Following high-profile litigation contesting its lackluster approach to meeting its own goals on sustainability, the Dutch State is now faced with a court order that requires it to expedite its efforts to reduce CO2 emissions and ensure a more sustainable society. The real estate sector is key in meeting these requirements and subsequently, is faced with ever tightening regulations.
These regulations increasingly influence the value and costs of Dutch real estate and are therefore becoming of significant importance when it comes to investment decisions and due diligence with regard to Dutch real estate for all those involved in the real estate sector.
In this article, we outline the key legislative developments on energy efficiency and provide insight into what may become the key questions facing real estate sector players in the light of these developments.
Energy performance label
To ensure the energy efficiency characteristics of buildings is clear for (prospective) owners and users (as well as other parties), the European Energy Performance of Buildings Directive 2002/91/EC (EPB) introduced the energy performance label, which is valid for ten years. The EPB required Member States to adopt legislation stipulating that an energy performance label quoting the building’s Energy Efficiency Index is provided in case of the construction, sale and/or lease of the (new) building. The EPB was updated by the European Directive 2010/31, which sets additional ambitious goals with regard to energy efficiency (eg, achieving 20 percent energy efficiency by 2020 and an (almost) energy neutral building environment by 2050).
New Dutch regulations on energy performance labels
In November 2018, the Dutch government adopted a new (much) stricter decree with regard to the energy performance of office buildings in the Netherlands (Besluit inhoudende wijziging van het Bouwbesluit 2012, dated November 2, 2018). In addition to the EPB requirements, this decree specifically requires that each “office building” (defined as buildings which are used for office purposes) should have an energy performance label “C” or higher (this is equal to an Energy Efficiency Index of at least 1.3) as of January 1, 2023; additionally, the decree requires that, as of January 1, 2030, all office buildings should have an “A” class energy performance label.
While the decree does provide a number of exemptions for, for example, monuments and limited floor area office buildings as well as a hardship clause, these are limited since most commercial office real estate constructed in the last 30 years will be fully subject to the new rules. Additionally, given ever-tightening regulations, it is likely that due to the stricter regulations (obtaining an “A” class energy performance label) transformation of (office) properties to non-office use will be required.
As a consequence of the regulations, an office building without the required energy performance label can no longer be used as such unless the required label “C” in 2023 and label “A” in 2030 are obtained. The primary responsibility to meet this obligation lies with the owner/lessor of the office building. The risks associated with noncompliance are quite severe, as they may entail the competent authority taking administrative enforcement measures, such as the closure of the office building.
Points to note
It is estimated that approximately 15,000 office buildings in the Netherlands do not currently comply with the new requirements and have an energy label of “C” or lower. Therefore, it is expected that many owners/lessors of office buildings will be obliged to take additional measures and make additional investments to meet this requirement, or repurpose their assets.
In addition, the Dutch government does not currently reimburse or provide additional funds/subsidies for the required works (with the exemption of some tax benefits). As a consequence, owning or buying/ investing in an office building which does not have at least an energy performance label “C” or can otherwise meet the applicable regulations by January 1, 2023, may be considered a financial liability.
The aforementioned obligation should be taken into account when investing in Dutch real estate, especially where it concerns office space. It is also important to take this into account in relation to reviewing and/or concluding lease agreements, especially with regard to costs and the fact that closure of an office building could lead to a material defect and/or breach under the lease agreement.
Government use of buildings
In addition to the energy label requirements, specifically with regard to buildings used by government, as of January 1, 2019 the (entire) government will only use newly (constructed) buildings in its capacity as an owner and/or lessee which are almost energy neutral. It should be stressed that these requirements will also be relevant to project developers or lessors catering to Dutch government bodies.
Obligation to take (sufficient) energy saving measures
As well as the above mentioned requirements, which apply to offices in particular, there is also a more general requirement in relation to Dutch (commercial) properties with regard to taking (sufficient) energy saving measures. Dutch environmental legislation (Activiteitenbesluit milieubeheer, Activities Decree) requires that any operator (drijver) of an establishment (inrichting) which uses over 50 KWh of electricity or 25,000 m3 of natural gas must take all energy saving measures which can be (financially) recovered within five years. Some operators are exempt as they are involved in sector-wide government approved plans (eg, green houses) or participate in the EU ETS.
