Low Income Housing Tax Credit Projects and Energy Conservation; Utility Calculator Analysis: Policy Options - Washington State Housing Finance ...

 
Low Income Housing Tax Credit Projects and
Energy Conservation; Utility Calculator
Analysis: Policy Options

                        Washington State Housing
                             Finance Commission
                                       June 17, 2011
S U B M I T T E D   T O :

                      David Clifton
                      Washington State Housing Finance Commission
                      1000 2nd Avenue, Suite 2700
                      Seattle, WA 98104-1046
                      206-287-4407
                      206-254-5357 Fax
                      david.clifton@wshfc.org
                      www.wshfc.org

           S U B M I T T E D   B Y :

                      David Paul Rosen & Associates

                      1330 Broadway, Suite 937
                      Oakland, CA 94612
                      510-451-2552
                      510-451-2554 Fax
                      david@draconsultants.com
                      www.draconsultants.com

                      3941 Hendrix Street
                      Irvine, CA 92614
                      949-559-5650
                      949-559-5706 Fax
                      nora@draconsultants.com
                      www.draconsultants.com

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Table of Contents
             Assignment Overview................................................................... 1
             Executive Summary ...................................................................... 2
             Key Findings ................................................................................. 4
                Advantages.............................................................................. 4
                Disadvantages ......................................................................... 4
             Conclusion ................................................................................... 5
             1       Introduction........................................................................ 6
             1.1     Federal Utility Allowance Regulations................................. 6
             1.2     WSHFC Utility Allowance Policy ........................................ 7
             1.3     Overview of other State ECM Policies................................. 8
             1.4     Economic and Policy Benefits of the ECM ........................... 8
             1.5     The Functions of a Utility Calculator................................. 11
             2       Case Studies ...................................................................... 12
             2.1     Kentucky Housing Corporation ......................................... 12
             2.2     Florida Housing Finance Corporation................................ 13
             2.3     Ohio Housing Finance Agency .......................................... 14
             2.4     Texas Department of Housing and Community Affairs...... 14
             3       California Utility Allowance Calculator ............................ 15
             3.1     CUAC Program Background and Goals............................. 15
             3.2     How CUAC Works ............................................................ 15
             3.3     CUAC Process, Rules and Administration.......................... 16

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3.3.1    Selection Criteria for Energy Consulting Firms ............. 16
                   3.3.2    Monitoring Utility Tariffs............................................. 16
                   3.3.3    Owner Submission Requirements................................ 17
                   3.3.4    TCAC review .............................................................. 17
             3.4      Existing Buildings Policies ................................................. 17
             3.5      CUAC’s New Online Interface .......................................... 18
             3.6      Cost of Developing and Administering CUAC ................... 19
             4        Issues and Considerations Regarding Use of a Utility
                      Calculator in Washington State......................................... 20
             4.1      Appeal of the ECM Option to Owners............................... 20
                   4.1.1 Utility Cost Structure................................................... 21
                   4.1.2 PHA Estimates............................................................. 23
                   4.1.3 Units at Maximum Rents Allowed by Regulation......... 23
                   4.1.4 Alternative UA Estimate Options................................. 24
             4.2      Accuracy of Estimates ....................................................... 25
             4.3      Underwriting and Leverage............................................... 26
             4.4      Retrofit financing .............................................................. 26
             4.5      Developer, Investor and Lender Incentives and Barriers to
                      Participation ..................................................................... 26
             5        Administrative Issues......................................................... 28
             5.1      Selection of Energy Consultants ........................................ 28
             5.2      Costs of Developing and Administering a Utility Calculator
                      Program ............................................................................ 28
             6        Key Findings...................................................................... 30
             6.1      Advantages........................................................................ 30
                   6.1.1 Accurate Utility Tariffs .................................................. 31
                   6.1.2 Reliable Consumption Estimates ................................... 31
                   6.1.3 Transparency................................................................ 31
             6.2      Disadvantages ................................................................... 32

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6. 2.1 Front-end and Administrative Costs.............................. 32
                     6.2.2 Limited Benefits............................................................ 33
              6.3       Conclusion ........................................................................ 33
              7         Next Steps......................................................................... 34

           L I S T     O F    T A B L E S

              Table 1: Leveraging Potential of Monthly Utility Allowance
                    Reductions ........................................................................ 10
              Table 2: PHA Electric Monthly Utility Allowances for 1 Bedroom
                    Units in Multifamily Buildings, Among a Sample of PHAs in
                    California and Washington juristidctions .......................... 22
              Table 3: Estimated WSHFC LIHTC Units at Maximum Regulatory
                    Rents................................................................................. 24

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Assignment Overview
    The Washington State Housing Finance Commission (WSHFC) retained David Paul
    Rosen & Associates (DRA) to provide recommendations to assist WSHFC in
    advancing the following policy goals:

    !   Lowering energy and water consumption in affordable multifamily
        rental properties consistent with State law and the goals of the
        Washington Sustainable Energy Trust; and,

    !   Employing energy cost savings to help finance affordable multifamily
        housing in the form of increased leverage or cash flow.

    DRA examined methods for WSHFC to achieve these goals though the strategic use
    of its Low Income Housing Tax Credit (LIHTC) utility allowance authority. In
    2008, the Internal Revenue Service amended its utility allowance rules, giving state
    allocating agencies new flexibility in approving project-specific utility allowances.
    As a result, energy efficient (and water conserving) properties can qualify for
    substantially lower utility allowances. By lowering utility allowances, LIHTC
    owners are able to increase affordable rents, thereby increasing leverage, cash flow
    or both.

    In this report DRA reviews different approaches used by state allocating agencies to
    administer utility allowance options including the California Utility Allowance
    Calculator (CUAC). CUAC represents a national best practice approach to the
    administration of utility allowance policy.

    DRA recommends next steps regarding a utility calculator tool, based on its
    advantages and disadvantages, and its appropriateness for WSHFC.

