Understanding Energy-Efficient Mortgages (EEMs)

As a homeowner, it’s not uncommon for energy and utility bills to take a big bite out of your budget. Fortunately, it’s possible to use an energy-efficient mortgage (EEM) to give your wallet some relief. These loans allow you to finance eco-friendly home improvements and enjoy extra savings each month.

What is an energy-efficient mortgage (EEM)?

Sometimes referred to as “green mortgages,” energy-efficient mortgages allow you to finance the cost of buying an energy-efficient home or making energy-efficient improvements to your existing home. These loans can be combined with many common first mortgage programs, including conventional loans, FHA loans and VA loans.

What are the benefits of EEMs?

Aside from having positive environmental impacts and allowing you to save money on utility bills, EEMs have a few distinct financial benefits.

Often, these loans also allow you to roll the cost of making these energy-saving upgrades into your total loan amount, meaning you don’t have to cover the costs upfront. In other cases, taking out an EEM can help you access more favorable loan terms, such as qualifying for a larger loan amount.

What are the risks of EEMs?

EEMs allow you to borrow more money than you may otherwise qualify for in a mortgage and roll it into your loan amount. Although you don’t have to pay out of pocket for the improvements, the money still needs to be repaid over time.

If you borrow more money than you can afford to pay back, you could have trouble keeping up with your monthly payments and potentially even face foreclosure.

Types of EEM programs

Here’s a closer look at how both conventional and government-backed EEM programs work, and what you can finance with each one:

Conventional energy-efficient mortgage programs

Out of all the available EEM loan programs, the conventional loan options offer the most flexible terms. Both Fannie Mae and Freddie Mac, the two largest buyers of conventional mortgages, allow you to finance up to 15% of the home’s as-completed value to make energy-efficient improvements.

That said, the minimum mortgage requirements are a bit more stringent for conventional loans. You’ll likely need at least a 620 credit score to qualify.

What do Fannie Mae EEMs finance?

Fannie Mae has a broad list of covered improvements, but here’s a selection:

• Installing energy-efficient appliances
• Adding insulation
• Air sealing
• Replacing windows and doors, heating and cooling systems, and water heaters
• Installing renewable energy sources, like solar and wind power systems
• Installing water efficiency equipment, like low-flow fixtures
• Installing a whole-home generator

What do Freddie Mac EEMs finance?

Freddie Mac’s EEM allows for basic energy- and water-efficiency improvements, including:

• Installing programmable thermostats
• Caulking or weather stripping
• Adding ceiling, wall or floor insulation
• Air sealing
• Replacing heating and cooling systems
• Installing solar water heaters
• Adding low-flow water fixtures
• Replacing refrigerators, freezers, water heaters and light bulbs
• Replacing windows and doors

FHA energy-efficient mortgage program

Loans backed by the Federal Housing Administration (FHA) are popular among many buyers because they offer more lenient down payment and credit score requirements than many other loan programs.

You’ll need to meet all of the FHA loan program’s standard loan requirements to qualify for an FHA energy-efficient mortgage. Usually, this means having at least a 580 credit score and making a 3.5% down payment, among other criteria.

As far as the EEM is concerned, qualified borrowers can increase their total loan amount by the cost of the improvements without having to qualify for the additional amount. Depending on how much the improvements cost, the FHA will either cover the costs upfront or give 5% of the lowest of the following options:

• The adjusted property value
• 115% of the local median price for a single-family home
• 150% of the national conforming loan limit

What do FHA EEMs finance?

Examples of the types of improvements that an FHA EEM can cover include:

• Replacing a heating and cooling system
• Fixing or replacing a chimney
• Insulating an attic, crawl space, pipes or air ducts
• Replacing doors and windows
• Installing solar technologies

VA energy-efficient mortgage program

The VA’s version of an EEM offers an affordable way for eligible military members and surviving spouses to make energy-efficient upgrades to their homes.

Eligible borrowers can finance up to $6,000 of improvements, on top of their loan amount, according to the program’s requirements. However, the improvements must be completed within six months of closing on the loan.

What do VA EEMs finance?

VA EEMs are typically used to finance the following types of projects:

• Solar heating and cooling systems
• Caulking and weather stripping
• Furnace efficiency modifications
• Adding new insulation
• Replacing windows and doors, heat pumps or vapor barriers

Energy-efficient mortgage requirements

Borrowers must first qualify for their primary mortgage loan by meeting the standard eligibility requirements related to down payment, credit score and debt-to-income (DTI) ratio among other criteria, before qualifying for an EEM.

Their desired improvements must also meet their loan program’s eligibility requirements. Typically they must be considered cost-effective, which means the cost of making the improvements will not outweigh the energy savings earned once the work is complete.

Proving cost-effectiveness

To prove cost effectiveness, EEM programs may require a qualified energy assessor to prepare a report on the potential energy savings, using the Home Energy Rating System (HERS).

Luckily, any costs associated with this inspection and report can be financed into the loan amount.

Alternatives to an EEM

If you’re not sure an EEM is right for you, there are other ways you can finance your energy-efficient home improvements. Here are a few options:

• Cash-out refinance: A cash-out refinance involves borrowing more than you currently owe on your home and using the cash difference to finance your energy-efficient improvements.
• Home equity loan: A home equity loan allows you to borrow a lump sum against your equity and repay it in monthly installments.
• Personal loan: Unlike the other two options on this list, personal loans are typically unsecured, which means you won’t risk foreclosure if you can’t repay what you’ve borrowed. In exchange, though, these loans typically come with higher interest rates.