Housebuilder tip of the month: Green Loans - Tips for the Unwary

Published 28 marzo 2023

The defining feature of a green loan is that the proceeds are used for green purposes.  A key point worth knowing is that green loans are not reserved for companies set up for a specific environmentally-friendly objective.  It is the nature of the project being funded that needs to be green, making green loans very much on the table for housebuilders of all shapes and sizes.  Housebuilders have taken giant leaps in advancing environmental objectives in recent years.  Green loans offer a way to further this mandate, while potentially improving the rates on your debt financing.  

In February 2023, the LMA[1] published an updated version of the Green Loan Principles (GLP).  The GLP remain voluntary recommended guidelines. While this allows for a degree of flexibility in their application, it can also provide challenges for the unwary.  

This article sets out our top tips for housebuilders who are considering obtaining a green loan.

1. Engage your lenders early

Lenders are increasingly adopting their own internal standards and eligibility criteria for green loans, often documented in a “green finance framework”.  This may include technical criteria for green projects, which may be set by reference to external certification or standards.  Lenders may, in lieu of a formal internal policy, seek to rely on external review or ad hoc assessments of whether a particular project will qualify for funding by way of a green loan.  Our recommendation is to seek to engage with your lenders as early as possible to understand exactly what their requirements are in relation to green loans product lines.

2. Consider your current green practices

Housebuilders should carefully consider what they are already doing in respect of their environmental and sustainability practices, such as the use of solar technologies, low carbon heating systems, energy management and performance (and the various other areas, covered in the LMA guidance).  Where housebuilders are already set up with certification schemes such as the Home Quality Mark scheme, BREEAM In-Use ratings and LEED Certification (among others) they are likely to already be making significant inroads in such areas, and it doesn’t pay to lose out on the value of work already done and paid for in these areas.

3. Consider producing a green finance framework

Housebuilders may wish to consider producing their own green finance framework, setting out details of the green projects to which they are intending to apply the green loan proceeds and explaining what they are already doing to meet environmental objectives (although this should be clearly applied to the green project at hand).  While not a strict requirement of the GLP, this can help to streamline the application process with lenders, by offering transparency and demonstrating the validity of a project’s green credentials.

4. Cost / benefit analysis

Lenders may require that a housebuilder’s green policies and practices are independently assessed and/or certified.  The costs of such work (and other costs of obtaining a green loan) should be considered against the perceived benefits of obtaining green loans.  If the only perceived benefit is a margin reduction, then borrowers will need to make sure the sums add up.  After all, there may be other more cost effective ways of implementing environmental and sustainability goals.  

5. Get set up for internal monitoring and reporting

Borrowers should be prepared to implement internal monitoring processes to track the proceeds of green loans. This is required to maintain transparency and to promote the integrity of green loan products. Each tranche applicable to a green project must be clearly identified, with proceeds of green tranches credited to a separate bank account or otherwise tracked by the borrower in an appropriate way.  

Housebuilders will be expected to provide ongoing reporting to lenders relating to the use of proceeds of green loans.  Reporting obligations will continue until the loan is drawn in full or, in the case of a green RCF, until the termination date.  Annual reporting can be expected to include: a list of the green projects to which the green loan proceeds have been allocated; a brief description of the projects and the amounts allocated to them; and the expected and, where possible, achieved impact of the projects.

Housebuilders should consider whether they have the necessary internal expertise to provide any required technical reporting and/or the costs of instructing external advisers to prepare this on their behalf.

6. Understand the conditions to drawing your green loan

The conditions precedent to your green loan should be items which are within your control to provide in advance of funding.  Examples of lenders’ requirements in this area include: a funds flow statement (potentially backed by an undertaking from the borrower to apply green loan proceeds in accordance with the funds flow statement); invoices or other evidence confirming use of proceeds; and/or third party verification of the use of proceeds.

7. Understand what happens after a “green breach”

A frequent point of disagreement between lenders and borrowers (and for which there is not yet a market standard approach) is what happens as a consequence of a breach of green loan provisions in finance documents.  If a “green breach” occurs, and is not remedied within any applicable grace periods, it is typical for this to result in an increase in the margin that the borrower is required to pay. 

A more contentious issue is whether a “green breach” should constitute an event of default, as this can have significant adverse consequences, such as triggering a cross default under the Borrower’s other facilities and/or an obligation to repay their loans.  Borrowers should firmly resist this, or, if unavoidable, seek to limit the operation to specific “Borrower-fault” breaches, such as intentional mis-reporting or intentionally publicising that a loan is green, when green criteria have not been satisfied.

[1] If you are completely new to green loans, we suggest that the best place to start is with the Loan Market Associate (LMA) Guidance, including (i) the Green Loan Principles, (ii) the Guidance on Green Loan Principles and (iii) the Guidance on the application of the Green Loan Principles in Real Estate Finance (REF).  These guidance notes will enable housebuilders to familiarise themselves with the Green Loan Principles, including the four central components of green loans, namely (1) use of proceeds, (2) process for project evaluation and selections, (3) management of proceeds, and (4) reporting.