Implications of the heat and buildings strategy for the UK real estate sector

The strategy, which recognises that for the UK to meet its ‘net zero’ emissions targets “heat in virtually all buildings needs to be decarbonised”, also confirmed much of what we already knew about the direction of travel for improved energy efficiency of and reduced greenhouse gas (GHG) emissions from buildings.

The strategy was published on the same day as the UK government's 'net zero' strategy and has major implications for businesses in the UK’s commercial, industrial and build-to-rent residential real estate sectors.

Commercial and industrial property

We already knew that, in relation to the private rented non-domestic sector, the trajectory of the minimum energy efficiency standard in England and Wales was an EPC B by 2030. We also knew that the government had consulted on an interim milestone of an EPC C by 2027. The heat and buildings strategy is noticeably silent on the proposed interim milestone, however. It states that details of the policy will be set out “in the coming months”. The timeline given in the strategy is for regulations to be laid before parliament in 2022 and to be in force by 2025.

We also knew that a consultation on a performance-based rating in England and Wales for large commercial and industrial buildings – those over 1,000m2 and applicable to those buildings whether let or not – proposed mandatory annual disclosure of energy use by the owner or where there was a tenant of the whole property, by that tenant, and would be introduced on a sector by sector basis commencing with offices in the year 2022/2023. According to the strategy, more details of the proposed scheme will be published “in due course”. The timeline given in the strategy suggests regulations will be in force in 2023.

Although the consultation suggested the scheme might be expanded to cover smaller buildings, the strategy states this is not the preferred option. Instead, the government prefers to set a long-dated regulatory target based on EPCs which would require investment in fabric and services. It also said an equivalent of the EPC B required by 2030 for rented commercial property will be considered, in respect of which it states there will be a consultation by the end of this year.

Interestingly, the strategy also states that the proposed performance-based rating scheme will be used to set sector by sector energy reduction targets which will also be the subject of a further consultation. The consultation on the performance-based rating indicated mandatory improvements on energy use levels would only be introduced if the reputational driver behind the proposed scheme did not produce the desired energy use reductions of 30% by 2030, against a 2015 baseline.

The heat and buildings strategy at last gives us some further clarity over the decarbonisation of heating in commercial and industrial buildings. It makes it clear that no decision on the viability of hydrogen heating for buildings will be made until 2026, pending evidence from pilot projects being run. In the meantime, “no and low-regret” action must be taken to develop the heat pump market, heat networks, and hydrogen compatible markets – for example, gas boilers which are hydrogen ready – to ensure the best choices are available.

The strategy proposes a phase out of installation of new fossil fuel heating systems in  “off-gas-grid” non-domestic properties of 1000m² or more in England by 2024 at the earliest and for smaller non-domestic properties by 2026. A parallel consultation on this issue has been opened which closes on 12 January 2022. The heat and buildings strategy makes it clear the government expects a transition to heat pumps will be the right option in most cases.  In relation to “on-gas grid” buildings, the strategy proposes setting a long term “ambition” for the phase out of gas boilers by 2035 and a consultation on ending new connections to the gas grid in England with effect from 2025.

In relation to new build non-domestic buildings, the strategy refers to the Future Building Standard consultation which has closed. The strategy does not suggest anything new in this regard and confirms the new standard is intended to apply from 2025 with an interim uplift to be effective from June 2022. No timing is given for any government response to the consultation.

Finally, in relation to non-domestic properties, it is worth noting that the heat and building strategy also deals with the need to accelerate the expansion of heat networks which can be decarbonised relatively easily. The Climate Change Committee recommended that 18% of the UK’s heating comes from heat networks by 2050. The current figure is 3%. As well as various initiatives to stimulate the heat network market, introduce maximum CO₂ emission limits for heat networks and regulations for consumer protection, the strategy refers to a current consultation, closing on 19 November, on local authority powers in England to put in place heat network zones by 2025. In such zones it seems the preferred option is that certain existing buildings, including public sector and large non-domestic buildings, together with all new buildings, would be required to connect to the network subject to possible exemptions where they already have low carbon heating.

Residential property

We knew that in relation to the private rented non-domestic sector the proposed trajectory of the minimum energy efficiency standard for letting in England and Wales was an EPC C for new lettings from April 2025 and for all lettings by April 2028. Nothing in the new strategy alters that. However, it confirms that the government will publish a response to the consultation on the trajectory by the end of this year.

In line with the government’s intention, set out in the clean growth strategy of 2017, for as many homes as possible to achieve an EPC C by 2035, the heat and building strategy outlines plans to set minimum standards to achieve this. It further identifies, for owner occupied homes, possible trigger points as sales, new mortgages and repairs/improvements to homes. It says the government will be consulting on the options to improve these properties.

The strategy also makes clear that it sees green finance as important in this context. The government has been consulting on “improving homes energy performance through lenders” via mandatory disclosure of the energy performance of their loan books and voluntary improvement targets for these. The new strategy includes a timeline for the introduction of voluntary disclosures by lenders of mid-2022 and for mandatory disclosures by 2024 with a suggestion of mandatory improvement targets if resulting energy performance improvements are not enough.

For new build residential property, the heat and buildings strategy does not alter anything the government has already said in its response to the consultation on the Future Homes Standard. For new builds in England, the timeline in the strategy is for regulations for the interim uplift to be in force in 2022 and for the Future Homes Standard to be in force in 2025.

For existing residential property, the heat and buildings strategy now provides the missing piece around decarbonising the heating in existing homes, It confirms that, for off-gas-grid properties, regulations are proposed to prevent installation of fossil fuel heating from 2026. A consultation on this proposal was issued at the same time as the strategy. That consultation closes on the 12 January and also seeks views on a complete end to all fossil fuel heating in homes by the late 2030s. For on-gas-grid properties, the strategy states the government will consult on ending new connections to the gas grid from 2025 and it sets a long-term ambition for no new gas boilers from 2035.

Our view

The viability of the proposed regulatory framework to improve the energy efficiency of existing buildings and decarbonise their heating, and to ensure new builds are energy efficient and have low carbon heating, depends on many factors. The most important of these factors are the scaling up of low carbon heating supply chains, the affordability of energy efficiency works and the transition to low carbon heating, the electricity generation and storage capacity and the certainty and reliability of the technical options for decarbonising heat, in particular certainty over the role of hydrogen in heating for buildings.

The heat and buildings strategy includes many initiatives on these issues. These include hydrogen pilot schemes and a commitment to a decision on hydrogen in heating for buildings in 2026, as well as the rebalancing of gas and electric prices, and a boiler upgrade scheme providing contributions to switch to heat pumps to stimulate the heat pump market to the required level of 600,000 heat pumps a year by 2028. It also addresses support for social housing and low income/fuel poor households.

The proposed regulatory framework for the improvement of energy efficiency in the decarbonisation of buildings is largely in line with the recommendations of the Climate Change Committee and is a welcome step towards meeting the UK’s ‘net zero’ targets by 2050 and the interim 2035 target of reducing GHG emissions by 78% by 2035. However, the success of the policies will depend on swift and efficient implementation of the regulatory framework to provide the certainty the real estate sector and the supply chains into that sector needed to scale up for delivery. If the market does not deliver the cost reductions of low carbon heat sources and the green finance products the government expects, the government may need to reconsider its approach.