Episode 10: Model loan and grant financial instrument for energy efficiency

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Main topics: Experts from the EIB and the European Commission answer your questions from the 7 October 2022 ERDF event on the model financial instrument for energy efficiency.

A discussion with Aron Kerpel-Fronius, Policy Officer at the European Commission’s DG Regio and Olivier Dumoulin, Financial Instruments Advisor at the European Investment Bank, hosted by Emily Smith from the fi-compass team at the EIB.

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Hi and welcome to the new fi-compass Jam Sessions podcast. My name is Emily Smith from the fi-compass team at EIB and I'm very pleased you have tuned in to today's podcast in which we are going to answer your questions about the new fi-compass model financial instrument for energy efficiency. We presented the model financial instrument, which combines loan with a grant at the recent fi-compass conference in Brussels, and we did receive a number of questions from participants, which we unfortunately didn't have time to deal with at the time. I'm very pleased today to welcome Aron Kerpel-Fronius from DG Regio and Olivier Dumoulin from the EIB, who presented the Model at the event, and they've agreed to join me today and share their expertise with us.

Before we turn to the questions, in case we have some new listeners, Olivier, could you perhaps give us a quick summary of the model instrument? What's in it and how does it work?

Olivier Dumoulin: So basically, this model financial instrument aims to provide solutions for a comprehensive financial and technical support to energy efficiency investments based on best practices that we have observed in this sector. It consists of a combination of repayable and non-repayable financing, which is structured in such a way that it maximises the incentives for the comprehensive renovations while addressing energy poverty issues. In view of the immense investment needs in this sector, the model is designed to channel the shared management and other public funds alongside financing from the EIB, from the other IFIs, but also national promotional banks and financial intermediaries.

Aron, how do you expect the Commission, managing authorities and bodies who implement financial instruments to make use of this model?

Aron Kerpel-Fronius: We constructed the model in a very flexible way, so the idea is not to be overly prescriptive but to show possible ways of combinations and implementation modes to the managing authorities and implementing bodies so that then the specificities can be tailored according to the policy objectives and the aims of a given programme. At cohesion policy, we have various policy objectives. One of them is the greener, low carbon transitioning towards net zero carbon economy. This is our policy objective number two, and there will be a significant amount of resources which will be allocated under this objective and given the need for energy efficiency renovations and the cost saving nature of these investments, we really expect that the model will have a big role to play to deliver on this greener Europe policy objective.

Let's take a look at the questions that came in during the event. We had several questions about the combination of the financial instrument with grant.

One practitioner asked, “the CPR provides that in combination financial instruments, grants are subject to the same rules as financial instruments. If we use a capital rebate scheme where the grant isn't paid to final recipients but reduces the loan through operations on account, is it still eligible?”

Olivier Dumoulin: The answer to this question is yes, but only if the combination of the loan and the grant is made in one operation, as it is foreseen by the Article 58 (5) of the CPR. In that precise case, then the grant part can be paid either to or for the benefit of the final recipient. If the grant takes the form of a capital rebate, like in your question, when the latter is triggered, the loan will be partly converted into a grant and the effect of this conversion is, on the one hand, to lead to the reduction of the loan amount, which is in practice written off and on the other hand to the corresponding increase in the grant amount. This avoids any risk of double financing of the eligible expenditure.

Another question that was received was in relation to existing grant programmes. We had the question, “could a combination with existing grant programmes be possible?”

Olivier Dumoulin: Here, we should come back to the CPR again. The regulation foresees two ways of combining the grants and the financial instruments as we know, meaning in one or in two operations. When we combine in two operations, then each form of support, so the financial instrument and the grant, will remain subject to their own particular rules. In that case, the existing grant programmes can be combined with financial instruments only at the level of the final recipients. When it comes to the combinations in so-called one operation under the financial instruments rules only, the Article 58(5) does not allow the use of existing separate grant programmes for this purpose. Indeed, under this Article, the grant shall be directly linked and necessary for the financial instruments. This means that the grant shall be part of a single financial package and its provision can only be justified by the significant impact on the financial instrument’s delivery and its outreach. So, the need for such combination in one operation has to be indicated at programme level, and the form and the intensity of the grant shall be analysed in the ex-ante assessment and the ex-ante assessment is not applicable to the standalone grant programmes.

Next, a bit of a challenge from a questioner who asked, “doesn't the integration of a grant component in financial instruments jeopardise one of the main advantages of financial instruments, the ability to generate and re-use returns”, because obviously there will be no return expected from the grant aspect.

