Two options for Energy Performance Contracting payments are funding and financing. Funding involves a source of money that does not need to be repaid, such as a capital budget allocation. Financing does need to be repaid, but the payments can be covered by the cost savings from the improvements. The ESP can offer information on how financing is generally managed for EPC projects, and your finance people will likely have preferences for how to finance the work. See below for more details on each category.
Capital Budget Appropriation - Investing funds in an EPC project that will generate a positive return should be an attractive opportunity, but too often there are competing demands for funding that are considered more urgent, critical, and visible. Still, it may be worth exploring the possibility with your organization's finance people.
Operating Budget Allocation - Obtaining a large allocation from your entity's operating budget may be difficult, but again, it may be worth discussing the idea with your finance department.
Utility Rebates and Incentives - Utility rebates may cover a portion of the project cost, and every bit helps. The resulting reduction in the amount that needs to be financed may allow for deeper and more comprehensive improvements. NorthWestern Energy and Montana Dakota Utilities offer a variety of rebates and other incentives through their Commercial Energy Efficiency Programs. For more information see the DSIRE database (filter for Program Type = Rebate Program) and/or contact your utility.
USDA REAP Energy Audit and Renewable Energy/Development Assistance Grant - These REAP EA/REDA grants of up to $100,000 are for local and state governments and higher education institutions (not K-12 schools). To learn more, visit the DSIRE REAP EA/REDA Grant page.
Montana Department of Commerce Quality Schools Grant Program - These grants are available to K-12 public schools. For more information, see the Montana Department of Commerce Quality Schools Grant Program web page.
Montana Department of Natural Resources Wood Energy Program - These grants of up to $3,500 are for pre-feasibility assessments for wood biomass energy systems. See the Montana Department of Natural Resources Wood Energy Program web page.
ESP-Facilitated Financing - One feature of EPC that the ESP can bring to the table is their relationship with financial partners who are interested in financing good projects. The financing will typically take the form of one of the options below. It may not be the lowest cost option, but the convenience of working with a lender who is comfortable with performance contracting and the ESP makes this a frequent choice
Tax Exempt Lease Purchase (TELP) Agreements - Also known as municipal leases, these are perhaps the most popular option for financing performance contracting. Further, the effective interest rate is reduced because interest payments received from the government are exempt from federal income tax. In most states, TELPs are not considered debt and rarely require public approval. If funds are not appropriated to pay the lease in future budgets, the equipment is returned and the lease is terminated. For this reason, these leases are usually limited to equipment that is essential to the operation of the entity. To learn more, see this US DOE web page on Leasing Arrangements.
Capital Leases - Capital leases are common in performance contracting. The lessee (the entity using the equipment) assumes many of the risks and benefits of ownership, including the ability to expense both the depreciation and the interest portion of the lease payments. The equipment and future lease payments are shown as both an asset and a liability on the lessee’s balance sheet, and the lease payments are classified as capital expenses. Capital leases often have a “bargain purchase option” that allows the user to buy the equipment at the end of the lease at a price below market value.
Operating Leases - In these leases, the entity providing the equipment retains full ownership, so it does not appear as an asset or a liability on the user’s balance sheet. This can appeal to users that are near their borrowing capacity. There are specific IRS rules regarding when a lease can be treated as an operating lease versus a capital lease. Payments on an operating lease are usually less than for capital leases and loans, since the lessor owns the asset and the user is not paying to build equity. It is assumed that the residual value of the asset can be recovered at the end of the lease. Because of this, operating leases are typically limited to equipment with substantial residual value.
Montana Alternative Energy Revolving Loan Program - This program, administered by Montana DEQ, is for local governments, schools, and universities. Loan amounts of up to $40,000 are available on up to 10 year terms at a low interest rate (3.25% in 2017). Up to 20% of the loan can be for energy efficiency, with the rest being renewable energy. To learn more, go to the DSIRE Alternative Energy Revolving Loan Program web page.
Revenue Bonds - These are bonds with repayment tied to a specific revenue or cost savings stream. For example, cost savings from an EPC project can be pledged to pay off a bond. Because the bond issuer’s repayment obligation is limited to a specific revenue stream, revenue bonds are often viewed as higher-risk than a general obligation (GO) bond that can be repaid from general tax revenues, resulting in a higher interest rate cost. Revenue bonds may or may not require voter approval. See this US DOE web page on Bonding Tools.