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District Councils and Commercial Property Investments: 5 things to take away from the 19/20 accounts
A lot has been made recently about local authorities investing in commercial properties. The Government's recent PWLB consultation has raised the possibility of withdrawing the borrowing facility from Councils which plan to invest in commercial properties and many have taken the view that local government shouldn't be using public money to 'speculate' in property.
In my view the debate on this subject has been heavy on opinion and light on actual fact. So I have put together some analyses from my review of local authority accounts to add to this debate and any views I offer are based from this information. I am focusing on districts in this article.
Before I start, there is a lot of information on this subject, some of which I think is unhelpful, but for a balanced view of the subject I would recommend the February 2020 National Audit Office report, Local authority investment in commercial property.
1. 147 out of 167 districts have Investment Properties on their 19/20 Balance SheetThat's 88% of district councils which have published their 2019/20 accounts - 8 out of every 9! Like it or not, commercial property investment is now a significant component of local authority funding. A lot is made of a small number of authorities with significant portfolios but my accounts review reveals that larger numbers are making significant investments.
2. Investment Property balances have increased significantly over the last five yearsLocal councils have looked after and made a return from commercial investments for years now, often as part of economic development efforts. However, it is the last five years which have seen significant year on year increases in investment property acquisitions as shown by the graph below.
The y axis should be labelled £thousands. So in 2019/20, there is more than £6.5bn worth of investment properties held by district councils. More than 2 and a half times the level of 2014/15. Significant increases which correlate with decreases in central Government funding of local authorities: coincidence? I think not!
3. The accounts provide us with an insight into returns from commercial property investment. The Investment Properties note in the accounts should provide an analysis of rental income from, and direct expenditure on, investment properties. It should also provide a breakdown of property valuation analysed by brought forward balances, additions, disposals and changes in valuation. I have looked at all of these notes and from these can make an estimate of yield. So here it is, in aggregate, from the 147 districts with investment properties.
The above shows aggregate totals for all districts and hides a significant range in performance of portfolios. For members of our financial resilience benchmarking service, we will provide an analysis of how you compare with this district average and with your neighbours.
4. Commercial income is now a major source of district council funding. I knew this was the case prior to analysing the accounts but even I was surprised by the extent to which commercial property income has become an important component to a balanced budget for many authorities. The graph below compares income from commercial property investments with more established sources of funding.
Y axis is in millions this time. Couple of things to note. First, the blue bars for council tax, retained business rates and RSG are aggregated for all 188 districts but the red bar for investment properties is based only on the 167 districts which have released accounts. So, in actual fact, the red block will be slightly bigger when the remaining 21 accounts are published. Second, in terms of future changes, it is clear that the red bar will continue to grow as more councils invest further whilst council tax will continue to be capped, business rates retention is unlikely to rise significantly and RSG will totally disappear!
So investment property income will become a bigger part of the funding picture. In my view, efforts spent on trying to curb this type of expenditure might be better employed on first accepting that this is now an important area of income and then supporting authorities to effectively manage acquisitions, risks and the management of commercial properties.
5. Commercial properties have fallen in value by 2% in 2019/20
Another thing that the accounts reveal is the latest valuation of investment properties. Accounting rules require all commercial properties to be valued annually and this provides a 'fair value' view of changes in valuation. So the aggregate valuation of investment properties as at 31/3/20 of £6.578bn includes an aggregate 'fair value' reduction of £145m which is just over 2%. In my view, not surprising in a very tough economic climate and a long way from the catastrophic scenarios that are offered up in some articles!
Again, this aggregate valuation conceals a large variation between individual districts - members of our financial resilience benchmarking service will get to see how they compare in respect of valuation changes.
In concluding, I hope you find that this article sheds a bit more light in respect of this important area of local government funding. I could go on to opine that the annual reporting requirements for Investment Properties in the accounts should be boosted. I would further offer a view that the prudential framework relating to these investments might also be improved but both these views probably deserve a separate article.
About the author (Dan Bates): I am a CIPFA Accountant who works as part of the LGImprove partnership. I have worked with a number of authorities on local authority financial resilience and fair funding. At LGi, we have recently launched our financial resilience benchmarking service (mentioned in the article) which as well as providing analysis of investment properties also looks at reserves, borrowing and capital expenditure and financing.