The green deal: legal and commercial issues

This month is expected to see the launch of the coalition’s flagship energy efficiency policy: the Green Deal.

The Green Deal is a policy introduced by the Energy Act 2011 (the 2011 Act) to help fund energy efficiency improvements to existing buildings. The policy has the potential to boost the market for energy efficiency and micro-generation and involve companies and organisations of all sizes, from multinational banks and major retailers to small and medium-sized enterprises (SMEs).  

On the introduction of the 2011 Act, we wrote about the basic mechanics of the Green Deal and some of the initial key concerns and questions to come out of the developing policy the (The In-House Lawyer 196, December 2011/January 2012). The 2011 Act was followed by a wide-ranging consultation in November last year (the consultation) which elicited over 600 responses¹. After a significant pause in the policy-generating process, the department for Energy and Climate Change (DECC) published its response in June 2012 (the response) and began to pass the statutory instruments required to fill in the legislative detail². The registers for Green Deal providers, assessors and installers opened on 8 August 2012, allowing organisations to apply to take part and earn the right to use the all-important Green Deal Quality Mark to demonstrate they comply with the required Green Deal standards. The first Green Deals are now expected to be signed in 2013.

At the time of writing, DECC has committed to making public the Green Deal registers on 1 October 2012 to enable domestic energy bill payers to start the process for signing up to Green Deals³. As DECC prepares to deliver its policy to the market, we look in detail at the workings of a Green Deal and at some of the concerns of industry and the outstanding commercial and policy questions. Burges Salmon has played and continues to play a significant role in the development of the Green Deal policy and has been working with organisations at all levels to advise them on how they can participate.

HOW WILL A ‘GREEN DEAL’ WORK?

By entering a Green Deal, domestic and business energy bill payers will be able  to obtain finance to pay the upfront  costs for certain energy efficiency and small-scale generating measures. Bill  payers will then repay the costs through  a charge on their energy bills. The  charging process has been achieved through modifications to the Standard Conditions of Electricity Distribution Licences.

DECC has now finalised the list of 45 qualifying ‘improvements’, which are set out in the Green Deal (Qualifying Energy Improvements) Order 2012⁴ and the Green Deal (Energy Efficiency Improvements) Order 2012⁵. The diverse list includes efficiency improvements from cavity wall insulation and draught proofing to generating improvements such as ground source heat pumps and micro wind generation. Community-focused measures, such as district heating, have not been included.

A Green Deal will only be available where an improvement fulfils the golden rule: over the course of its life the savings made through the improvement (based on likely energy prices for the first year) must always be equal to or exceed the cost of the improvement. Where the golden rule is not fulfilled, domestic and non-domestic bill payers will be able to part-pay the upfront capital costs themselves to ‘top-up’ their Green Deals. In addition, domestic bill payers may be able to use funding from the new Energy Company Obligation (ECO), which will replace existing energy supplier obligations to reduce carbon emissions (the Carbon Emissions Reduction Target (CERT) and Community Energy Saving Programme (CESP)), to make up any shortfall in the golden rule equation. This means that lower income and vulnerable households should still be able to participate in the Green Deal where they might otherwise have been unable to do so.

The starting point for obtaining a Green Deal is a property assessment by a Green Deal assessor, who has been added to the register through one of the accredited certification bodies. DECC has decided that the assessor will use a revised Reduced data Standard Assessment Procedure or RdSAP methodology (for domestic properties) or the Simplified Building Energy Model or SBEM methodology (for non-domestic properties), already used in connection with Building Regulations and the generation of Energy Performance Certificates (EPC), to assess the impact on the building itself. The assessor will also undertake an occupancy assessment to assess actual energy use within the building.

The assessor provides a Green Deal advice report, which will recommend whether or not an improvement fulfils the golden rule. Once the bill payer has their Green Deal advice report they can approach a Green Deal provider (GDP) for the finance. The GDP will put together a Green Deal plan which will set out the improvements and the offer of finance. DECC has stated that it will not provide any guarantees to bill payers that the charges will be fully offset by the savings through the Green Deal but has left it open to GDPs to offer assurances should they choose. It will be a requirement for bill payers to obtain quotes from three different GDPs where the finance offered is in excess of £10,000.