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Executive Summary
    Recent amendments to Section 1.42-10 of the Internal Revenue Code give state
    allocating agencies new authority and greater flexibility over the determination of
    utility allowances (UA) at individual low income housing tax credit (LIHTC)
    projects. This authority equips LIHTC state allocating agencies with strategies and
    tools for promoting energy efficiency, renewable energy and water conservation in
    both new and existing LIHTC properties.

    Among the various new UA estimate options authorized under the revised
    regulations, the Energy Consumption Model (ECM) is perhaps the most promising
    in terms of advancing energy and water conservation in LIHTC projects. Under the
    ECM option, a building owner may calculate UAs based on consumption
    estimates. UA estimates can be established in advance of construction, renovation
    or retrofit activity, and in so doing become a tool for underwriting future utility cost
    savings arising from investments in conservation. These projected savings can be
    used to leverage all or a portion of additional financing necessary to pay for the
    investments. Alternatively, lower utility allowances can be used simply to stretch
    public funds with additional private financing, or they can be used to improve the
    financial conditions of properties through increased cash flows.

    The efficacy of the ECM option as a strategy for achieving these policy objectives
    depends upon the magnitude of UA reductions likely to be realized by using this
    option, and the extent to which UA reductions will enable LIHTC owners to
    increase rents. In this regard, the value of the ECM option hinges chiefly on four
    variables:

               1) Washington State utility costs and the potential economic payback
                  of energy efficiency investments;

               2) The amounts by which Public Housing Authority (PHA) UA
                  schedules overstate actual tenant utility burdens;

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3) The number of units within a project with rents at their maximum
              regulatory caps or market rate limit; and,

           4) The relative appeal of alternative UA calculation methods, in
              particular, the Actual Usage method.

By each of these measures, the ECM option is a viable and important alternative for
LIHTC owners. The value of the ECM option is particularly high when transactional
feasibility depends upon projected utility cost savings. This is true of retrofit
financing and of many other transactions, such as preservation investments, that
lack access to gap financing. To work as a financial leveraging strategy, ECM
administrative procedures and policies must be developed to ensure that
consumption projections are accurate and that the assumptions underlying these
projections are well understood by developers and their financing partners.

Based on DRA’s limited survey of the administrative practices of state allocating
agencies with regard to the ECM and utility allowance policy in general, it appears
that, to date, no consensus has emerged on protocols or best practices with regard
to producing accurate estimates under the ECM option. Neither does there appear
a concerted effort among allocating agencies to promote conservation through the
ECM option, with the exception of the California Utility Allowance Calculator
(CUAC) program, administered by the California Energy Commission (CEC) and the
California Tax Credit Allocation Committee (TCAC). No other state employs an
ECM administrative strategy that is as sophisticated as or conceptually similar to
CUAC.

WSHFC has expressed interest in the concept of a utility calculator and the
potential value of developing a similar tool for use in Washington. This report
concludes that a utility calculator developed in tandem with appropriate
administrative rules and procedures has the potential to significantly improve the
implementation of the ECM option and thereby promote greater investment in
energy and water conservation measures.

The benefits of a utility calculator become more pronounced the more WSHFC
seeks to promote policies and initiatives that leverage investment in affordable
housing by monetizing utility cost savings. In order to undertake such financing at
scale, WSHFC will need to collect and analyze data to serve as a foundation for
forecasting conservation performance and establishing and improving underwriting
guidelines. A utility calculator designed with this functionality will allow WSHFC
to assemble data in support of large-scale programs that monetize utility cost
savings.

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The costs of a utility calculator program require further study. As discussed herein,
       CEC may be willing to share its CUAC software with WSHFC at no cost,
       substantially reducing the front-end implementation costs. However, a utility
       calculator program is subject to risks and uncertainties as the benefits are not
       guaranteed.

       The final section of this report proposes a series of “next steps,” encompassing
       recommendations for further study to better understand and mitigate these risks
       and reduce the uncertainties.

Key Findings
       The Energy Consumption Model (ECM) method can have considerable value to
       owners, WSHFC, and local housing agencies. It can be a valuable tool to finance
       energy efficiency and renewable energy retrofits, reduce reliance on limited
       government resources for affordable housing, and improve financial feasibility of
       LIHTC transactions. It will also prove useful in “Year 15” LIHTC transactions. The
       ECM model is a valuable preservation tool for properties in strong rental markets
       where project rents are more likely to be at their regulatory caps.

       This report found principal advantages and disadvantages of using a utility
       calculator tool, similar to the CUAC, as an ECM administrative strategy.

Advantages

       Principal advantages of a utility calculator include:

          1. More accurate utility tariff information;

          2. More reliable energy consumption estimates; and,

          3. A more transparent and understandable process for computing utility
             allowance estimates, underwriting and financing energy efficiency and
             renewable energy retrofit costs.

Disadvantages

       The principal disadvantages of a utility calculator are related to cost and that the
       benefits of the ECM calculator options may not fully materialize.

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Costs include front-end development and ongoing maintenance/administration.

Conclusion
      The potential advantages of a utility calculator surpass the disadvantages.
      However, these advantages, or benefits, are not guaranteed. Much of this
      uncertainty can be attributed to the newness of the utility calculator model. If
      WSHFC chooses to implement a utility calculator program, it should design an
      approach which best meets State policy goals.

      This report suggests next steps for further exploration and development of a utility
      calculator model for Washington State.

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1   Introduction
1.1 Federal Utility Allowance Regulations
      26 C.F.R. 1.42-10 of the Internal Revenue Code regulates procedures for
      determining utility allowances (UA) on low income housing tax credit (LIHTC)
      projects. Until recently, owners of LIHTC properties that were not subject to rules
      for calculating UAs under rental assistance programs of the Farmers Home
      Administration and HUD, were limited to two options for establishing UAs: Public
      Housing Authority (PHA) UA schedules established for the Section 8 program or
      local utility company estimates. In July 2008, the Internal Revenue Service (IRS)
      amended Section 1.42-10 to permit three additional calculation options.

