Alan Cross on business rates, risk management and poll tax revisited

Alan Cross is Head of Finance at Reading Borough Council

Room 151: Starting with treasury, can you tell us about the longer term bonds you hold?

Alan Cross: In the wake of the problems in 2008 Arlingclose were looking at what options there were for authorities seeking to preserve investment returns while creating security. That was initially prior to the guidance that came out from DCLG and in the aftermath of authorities putting money into the Icelandic banks.

We had a couple of things, one was with RBS which ran for three years and we also invested with the Council of Europe Bank. That gave us a good return and it was tradeable.

Room 151: And what other investments do have the option to go into?

AC: If the market looked risky we would have the option to go into money market funds and we added them in the last year or two. We placed with four specific funds including the one from CCLA which has been set up for local authorities. So we have been ensuring that our portfolio is in less risky, triple-A rated institutions.

We have held money with systemically important banks in the UK and historically had money in one or two systemically important European banks. We had money with Dexia at one stage, for example, and I am told that that is the equivalent of NatWest in places like Belgium. These were historic investments though.

With money market funds I recognise that their counterparty risks are adjusting and there is (to some extent) some commonality of counterparties between them and even with other investments the council may be holding. We’re not checking up on it all the time, but we are aware of the risk. They have their AAA rating through the regime that they sit in, and that regime is there for a reason so we are ok with that, we are reliant on our advisers as well in these situations.

Room 151: Have you used externally-managed segregated mandates in the past? How do you feel about them in current markets?

AC: It has been the position of the authority to be conservative with a small c. The attitude has been, ‘let’s put our money into things that people recognise’. At least when something did go a bit wrong with NatWest people could have sympathy because they recognise what the entity is. When it was local authorities losing money in Iceland, people wondered why they had it there in the first place.

Room 151: What do you think are the main risk factors affecting treasury management at the moment?

AC: The Icelandic banking story has been the most in your face salutary lesson that this is not a risk free game that we are in. The amount of grief that it has given the authorities who invested there with explaining how they came to be there and how they are getting the money back, not to mention the accounting for it, has been amazing.

There is a risk that you go too much the other way and don’t take enough risk, but you have guidance that doesn’t like losses and from a reputational perspective local authorities don’t like losses either. We have pushed a little on the limits our advisers have come up with.

Room 151: Can you outline to us the concerns for Reading over the forthcoming changes to business rates?

AC: Well since 1990 business rates have been nationalized, so while local authorities collect the money it has been going into a pool and what we get back is set by central Government. We have not had a stake in how much has been retained.

From next year what has now been confirmed is a 50/50 share between central and local government and further splits depending on whether the council is two tier or unitary so in Reading 1% goes to the fire authority and 49% to the council. There’s a different split in the county areas.

That means that in terms of the risks and rewards the risks are looking rather more dangerous than the rewards are attractive. Given that the number of new business properties being built is relatively modest, the number of revaluations backdated going through is relatively larger and that is the obvious concern, because we have a 50/50 share in what those changes are. What you end up collecting for the year and what you end up billing tends to be a bit different to what you started with.

Certainly when you look over the long run, even in a relatively buoyant economic area as Reading has certainly been over ten years, if you discount what we are now collecting for inflation back to ten years ago you find that prices are about the same amounts as they were then. It’s gone a bit up and down a bit but overall the message is, it’s relatively flat.

The proposal for setting the baseline, rather than looking at what you might be collecting next year had been illustrated on the basis of an average of the five years ending 2011/12. When you look at what that average is and multiply that by whatever the national rate is going to be, most authorities look as though they are going to be on the wrong side of that equation in terms of the amount being collected. In the context of a 50/50 split, right away that looked likely to create a deficit for lots of authorities. The recent announcement moves this to two years, and we are promised that (by an unspecified amount) the settlement will take more account of appeals. However, Reading’s share of the national total has increased, so we appear to be worse off by this change (unless you assume a very large appeals adjustment).

