HC 1652 Communities and Local Government CommitteeWritten submission from Birmingham City Council

Summary

Birmingham City Council has an unparalleled record in developing new homes for sale and rent;

The Council has developed an innovative model for derisking development and attracting private sector developers to build in challenging market conditions;

This is an approach which has been proven to be successful by the private sector.

Response to how the reform of the council Housing Revenue Account system might enable more funding to be made available for housing supply

(1) Remove the proposed borrowing caps for local authorities.

(2) Reclassify housing debt outside public borrowing.

(3) Allow the transfer of unutilised debt headroom across local authorities.

(4) Revised RTB Receipts Policy.

Response to how long-term private finance, especially from large financial institutions, could be brought into the private and social rented sectors, and what the barriers are to that happening

Tax Incentives.

100% capital allowances.

Incentivising development through lower interest rates.

Bond issues.

Response to what the role is of the public sector in providing support in kind-for example land or guarantees-as opposed to cash, and what the barriers are to this happening

We believe that LAs can use their land to incentivise development and our approach through the BMHT model demonstrates how this can be achieved.

Response to how effective the Government’s “Affordable Rent” proposals are likely to be in increasing the funds available for new housing supply, and how sustainable this might be over the medium to long term

We applaud the intention to capture the surpluses generated by RSLs and ensure that these are reinvested into new housing development. However we do not believe that the ARP model is replicable or sustainable and that the impact on housing benefits and those in receipt of benefits has not been thought through.

Response to how and where the more limited capital and revenue public subsidy can best be applied to provide the biggest return on the investment, in housing supply terms

It is our contention that the limited capital and revenue public subsidies available can be best applied through local authorities for the biggest return on investment.

Response to what the role is of state lending or investment, as opposed to grant funding, and the appropriate balance between them

The use of public subsidy should be made available to RPs on the criteria of value for money and means testing.

Response to how housing associations and, potentially, ALMOs might be enabled to increase the amount of private finance going into housing supply

RSLs should use their reserves for development. Tax incentives or preferential interest rates should be used to encourage investment in the development of affordable housing.

Birmingham, City Council’s track record in delivering new rented homes

BCC has an unparalleled track record in maximising the delivery of affordable rented homes in partnership with the HCA.

In January 2009, we launched the BMHT, our brand name for new Council homes developed out side the HRA subsidy system, and in that time we have completed the construction of 200 new rented homes. All of our homes have been developed on time and on budget and to high standards of design and sustainability. We have a development programme of 1,340 new homes over the next few years which comprise a mixture of homes of both rent and sale.

Our model for the development of new homes for open market sale was launched in 2009 and has proved to be highly successful, despite the unfavourable conditions in the housing market.

Programme

HCA funding (total)

Approx grant per unit

No. of Units

Local Authority New Build (LANB 1)

6.7 million

51,900

129 rented homes

Local Authority New Build (LANB 2)

5.4 million

53,400

101 rented homes

Public Land Initiative

4.7 million

N/A—gap funding formula

83 rented homes (151 homes for sale)

Local Land Initiative (Eastern Corridor projects)

2.9 million

N/A—gap funding formula

19 rented homes/42 homes for sale plus demolition of two high rise blocks

Affordable Rents Programme

Bid made for £6.7million—Conditional officer received.

21,700

305 rented homes (323 homes for sale)

The Philosophy

The City Council through the BMHT is committed to the development of new homes for open market sale for a number of reasons.

Experience from regeneration projects across the country over the last 30 years has demonstrated that mixed tenure communities are in social demographic terms more sustainable than mono tenure communities.

The development of market homes via the BMHT also provides the opportunity to set high standards for new market homes in the city, at a time when the Government and CABE are indicating concerns about the construction and design standards of new market housing.

In order to meet the housing needs of a growing city, it is essential that the Council encourages the development of new housing in a range of tenures, not just affordable housing.

In addition, worklessness is a major challenge facing the city and encouraging the development of market housing is clearly one way of safeguarding existing construction related jobs and encouraging construction training programmes.

The surpluses created through the sales model also act as cross subsidy for the homes for rent and thus reduce the need for public subsidy towards the cost of the new rented homes.

The traditional model for market housing

Under the traditional model, the Council sells land to a developer to build homes for sale, and who could also be contracted to build homes for rent for the Council according to the Council’s specification.

The developer takes the risk of designing all the properties and is responsible for obtaining planning permission. The developer would not normally pay for the land until it had obtained planning permission for the units for sale.

Once planning has been secured the developer has to pay for the land up front (probably through borrowing) and does not achieve any financial returns until houses are completed and start to be sold.

Procurement of a developer is therefore a lengthy and costly process in which all of the risks are taken by the developer—firstly a developer has to be procured by competition, and then the developer in turn has to obtain planning permission.

The MHT model

The MHT model recognises the fact that in the current market developers are risk averse and seeks to reduce financial risk to private developers by redistributing risk between the Council and the developer.

This is achieved in a number of ways:

Design risk—the Council takes on the design risk by designing up new homes to the Council’s adopted Residential Design Guidelines, The Code for Sustainable Homes (currently up to Level 4), Secured by Design and Building for Life Silver standard;

Planning risk—the Council takes on the planning risk by submitting the planning applications and brokering discussions with all other stakholders and statutory undertakers;

Site conditions—the Council takes on the site conditions risks by carrying out all necessary surveys of the sites and taking any remedial action, eg Japanese knotweed treatment, contamination, that are needed to prepare the sites for new homes;

Deferred receipt—the Council does not receive payment for the land up front—instead the Council enters into a legal agreement with the developer to defer the land receipt for up to three years with an associated profit sharing arrangement of the overall development profit.