         1. Agency Estimate or Actual Usage. This option allows the owner to request
            a UA from the local agency (PHA) with jurisdiction over the LIHTC
            building. The regulations outline two approaches for establishing an agency
            estimate:

                a. Agencies may establish UAs based on estimates that are derived from
                   relevant data, including utility rates, property type, climate
                   conditions, and local taxes and fees.

                b. The agency may also use actual building usage data. Usage-based
                   UAs must be derived from 12 months of building consumption data.
                   Consumption data may be based on an appropriate sample of the
                   project’s units as determined by the local PHA.

         2. HUD Utility Schedule Model. The building owner may calculate UAs using
            the “HUD Utility Schedule Model,” which is based on data from the
            Department of Energy’s Residential Energy Consumption Survey (RECS).

         3. Energy Consumption Model (ECM). A building owner may calculate UAs
            using energy, water and sewage consumption estimates. The ECM must take

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into account factors including unit size, building orientation, design and
             materials, mechanical systems, appliances and characteristics of location
             (Modeling Factors). ECM estimates must be calculated by a properly
             licensed engineer or a qualified professional approved by the allocating
             agency.

1.2 WSHFC Utility Allowance Policy
      Appendix O of the Tax Credit Compliance Procedures Manual (CPM) describes
      WSHFC’s UA policies and procedures, which incorporate in full the options
      detailed in Section 1.42-10. The CPM notes that owners who use UA methods
      established under Section 1.42-10 before the 2008 amendment require minimal
      review, while options established by the 2008 amendment require higher levels of
      review by WSHFC to assure accuracy of the estimates.

      Under the Agency Estimate/Actual Usage option, the CPM provides owners with
      two choices: “Owner Estimate, Similar Buildings,” and “Owner Estimate, Actual
      Usage Data” (OEAU). While the CPM refers to these as “owner estimates,” the
      approval of these estimates are subject to the due diligence review of WSHFC staff,
      and accordingly must fulfill the IRS’ Agency Estimate standards.

      WSHFC also permits owners to use the HUD Utility Schedule Model. Under this
      option owners must document all model input factors, and WSHFC must approve
      the UA prior to implementation.

      According to the CPM, projects with less than one full year of operations after
      placement in service are excluded from using the OEAU and ECM methods of
      calculating UAs. However, WSHFC now grants exceptions to this policy, allowing
      owners to use ECM estimates when a project is placed in service. When the ECM
      is used at placement in service, owners must provide actual usage data after the
      project has achieved one full year of stabilized operations. In addition, all projects
      using the ECM, both new and existing, must provide actual usage data every four
      years. Owners must justify material variances between ECM estimates and actual
      usage data; otherwise WSHFC may require them to revise UAs to more closely
      align with actual usage results.

      Although not directly addressed in the CPM, WSHFC permits the use of ECM
      estimates during the underwriting phase of an LIHTC development; however, it
      was noted that owners typically prefer to use the more conservative PHA UAs for
      underwriting purposes. This strategy allows owners to capture cash flow if UAs are
      subsequently reduced using the ECM or other methods.

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1.3 Overview of other State ECM Policies
      This report examines strategies for implementing the ECM, with particular attention
      given to the California Utility Allowance Calculator (CUAC) program, a UA
      estimation tool developed by the California Energy Commission (CEC) and the
      California Tax Credit Allocation Committee (TCAC). DRA’s survey of other
      allocating agencies’ ECM policies uncovered a variety of administrative strategies
      and procedures, but none approach the level of sophistication or are conceptually
      similar to the CUAC program.

      The ECM option presents a unique challenge to LIHTC allocating agencies because
      it requires them to establish new due diligence and underwriting protocols where
      none previously existed. To date, no consensus has emerged on protocols or best
      practices. States hold divergent views on the merits of the ECM. Ohio and
      Michigan prohibit ECM-derived UAs. Actual usage options are prohibited in
      California and discouraged in Kentucky, largely because they believe the option to
      be more costly to the owner. Ohio and Texas staff, on the other hand, have
      concluded that the ECM method is likely to cost more than the actual usage
      options.

1.4 Economic and Policy Benefits of the ECM
      A utility calculator such as one based on the CUAC model is essentially a tool used
      to administer the ECM option. As such, an analysis of its merits must begin with an
      assessment of the potential value of the ECM option to LIHTC owners. The value
      of the ECM option hinges chiefly on four variables:

                 1) Washington State utility costs and the potential economic payback
                    of energy efficiency investments;

                 2) The extent to which PHA UA schedules overstate actual tenant
                    utility burden;

                 3) The number of units within a project with rents at their maximum
                    regulatory caps or market rate limit; and,

                 4) The extent to which alternative UA calculation methods, in
                    particular the Actual Usage method, represent competing and more
                    viable alternatives to the ECM.

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As discussed in Section 4.1, the evidence suggests that by each of these measures
the ECM option is a viable and important alternative for LIHTC owners.

The ECM can also advance certain public goals, including:

!   Increased investment in energy efficiency, renewable energy and
    water conservation resulting in reduced energy consumption;

!   Improved project cash flow and financial stability;

!   Increased leveraging of LIHTCs and other public funds with private
    loan funds;

!   Increased private financing to          support   affordable   housing
    preservation through retrofits; and,

!   Energy cost savings for market rate tenants (in mixed-income LIHTC
    developments) and for tenants in regulated units whose rents fall
    below their regulatory caps, or, alternatively “green lease”
    opportunities for such tenants, in which they share utility cost savings
    with their landlords.

For the most part, the goals enumerated above employ financial leverage. Table 1
illustrates the leverage potential of WSHFC’s LIHTC portfolio under monthly UA
reduction assumptions of $20, $30, $40, $50 and $60.

