On-bill lending is a method of financing energy efficiency improvements that uses the utility bill as the repayment vehicle. This method is sometimes also applied to distributed clean energy implementation. On-bill lending has been in use for more than 30 years as a means to increase the uptake in clean energy improvements. As of 2014, almost $2 billion has been lent out in 25 states, of which nearly 60% went toward residential financing (SEEAction 2014). Of the total on-bill lending, 90% of the total dollar and project volume came from five programs: Tennessee Valley Authority, Manitoba Hydro, Alliant Energy, United Illuminating, and National Grid (SEEAction 2014).
According to a recent study from Lawrence Berkeley National Lab, $179 million of on-bill lending occurred in 2014, consisting of $103 million in lending to the commercial, industrial, and public sectors, and $76 million to the residential sector. Most of the lending ($114 million) came from the utility sector, with another $54 million from the private sector and $10 million designated as hybrid—that is, scenarios such as warehousing or securitization, where public funds were initially used to capitalize a lending program, with the eventual goal of turning over the resulting portfolio to private investors. Finally, $0.3 million of the on-bill lending total came from the public sector. In all, nearly 21,000 projects were facilitated in 2014 using this financing approach. However, recent years have seen little growth in on-bill. From 2012 to 2014, for example, annual dollar volume for on-bill increased only 4%, compared to 44% for other utility loan programs (LBNL 2016).
On-bill programs have many variations. The definitions we use here are generalities intended to convey the capabilities of a range of programs. There may be exceptions to these definitions, and some of the methods may be uncommon in actual practice.
There are three main types of on-bill programs.
On-bill financing (OBF). The utility is the lender in an OBF program. Ratepayer funds collected for energy efficiency programs are the most common funding source, but utility shareholder funds can also be used. In some contexts, on-bill financing has become an umbrella term for any financing program that includes charges on a utility bill, including on-bill repayment and tariffed on-bill. However, for our purposes here, on-bill is used as the umbrella term, while on-bill financing (or OBF) is restricted to programs in which the utility is the lender.
On-bill repayment (OBR). In OBR, the capital provider is a third party, and the utility operates as a repayment conduit for that third-party capital provider. A utility may opt to use its own funds to offer administrative support or credit enhancements.
Tariffed on-bill (TOB). In a TOB program, efficiency upgrades are financed not through a loan, but rather through a utility offer that pays for upgrades under the terms of a new, additional tariff. This tariff includes a cost recovery charge on the bill that is less than the estimated savings. The on-bill charge is associated with the meter at the address of the property or facility where upgrades are installed, and the cost recovery charge is treated as equal to other utility charges on the bill.
Other useful definitions include the following.
Alternative underwriting standards. These standards use measures of creditworthiness—such as the history of utility bill repayment—as an alternative to actual credit scores (e.g., FICO).
Disconnection for nonpayment. The utility’s ability to shut off service in the event of nonpayment.
Off balance sheet. This describes payment obligations that are recorded only as current expenses on a company’s income statement after each payment is made, rather than being recorded on the company’s balance sheet as part of a cumulative liability for all future payments over a full debt term.
Partial payment. This refers to situations in which only part of the utility bill is paid, or the utility bill’s energy use component is paid but the financing portion is not.
Transferability. Once a property sells or leases, the on-bill obligation remains associated with that property’s meter and transfers to the new owner or tenant.
Types of On-Bill Programs
In OBF and OBR loan programs, a loan is made to an individual customer who owns the property. These liabilities are generally nontransferable and must be paid off by the original borrower regardless of whether they remain at the location long enough to realize savings greater than the debt.
In both programs, disconnection rules for nonpayment are based on the discretion of the utility and/or its regulator (e.g., a public utilities commission or similar authority). For a full list of disconnection policies see the Low-Income Home Energy Assistance Program’s database. Loan programs can be designed for either OBF or OBR, and renters are typically disqualified from both. The funding source is the primary difference between OBF and OBR, but it is not the only differentiating factor, as we now describe.
OBF is more commonly used than OBR, possibly because it does not require outside partnerships or agreements. Furthermore, some OBF programs were initiated in the late 1970s and early 1980s, when the interest rate environment made sourcing private capital expensive (SEEAction 2014). The benefits of OBF include the fact that utilities can run the programs entirely in-house and no cost is associated with negotiating terms or recruiting third-party capital providers.
OBR leverages private capital; this can benefit utilities that either do not wish to loan out their own funds to support an on-bill program or do not wish to use ratepayer or public funds for this purpose. OBF funding is limited by what the utility or commission is willing to allocate to financing; in contrast, OBR can make more funding available through financial institutions.