My tax collection manager was only saying yesterday that we have had a large property that has been empty for a while and we were collecting empty rates on it. Now, for whatever reason, the valuation office has taken it out of rating over the last two years and we have written out a million pound refund cheque, near enough. Next year, half of that is our cost. So on the whim and fancy of the revaluation office I have to make a refund that hits my bottom line and that is a risk that is quite large and quite problematic.

I’m not sure this has been fully thought through in the context of where we are in the long run economic cycle. I understand the theoretical argument, but whether it is an intention that is going to work, time will tell. In the short term I have concerns. In essence I have got to budget for what I think might happen. In this particular example I’m told that there has been no prior indication that this might happen, it’s just been done. How do we manage risks when an organisation independent of the council can take a decision that costs us quite a lot of money? All councils are facing that sort of scenario.

Room 151: You are looking at pooling on rates though?

AC: Within Berkshire we are looking at pooling but it is difficult to come to a firm view on. All six authorities are facing the same sorts of issues and you can’t say ‘we will be better off by pooling’. You need to say we may be better off but we may be worse off. The changes in this week’s announcement appear, on an initial review, to mean that it is much less likely that pooling will produce a gain in Berkshire as a whole.

That makes it very difficult for politicians to come to a view as to what the right thing to do is. Our view has been that it looks as though we will be better off so let’s continue to express an interest. In late December/early January we are going to have to say ‘here’s what the actual numbers look like’. Getting seven authorities in the case of Berkshire with the fire authority, to agree, has its own challenges bearing in mind that the politics, aims and positions are all different.

Room 151: You’re also concerned about the council tax support scheme aren’t you?

AC: With the arrangements to replace council tax benefit, like nearly all authorities we have gone out to consultation on the scheme that we expect will basically replace the loss of income; what we expect to replace, assuming a 10% cut.

A problem there is that illustrative figures presented by the Government were showing 12-14% cuts for most authorities and some more than that.

In a session last week, DCLG/DWP recognised that they need to update their estimate. I’m expecting to see that happen. What the final numbers end up being for individual authorities we will wait and see, but we have yet to see a set of numbers saying what the average cut is. That is a concern – the public position of Government is that this is supposed to be a 10% cut.

We have gone out to consultation on the scheme restricting support to 85% of tax liability and toward the end of the consultation the Government has brought out £100m for people whose schemes restrict liability to no more than 91.5%. You get that grant or you don’t and I am finding it challenging to advise my authority to adjust the scheme to be able to get the grant because against what we have consulted on, the grant is only about £254,000 for us and the costs would be £316,000 in excess of that grant. We’d be adding to our budget gap if we adjusted the scheme and that is setting aside any issues on whether we’d need to consult again on that change.

We’re due to report to Cabinet in December to make a recommendation on the scheme and I am aware that quite a few authorities have a similar dilemma. It’s hard to see why you would accept a grant for one year only when doing so would create more costs for you than the grant is worth by substantial sums.

The concern is that collecting what is probably going to amount to £150-250 from people on full levels of benefit is going to present its own challenges. If you then start looking at the recovery of unpaid council tax you fairly quickly get into the liability orders that add £100 to that bill so we are adding quite high percentages for people who don’t pay and there are some social justice issues associated with that problem.

Some people have called this poll tax revisited, I think it is probably, for people at that end of the income spectrum, not an unreasonable thing to say. The difference when poll tax came in was that everybody’s bill changed.

Room 151: So a crucial time ahead?

AC: The coming budget round is going to be quite a challenge to get through the council. To set a budget that has a proper balance of risks in, I think we will need somewhere between £15-20m of savings. The concern is we have yet to fully identify that level of savings, although we are getting there. From my talks with other authorities most are getting there but have some work to do. Once we have set the budget for delivering that, we have to do it again next year of course and the year after. While some of the things we have identified have got a better second year effect some have got a one off effect so it ends up being a challenging budget round and a difficult time ahead. We’re going to need to start work on the 2014/15 budget pretty much within a month or a couple of weeks of finishing and formally setting the 2013/14 budget. It’s not ideal given there will be a few other things to do at that point in time.