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Table 1: Leveraging Potential of Monthly Utility Allowance Reductions ($)
Monthly Utility
Allowance
Reduction                          20             30             40              50                60
Additional Monthly
Debt Service
Payment1                           17             25             33              42                50
                2
Loan Per Unit                   2,505          3,758          5,010          6,263           7,515
Annual Leverage
w/ 1,400 Units at
Maximum Rents2,3           3,507,177      5,260,765       7,014,353      8,767,941     10,521,530
Pre-2002 Portfolio
Leverage w/ 9,000
Units at Maximum
Rents2,4                  22,546,135     33,819,203     45,092,270      56,365,338     67,638,406
Source: WSHFC data files; DRA.
1
    Debt service payment amount is based on a 1.2 debt coverate ratio.
2
    All loan/leverage calculations based on interest rate of 7% and 30 year amortization period.
3
 !Assumes that 3500 new LIHTC units are approved annually, and that the rents on 1,400, or
40 percent, of these units are at their regulatory caps.
4
 Pre-2002 projects are selected to estimate near-term preservation and retrofit opportunities.
According to WSHFC data files, there are 28,060 pre-2002 units in its LIHTC portfolio. Based
on the AMI distribution of units approved over this time period, 9,000, or 32 percent, of unit
rents are estimated at their regulatory caps.

        This analysis looks at leverage on a per unit basis, in the context of WSHFC annual
        LIHTC unit production and with regard to WSHFC older, pre-2002 LIHTC
        portfolio. It may be unrealistic to expect average utility allowance reductions to
        exceed $30 on an annual or portfolio-wide basis. Thus, the larger leverage figures
        should be viewed cautiously. However, at a project level, $60 reductions may be
        attainable in certain cases.

        The leverage potential of UA savings is an important and largely untapped
        affordable housing investment resource.

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1.5 The Functions of a Utility Calculator
      The benefits of a utility calculator similar to CUAC as a tool for administering the
      ECM are more difficult to quantify and assess. Potential utility calculator benefits
      include:

       !   More reliable and transparent ECM calculations;

       !   Reduced owner compliance cost; and,

       !   Reduced WSHFC administrative costs.

      Given that both the ECM option and CUAC are new, as are the various other
      methods for implementing the ECM option, it is not possible at this point to make
      definitive conclusions about the relative advantages and disadvantages of CUAC.
      Nevertheless, the benefits of a utility calculator, while speculative, are potentially
      significant. A utility calculator administered in conjunction with thoughtfully
      designed and well-documented policies and procedures is likely to inspire greater
      confidence in ECM estimates among developers, lenders, LIHTC investors and
      tenants. This in turn should lead to more investment in energy efficiency,
      renewable energy and water conservation.

      DRA’s analysis evaluates merits of using a utility calculator tool similar to CUAC to
      administer the ECM option. DRA’s analysis includes a review of alternative ECM
      implementation procedures. We detail the CUAC software model itself, and the
      administrative and compliance procedures that TCAC and CEC developed in
      support of CUAC.

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2   Case Studies
      As noted above, DRA’s review of state allocating agency ECM policies and
      procedures did not uncover a clear consensus on best practices. In many
      instances, allocating agency written documentation regarding ECM policy mirrors
      the IRS’ regulatory language and, as such, perpetuates its ambiguities.

      In addition to TCAC/CEC, DRA interviewed four state allocating agencies: the
      Kentucky Housing Corporation (KHC), the Florida Housing Finance Corporation
      (FHFC), the Ohio Housing Finance Agency (OHFA) and the Texas Department of
      Housing and Community Affairs (TDHCA). In addition, DRA had email exchanges
      with the Minnesota Housing Finance Agency (MHFA). MHFA reported that it has
      yet to process an ECM request and that most owners continue to use PHA
      schedules. Accordingly, we did not interview MHFA. The National Council of
      State Housing Agencies referred DRA to: KHC, OHFA, TDHCA and MHFA.

2.1 Kentucky Housing Corporation
      The KHC interview was conducted with Michael Dant, Asset Analyst.

      Kentucky approved 28 ECM and 10 Actual Usage requests over the past year.
      Nearly all requests were from existing stabilized projects. KHC’s ECM procedures
      for existing projects require owners to use an approved engineering firm to conduct
      an analysis using a nationally recognized model and to simultaneously present
      actual consumption data on the project. KHC uses the actual data to verify the
      reliability of the ECM outputs. Generally, if ECM estimates are within 10 percent
      of the actual consumption amounts, KHC will approve the ECM energy
      consumption estimates. If the variance is more than 10 percent and the engineer
      believes that the ECM is more representative of a typical year, a detailed
      explanation must be provided for the variance. Once every 10 years owners must
      re-verify their ECM estimates with actual consumption information. Mr. Dant
      noted that a principal advantage of the ECM option over the agency estimate

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option is that actual consumption is verified only once every 10 years under KHC’s
      ECM policy, as opposed to every year under its Actual Usage rules.

      Relatively few projects have applied for ECM UA approval during the underwriting
      phase. Those that do so must provide actual consumption data from a similar
      property. They must then re-verify the model with actual consumption data from
      the completed project after it has maintained stabilized occupancy over
      12 consecutive months.

      In collecting actual consumption data on properties, KHC requires owners to
      supply information on 40-50 percent of the units for projects of 10 units or less and
      25% of the units for projects with 10 or more units. Sampling percentages must be
      applied to each bedroom type.

      KHC staff review and approve UA submissions. The review process includes a
      comparison of model estimates with actual usage data; verification that
      consumption data were based on appropriate unit sampling; confirmation that
      required tenant notification procedures were followed; and verification that the
      correct utility tariffs were used for the allowance calculations. Among the most
      common problems uncovered in this review process involve the use of incorrect
      tariffs, which was attributed to the complexity of utility tariffs.

      According to Mr. Dant, once ECM estimates have been approved, compliance
      issues are not materially different than compliance issues encountered under other
      UA options. For example, even if a re-verification analysis shows actual usage to
      be more than 10% over estimates and as a result of this KHC increases UAs, this
      would not be considered noncompliance.

2.2 Florida Housing Finance Corporation
      The FHFC interview was conducted with Robin Grantham, Compliance Monitoring
      Administrator, and Matt Jugeheimer.

