LOS ANGELES — California Gov. Jerry Brown wants to kick-start the residential side of the state's Property Assessed Clean Energy program by setting up a $10 million reserve fund that would reimburse Fannie Mae and Freddie Mac for any losses incurred from PACE liens.

The governor sent a letter on Monday advising Edward DeMarco, acting director of the Federal Housing Finance Agency, of his efforts.

"California has devised a mechanism that will address the concerns raised by FHFA and protect the interest of Fannie Mae and Freddie," Brown said in his letter.

Stefanie Johnson, an FHFA spokeswoman, said Tuesday morning the agency is reviewing the letter.

PACE allows residential and commercial property owners to use municipal bonds to finance energy efficiency and water conservation projects. The costs are financed by bonds and repaid typically over a 15-to20-year period by property owners in property tax assessments.

The concept was originally created in Berkeley, Calif. in October 2008, but residential PACE largely stalled after the FHFA instructed government-sponsored enterprises Federal National Mortgage Association, known as Freddie Mae, and the Federal Home Loan Mortgage Corp., or Freddie Mac, to stop buying mortgages that have a PACE lien in July 2010.

Fannie Mae and Freddie Mac purchase home mortgages from banks, securitize them and sell them as mortgage-backed securities to investors.

Banks are reluctant to offer mortgages to homeowners that can't be resold to Fannie or Freddie.

PACE liens are added to the property owner's tax bill and stay with the property if it is sold. The FHFA did not like that if a house is foreclosed on, repayment of the PACE lien is senior to the mortgage.

Under Brown's new program, the California Alternative Energy and Transportation Financing Authority, an existing state agency chaired by California State Treasurer Bill Lockyer, will create a reserve fund for PACE programs.

Any PACE program that wishes to use the reserve fund will enter an agreement that requires the PACE program to make Fannie Mae and Freddie Mac whole by doing the following.

In the event of a foreclosure of a house that has a PACE lien, the reserve fund would pay Fannie Mae or Freddie Mac for any losses resulting from the payment of any PACE assessment while the property is in the GSE's possession. If a forced sale of the property occurs for unpaid taxes or special assessments that result from the PACE assessment being paid before the outstanding mortgage, the state would also reimburse Fannie Mae or Freddie Mae for those losses.

PACE programs that enroll in the authority reserve fund will have to meet basic structural criteria, comply with underwriting criteria set by the authority, and pay an annual premium based on the size of their portfolio, according to the letter. In the event of foreclosure, Fannie and Freddie will be able to claim from the PACE program any amounts paid to keep the PACE assessment current until the property is sold to a new buyer.

If a property is sold for back taxes or special assessments, and the sale result in insufficient funds to satisfy the outstanding mortgage because of the PACE lien priority payments, Fannie Mae and Freddie Mac would be able to recover that amount from the PACE program.

The $10 million loss reserve fund established as a PACE backstop program came in a budget implementation bill, Senate Bill 96, said Tom Dresslar, Lockyer's spokesman.

"We believe this approach will fully protect Fannie and Freddie, and at the same time, revive an effective renewable energy program," Dresslar said.

CAEATFA is in the process of promulgating emergency regulations to govern the program, Dresslar said. After regulations are drafted, the authority will hold public hearings to gather comment.

"We hope to have it operational sometime this winter," he said.

PACE programs for commercial real estate, which are not impacted by the FHFA prohibition, have taken off in California and in other states, while the residential side has foundered.

Brown filed an unsuccessful lawsuit on July 13, 2010, against Fannie, Freddie, and the FHFA, which regulates the GSA's, in U.S. District Court for the Northern District of California, asking the court to restrain or enjoin the agencies from refusing to participate in PACE programs. The Ninth U.S. Circuit Court of Appeals in San Francisco overturned a decision in March by U.S. District Judge Claudia that would have forced the FHFA to purchase mortgages with PACE liens.

The Appeals Court found in its ruling that determining which mortgages are too risky to buy is an appropriate action for the federal agency to take to preserve the GSEs.

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