What Are Green Loans? [Definition + How to Obtain One]

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If you’re sick and tired of high energy and high water bills—which is not only a hit to your wallet but also for climate change—it’s time to consider installing water and energy-saving features in your house. You’ll save money and the environment at the same time.

To make that process more manageable, you could use a green loan (GL). But what is a green loan? This article addresses what a green loan is, how to obtain one, and how to use it.

What Is a Green Loan?

In 2016, the Loan Market Association (LMA), Lloyds Banking Group, launched a green loan initiative to support clients in reducing CO2 emissions. The idea of the initiative was to enable borrowers to spread its costs of improvements over 10 to 25 years.

A green loan works similarly to a personal loan but is used to finance energy-efficient product investments. The primary purpose of a green personal loan isn’t only to make sustainable funding projects more straightforward, but also to provide lower interest rates.

For instance, the average interest rate for an unsecured personal loan is around 10.84% per annum (p.a.), whereas the average rate for a green loan is approximately 7.27% p.a.

Still, what does a green loan mean? First, it differs from standard lending and home improvement loans in that repayments are added to the client’s electricity bill. There’s also a ‘golden rule’, which insists that a loan’s cost shouldn’t surpass the cost of the energy saved.

NOTE: The International Finance Corporation (IFC) adopted Green Loan Principles in 2018, specifying that 100% of the proceeds from green loans should be used only for green-eligible activities.

How Do Green Loans Work?

Traditional green loans are designed to assist in paying for water and energy-saving home improvements. But suppose you decide to take a genuine green loan. In that case, most institutions will ask you to work with a certified installer and only with equipment that meets particular standards or other requirements.

For these types of loans, you’ll receive the funds as a lump sum amount, and afterward, you’ll repay the loan monthly through installments with interest.

What does a green loan mean in regards to major renovations? You can use it for such significant renovations as installing tankless water heaters, solar panels, and energy-efficient windows and doors. Moreover, the funds may also be used for quicker green improvements, including:

  • LED lights;
  • Eco toilets;
  • Low-flow showerheads;
  • Low-flow aerators;
  • Programmable thermostats;
  • Adding/updating insulation;
  • Water and energy-efficient appliances;
  • Tankless water or solar heaters;
  • Triple-pane windows.

In some cases, the purpose of green loans is to enable clients to pay for improvements that boost their home’s resilience to natural disasters, such as retrofitting the house for earthquake safety, wildfires, or hurricanes.

When searching for products that meet water and energy efficiency requirements, it’s also essential to always look for the Energy Star and WaterSense labels.

Four Components of Green Loans

The structuring of a regular green loan should follow the Green Loan Principles (GLP), which provide an international standard based on four core components.

Use of Proceeds

Green loan proceeds must be utilized for renewable energy projects. All assigned green projects need to provide clear benefits of environmental impact—measured, assessed, and reported by the borrower. It should also include projects that address the depletion of natural resources, loss of biodiversity, and pollution.

Project Evaluation and Selection

According to the green loan definition, green loan borrowers should communicate to green loan lenders their intentions of assessing and selecting the projects for which they’ll receive loan proceeds. Additionally, borrowers must explain how they’ll manage the social and environmental risks of eligible projects.

Management of Proceeds

Green loan proceeds should be tracked by the borrower or credited to a dedicated account to promote the product’s integrity and maintain transparency.

Reporting

The GLP prefers a mix of qualitative and quantitative performance measures, e.g., electricity generation, energy capacity, and greenhouse gas emissions reduction or avoidance.

Green loan borrowers must have readily available project portfolios and up-to-date information on the usage of the green loan proceeds, including a list of the green-oriented projects to which allocation of proceeds has been made.

NOTE: Developing countries account for only $1.6 billion of the estimated $33 billion in outstanding green loans. But the green loan market is growing fast, outpacing the growth of the green bond market in the near term.