      FHFC has approved seven ECM proposals to date, all of which were on existing
      projects. This year a few new projects have applied. FHFC’s principal method for
      assuring quality control is through the approval of engineering firms, selected by
      FHFC though an RFQ process. FHFC does not verify that correct utility rates were
      used.

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2.3 Ohio Housing Finance Agency
      The OHFA interview was conducted with Brian Carnahan, Director, Office of
      Program Compliance and Betsy Krieger.

      OHFA prohibits the use of the ECM option, but allows owners to use the Agency
      Estimate (AE) Actual Usage options. Until May 2011, however, the AE option
      could only be used on existing properties. OHFA reports that very few owners
      have chosen to use the AE option. Most continue to use PHA schedules, even
      though prior to the new regulations owners frequently complained the PHA UA
      estimates were too high. Low participation may in part be a reflection of lower
      natural gas prices and perceived administrative costs associated with actual usage
      data collection.

      OHFA’s AE policy requires owners to update usage and utility rate data annually.
      The unit sample size must be 40 percent of each unit type. If the project has fewer
      than 20 units, usage data must be provided on all units. For projects with 20 or
      more units, there are no specific procedures in place to prevent owners from
      “cherry-picking” their 40 percent by including units with the lowest levels of
      energy consumption. Owners may obtain utility records from utility companies or
      directly from tenants. OHFA has posted a form on their web site called Permission
      to Obtain Utility Records, which when signed by a tenant, authorizes the utility
      company to release the tenant’s utility records. It was noted that some utilities are
      more cooperative than others in supplying tenant records.

2.4 Texas Department of Housing and Community Affairs
      The TDHCA interview was conducted with Patricia Murphy, Chief of Compliance
      and Asset Oversight.

      TDHCA allows all UA calculation methods, but reports that, to date, it has
      received only one ECM request. It has processed a large number of actual usage
      requests. Actual usage data must be supplied by the utility providers, and it must
      be provided on all units for which data is available, but at a minimum five of each
      unit type or 20 percent of each unit type, whichever is greater.

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3   California Utility Allowance Calculator
      DRA conducted interviews with three individuals regarding the California Utility
      Allowance Calculator (CUAC): Adrian Ownby, Energy Commission Specialist at
      CEC; Ammer Singh, Compliance Program Manager at TCAC; and, Nehemiah
      Stone, Principal at Benningfield Group, an energy consulting firm. Mr. Ownby
      oversees the development and administration of CUAC. Mr. Stone consults on the
      development and administration of CUAC. He also provides CUAC training for
      energy consulting firms and TCAC staff.

3.1 CUAC Program Background and Goals
      The CEC developed CUAC with the assistance of TCAC to allow energy
      consultants to provide more accurate project-specific estimates of tenant-paid
      utility expenditures, taking into account a building’s energy and water utilization
      features, the presence, if any, of solar PV systems, and applicable utility tariffs.
      Owners that elect the ECM UA estimate option must use CUAC. TCAC, which first
      introduced CUAC in its 2009 funding cycle, has approved approximately
      30 CUAC ECM estimates to date. TCAC does not offer an agency estimate option
      for calculating UAs, and CUAC was not designed to support this option.

      The current version of CUAC (and the ECM option) may only be used for new
      construction and substantial rehabilitation projects, as the CUAC program contains
      as-built verification requirements. The CEC and TCAC plan to introduce guidelines
      for the use of CUAC on existing projects later this year.

3.2 How CUAC Works
      CUAC does not estimate energy consumption attributable to heating, cooling and
      water heating. Energy consultants must use third party software models approved
      by the CEC to develop these estimates. The energy consumption estimates (i.e. the
      “outputs”) generated by these third party models become CUAC inputs. CUAC

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does calculate energy use related to appliances, lighting and miscellaneous uses
        (factoring in the use of Energy Star appliances and energy efficient lighting). It also
        calculates water consumption based on a usage assumption of 65 gallons per
        person per day, and on the additional assumption that the number of unit
        occupants will be 1 person plus 1.5 times the number of bedrooms. Energy
        consultants may override the CUAC default water consumption estimate provided
        they have reliable data substantiating that tenants will use different amounts, and
        that they submit documentation to TCAC justifying their estimates.

        A key feature of CUAC is its tariff database which links consumption estimates,
        provided by energy consultants or through the CUAC model as described above,
        with local electric and natural gas tariffs. CUAC also provides a single propane
        rate, which is based on average statewide propane rates and adjusted on an annual
        basis. CEC has determined that, given the many water utilities in California, it is
        not practical to monitor water rates. Therefore, energy contractors must enter
        water rates into CUAC.

3.3 CUAC Process, Rules and Administration

3.3.1 Selection Criteria for Energy Consulting Firms

        TCAC requires that the signing consultant be California Association of Building
        Energy Consultants Certified Energy Plans Examiner (CEPE) qualified and either
        Home Energy Rating System (HERS) rater or a California licensed mechanical
        engineer or electrical engineer.

3.3.2 Monitoring Utility Tariffs

        CEC updates tariff rates quarterly. Annual weighted average rates are used for
        natural gas because of the volatility of natural gas prices. Electric rates are based
        on current tariffs levels. CEC estimates that the tariff update process takes about 40
        hours a quarter. Various factors contribute to complexity and time needed to
        accurately update tariffs. These include tiered pricing, local usage taxes and fees,
        and reduced rates available to low income tenants under California’s CARE
        program. The current version of CUAC is not equipped to handle local user utility
        taxes, which vary widely by jurisdiction and are assessed at both city and county
        levels. The new web-based version of CUAC has been designed to fix this
        shortcoming by using League of California Cities data.

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California does not have a central repository for utility rates. Current utility rate
       data must be collected by CEC staff by monitoring individual utility company
       websites. One disadvantage of this method is that utility companies do not always
       update rates on their web site concurrently with rate changes.