In April 2012, a number of household names, including Kingfisher, British Gas and Carillion, signed a memorandum of understanding to register their interest in becoming GDPs. GDPs will be able to access low-cost finance packages through The Green Deal Finance Company (TGDFC), a not-for-profit organisation that will use funding from the government, including a £7m loan promised in August, local authority loans and the bond market. The intention is that TGDFC will act as a national aggregator, reducing rates of interest from retail levels of around 10% to 15% to around 6%. For domestic Green Deals, DECC has decided that GDPs will only be able to offer fixed interest rate plans, with the option of increasing the entire charge by 2% per year in line with the Bank of England’s inflation target.

After the Green Deal is signed, the improvements are installed by accredited installers and a new EPC is created for the building. The bill payer’s energy supplier will then recover the payments by including a separate item on its energy bills and pass the payments to the GDP.

One of the key principals of the Green Deal is that the obligation to pay for the improvements passes to the next bill payer on a sale or new lease of the property. Once someone has agreed to take on a property with a Green Deal, the person who is selling or letting that property will need to obtain an acknowledgment in writing that the person taking on the property is aware of the Green Deal and the terms of the plan, particularly the responsibility to pay the Green Deal charges. The rules on information, which must be disclosed at the point of viewing a property or making enquiries, and the form of acknowledgement that must be obtained are set out in the Green Deal (Disclosure) Regulations 20126 and the Green Deal (Acknowledgement) Regulations 2012⁷.

OUTSTANDING COMMERCIAL QUESTIONS

In theory, the Green Deal should benefit a wide spectrum: companies and organisations of all sizes can get involved as assessors, installers, providers or financiers; the energy bill payer will be paying less overall for their energy and the UK will reduce its energy consumption to help meet its 2020 carbon reduction targets. However, there are a number of outstanding policy questions remaining which will require answers in order to give the Green Deal the best chance of success in practice.

Market creation

One of the key concerns of industry is that that the government is working to deliver a policy and simply expecting there to be a market. The Green Deal is not necessarily an ‘easy sell’ as bill payers may not make significant savings until, or unless, the price of energy rises. A further complicating factor is that DECC and industry need to sell the Green Deal concept not just to current bill payers but to bill payers who may buy Green Deal properties later on. In addition, a one-size-fits-all marketing strategy and incentive package are unlikely to be appropriate for commercial and social housing bill payers as well as domestic bill payers. At the time of writing, DECC has yet to publish a marketing approach or plan but has indicated that it is in the process of tendering for marketing services.

Incentives

The Treasury announced in the Autumn Statement last year that £200m would be made available to encourage early uptake of the Green Deal and the response confirmed that cash incentives of up to £150 or 5% of the total Green Deal package would be one of the ways that the fund would be spent. The policy development to date suggests that DECC views the initial years of the Green Deal as requiring a burst of marketing investment but that in later years, as energy prices rise, the benefits of the Green Deal will become more self-evident and fewer incentives will be required. A problem with this assumption, however, is that bill payers will be concerned to ensure that their property remains attractive to potential future buyers. Providing all the incentives at the point of entering a Green Deal may be at odds with the longevity of the charges. Some longer term incentives, such as payment holidays and stamp duty rebates are being considered by DECC.

Drivers

Alongside ‘carrots’, the Green Deal policy includes ‘sticks’ to encourage bill payers to enter Green Deals. The Act requires the secretary of state to make regulations to prevent landlords (both in the domestic and commercial sectors) from 1 April 2018 from being able to rent out a property that has a low rating on its EPC. The detail of this will be fleshed out in secondary legislation but currently it is suggested that it will apply to properties with an EPC rating below an ‘E’. In addition, the Act requires the secretary of state to introduce tenants’ energy efficiency improvements regulations by 1 April 2016 to ensure that domestic sector landlords cannot unreasonably refuse a request from their tenants for consent to making Green Deal improvements. These powers have caused concerns among many landlords.

