By Jim Butler

On June 22, 2021, in the case of Behring Regional Center LLC v Chad Wolf, a federal court in the Northern District of California effectively invalidated the final rules for EB-5 which became effective in 2019. These rules raised the minimum foreign immigrant investment from $500,000 to $900,000 and imposed other restrictions.

Many commercial real estate developers are hoping this development will launch a new surge of EB-5 financing that could fuel their projects, as was the case for years (until a few years ago when the music stopped).

Don’t get too excited about reliable EB-5 financing coming back – but there may be a better alternative . . .

For many years, we helped developers source and close EB-5 financing for new construction and development projects. We had a 100% success rate in closing all our EB-5 deals totaling more than $1.5 billion. But we have not felt comfortable using this source of capital for several years, because none of the reliable sources we worked with were able to commit to a deal. They couldn’t raise the immigrant investor funds.

What happened? More than 85% of the funding came from Chinese immigrant investors, and the USCIS processing times for immigrant visas grew to more than 15 years! No investor wants to wait 15 years to get the immigration visa he is paying for today.

These processing backlogs effectively killed EB-5 as a reliable and robust source of financing for commercial real estate development. The court decision invalidating the final rules on EB-5 will not fix this or any other issues with the program.

But a better alternative to EB-5 financing has come mainstream and should be considered. Many are not aware of this alternative – Commercial PACE (or C-PACE).

Is C-PACE the “new EB-5” financing for commercial real estate developments? YES and NO . . .

C-PACE is the “new EB-5” financing for commercial real estate developers, but only in one notable sense: virtually every commercial real estate developer will at least seriously consider C-PACE for projects in the 2020s, just as they did with EB-5 in the 2010s.

Other than the skyrocketing popularity and even more favorable terms, the C-PACE solution has nothing at all to do with the EB-5 program.

Here are a few of the key differences between C-PACE and EB-5:

C-PACE does NOT have any of the negative features of EB-5 financing. Specifically, with C-PACE financing there is:

• No government permit or approval for each deal
  (only broad, state-enabling statutes)
• No uncertainties or long waits for fundraising or regulatory approvals
• No offering circulars, marketing processes, translations, and securities liabilities
• No immigration or foreign investors (only local financing sources)
• No recourse obligations
• No accelerations on default

C-PACE is one of the hottest financing opportunities going for commercial real estate development, construction, improvements, and repairs and has burst onto the financing scene. In one sense it is the “alternative” financing developers are looking at now.

What is Commercial PACE or C-PACE?

C-PACE is a low-cost, nonrecourse financing that creates a lien on the real property and it is repaid through property taxes. There is no balance sheet or personal liability of the owner or developer.

PACE is an acronym that stands for “Property Assessed Clean Energy.” And the term C-PACE or Commercial PACE is just PACE financing for any class of commercial real estate.

There is also a residential PACE program for consumers, but this article does not address that topic. We are dealing only with PACE financing for commercial real estate – office, multi-family, retail, hotels, industrial and the like.

PACE financing is an extension of local assessment district concept such as those used for school improvement, fire or flood districts, except the assessment district is only the property being financed with C-PACE – not all the properties in the district.

The only government involvement is the initial enabling statutes and regulations of state and local governments. There is no government involvement or approval in individual financings. There are no investment bankers or marketing agents.

Although the original concept behind all PACE financing was energy and water efficiency, and things that enhance a cleaner environment, the eligible expenditures for PACE financing are quite expansive. In several recent new construction projects, up to 80% of the hard and soft costs of the project were PACE eligible.

C-PACE financing is a great way to help finance a “green” project, but there is no LEED certification or other regulatory approval. The eligible expenditures include broad categories of air sealing, ventilation, insulation, HVAC, lighting, roofing, water heating, refrigeration, compressed air, charging stations, elevator modernization, renewable energy, water fixtures and irrigation, landscaping and much more.

Why does it seem like everyone is talking about Commercial PACE now?

PACE financing has been quietly gaining momentum for more than 10 years. With steady and increasing local, state and federal support, it has matured and improved. In the last 3 to 5 years, C-PACE financing has gone mainstream and is now a welcome and accepted tool for commercial real estate financing.

Here are a few indicators of its explosive popularity:

• 37 states and the District of Columbia have now adopted enabling regulations
• 25 states and the District of Columbia now have active programs
• PACE financing has doubled from $800 million in 2020 to $1.5+ billion in May 2021
• C-PACE is available for any class of commercial real estate

Why C-PACE financing can be attractive:

C-PACE financing takes the form of a voluntary tax assessment on real property, having the same features and priority as an ad valorem real property tax (typically paid only twice per year, when real property taxes are paid). Here are some of the features that may be negotiated which can make it attractive financing:

• Lower interest rates (5.5-6%) than traditional mezzanine debt and equity
• Fixed-rate financing
• Terms up to 30 years
• No personal recourse or guaranty (except completion guaranty)
• Generally covers new construction and renovation (e.g. “PIP” financing)
• Capitalized interest component allows 2-3 years without any payments
• Interest-only period is possible
• Fully assumable financing (no due-on-sale component)
• Prepayable (often with a declining prepayment fee)
• Meaningful portion of the capital stack (15-30%+ of the cost)
• Fast and efficient process (less complex than typical mortgage documents)
• Limited default triggers
• No financial covenants or tests applicable
• No acceleration on default

Retroactive C-PACE financing may be available for completed properties

Commercial PACE financing has generally been thought of as a type of construction financing, but it can also be available for certain completed or operating properties. This is called “retroactive financing” which can provide the ability to refinance qualified improvements such as the costs of HVAC, electrical and water efficiency systems, building envelopes, seismic foundations and upgrades, and related soft costs. The retroactive financing calculation can include costs relating to improvements completed as much as 36 months earlier than the closing, in certain jurisdictions.

The C-PACE proceeds from such retroactive financing can be used for working capital, paydown or payoff of existing loan obligations, or payment for PIPs or improvement.

How we can help with Commercial PACE (C-PACE) financing

C-PACE lending has become an important and fast-growing sub-specialty in our hotel finance capabilities. We work with C-PACE providers/lenders and borrowers. In fact, we have been fortunate enough to work with one of the leading providers of C-PACE financing as they expand their national platform.

We welcome inquires to see if we can help you evaluate potential PACE financing opportunities.

Webinar and more on C-PACE financing

To learn more about C-PACE, check out our free recorded webinar, “Why so many are looking at Commercial PACE (C-PACE) financing now.”

You can also find more information on this topic on the Hotel Law Blog under the topic C-PACE Financing.