​What’s the outlook for green real estate financing?

Rising interest rates have reached a 13-year peak, inflation has hit a 40-year high and energy bills are soaring to levels unseen for at least 50 years. Added to this, the UK has set the world’s most ambitious climate change targets to reduce emissions and growing pressure is on the banks to make good on their climate commitments.

What does this mean for the property and property construction sectors? When combined, they are responsible for almost one third of total global energy consumption and nearly 15% of direct CO2 emissions, according to the International Energy Agency. Savills has reported that “currently about 80% of UK commercial property has a low Energy Performance Certificate [EPC] rating and runs the risk of becoming ‘unlettable’ if its environmental performance is not improved by 2030”.

All these factors mean the demand for sustainable real estate is now being driven by lenders, investors, developers, landlords and occupiers alike.

Investors are looking to futureproof their investments against the migration to net-zero by 2050. The new EPC regulatory proposals would require all rental properties to meet a mandatory EPC rating of ‘C’ on all residential tenancies by 2028 and a rating of ‘B’ for commercial tenancies by 2030. Energy-efficient real estate is consequently in high demand and increasingly able to command a ‘green premium’.

Green real estate lending is on the increase and not just because the banks need to demonstrate their green credentials. Lenders recognise that the energy efficiency of buildings is now associated with a lower default risk. They are also recognising the demand for green and sustainable finance solutions as borrowers see the obvious benefits.

Occupier demand for greener buildings that cost less to run is also on the rise, resulting in higher rents for green spaces. Landlords are therefore more incentivised than ever to ‘green’ their buildings and take advantage of cheaper green debt.

Developers, faced with rising inflation-fuelled construction costs and scrutiny over the environmental impact of construction, are having to rethink the ‘knock it down and start again’ strategy. This has resulted in a surge of retrofit projects to improve the energy efficiency of existing buildings.

This ‘perfect storm’ has certainly helped push green real estate financing up the agenda!

Sarah Cullen is a partner at Norton Rose Fulbright