Olivier Dumoulin: At first glance, the combination may appear detrimental to the revolving effect, which we know is often in practice one of the objectives that the implementing bodies or the managing authorities are looking for with financial instruments. What should be kept in mind is that the combinations may only be used when they are necessary. That is to say, when the grant element has a decisive effect on the policy impact and on the final recipients’ ability to carry out the investments. So, in some cases the financial instruments will be further implemented without any grant component, while in some others, like in the sector of energy efficiency that we are discussing today, these financial instruments may simply not work or not achieve the same outcome if they don't have this non-repayable element integrated. By supporting a better technical preparation, by increasing the project quality, by enhancing the investment affordability, including lower income final recipients, and by providing incentives to invest in longer term projects, the grant component basically creates the condition, the additional space for the use of repayable forms of finance. In conclusion, grants enable financial instruments to have a wider impact and as a result to have a significant revolving effect, even in more difficult sectors.

Aron, we also had a few questions about eligibility. For example, one participant asked, “what were the possibilities for combining grant and loan for energy efficiency projects in industrial buildings?” We had another question about whether the financial instrument and ERDF grants could be combined to support innovation projects for final recipients in the private sector.

Aron Kerpel-Fronius: That's an interesting question on the eligibility and actually, it allows me to say that the eligibility requirements are very wide. I mentioned that it tries to be as flexible as possible and it also includes the eligibility part. The buildings from the residential sector to public buildings and the private sector are eligible. In terms of corporate buildings, the model can support companies from SMEs to mid-caps and large enterprises. Of course, the specific eligibility criteria will be guided on the programme itself but the model is flexible and, in line with the Common Provisions Regulation, we certainly allow for such support. The second question on the innovation projects, indeed, these are extremely important and combined grant and financial instruments support can be provided for innovation projects, but not under this model. Here we are focusing exclusively on energy efficiency renovations, not on innovation projects. That being said, we do recognise the need to support these types of innovation projects with a combination of grants and loans and we are working on another model currently with colleagues from the EIB to address this specific sub-segment and these types of final recipients. Hopefully in the near future we can come out with something concrete to address this question.

Staying on the theme of eligibility, we also had another eligibility related question, this time regarding buildings. The question was, “do you have technical minimum performance standards or requirements? For example, is there a requirement to go beyond business as usual, or is there specific criteria that you have in mind in relation to the improvement of the energy performance of the building?”

Aron Kerpel-Fronius: Yes, I always really try to stress this point when we are talking about this model, and this is something that Olivier already touched upon earlier. We are really encouraging better quality projects here with medium and deep renovations wherever possible. It is extremely important to avoid a sort of a lock in effect where we do a shallow renovation with only the doors and the windows changed and then no further renovations take place for the next 15 to 20 years, so it means that we miss out on a big opportunity. In fact, the grant element is in place to provide technical support for better projects, but also to encourage better quality projects and to make deeper renovations financially viable. This is in the first place what we are trying to encourage. As for technical minimum requirements, the model doesn't prescribe this because this will depend on different factors such as the state aid regime used by the operation or the indicators that are chosen on programme level for the given activity. For example, the draft GBER foresees 20% minimum energy savings and this is what we proposed in the model. If you know cohesion policy, we have our climate and environmental tracking and there if you want 100% declared as climate spending, then a minimum of 30% of energy saving is necessary, so all of these factors should be considered. For the financial intermediaries it's also good to keep in mind the EU Taxonomy Climate Delegated Act, where for building renovations, projects need to either achieve a 30% primary energy savings or they need to comply with the applicable requirements of the major renovation implementing directive. So, there are quite a few minimum levels that are incentivising deeper renovations. We do not prescribe the model, but as I mentioned, we are really encouraging deep renovations, for example, with performance-based capital rebates, which reward 60% or net zero energy building energy savings with a higher grant amount.

Staying on the eligibility theme, but switching to final recipients, what about large enterprises? Would an enterprise with more than 250 employees also be within scope of the model?

Aron Kerpel-Fronius: Yes, in the previous answer, I mentioned that eligibility is quite flexible and in particular the eligibility of larger enterprises is covered in Article 5.2 of the ERDF regulation, which states that productive investments in enterprises other than SMEs may be supported when primarily supporting energy efficiency measures and renewable energy. So of course, as I mentioned before, the specific eligibility will depend on the programme’s policy objectives and the eligibility requirements, but there is certainly no such limitation foreseen in the model.

We also had a question about working capital and specifically could the instrument be applied to buildings that had been just renovated in case short-term working capital have been used to finance the renovation, and then linked to that, could it be combined with third party loan resources to cover additional measures?