3.3.3 Owner Submission Requirements

       TCAC allows three types of CUAC estimates, each produced at different points in
       the life of a project. A stage 1, or draft, estimate may be produced at the time of
       the initial LIHTC application. TCAC can, at the request of the owner, use this draft
       UA to underwrite the project. The stage 2 estimate is mandatory and, must be
       submitted by the energy consultant to TCAC for review and approval at the
       placement in service. The stage 2 submission represents the project “as built,” as
       opposed to “as proposed” and, as such, is treated as the “locked-in-place” version
       of CUAC. Finally, an energy consultant must produce an annual CUAC estimate
       throughout the compliance period. This simply requires the energy consultant to
       rerun the calculator to update utility allowances to reflect current utility rates.

3.3.4 TCAC review

       TCAC staff review the stage 2 submission to verify that proper back-up
       documentation has been provided to substantiate the underlying assumptions (the
       inputs) of the energy consultant’s energy consumption model, and to confirm that
       the outputs of the consultant’s model match the energy consumption estimates
       entered into CUAC.

       The TCAC review has been designed to be brief, taking on average about two
       hours.

       If specific technical questions arise that TCAC staff are not qualified to address,
       questions are forwarded to CEC or an outside consultant retained by CUAC. TCAC
       staff attended a half-day training session that provided instruction on these review
       procedures.

3.4 Existing Buildings Policies
       As noted, TCAC does not currently allow owners to use CUAC on existing
       buildings. CEC and TCAC plan to introduce a new version of CUAC this summer.
       In their view, existing buildings present quality control challenges because energy

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efficiency measures can be difficult to verify if architectural and construction
      records are not available or if energy efficiency improvements were not verified
      during construction. CEC is currently drafting procedures for existing buildings to
      address these quality control risks.

      For existing buildings that are not undergoing an energy retrofit, these new
      procedures will require energy consultants to verify building energy features
      through approved sampling procedures. Where certain elements cannot be
      verified, the guidelines will require energy consultants to make conservative
      default assumptions based on the vintage of the building. Procedures for buildings
      undergoing energy retrofits are expected to be similar to current procedures for
      new construction/substantial rehabilitation projects.

3.5 CUAC’s New Online Interface
      The current version of CUAC runs locally on PCs, using Microsoft Access. Users
      must download utility tariff data files. Since CEC updates these data files quarterly,
      users must frequently download these files to assure UA estimates reflect current
      utility rates. CEC plans to introduce a new online web-based version of CUAC
      (CUAC v.2) this summer in which users will input building and consumption data
      through a web interface. The utility rate database will be housed on CEC’s server,
      assuring that estimates will always reflect the most current rates.

      CUAC v.2 will also be more accurate by having tier break points for up to five tiers
      in the database and by allowing more flexibility for creating special situation rates
      and tariffs. These result in more complexity at the front end, but, according to
      CEC, not appreciably more work to maintain the database as baseline and tier
      break points do not change frequently.

      CUAC v.2 will continue to have energy analysts input the water rates. However,
      data entry options will become more flexible by allowing for tiered water rates.

      CUAC v.2 will include two types of accounts, each providing a different level of
      user access. General users will have open access accounts through which they
      will be able to produce draft utility allowance estimates. General users might
      include developers or architects who want to produce draft calculations to test
      hypothetical assumptions. Only users with “Active” restricted access will be able
      to produce final/official utility allowance estimates. Active account holders must
      be authorized by CEC, and must at a minimum be a CEPE, who is also either a
      HERS rater or a licensed California mechanical or electrical engineer. CEC
      designed the dual account system to promote interest and transparency among

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non-energy consultants while at the same time allowing more control over who
      produces the final estimate. CEC noted, for example, that through the online
      version of CUAC they will be able to suspend or decertify Active users for cause.

3.6 Cost of Developing and Administering CUAC
      CEC estimates that the third party costs of developing the new web-based version
      of CUAC will be approximately $150,000. Both Mr. Ownby and Mr. Stone
      indicated that the CUAC v.2 software could be easily adapted for use in other
      states. Moreover, CEC owns the software, and according to CEC staff, there are no
      licensing restrictions that would prevent CEC from sharing the software with other
      jurisdictions. This could substantially lower the front-end cost of implementing a
      similar program in Washington. Principal administrative costs include one full-
      time staff person at CEC and an outside energy consultant available (but to date
      rarely used) to assist TCAC staff with technical issues they are unqualified to
      address.

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4   Issues and Considerations Regarding Use of a
    Utility Calculator in Washington State
      A utility calculator is a tool for implementing and administering the ECM UA
      option. WSHFC should consider developing a utility calculator if it wants to
      promote the ECM option for public policy reasons, and if owners will want to use
      this option for transactional reasons. Thus, evaluating a utility calculator as a tool
      is in part an assessment of the specific merits of the ECM option, and in part an
      evaluation of the potential efficacy of a utility calculator compared to other
      methods of implementing and administering the ECM option.

4.1 Appeal of the ECM Option to Owners
      Section 1.4 notes that for owners, the economic value of the ECM hinges on four
      principal variables:

         1. Washington State utility costs and the potential economic payback of
            energy efficiency investments;

         2. The amounts which PHA UA schedules overstate actual tenant utility
            burdens;

         3. The number of units within a project with rents at their maximum regulatory
            levels and with respect to which owners could increase rents if utility
            allowances fall; and,

         4. The relative appeal of alternative UA calculation methods; in particular, the
            Actual Usage method.

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4.1.1 Utility Cost Structure

        Utility cost structure is an important factor in weighing the benefits of energy
        efficiency investments and using the ECM option. It is also highly relevant to
        WSHFC’s decision about whether or not to invest in a utility calculator. In this
        regard, it is instructive to compare Washington and California utility costs. The
        comparison is important because if tenant utility burdens are significantly higher in
        California, then it is reasonable to argue that California has more compelling
        economic reasons to invest in a utility calculator tool.

