making improvements and save 30% in energy or water usage, with a minimum of 15% from energy, are eligible for lower interest rates and additional loan proceeds. (Workforce housing is housing that is affordable to workers earning at or below the area median income and who generally do not qualify for subsidized affordable housing.)

Green Financing Discounts

Through discussions with real estate investment managers, Callan has found that green discounts for borrowing costs are becoming increasingly common as various types of lenders seek to expand their own ESG lending capabilities. However, agency lenders remain the primary source of financing for social impact or affordable housing investments. While green financing options can generate significant savings on borrowing costs, investment managers report that participation in these programs with agency lenders can be burdensome in some cases due to various requirements.

Nearly all investment managers that sponsor real estate investment products with an ESG or impact focus use this type of financing. The availability and use of green financing has become more common over the past several years as sustainability is increasingly incorporated in real estate investing. The financing discounts of 5 to 50 basis points seen by real estate investment managers that Callan spoke with can materially reduce the cost of borrowing and increase investment-level returns, in many cases having the potential to determine whether or not a deal pencils out.