The growing link between the sustainability credentials of a real estate asset and its value means sustainability is increasingly a key component in real estate investment and development. However, it is also increasingly relevant to the way in which real estate assets are funded.
With the built environment accounting for around 40% of total carbon emissions, more and more lenders are considering ESG credentials in their real estate lending, with both bank and non-bank lenders offering loans to borrowers based on sustainability.
But what do we mean by sustainable lending in a real estate context?
To date, the loan market has adopted two main products:
- Green loans: loans made available exclusively to finance green assets or green projects. For example, a green loan could be used to finance the development of a new green office building which runs entirely on renewable energy.
- Sustainability-linked loans: used by lenders to incentivise borrowers to improve their sustainability performance by linking pricing to pre-agreed sustainability performance targets. For example, a lender might agree a sustainability-linked loan with a logistics operator which includes a reduction in margin if the borrower meets a pre-agreed target of reducing carbon output from its facilities.
Given the wide scope of sustainability performance targets, there has been considerable growth in the number of sustainability-linked loans being written by lenders, across a wide range of real estate sectors.
In contrast, although there have been relatively few green loans to date, there is clear potential for these to be used more widely in order to facilitate the transition to zero carbon real estate. Lenders and borrowers alike will be incentivised to fund the development of green buildings that can achieve increased occupancies, higher rents and obtain greater valuations for borrowers than with non-green buildings.
One thing is clear though: given the intense political, regulatory and societal focus on producing a greener economy, the real estate market is likely to see more and more green real estate finance over the coming years.