PACE Financing Under Fire From Tom Cotton

PACE Financing Under Fire From Tom Cotton
Sen. Tom Cotton visits the Little Rock headquarters of Southwest Power Pool last month. (Senate Office of Tom Cotton)

Pulaski County Judge Barry Hyde calls PACE financing a home run, something that makes “a lot of sense to a lot of people.” U.S. Sen. Tom Cotton calls PACE a scam to “trick seniors into taking out high-interest loans for 20 years, along with liens on their homes.”

Cotton has targeted Property Assessed Clean Energy financing in new federal legislation co-sponsored by Sen. John Boozman, his fellow Arkansas Republican, and Sen. Marco Rubio, R-Fla.

Cotton and Hyde agree on one thing about PACE — that it’s a relatively new financing mechanism that lets property owners borrow up to 100 percent of the cost of weatherization, energy-efficiency features and renewable energy upgrades like solar panels, with the government collecting the payments as part of property tax bills.

Beyond that basic definition, though, the two public officials might be describing two different creatures — one a beauty, the other a beast. Actually, they are talking about different species of PACE. The program Hyde promotes in Arkansas currently involves only commercial properties and has not been controversial. The programs Cotton is targeting nationally are residential efforts that even PACE-related companies admit need more scrutiny.

In Arkansas, PACE is for now offered only to commercial and industrial property owners, who have used it to finance efficiency projects in central Arkansas and in Fayetteville and Springdale. Cotton says his legislation will have no effect here, but PACE leaders disagree.

They fear that the bill will impose a huge regulatory burden, cripple growth and essentially kill their efforts to extend residential PACE to the state.

They also see Cotton’s language as incendiary.

“Residential PACE loans are a scam. Predatory green-energy lenders are changing state and local laws,” said a statement from Cotton, whose Protecting Americans from Credit Exploitation Act (incorporating PACE into its own acronym) would classify PACE deals as loans and make them subject to federal Truth in Lending Act requirements. Cotton says his bill’s disclosure rules would “reduce the advantage that PACE loan sharks have over hard-working Americans.”

California and Florida homeowners have indeed reported incidents of abuse, describing contractors who drummed up business by selling them on poorly explained 20-year payback plans with interest rates of up to 10, 11 or 12 percent. Informed that the property assessment attaches to the property, not to themselves, borrowers say they increased their property tax load without realizing that tax encumbrances might make it difficult to sell their houses.

Many of these borrowers “will eventually be at risk of foreclosure,” according to an assessment by Elder Law and Advocacy of San Diego, a prospect that it called “terrible at any age put especially egregious for an 80-year-old with minimal resources.” It cited loans carrying interest above 10 percent along with fees of 7 percent.

PACE defenders say that despite some clear abuses, complaints are relatively rare. While they support more disclosure and efforts to weed out exploitative companies, they also say the cure in Cotton’s bill, introduced in the Senate on April 5, is worse than the disease.

Lien Rights an Issue
Cotton and his aides say commercial programs in Arkansas have nothing to fear, even as they argue that PACE financing should logically be considered as loans. But Will Gruber, a lawyer for Pulaski County, and PACE official Frank Mayfield insist that assessments have long been legally distinct from loans.

They also suggest that Cotton and his co-sponsors are carrying water for the mortgage banking industry, which objects to the fact that PACE repayments, tied to tax lien powers, take precedence over mortgages and home equity loans in foreclosure cases.

“They’re concerned about the lien rights and priority,” said Mayfield, chairman of Energy Improvement District No. 1, covering Fayetteville and Springdale. (PACE financing is made possible through energy improvement districts, entities similar to improvement districts that finance things like sewer systems, sidewalks and streetlights.) “The mortgage bankers insist on calling these loans, but that’s not accurate.”

An aide to Cotton speaking on background told Arkansas Business that PACE arrangements are loans and should be subject to Truth in Lending, and that no other kinds of loans that come after a mortgage are paid first.

A letter to Cotton, Boozman and Rubio from the American Bankers Association, the Arkansas Land Title Association and the Mortgage Bankers Association of Arkansas, among others, laments that a patchwork of local and state laws “do not treat PACE loans like the mortgage financing products they are” and do not apply “the Consumer Financial Protection Bureau’s ‘Ability to Repay’ and ‘Know Before You Owe’ rules.”

Mayfield countered by saying that applying the Truth in Lending Act would redefine PACE boards as mortgage lenders and saddle them with 1,000 pages of burdensome regulations.

“We agree with Sen. Cotton that common-sense consumer protection is absolutely required,” Mayfield said. But he described PACE in Arkansas as a local program overseen by citizens on the improvement boards, along with professional administrators who make sure that each project meets specific payback requirements and that energy savings provide “positive cash flow to building owners.” He said the new requirements would mean PACE leaders would have to “lawyer up to figure out what we have to do.”