Aron Kerpel-Fronius: Let's divide this into two questions according to the two sub-topics. Firstly, the instrument cannot finance projects that have already been completed. The loans should be used for investments in tangible and intangible assets and for working capital. So that is clear. The loans should also be newly originated and this should exclude the refinancing of existing loans. So that's for the first part. Then secondly, for combination with a third-party loan to cover additional measures, this is theoretically possible. However, in my opinion, the combination of grants and financial instruments should provide sufficient resources to cover all measures. We understand that sometimes not all of the resources will go for energy efficiency measures, so 30% of the support can be spent on general renovation measures, 10% can be spent on working capital without the need to provide the justification, so we have built in some flexibilities which should enable final recipients to complete their projects without looking for additional financing.

We were also asked a question about the Energy Performance of Buildings Directive, and specifically in light of the recast of the directive, will there be a need to adapt the eligibility criteria to focus on decarbonisation? The question specifically then asked in relation to boiler replacements for which public support might be banned.

Aron Kerpel-Fronius: To add some background for the listeners, the revision of the Energy Performance of Buildings Directive is one of the key elements of the EU Green Deal and the Fit for 55 package of the Commission. The main objective of the revision is to reduce buildings’ greenhouse gas emissions and final energy consumptions by 2030. This is on the way, of course, of an EU-wide climate neutral net zero goals by 2050. With the recast of the Directive, the Commission aims to increase the rate and depth of building renovations and to improve the information on energy performance and the sustainability of buildings, and also that all buildings are in line with climate neutrality  requirements. And indeed, as the question states, the recast foresees that fossil fuel powered boilers will not be eligible for public support as of 2027. This is currently under negotiation with the European Parliament and the national governments. We are following this very closely and will adapt the eligibility criteria of the model if needed. Here I would like to stress again that we are focusing on deep renovation and sustainable solutions and decarbonisation as much as possible. Renewable energy solutions are part of this and they are part of improving energy performance, so decentralised renewable energy production such as solar PV installations are eligible as part of the comprehensive renovation, heat pumps are also eligible, electric vehicle charging stations, and to get back to the boilers, upgrading to non-fossil fuel powered electric boilers is also eligible under the model. I believe that keeping in line with the recast directive is not going to be a challenge, but we are certainly monitoring it.

Olivier, we also received some queries regarding the assessment of energy savings. One participant asked, “apart from energy audit reports, what other kinds of documents may be needed in order to check the eligibility of expenditure?”

Olivier Dumoulin: The level of documentation that is required to justify this energy savings should be decided based on the nature and the complexity of the works that are financed. The process should be kept as simple as possible for the final recipients and the body implementing the financial instrument. This means in practice that an energy audit or an energy performance certificate will not be necessary in all cases. Indeed, often after an ex-ante energy performance certificate has been done, then the proof that the works have been carried out or that the equipment has been installed should be sufficient. For standard measures, this x box verification should also be kept light and where possible, statistical methods and online tools could be used.

Very helpful clarifications which lead us nicely onto our next question, which was based on the presentation at the event, it seems that energy saving minimum requirements linked to each project are measured or estimated ex-ante. Is this compliant with CPR eligibility rules?

Olivier Dumoulin: The CPR does not preclude the ex-ante estimation process that needs to be implemented for energy efficiency investment. The latter should be defined based on the eligibility criteria and the type of combination that is used. In the case of a loan combined with a grant in the form of a capital rebate, one option is indeed to trigger the latter based on the energy savings that are achieved, but this is not the only one. An ex-ante assessment of the energy performance may be necessary for deep or more complex renovations that are encouraged with this model. For more standardised measures, this impact can be estimated globally based on statistical methods, for instance, or equipment typology. Online tools such as the EIB Green Checker that was presented during this event may also be used.

Let's switch now to the topic of state aid. We received two questions on state aid at the event, which I will now read and I will give you both the opportunity to respond. The first question was, “how do you combine state aid rules with these programmes and models of financing? Are you working on an alignment between the definitions between the two sets of law?”, and the second question is “financial instruments with a grant component in respect of state aid rules, when supporting SMS, is it feasible to fulfil GBER rules or is the notification of a state aid scheme necessary?