Consumer credit legislation

The Office of Fair Trading (OFT) considers that the Green Deal is a form of unsecured loan that sits with the individual bill payer but is tied to the property. GDPs will need to obtain a consumer credit business licence through the OFT, in addition to obtaining authorisation in relation to the Green Deal. However, the Green Deal is a new and novel lending arrangement that does not necessarily fit well within the existing consumer credit legislation. This means that GDPs and TGDFC will need to work together to ensure that the preparation of GDPs and the finance offers comply with the Consumer Credit Act (CCA) 1974. In particular, GDPs will be required to provide adequate pre-contract explanations to the bill payer, disclose information about the status of the lender and any relevant third-party arrangements including charges, make an affordability assessment of the finance offer for the bill payer and comply with the form of advertisements for credit requirements. It has been suggested that GDPs would need to repeat the consumer protection obligations, such as the affordability assessment, on future purchasers and tenants of Green Deal properties. A statement on the interaction of the Green Deal with the consumer credit legislation is expected from DECC before the first deals can be signed.

Green Deal assessments

One outstanding question relates to the role of future energy price rises. In the consultation, DECC indicated that it expects gas and electricity prices to rise by 52% and 70%, respectively, between 2011 and 2020. However, when assessing whether an improvement is golden rule compliant, assessors must base their calculation on the first year’s energy prices, rather than an estimation of the future rise in energy prices. DECC explained that this decision was taken to ensure customer confidence and avoid uncertainty. A number of the responses to the consultation, however, expressed concern that this would unduly restrict the number of Green Deals that would meet the golden rule. Even if energy price rises cannot be used within the golden rule equation, clearly savings from anticipated energy price rises could be an important means of selling Green Deals to bill payers. However, there is currently no DECC guidance on how to illustrate price rises accurately to consumers.

Another concern relates to the obligation for GDPs to accept Green Deal advice reports provided by any accredited assessor. Although it is anticipated that many assessors will be connected to GDPs, stakeholders have expressed concerns about this obligation, and the likelihood that GDPs will end up duplicating the work carried out by independent assessors when preparing their Green Deal plans. This is likely to be compounded by the fact that GDPs, but not assessors, will need to meet CCA 1974 obligations.

Improvement guarantees

According to the response, DECC will  require GDPs to offer a guarantee in  respect of improvements for a minimum period of five years and an extended ten year guarantee to cover any consequential building damage sustained as a result of the measures being installed. For solid wall insulation and cavity wall insulation, the requirement will be increased, so that GDPs must offer guarantees for both the improvements and consequential building damage for 25 years. Concerns have been raised that this is longer than the industry standard, particularly in relation to consequential damage. The insurance market may be able to respond with suitable products but the price of the premium could be high to reflect the guarantee period. This cost will need to be factored into the golden rule equation and  it is unclear what the impact of this will be in terms of viability for certain improvements.

Social housing

The social housing sector sees itself as ideally placed to deliver Green Deals because of the scale and grouping of its housing stock. However, it also considers that the sector has probably already taken much of the ‘low-hanging fruit’ through other energy efficiency improvement programmes. One of the sector’s suggestions to DECC has been that social landlords, which are already heavily regulated, should not have to go through the full process of obtaining approval from the Green Deal oversight and registration body, Gemserv. DECC has said that it may consider a relaxation in the future.

Engaging SMEs

Although SMEs will have an opportunity to participate as assessors and installers, a number of barriers have been identified which are likely to limit their ability to participate as GDPs. Two such barriers are the costs of obtaining a consumer credit business licence and the difficulties of obtaining the ECO funding likely to be crucial to making many Green Deals work. One option for SMEs would be to participate through trade associations or other consortia to share the burdens. A consortium able to provide assessments, Green Deal plans and install improvements might be able to minimise its costs and therefore offer more Green Deals.

CONCLUSION

The Green Deal has the potential to provide opportunities for organisations at all levels to participate in delivering the policy and to help the UK towards achieving its ambitious 2020 carbon reduction targets through retrofitting its existing housing stock. However, it is clear that despite the imminent launch of the Green Deal, there are still some key policy details which are missing. These issues have to be resolved if the Green Deal policy is going to succeed.