While the residential abuse stories focus on interest rates of up 10, 11 or even 12 percent, the interest rate was 6.5 percent for the largest commercial project yet in Arkansas, almost $650,000 worth of heating and air, water and electricity-conserving fixtures and a “green” reflective roof at a $6.5 million 50-unit apartment complex under construction on Aldersgate Road in Little Rock.

Gruber, the attorney for Pulaski County, noted that state law does authorize residential PACE, even though current programs are strictly commercial and industrial. The law “requires protections against the very problems the senators imply occur in other jurisdictions,” Gruber wrote by email. “We’ve successfully avoided the pitfalls without unnecessarily burdening companies competing in the PACE market.”

Those companies include PACE Arkansas, an affiliate of PACE Equity of Milwaukee, which provided financing for the energy efficiency features at the Aldersgate apartment complex.

“We’re disappointed that, to the best of our knowledge, neither senator representing Arkansas reached out to Arkansas’ PACE stakeholders,” Gruber said, offering Pulaski County’s expertise.

Cotton’s staff said the senator had talked to various people to ensure that his bill would not have an impact in Arkansas. But they said Cotton has an obligation to all Americans. “Senator Cotton’s role on the Senate Banking, Housing & Urban Affairs Committee spurred his interest and led him to take action on PACE problems beyond Arkansas,” said Caroline Rabbitt, his communications director.

Cotton’s team drew a distinction between sophisticated businesspeople taking advantage of the Arkansas commercial program and the poorer and often elderly homeowners who feel misled by residential PACE in Florida and California. While a business executive might easily see an 11 percent loan over 20 years as a bad deal, residential borrowers were susceptible to vague promises and dubious websites that Truth in Lending would curtail, staffers say. Some borrowers didn’t realize that they were allowing a lien on their houses, or that they could lose their homes in a default.

Those problems may not exist in Arkansas, but Cotton wanted to be proactive, Rabbitt said.

The senator also disagrees with a 2016 decision by the Department of Housing & Urban Development, which will allow the Federal Housing Administration to insure mortgages that also carry liens from PACE financing as long as FHA loans keep their priority status. The prospect of the government being stuck with the aftermath of PACE deals gone bad adds a taxpayer protection element to Cotton’s mission, staff members said.

The bottom line, Cotton believes, is that Americans should get the same disclosures about PACE financing as they do about loans. One staff member pointed out that Truth in Lending requirements apply to everything from pawn shop loans to large mortgages. If Americans could be assured of those protections in PACE cases, Cotton says, they can make their own informed choices.

Subprime Parallel Seen
Some financial analysts have seen a parallel between rapid growth in PACE financing and the conditions that led to the subprime crisis of 2008. Surging PACE numbers have whetted investors’ interest in bonds created from bundling the debt obligations.

The value of securitized residential PACE obligations has grown to nearly $3 billion nationwide, with one company, Ygrene, leading the way with $479 million in projects, according to PACENation, a trade and promotion group. Residential PACE financing grew from just $500 million in 2014 to some $3.4 billion last year, with programs up and running in 34 states.

The Arkansas Legislature enabled PACE in 2013, and the law signed by Gov. Mike Beebe allowed cities, counties and the state to create energy improvement districts. In the legislative session that ended last month, a bill to make the state’s PACE law language correspond more favorably with other states’ programs died in committee, signaling to PACE backers that more work is left to be done.

“We are going to go back at it,” Mayfield said. “While residential PACE has yet to happen in Arkansas, I am hopeful that with experience in the commercial sector and collaboration with the banking industry, our state will soon enjoy the benefits of reduced energy expenses and creating good jobs going forward.”

Mayfield agreed that more must be learned about how PACE finance affects the buying and selling of upgraded houses, and he hopes to apply research being conducted now to residential PACE programs should they come to the state.

Cotton wants protection for all, Rabbitt says. “He believes these lending arrangements are loans and should have the same disclosure as any other loan, especially given the lengthy terms and home liens.”

How PACE Works

A state enacts legislation authorizing the establishment of a PACE program. In Arkansas, enabling legislation was passed in 2013.

A local government creates a PACE program. Two have been established in Arkansas, but they are both commercial programs rather than residential.

A homeowner or commercial building owner identifies energy improvements to implement and applies for PACE financing.

The PACE administrator approves the financing arrangement and the jurisdiction assigns a tax assessment to the property.

The homeowner or business completes the approved energy improvements.

The property owner repays the cost of the improvements, plus interest, over time through a tax assessment on the property tax bill.

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