OBR can have multiple types of structures, but three receive the greatest attention (SEEAction 2014). In the first model, initial lending is funded by the utility and the resulting customer revenue streams are sold to third-party capital providers (resembling securitization). In the second model, third-party capital is secured upfront (via a bond sale or other financing agreement) prior to the lending process; so, unlike the first model, utility funds are not used for initial capitalization here. The third model is open market: the utility acts as a matchmaker between third-party capital providers and customers, but does not pool or warehouse any financial agreements.
OBR’s primary funding source is third-party capital—that is, capital provided by non-utility, qualified lenders, such as banks, community development financial institutions (CDFIs), or private investors. This capital typically does not include other taxpayer-sourced funding; for example, a program capitalized with Regional Greenhouse Gas Initiative proceeds would be considered OBF, rather than OBR.
Utilities can help support OBR programs with their own funding by funding staff time or providing credit enhancements. These credit enhancements—such as interest rate buy downs or loan loss reserves—make lending more attractive to third-party capital providers, which may result in better lending terms for customers. The largest OBR program, a $500 million program run by the Tennessee Valley Authority, offers a loan guarantee.
TOB programs use both public and private capital. In these programs the cost recovery for an efficiency upgrade investment is tied to the property’s meter rather than the property owner. Thus tariffs remain in force regardless of a change in occupancy, whether that is due to a new tenant, a point of sale, or a foreclosure. New occupants are obligated to pay tariffed charges until utility cost recovery is complete. In most TOB programs, customers can accelerate cost recovery payments for any reason.
In all TOB programs to date, disconnection for nonpayment is in accordance with current utility disconnection policies, which vary by state. For examples, see the Pay As You Save (PAYS®) TOB programs in Kansas, New Hampshire, Michigan, Hawaii, and Michigan (Energy Efficiency Institute 2016).
Because tariffs are attached to meters rather than individuals, TOB programs can invest in upgrades to rental properties, and upgrades can be made at any site regardless of the occupant’s income or credit score. Further, assigning cost recovery to meters makes these investments more attractive to occupants, who can pass on the improvement financing responsibilities if they move before cost recovery is complete. TOB programs are designed to ensure immediate net savings for customers. Should efficiency upgrades fail to function as expected, program implementers will fix or replace equipment at their own cost. (Energy Democracy Initiative 2016).
Benefits of On-Bill
Potentially Better Loan Performance and Terms
As with any type of financing, on-bill provides funding to overcome the upfront cost hurdle of energy efficiency implementation, allowing projects to be repaid over time. Further, on-bill’s place on a utility bill may be a more reliable repayment source than other traditional financing products, such as unsecured loans or lease agreements. In its study of 30 on-bill programs, SEEAction found that default rates ranged from 0–3%. Many of these programs had below-market-rate interest rates, with two large programs using 0% financing. In any case, the theory is that people and businesses tend to pay their utility bills; because of this, an associated charge on a utility bill may have a higher repayment rate than an equivalent charge not on the utility bill. Given this potentially higher repayment rate, on-bill may lead to better financing terms than are available for unsecured consumer or small business loans. Clearly, many factors besides repayment determine financing terms, and on-bill programs may have better or worse terms than a more traditional financing product (SEEAction 2014).
The threat of disconnection for nonpayment (where allowed) may be one underlying reason that on-bill loan program repayment is better than for other financing; however it’s not as clear as it may seem. Research shows that on-bill programs that apply disconnection for nonpayment of debts and those that do not allow disconnection have similar repayment rates (SEEAction 2014). It may be that the implied threat of disconnection is enough to generate repayment, even when there is no actual threat. It also may be that on-bill customers see lower utility bills as a result of the program and thus are more able to pay their bills. Or, it may be that people simply treat utility bills as a priority for some other reason. Regardless of the reason, people’s attitudes toward their utility bills and the possibility of shut off for nonpayment of debts are an important consideration for loan program design (SEEAction 2014).
Alternative Underwriting Practices
Due to the unique repayment mechanism, the funding sources, and the perceived repayment reliability, on-bill loan programs can go outside traditional underwriting standards to offer their programs to a more diverse audience. Specifically, history of utility bill payment is often used as a criterion for assessing creditworthiness. In the programs analyzed by SEEAction, 27 of the 28 that reported underwriting criteria used either alternative underwriting criteria, relaxed underwriting criteria (e.g., lending to lower credit scores or higher debt-to-income ratios), or a combination of both. This approach can be used to reach customers who may not have access to conventional financing products (NRDC 2013). Also, because traditional underwriting practices exist to protect both consumers and lenders, extra care must be taken when considering or designing a loan program that uses alternative underwriting standards (SEEAction 2014).