Key Takeaways

A green loan, by definition, is a type of personal loan offered by a financial institution to a client, intended to finance or re-finance environmentally-friendly green projects to increase energy efficiency in your house and provide cost savings.
Green loans differ from standard loans in that their repayments are added to a client’s electricity bill. But a ‘golden rule’ also exists, which asserts that a loan’s cost shouldn’t surpass the cost of the energy saved.
What are green loans intended for? They are meant for LED lights, eco-toilets, low-flow showerheads, low-flow aerators, programmable thermostats, adding/updating insulation, water, and energy-efficient appliances, tankless water or solar heaters, and triple-pane windows.
The four core components of GLs—structured according to the Green Loan Principles—are the Use of Proceeds, Project Evaluation and Selection, Management of Proceeds, and Reporting.

How to Obtain a Green Loan

If you wish to make your house more climate-friendly, you should secure a green loan to enable those improvements. To obtain a green loan, you should understand the application process to secure the necessary funds.

  • Check Credit Score

Check your credit report to see if any errors might be keeping your credit score down. If you react in time, perhaps you’ll have a higher chance for qualification. Go to annualcreditreport.com to check your credit report for free.

  • Research Lenders/Compare Offers

It’s advisable to choose lenders who offer lower annual percentage rates (APRs). Compare how fast they can fund a loan, what kind of credit-building tools they offer, and if they allow joint or co-signed loans.

  • Submit Application In-person or Online

Lenders often ask for such information as W-2s, Social Security numbers (SSNs), and pay stubs—so you better have those documents ready before applying.

  • Wait for Approval

Typically, you’ll wait a few days for a response of approval (or not).

What You Can Do With Green Loans

The products you can buy with a green loan vary from one lender to another. But, again, what are green loans intended for? They are meant to purchase energy- or water-efficient products and products that reduce pollution or reliance on the grid or prevent loss of biodiversity. Therefore, it’s advisable to ask the lender to determine if your intended purchase qualifies for a green loan. For instance, the products might need to meet a specific star rating in energy efficiency.

Products that you can purchase with a green loan include:

  • Water-saving systems, solar panels, battery systems, pool heaters
  • Geothermal units
  • Energy-efficient appliances
  • Eco-friendly vehicles
  • Insulation and water tanks
  • Home ventilation
  • Energy-efficient air or evaporative coolers
  • Split systems or energy-efficient electric heaters
  • White goods or energy-efficient appliances
NOTE: The IFC structured and mobilized a $541 million, 15-year Green Loan facility in Mexico to support Infraestructura Energética Nova (IEnova).

Who Can Help With Green Loan Frameworks?

  • Financial consultant/firm

Part of a green loan meaning includes a framework that allows a green loan borrower to ask for advice from financial consultants (or firms) who have expertise in environmental benefits and sustainability or other aspects of the administration of a green loan. Second-party opinions are listed in this category.

  • Verification (Verified third parties checking internal standards)

Green borrowers can have their loans—or associated GLP framework and underlying assets—independently verified by qualified parties, such as independent ESG2 rating providers or auditors. Unlike certification, verification can focus on claims made by the borrower or in alignment with internal standards.

  • Certification (Checked by third parties)

Green loan borrowers can have their loans or associated GL framework certified against (external) green assessment standards. The assessment standard interprets the criteria, and qualified certifiers/third parties test the alignment with such measures.

  • Research/Review Websites

When possible—taking confidentiality and competitive considerations into account—borrowers can conduct an external review publicly available or a summary via their websites.

Conclusion

Choosing to make your life more eco-friendly may seem to be a small step today, but it will have a significant impact tomorrow. But making that move shouldn’t damage your form of financing. Therefore, you need to be sure to select the most appropriate loan for your needs by comparing lenders.

FAQ

What is meant by green loan?

A green loan is a type of credit offered by a financial institution to clients on the basis that they’ll be utilizing the funds for environmentally-friendly considerations.

How does a green loan work?

What is a green loan, and how does it work? A green loan is a personal loan meant only for projects intended to increase energy efficiency in customers’ homes, ultimately providing cost savings.

Are green loans cheaper?

Green loans typically provide lower fees and cheaper interest rates compared to standard loans.

What are the Green Loan Principles?

Green Loan Principles (GLPs) are composed of four components:

  • Use of Proceeds
  • Project Evaluation and Selection
  • Management of Proceeds
  • Reporting

ABOUT AUTHOR

I learned a lot about finance after working for a digital marketing company specializing in investing and trading stocks, forex, etc. After that, I got exposed to other verticals such as wealth management and personal finance, which further improved my understanding of the financial world.

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