        DRA’s comparison of tenant utility costs in California and Washington suggest
        tenants in the two states experience similar utility burdens. While there are
        significant differences in utility tariff structures between Washington and California,
        there is no strong evidence to suggest that this translates into material differences in
        monthly household utility costs. For example, in 2009 the average residential
        retail price for electricity (cents per kilowatt-hour) was 13.81 in California and
        7.54 in Washington, yet average monthly electric bills in the two states were nearly
        identical: $81.10 in California (where average monthly residential consumption
        was 587 kwh) and $81.79 in Washington (where average monthly residential
        consumption was 1,086 kwh). In addition, Washington State’s natural gas tariffs are
        substantially higher than California’s, which in 2009 were $13.95 and $9.43 per
        thousand cubic feet respectively.

        Finally, in a limited sample review of PHA utility allowance schedules, DRA found
        that low income rental households in the two states share relatively similar utility
        burdens. This can be seen in Table 2 which compares electric and water utility
        allowances published by a small sample of PHAs in both states.

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Table 2: PHA Electric Monthly Utility Allowances ($) for 1 Bedroom Units in Multifamily
     Buildings, Among a Sample of PHAs in California and Washington jurisdictions
Utility Category                            PHA Monthly Utility Allowance ($)
                         Oakland        Sacramento          Spokane       Pierce County         Seattle
                           CA               CA                WA               WA                WA
Electric Cooking              5               12                 5                5                 3
Electric Heating             12               12                18                23               23
Electric Hot
Water                        12               15                17                8                 6
Standard Electric            20               24                19                17                9
AC                            0                8                 0                0                 1
Electric Service
Charge                        0                7                 0                0                 3
Water/Sewer                  57               49                81                44               59
               Total        106               127              140                97              104
Sources: Oakland Housing Authority (2010), Sacramento Housing and Redevelopment
Agency (2010), Spokane Housing Authority (2011), Pierce County Housing Authority (2010),
Seattle Housing Authority (2009); DRA.

     The variance between the two states may be less than expected because of climate,
     and because tiered pricing in California may shift a disproportionate share of the
     state’s overall utility cost burden to single-family homeowners.

     DRA was not able to find comparative water/sewer tariff and household
     expenditure data. However, as shown in Table 2, using PHA utility allowance
     schedules as a proxy measure for residential water/sewer expenditures, it is clear
     that major population centers in both states experience comparable residential
     water/sewer cost burdens. More importantly, water represents the highest cost
     utility allowance category. According to WSHFC, increasing water rates throughout
     the state of Washington are driving many LIHTC owners to individually meter
     water, through both retrofits of existing projects and in the design of new
     properties. Thus, while individually metered water systems may be relatively
     uncommon now, they will likely become increasingly common in the future.1

     1
      Individual metering of water may present unique and challenging fairness issues regarding leaks. What
     happens when tenants pay for water, but landlords are responsible for fixing leaks?

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The discussion above suggests that Washington and California are likely to
       experience similar reductions in UAs by using ECM option, and that California is
       not uniquely positioned by virtue of its utility rate structure to benefit from the ECM
       option or a utility calculator.

4.1.2 PHA Estimates

       According to data from WSHFC, there were significant UA reductions on all
       14 LIHTC projects that received UA adjustments under the Actual Usage or ECM
       methods, with median reductions at the project level for studios, 1br, 2br, 3br and
       4br apartments of 25 percent ($13 per month), 28 percent ($15 per month),
       32 percent ($25 per month), 37 percent ($31 per month) and 42 percent ($59 per
       month) respectively. Overall, utility allowance reductions ranged from $2 to $62
       per month.

       The UA reductions of the magnitude shown above are large enough in absolute
       dollar terms to earn the attention of owners. Of course, these above 14 projects
       are a self-selected group, with something to gain by switching to one of the new
       UA calculation methods. Determining whether this group is representative of
       WSHFC’s LIHTC portfolio would require additional research.

4.1.3 Units at Maximum Rents Allowed by Regulation

       WSHFC does not collect data on the number of LIHTC units with rents at the
       maximum levels allowed by regulation. However, it is possible to estimate this
       number by looking at the AMI set-aside distribution among the units comprising
       WSHFC’s LIHTC portfolio. This analysis appears in Table 3.

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Table 3: Estimated WSHFC LIHTC Units at Maximum Regulatory Rents
                                                    Area Median Income Set-Aside (%)
      WSHFC LIHTC Portfolio              30%     35%    40%      45%       50%      60%      Total
                1
  Total Units                            4,673   937    3,662    1,648     12,005   30,614   53,629
                           1
  Portfolio Distribution                  9%     2%       7%      3%        22%      57%     100%
                                   2
  Estimated Annual Distribution           311     61     239      108       783     1,998    3,500
  Estimated % of Units at                100%    100%   100%      90%       60%      15%
  Regulatory Caps
  Estimated Units Approved                311     61     239          97    470      300     1,478
  Annually at Regulatory Caps
  Source: WSHFC data files; DRA.
  1
   Distribution by AMI of units subject to LIHTC regulatory agreement and awarded credits between
  1987 and 2009.
  2
   Estmated annual AMI distribution based on the assumption of 3,500 new LIHTC units annually,
  based on the historic Portfolio Distribution.
  3
  Estimate of units at their regulatory caps at each AMI set-aside.

         Table 3 assumes that WSHFC approves on average approximately 3,500 new
         LIHTC units per year, and that new units are distributed by AMI set-aside in
         accordance with the Portfolio Distribution. DRA’s estimate of the percentage of
         units at their regulatory caps is based on the assumption that rent increases on the
         lower AMI units are constrained by regulation rather than market. Rent increases
         at the higher AMI set-asides are limited by market conditions, leading to rents that
         are typically lower than their regulatory caps. Based on the assumptions in Table
         3, the number of LIHTC units approved each year at their regulatory caps will be
         approximately 1,478, or 42 percent of total units. While approximations, these
         figures clearly suggest that rents could increase on a significant portion of the units
         in WSHFC LIHTC portfolio if UAs decline.