Note that the definition of an “establishment” is very broad and applies to almost all (commercial) real estate properties, including offices. The operator is defined as the party who could end a violation of a specific rule (in this case: not taking the required energy saving measures).
The operator of an establishment is free to choose the kind and type of energy saving measures but has to demonstrate that the measures taken meet the legislative requirements. To aid operators in efficiently taking measures, the government has included a list with “recognized measures” per sector (Erkende Maatregelen), which are included in appendix 10 to the Activities Decree. Taking the measures set out in the appendix means that the property/operator (automatically) complies with legal requirements. This list is regularly updated, most recently on January 1, 2019.
As noted, the operator is free to take any energy efficiency measures; however, any measures not included in appendix 10 should be approved and assessed by the competent authority. The competent authority will then assess whether such measures are sufficient.
Non-compliance with these obligations is subject to administrative penalties (including fines of €10,000 per infringement) and potential criminal prosecution. Every operator of an establishment is required to report to and inform the competent authority of the measures taken and progress made from July 1, 2019. Such reports are to be submitted electronically to the competent authority once every four years. The draft regulation provides that non-compliance or fraud in relation to the reporting obligations is subject to administrative law enforcement, as well as criminal for false reporting.
Key observations for sector players
In our view, the new regulations will have serious ramifications for the real estate sector and all sector players. While the regulations impose clear obligations on more or less specific parties which affect them directly, the indirect effects of the obligations may be even more significant.
For lenders financing assets and asset portfolios, key questions are whether the owners meet their energy performance labels, as non-compliance may put debt service at risk; additionally, non-compliant assets will likely decrease (substantially) in value. Lenders may consider developing products that cater to redevelopment or upgrading of non-compliant real estate.
Developers will be faced with the requirements for new developments with Dutch government contracts being even more specific on energy neutral developments. The new rules on energy performance labels are expected to prompt numerous redevelopment issues both to ensure compliance for office use and — especially in urban areas — transformation developments. Lenders may well have more appetite for, or be willing to invest only in, energy neutral (new) developments which developers may cater to.
Property owners should have a full overview of their portfolio energy performance labels and the costs associated with energy efficiency measures ensuring the energy label is up to the required level or with transforming the real estate to another use. Asset value effects of non-compliance vis-à-vis compliance as well as running costs should also be factored into the decision to take measures or not.
Additionally, key points for non-compliant assets are whether the lease agreements give the lessee termination rights in case of statutory noncompliance of the property. Where new leases are entered into, lessees can be expected to have specific requirements in this respect.
For lessees, the key points are whether the leased real estate meets the statutory requirements and whether the landlord is taking measures to address any non-compliances; continued non-compliance risks (and related costs) of having to relocate. Also, lease termination options in case of statutory non-compliance of the property should be considered. It is suggested that additional arrangements should be made with regard to the energy performance label for offices to include, for example, a break-option in the lease agreement in case the competent authority closes the office building after January 1, 2023.
Where new leases are entered into, the above is equally, if not more, relevant.
Apart from the above specific points, the new regulations on the energy performance label raise a number of pending questions which may or may not have been fully appreciated at the time the regulations were drafted. We therefore expect there to be a number of developments in the market, including the following.
Energy performance label and energy efficiency measures interplay
As set out above, there is a clear interplay between the energy performance label requirements and the energy efficiency measures requirements. Key market effects in our view may include a shift from the “recovery” model for the energy efficiency measures, focusing on recovery of financial investments through reduced costs for, for example, energy, towards a model focusing on asset valuation effects of measures and the corresponding energy performance label; any financial assets not required to operate a building can go into debt service. Lenders will play a key role in facilitating more energy-neutral buildings.
Lessor/Lessee disputes on energy efficiency measures
A key legal question in relation to responsibility allocation lies in the “operator” identification. As set out above, both owners and lessees may at times be considered the operator. Given the new regulations, disputes may be more likely between owners and lessees on energy efficiency measures to ensure compliance with both the energy efficiency obligations and the energy performance label requirements.