Aron Kerpel-Fronius: There are many ways to clear state aid for financial instruments, so it's either through notification under one of the guidelines, for example, risk finance guidelines, the climate energy and environment guidelines or other, or through an exemption regulation such as GBER as mentioned, or under the de minimis regulation, it depends on the domain and the objectives of the financial instrument. The Commission has recently done a fitness check on state aid rules with the participation of stakeholders, and this resulted in the revision of some of the guidelines. The GBER is also in the process of being revised to better align with EU Green Deal objectives and these revisions have entailed also, whenever possible, the aligning of the definitions of the state aid regimes with cohesion policy and other EU law. Of course, semantic differences of definitions between the two sets of rules exist. For example, these are holding funds instead of a fund of funds or using financial intermediaries instead of bodies implementing financial instruments. These are usually justified by the distinct objectives of the two sets of rules. The stated rules aim at the protection of the level playing field on the market and the effective use of state resources and cohesion rules primarily aim at protecting the EU budget and the good management of EU funds. There is an effort to align definitions and we believe these differences that remain are mainly semantic. As for the second question regarding the fulfilling GBER rules or notification of the state aid scheme, so we have a dedicated state aid section in the energy efficiency model and as it's mentioned there, the financial instrument with a grant component necessarily constitutes state aid.

This is because such combination does not exist on the market, and it necessarily constitutes an advantage which is selective and susceptible to affect trade or distort competition. So, for example, when supporting SMEs, such support may be exempt under the GBER, as long as both the horizontal and specific conditions are fulfilled. It could be possible to have the loan part under one GBER article and the grant part on the other one. In this case, the accumulation rules under Article 8 of the GBER would apply and basically accumulation would be possible in relation to the same eligible costs which are partly or fully overlapping, only if such accumulation does not result in exceeding the highest aid intensity or aid demand applicable under the GBER, but it is possible to have the loan part on the one article and the grant part on the other accumulatively. So, for aid granted without identifiable costs, which is in general applicable to the financial instrument part, so in this case the loan, these are under Article 19.b, 28, 21, 22, 23 of the GBER, and this may be accumulated with any other state aid with identifiable eligible costs and for aid granted without identifiable costs under other articles of the GBER accumulation is possible up to the highest relevant total financing threshold. I know that this is quite dense now, but it is feasible to fulfil GBER rules in certain cases and as I mentioned, we do have a state aid section as part of the model, so I also invite the listeners to read that or to submit more questions to us in the future as well.

One final question in relation to the 70% threshold for energy efficiency works. Perhaps you could explain to us how this would work in relation to a scheme which combined non-energy efficiency work with energy efficiency work? And perhaps you could also answer the very specific question that we received, which is, “if private capital is not part of the programme contribution, does the 70% of energy efficiency work apply only to the programme contribution?”

Aron Kerpel-Fronius: So just to explain a little bit what the question refers to. As I mentioned before, we do recognise the need to include some general measures in a renovation project to allow a complete modernisation of the building. So, in the model we set a 30% ceiling for general non-energy efficiency related measures. This means, of course, that at least 70% of the expenditure will be spent on energy efficiency related measures. Now to answer the question, it is the programme contribution where the 70% threshold applies and just to give some extra information, this 70% threshold can also include a 10% climate adaptation spending, which can include rainwater retention or climate proofing measures for example.

Thank you, Aron. That concludes the questions we received from the participants during the fi-compass event. I'd like to thank you both for dealing with the points in such detail, and I'm sure the answers will be very useful for our listeners. Before we finish, I would like to give you both a last word. Are there any final messages you'd like to give our listeners about the fi-compass model?

Olivier Dumoulin: I would like to insist on the fact that this model should be seen as a set of options which are based on best practices that we have observed and analysed, but which may also be tailored and adapted to sectoral and local needs. Managing authorities should select the options they consider relevant for their purpose and not be afraid of adapting some of the features, in line with regulation of course, to achieve ambitious energy efficiency objectives.

Aron Kerpel-Fronius: Indeed, I can only echo Olivier. I think the key to success is flexibility and ambition. Just to add a little bit on top of this, I would encourage managing authorities to consider energy performance renovations in a holistic manner to put as much emphasis on renewable energy components which are eligible and also climate adaptation elements as possible. We have tried to incentivise these within the model and they are eligible measures, quite a lot of them. So ambitious deep renovations should create decarbonised and climate resilient buildings for the long run with the help of our programmes.

I'd like to add my thanks to all of the participants who attended the fi-compass event back in October, and especially those who raised the questions which we've discussed today. I'm sure the podcast will be very helpful for many practitioners, but if you do have any further questions, we really encourage you to get in touch through our mailbox info@fi-compass.eu. We do plan to organise a further podcast in around two weeks where we can try and address any further questions you may have on this topic, so we very much look forward to hearing from you. Please do not hesitate to get in touch. That brings today's episode to a close. I would like to very much thank Aron and Olivier for joining me today.

A big thank you also to our listeners for tuning in today to this episode of the fi-compass Jam Sessions podcast.