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Energy-Efficient Homes Lower Mortgage Default Risk

MAR 21, 2013 11:57am ET
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Data show the link between energy-efficient homes and mortgage default risk is not just a plausible, economically sound theory.

A new study conducted by the University of North Carolina at Chapel Hill Center for Community Capital and the Institute for Market Transformation, a nonprofit organization dedicated to promoting energy efficiency, found the risk of mortgage default is one-third lower for owners of energy-efficient homes.

The study also found that a mortgage holder on an energy star residence is 25% less likely to prepay, the authors wrote, and “since lenders consider prepayment a risk, these loans are potentially more valuable.”

These findings indicate energy cost data can be a valuable default risk indicator.

According to the study, mortgage lenders and servicers may benefit from including “an energy audit or rating as part of the mortgage underwriting process,” and probably both public and private entities should consider promoting “underwriting flexibility for mortgages on energy-efficient homes.”

“Home Energy Efficiency and Mortgage Risks” confirms that it makes sense to homeowners to route energy savings towards paying their mortgage. It suggests that successful housing market reforms “will require reconsidering the risk factors in mortgage default, including energy costs,” says executive director of IMT Cliff Majersik.

American households spend around $230 billion each year on energy, not including transportation, according to research by McKinsey & Company. The residential sector accounts for 20% of the total energy consumed in the U.S., analysts note, hence “energy efficiency in the residential sector has a potential to save $41 billion annually.”

The center’s director and one of the authors of the study, Roberto Quercia, finds that the lack of broad consideration of potential energy savings in the mortgage underwriting process can prevent many moderate and middle-income homebuyers from fully benefiting from cost savings.

Quercia and his study co-authors Nikhil Kaza, research fellow at the UNC Center for Community Capital, and Chao Yue Tian, research associate at the UNC Center for Community Capitals, recommend that Congress consider the link between energy efficiency and lower mortgage lending risk in their deliberations about mortgage underwriting legislation.

This is the first academic study to assess the linkages between home energy efficiency and mortgage risks. It is based on CoreLogic data from a sample of 71,000 mortgages originated during 2002-2012 in 38 states and the District of Columbia and is restricted to single-family, owner-occupied houses. About 35% of the houses in the sample were energy star-rated residences.

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