Sustainable home finance has the power to upgrade building stock, and new standards can uphold lender’s green credentials. We look at how digital mortgage automation can support green mortgages and benefit mortgage lenders.
Sustainable home finance has gathered momentum in recent times, to tackle emissions, and mitigate the effects of climate change. Meanwhile, accelerating energy costs could put a new impetus on green finance as households seek to reduce their home running costs.
The sustainable home finance market aims to support and facilitate activities that enable people to buy or build green homes or to finance works that lower the environmental impact of housing through reducing energy consumption, carbon emissions, and material use. According to the UK Office of National Statistics (ONS), households remain the highest contributors to overall UK greenhouse gas emissions and account for a fifth of all emissions.
In addition to emission reduction efforts, more finance is emerging to help homes adapt to be more resilient to climate change, such as flood defense and drainage.
There are real benefits to mortgage customers seeking sustainable home finance:
When it comes to climate change, at one level, many people want to feel that their lifestyle and life choices are beneficial, or least harmful, to the environment. Sustainable home finance offering a home with reduced emissions or working on homes to improve their energy efficiency gives people a rare sense of agency in a global problem that feels overwhelming, but when there is a financial benefit or an improved feeling of security, the motivation is greatly enhanced.
The added attractiveness of sustainable home finance is that the homeowner can reduce their energy bills through better home insulation and installing carbon-neutral energy sources, such as solar panels or heat their homes through electrically powered heat pumps.
Energy Performance Certificates (EPC) indicate how efficiently buildings consume energy. ONS research for England shows that the median energy costs of a G-rated property are almost 4.5 times higher than a C-rated property. If you compare it to a B-rated property, it’s nearly 6.5 times higher. Danske Bank has calculated that it converts to a cost saving of almost GBP 2,000 annually (or GBP 167 per month) between a G-rated home and a B-rated home.
The UK government promised to support sustainable home finance by upgrading as many homes as possible, where ‘practical and cost-effective’, to energy efficiency rating C by 2030. The English Housing Survey estimates that if all eligible energy improvement measures were installed in the current stock, 98% would be rated A to C. The average cost to improve a property to an energy efficiency band C is around £8,100, though the cost is much higher for properties rated F or G.
Over the long term, higher EPC ratings could increase valuations on comparative properties with lower ratings. However, research by Nationwide concluded that currently, high EPC ratings have a limited impact on house prices, with a 1.7% premium for an owner-occupier property rated A or B compared to a D-rated home. Meanwhile, properties rated F or G attracted a 3.5% discount compared to a similar D-rated property.
Sustainable home finance is an evolving area, and the market will likely adapt over time. Research by Cambridge University and published by the government shows the potential for an up to 14% valuation variance between an A/B rated property and a G-rated home.
On top of this, the option therefore for buyers to take advantage of lower rates, higher loans, or cashback deals from sustainable home finance becomes attractive, perpetuating a virtuous circle that makes sustainable properties more desirable.
Mortgage lenders also see potential benefits to sustainable home finance, these include:
The business case here for mortgage lenders is about reducing risk, and there is growing evidence to suggest green buildings and their occupants represent a lower-risk investment. Firstly, according to the World Green Building Council, green buildings should cost less to run due to decreased utility bills, meaning the borrower is in a better financial position to repay their loan, thereby reducing the ‘probability of default’.
Secondly, green homes are likely to increase in value over equivalent homes without the green credentials; less-sustainable home financed properties will become increasingly unattractive. Indeed, for homeowners with a very poor energy performance, there are risks that their property could become a stranded asset where the cost of upgrading the energy performance becomes so high that the value of the property falls and is no longer viable.
If the house becomes too costly to run and improve, it could become a risky asset to lend money against. Furthermore, future government policies could include increased costs and taxes or climate levies on fossil fuel heating properties, compounding their running costs.
These two effects are expected to increase over time, which is important given that mortgages often have around 25-year repayment terms. Increasing sustainable home finance value and avoiding energy-inefficient homes could make sense to lenders wishing to reduce risks associated with its loans.
Mortgage lenders want to support emission reduction initiatives that enhance their ESG credentials, but must avoid ‘green washing’ accusations. In 2020, the Green Finance Institute launched the Green Home Finance Principles (GHFPs), a framework that instills integrity in the market with a set of consistent and transparent methodologies for the allocation of finance towards the purchase or building of homes. Increasingly, mortgage lenders are also looking to lend for retrofitting and upgrading works of residential homes.
These principles focus on four areas.
‘Use of proceeds’ determines that sustainable home finance-generated projects should have verifiable environmental benefits and seek to mitigate adverse environmental and social impacts with the proposed projects or works.
‘Process for project evaluation and selection’ mandates that the borrower clearly communicates to the lender details of the project and how they relate to energy efficiency, climate resilience, and meaningful reduction of carbon emissions of the property.
‘Management of proceeds’ ensures that financing is appropriately tagged in the internal systems of the lender to maintain transparency and promote the integrity of the product.
Finally, reporting the green improvement with verifiable and recognized evidence that the property exceeds relevant market standards, such as an EPC rating or Standard Assessment Procedure rating, verification by an external review provider.
GHFP is just one set of standards that many banks and mortgage lenders align to. Others are emerging in various different jurisdictions to ensure the finance reaches those projects and assets that can make a difference.
So what does all this mean for mortgage lenders? It means a headache.
Co-ordinating all the above into their mortgage risk analysis could mean a major overhaul of core processes and heavy resource investment. Adding the entire facility to check a home’s energy rating and the carbon footprint of the entire process to existing workflows will require a great deal of effort.
Digital mortgage automation of the kind offered by the FintechOS mortgage solution, however, can allow you to effortlessly create new sustainable home finance products with a low-code/no-code interface, avoiding reliance on technical support. Digital mortgage automation can allow lenders to launch sustainable home finance products in days, rather than months or years.
Not to mention, digital mortgage automation can manage all the moving parts of sustainable home finance for you, without the human effort of doing everything manually.
To learn more about how our FintechOS mortgage solution can allow you to create new, innovative products like sustainable home finance, book a demo.