4.1.4 Alternative UA Estimate Options

         The Actual Usage and ECM options represent competing approaches to reducing
         utility allowances on energy efficient properties, but in many circumstances actual
         usage options are not realistic. This is most clearly true of new projects and of

           LIHTC Utility Calculator Policy Analysis                                     June 17, 2011
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existing projects that want to finance energy retrofits with projected energy cost
      savings.

      Another important consideration for owners is that the Actual Usage and ECM
      options have different costs.

      The ECM option requires a front end expenditure of approximately $5,000 to
      $7,000. In addition, under WSHFC policy the owner must provide actual usage
      data on a portion of the project’s units after it has achieved twelve months of
      stabilized occupancy (if it is a new project). Thereafter, it must provide similar
      actual usage data every four years.

      Under the Actual Usage option, owners are required to supply actual usage data
      annually on all units, but they incur little or no front-end costs. The cost of
      securing actual usage data can vary, depending on whether the owners can secure
      usage data from the local utility or if they must obtain utility bills from tenants. We
      understand that utility companies are frequently uncooperative, forcing many
      owners to obtain utility information directly from tenants. This would likely
      increase the annual cost to owners of providing actual usage data. Our discussions
      with state allocating agency officials suggest that both owners and state agency
      staff are divided in their beliefs about which approach is most cost-effective, and
      that state policies and procedures are an important factor in determining which
      approach is more costly.

      Based upon the four variables identified at the beginning of Section 4.1, the ECM
      option should have considerable value to many LIHTC owners. This conclusion,
      however, should be accepted with one caveat: the scope of this study did not
      allow DRA to fully investigate the extent to which Washington State PHAs
      overestimate tenant utility burden.

4.2 Accuracy of Estimates
      Since WSHFC requires usage data on 100 percent of the units under its actual
      usage option, this approach would appear to yield more accurate estimates
      compared to ECM. However, this practice has a notable shortcoming in that it
      subjects utility allowance estimates to variations in tenant utility usage behavior as
      opposed to using an objective standard that is based on the consumption habits of
      a reasonably conservative/conscientious tenant. Given WSHFC’s policy of
      requiring users of the ECM method to “reality test” their estimates every four years,
      the ECM option would appear to yield comparable levels of accuracy while

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mitigating much of the risk associated with tenant behavior; Kentucky requires
      owners to collect actual usage data every ten years.

4.3 Underwriting and Leverage
      The ECM is a mechanism that should allow developers to incorporate energy
      efficiency and renewable energy improvements into the assumptions of their
      development pro formas. Where utilities are paid by the tenants, this assumption
      will be reflected as higher rents on those units where rents are capped at their
      regulatory limits, but that are otherwise below market. This creates the potential
      for increased private financing and reduced dependency on scarce public
      subsidies. According to WSHFC and other state housing officials, developers are
      reluctant to use ECM UA estimates in their development pro formas. Allocating
      agencies do not appear to require or encourage underwriting based on ECM
      estimates. Developers will not always have access to soft debt, or they may
      encounter feasibility issues even with maximum LIHTC allocations. As discussed
      in Section 4.5, under such circumstances developers have a strong incentive to use
      ECM estimates in their development pro formas.

4.4 Retrofit financing
      Financing for EERE retrofits on existing properties presents possibly the most useful
      application of the ECM method, as a key feature of most retrofit financing strategies
      is their reliance on the monetization of projected utility cost savings to finance
      retrofit costs.

4.5 Developer, Investor and Lender Incentives and Barriers to
    Participation
      Developers will on occasion, often out of necessity, want to use ECM estimates in
      their development pro formas. Developers might, for instance, use ECM estimates
      to erase funding gaps or to demonstrate higher debt coverage potential.
      Understandably, there appears to be a strong preference among developers, and to
      some extent among state agency staff, to use more conservative PHA utility
      allowances for underwriting purposes, and to switch to the ECM or actual usage
      methods after financing has closed. In such instances, the project’s owners, both
      general and limited partners, are likely to be the principal if not sole beneficiaries
      of the increased cash flow arising from utility allowance reductions. The
      magnitude of this cash flow boost can be large or small, depending on the specifics
      of a project. In most instances the potential for increased cash flow on any given

       LIHTC Utility Calculator Policy Analysis                               June 17, 2011
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project can be anticipated up front and may, depending on this upside potential,
warrant special underwriting attention. For example, projects that have high UAs
and a large portion of unit rents at their regulatory limits may experience a
substantial boost in cash flow.

Many developers, lenders (private and public), and investors believe that it is risky
to underwrite ECM estimates, as use of the ECM at this stage gives rise to cash flow
and compliance risks. However, compliance risk may be more a matter of
perception than reality. State allocating agencies must approve ECM estimates
before an owner can implement them. An ECM estimate approved during the
underwriting phase is provisional in places like Washington State, where UAs are
subject to adjustment pending the review of actual usage data. If actual usage data
show the provisional estimates to be materially inaccurate, these facts alone would
not, according to officials we spoke with, constitute noncompliance. In this
respect, compliance risk does not appear to be significantly greater under the ECM
option.

However, there is the risk that state compliance officials will require owners to
increase project UAs going forward based on the results of a post-stabilization
actual usage analysis. Such an occurrence could significantly reduce project cash
flow. In two of the states we spoke with, California and Florida, even this risk
would appear to be relatively small because neither of these states require ECM
users to collect actual usage data at any point in their compliance period. In these
states the risk of flawed estimates falls more directly on the tenants, where they
also assume more of the burden of proving that the estimates are flawed.
Importantly, California’s procedures appear to be far more robust in the area of
agency-level review of ECM estimates, and CUAC is an essential component of this
review.

Where the underestimation of UAs is a concern, equity holdbacks or reserves
could be used to mitigate this risk. For example, short term reserves could be
released to pay developer fee or pay down gap financing if, after the review of
actual usage data, WSHFC approves UAs as originally estimated under the ECM.
These reserves could be sized based on the discounted present value of the
difference between the PHA UA estimate and the ECM estimates.

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