Operating Within Existing Utility Programs
Utilities often administer many types of energy efficiency programs to alleviate the cost of energy efficiency adoption (e.g., rebates to offset an investment’s upfront cost). As a result, on-bill programs, developed and overseen by the utility, can be combined with other utility-run programs to further enhance affordability. With both the financing and rebates bundled together, available rebates offset the amount to be repaid through the on-bill mechanism. Bundling also saves the customer the time cost of having to secure the rebate and financing separately.
As we noted earlier, TOB programs tie efficiency upgrade investments to the meter, not the customer. This means that if the property sells or is foreclosed on, cost recovery continues with the new property owner. Likewise, the benefits and obligations of the tariffed terms are applicable to successor renters until the utility’s cost recovery is complete.
However, assigning payment obligations to the meter introduces new challenges: a new occupant might have different usage (such as if an office building is converted to an unheated warehouse); a new occupant might not want to pay for a renovation undertaken by the previous owner; or it might be challenging to enforce the tariff during periods of extended vacancy or foreclosure. Although all of the PAYS® TOB programs have resolved these issues, such complications may make TOB programs challenging to administer (PAYS® 2016).
In situations where the commercial or residential tenant pays the utility bill, property owners have little incentive to make energy efficiency upgrades. Similarly, tenants are often dissuaded from making improvements because the payback period is typically longer than they may occupy that property; for example, a tenant may have a one-year lease, but a heat pump space heater and cooling appliance may require 10–12 years for cost recovery. However, with TOB, tenants pay only for the energy efficiency investment while they occupy the premises. Because rental property owners do not have to pay for upgrades that benefit their tenants, TOB address the long-standing split incentive between renters and landlords.
Off Balance Sheet
On-bill proponents suggest that, because the financing provided for on-bill programs are not loans, they do not create a debt obligation. This attribute can be valuable to schools and municipalities—which are often required to seek voter approval to take on debt—as well as to companies that do not wish to (or cannot) take on additional debt. This type of off balance sheet treatment is not exclusive to on-bill programs; other types of financial products can be designed in this fashion, including solutions provided by energy service companies (ESCOs). Ultimately, a program’s design and regulatory authority determine whether or not its charge is debt or not (NRDC 2013).
Barriers to On-Bill
In both OBF and OBR, the utility acts as a payment collector, which is one of its core competencies, but performing a lender’s banking functions may introduce an administrative and regulatory burden. In addition, utilities may need to upgrade their billing and IT systems, which is sometimes costly.
Further, regarding loan programs, there are concerns as to whether utilities should be allowed to use the threat of disconnection to ensure repayment to a private financier (for more information, see Kramer, 2014). Utilities using their ability to shut off power—when they are doing so on behalf of a private creditor seeking debt collection—raises ethical concerns. Also, pursuing those debt collections can introduce legal and administrative complications in the event of partial payment.
In the case of partial payment for OBF, the utility’s financing may be the cost the customer cannot afford, in which case the inability to repay debt—not the inability to pay the energy costs—may be the cause of nonrepayment. With OBR, the debt collection component of customer bills can trigger disconnection, with significant ethical implications. For case studies of on-bill programs and final decisions regarding using disconnection, see SEEAction 2014. Additionally, the California Public Utilities Commission authorized three on-bill pilot programs in 2013: one commercial OBR program with disconnection, one residential OBF program without disconnection, and one nonresidential OBF program with the possibility of disconnection (Wilson Sonsini Goodrich & Rosati 2013).
Utilities that offer TOB programs are investing in energy efficiency upgrades as an essential utility service, and the cost recovery charge can be designed to be less than the estimated savings. This effectively lowers the bill compared to what it would have been to deliver the same level of service. These investments are secured by the utility’s current terms of disconnection for nonpayment, which is the same as all other billed utility costs. Thus far, no utility offering a tariffed on-bill program has reported ever initiating proceedings for disconnection for nonpayment.
Consumer Financial Protection
Utilities implementing on-bill loan programs may not have the resources to navigate or comply with residential consumer lending laws, which vary by state. Further research is needed to determine which laws should apply to which types of programs, and what the implications may be for structuring on-bill programs to comply with applicable consumer protection laws and regulations. Laws and regulations related to consumer lending may not apply to TOB programs, which do not involve making loans. However, TOB programs do fall within the purview of the utility regulatory authority (typically a state public utilities commission) and must comply with utility regulations in each state, including consumer protections. Further research is needed to determine both which laws should apply to which types of programs and what the implications may be for structuring on-bill programs for compliance.
How to Get On-Bill
No two on-bill programs are exactly alike. Such programs are designed with many different components—such as underwriting criteria, loan versus tariff, disconnection rules, OBR versus OBF, transferable or not, and on or off balance sheet—all of which should be carefully considered. For resources and case studies on the subject, please consult the following material.