Energy efficiency and alternative energy in tenant-occupied commercial buildings has long been a contentious subject. Landlords want to know why they should bear the brunt of the upfront costs for energy efficient upgrades or alternative energy solutions like solar power when they will not actually reap the majority of the savings from it. This attitude seems to be prevalent among landlords, regardless of whether they own residential or commercial properties.
Very often, it's the tenants who pay the electricity bills for their units, and thus, they seem to benefit the most from the upgrades. Installing something like a solar PV system will lower the tenants' monthly bill while forcing the landlord to pay the upfront cost of solar power.
This is a textbook example for what is known as a "split incentive." A split incentive is a situation where the person or group making the upfront investment in something won't end up with all of the rewards.
Rethinking the landlord/tenant split incentive in commercial buildings
This line of thinking may have had something to it in years past, but recent developments in the energy efficiency and alternative energy sectors have changed the relationship between landlords and tenants. No longer do building owners have to worry about their investments in their properties failing to pay themselves off – energy efficient buildings can make a landlord's money back while providing them with other intangible but still very real benefits.
In a report on the benefits of landlords and tenants sharing the responsibility for energy efficiency, Energy Star noted that what benefits one group will benefit the other. The agency wrote of Brandywine Realty Trust, a realty company with a space for rent in Philadelphia, wanted to own a building that would allow it to brand itself as an environmentally-conscious building owner. This was perfect for their eventual tenant, international law firm Reed Smith LLC. Reed Smith wanted to differentiate itself by positioning itself as an industry leader that cared for the health and safety of its employees, community and the environment.
The two businesses found a perfect partner in one another and started to collaborate on the project of making the building more energy efficient. The two found that updated lighting, HVAC optimization, Energy Star appliances and other upgrades would lead to a projected 35% reduction in energy use compared to standard systems. Additionally, "smart" features like occupancy sensors that can adjust the heat or lighting based on how many people are in the building would make the make the building less energy intensive and save even more on energy costs.
These upgrades provide more intangible benefits too. Energy efficient buildings tend to be more comfortable and have higher air quality, which improves the occupant's health. Additionally, as Fortune reported, young workers are increasingly concerned with a company's image when choosing where to work, with sustainability playing a big role in the overall brand of a company. Green upgrades can be just the image-enhancer a tenant needs to make his business more attractive to the young workforce.
How landlords benefit
To that last point, one may wonder what benefits that has for the landlord. It still sounds like the tenants are getting the better end of the deal.
It's important to note that in this case, what benefits the tenant can also benefit the commercial landlord. Energy efficient upgrades are becoming increasingly desirable for business, and many are willing to pay more for them. Increased tenant satisfaction may also lead to less turnover, bringing predictability to the landlord's operation.
It's important to remember that financial incentives and creative loans can make investing in new energy efficient upgrades much less onerous in terms of upfront costs. Federal and state rebates can be awarded not just for things like solar power, but for HVAC upgrades, Energy Star appliances and so on.
Larger purchases, like commercial solar installations can also pay off for landlords. Some building owners have held off on going solar because they haven't seen why they should pay for the system if the tenants were going to be rewarded with lower electric bills. In many states, however, it's possible to go solar for little to no money down thanks to generous government rebates and tax writeoffs.
In addition to making the building more attractive for potential tenants and lowering existing tenants' bills, solar power can actually pay off for the system's owner as well. Building owners in states with SREC programs allow the owner of the solar PV system to get paid for every SREC the system generates. This means that while the tenants are loving their lower bills, landlords are also sharing in the rewards and paying their systems off quicker.