New Prudential System of Local Government Capital Finance
Comments from ACCA
October
2003
ACCA is pleased to comment on the following three consultation documents from the Office of the Deputy Prime Minister:
- Local Authorities (Capital Finance and Accounting)
(England) Regulations 2003
- Future Housing Capital Financing Arrangements
and
- Support for Local Authority Capital Investment.
Local government capital finance has long been a complex area, subject to considerable central government regulation and control. As a result, the openness and accountability of local government has been diminished. Unfortunately we do not consider that the current consultation process and the proposed reforms will significantly improve this situation.
Clear objectives do not appear to have been developed for these reforms. For example, there is some confusion as to whether it is the level of local government liabilities, borrowing, or capital expenditure which is to be controlled. At the same time, there appears to be a conflict between, on the one hand, giving local authorities the power to determine their own levels of capital expenditure and borrowing and, on the other hand, being concerned about the national levels of local government debt and the approach adopted by local authorities to capital investment.
At one point in the consultation documents it is suggested that there should be no bias in favour of particular procurement methods (referring in particular to the Private Finance Initiative (PFI)), but at another it is stated that the changes will release resources to support additional investment in one approach to housing provision � Arms Length Management Organisation (ALMO).
We welcome the proposed prudential system of local government borrowing and the abolition of credit approvals, but note that the Government is proposing to retain reserve powers to limit local authority borrowing at a national and individual authority level. In addition, much of the current complexity of, for example, the minimum revenue provision and the funding arrangements is to be retained.
The complexity of the reform process is further increased by the range of laws, regulations, guidance and consultation documents which are involved. In addition, we have consultation documents which are dependent on laws, regulations or guidance which are themselves only in draft form. Thus, we currently have:
- a draft Local Government Bill which, it is hoped,
will become law in time for the new arrangements to be introduced by April
2004
- draft regulations (the Local Authorities (Capital
Finance and Accounting) (England) Regulations 2003), which are being consulted
on until 29 October 2003
- the final Prudential Code, which is to be published
in "early October" 2003
- two further consultation documents on "Support for
Local Authority Capital Investment" and "Future Housing Capital Financing
Arrangements" with closing dates of 19 September (allowing a period for
responses of only six weeks, compared to good practice of 12 weeks) and 10
October 2003
- a further consultation paper on guidance from the
Office of the Deputy Prime Minister on the investment of surplus funds to be
issued "later this year"
- statutory guidance which is to be issued "later in
the year" on the definitions of terms to be used in developing of prudential
indicators
and
- changes to the "Accounts and Audit Regulations" on which formal
consultation is promised "shortly".
Local Authorities (Capital Finance and Accounting) (England) Regulations 2003
The proposed regulations appear long and complex (see for example, paragraph 2.49 of the explanatory notes) and so will not improve the current level of openness and accountability of local government. The regulations do not clarify the position of PFI projects and whether these should be treated in the same manner as other long-term liabilities. This is particularly relevant as HM Treasury says (July 2003) that 60% of PFI schemes by value are now on the balance sheets of the relevant public sector organisations.
Regulation 4 excludes pension liabilities as they have "nothing to do with the acquisition of capital assets". This introduces some confusion over the intended objectives of the proposed Prudential System. It is not clear whether the system is designed to provide local authorities with the freedom to determine their own borrowing and financing limits within a prudential limit or whether it is intended to control the level of, and approach to, capital expenditure which local authorities undertake.
Support for Local Authority Capital Investment
The arguments for "moving to true depreciation" appear to be very confused and do not provide a balanced view of the costs and benefits of the proposed changes. Thus, paragraph 9 of the consultation document only provides the advantages of the approach. We believe that there are a number of problems with the proposals which, unless adequately addressed, will tend to undermine these advantages. These include the range of different approaches which may be adopted and the costs of introducing and maintaining the new approach. We are concerned that no estimate is being made of the costs of moving towards "true depreciation" or the production of "more robust information".
The use of depreciation by NHS trusts, universities and colleges does not appear to have led to improved management and maintenance of their capital assets. Backlog maintenance was not identified or reduced with the introduction of accrual accounting in the NHS (from the early 1990s), where backlog maintenance was estimated to be nearly 10% of its annual budget by the turn of the millennium. We believe that the growth of backlog maintenance has been a general problem for the UK public sector over the last decade or more. We consider that this is more likely to have been a result of the general financial stringency across the public sector rather than the particular methods adopted for accounting for capital assets.
The move to depreciation accounting means that some costs (due to reduced asset lives) cannot be avoided by postponing maintenance, but this course of action will still be cheaper and may be taken if there are restrictions on the level of resources available to the organisation. The inflow of resources (and associated drop in financing costs) already provides an incentive to sell underused resources. The level of asset sales by local authorities in recent years does not suggest that additional incentives are needed to encourage the disposal of underused assets.
We do not think that the complexity of the regulations and the use of PFI will result in the improved transparency or accountability which is suggested. We are, however, pleased to see that efforts will be made to ensure that there will be no bias in favour of particular procurements options, for example PFI. At present we believe that there are two aspects which currently encourage the use of PFI by local authorities and will have to be addressed to avoid such bias:
- the system of having a separate credit approval for
PFI funded projects
and
- the differential funding scheme for PFI and directly
funded schemes.
Future Housing Capital Financing Arrangements
Paragraph 4 of this paper appears to favour one management arrangement for the provision of local social housing (ALMO). This appears to conflict with the approach to PFI, which is not to favour a particular procurement option.
We are disappointed that the opportunity has not been taken to reduce the complexity of funding for housing capital expenditure. We are also concerned with the complexity of the definitions of the prudential indicators which local authorities are to adopt (paragraph 62).
We hope that you find these comments helpful. Please do not hesitate to come back to me if you need further details or clarification.