Guaranteed work—the contract is for the construction of both rent and sale properties and the rented homes contract offers the developer an attractive risk free construction contract to offset the risk associated with building new homes for sale.

The Council bears the costs of design for the market houses for sale “up front” and at risk—however the developer is expected to reimburse the Council on contract exchange for the apportionment of planning costs for the market houses which is not deferred on the same basis as the land receipt or profit premium.

The BMHT enters into a contract for a developer to both build the BMHT properties for rent and to build and sell the market sale properties. The developer’s offer is based on how much the cost will be to the Council for the construction of the rented homes and an agreed minimum plot value for the deferred sales. The developer’s offer for the sale site also includes what element of profit share the developer is prepared to offer, and the longstop date by which the developer agrees to build out all of the housing for sale.

The Council enters into a profit sharing arrangement with the developer through which instead of receiving the land plot premium at point of sale the Council receives a percentage of the overall development profit. This would provide an additional incentive for the developer.

The developer has the option to modify some elements of the specification for the market homes to make them more saleable—for example higher quality kitchens and bathrooms, en suites, higher specification fixtures and fittings;

The success of the model

This model was launched in 2009, following formal consultation with developers and has proven to be an unqualified success. The balance of risk and reward between the private and public sectors has been crucial to ensuring the success of this approach which is now being replicated across the BMHT development programme. Of the 1,340 homes in the programme, half will be developed for sale using this model.

BMHT currently has contracts with the following developers to deliver new homes through this approach—Keepmoat, Kier, Galliford Try.

In March 2010, the former Minister for Housing, John Healey MP, and the Chairman of the Local Government Association (LGA), Baroness Margaret Eaton, jointly established a Commission to consider how local authorities could ensure a sufficient supply of new homes for their areas. The current Minister of State for Housing and Planning, Grant Shapps MP, asked the Commission to continue its work and an Interim Report was delivered to the Communities and Local Government (DCLG) and LGA on 22 July.

As part of the research for the report, Lord Best visited Birmingham in 2010 and was favourably impressed by the work of the BMHT. This positive impression was reflected in the report Housing shortages: what Councils can do—Final report—which was published in November 2010.

Overall, this publication paints a very favourable picture of the work that Local Authorities are doing to provide new Council homes.

Key comments made by the report include:

“The Commission has been impressed by entrepreneurial skills we have seen displayed by today’s Councils. Invariably local arrangements bring together the different players, often comprising major developers and house builders, housing associations and a variety of public, private and civic organisations” (page 33).

“We have seen numerous examples of local authorities making creative use of the new LANB grants. They have demonstrated that small sums of public funding can go a long way through new Council housebuilding” (page 38).

“local authorities have done better than housing associations in achieving Level 4 of the Code for Sustainable Homes and some have moved on to Level 5 and even Level 6 of the Code” (page 39).

The work of the BMHT is well showcased on pages 36 and 41.

The comparison between grant rates for RSLs and Council new build on page 46 is also instructive. This shows that the grant rates for RSLs in the West Midlands in 2009–10 averaged £56,500 per unit, compared with a grant rate of only £52,635 per unit for Council new build.

The report also points out that:

“These lower levels of grant for the Council schemes are particularly impressive when it is noted that these contain higher numbers of three bedroom (and larger) homes and a higher proportion are built to Level 4, or above, of the Code for Sustainable Homes” (page 46).

Working with Registered Providers

While the Council can justly claim a track record of excellence in delivering new Council homes, support to Registered Providers is also essential to meet the growing housing needs of a city of one million people.

In partnership with the HCA and through the City Housing Partnership the Council ensures that opportunities are available to Registered Providers to develop new housing. Despite the challenging economic conditions, the number of new affordable homes developed in Birmingham has risen over the last few years, to a peak of 981 in 2010–11.

While the Council is prepared to make land available at discounts or even at no cost in some cases, the general principle remains that RPs need to use their own resources to support development.

Responses to Specific Questions

How the reform of the council Housing Revenue Account system might enable more funding to be made available for housing supply

The HRA Reforms have the potential to generate funding to increase the supply of housing supply provided by local authorities. There are some risks that need to be considered, in particular as the reforms are based on a RPI plus rent policy and the implications from the new Welfare Reforms.

There are a number of additional actions that could be implemented to further increase potential funding and these are set out below.

(1) Remove the proposed borrowing caps for local authorities

The Council recognises the need and importance of macro economic control with regard to public sector borrowing but contends that there are adequate other financial frameworks that could be utilised to control total debt by local authorities. This could be effected through the existing CIPFA Prudential Code as this establishes a number of key ratios with regard to debt levels and rent income.

A number of authorities including Birmingham will be at the maximum cap at the start of the reforms and will therefore not be able to generate more funding for new housing in the short term until such time that debt is repaid over the medium term.

It should also be noted that the total local authority debt post the reforms is estimated at £28 billion (an average of £17,000 per property). This contrasts with an average of £30,000 per property for registered providers of social housing.

The total debt outstanding by local authorities compares very favourably to the estimated value of the housing assets, even on the current valuation methodology—existing use value for social housing (EUV- SH). The average property in Birmingham is valued at £25,000 based on the EUV-SH and this is assumed to be only 34% of the market value. These ratios are likely to apply to most local authorities and represent a substantial under-gearing.

(2) Reclassify housing debt outside public borrowing

The reclassification of housing debt outside the public sector borrowing has been a matter of much debate over many years and contrasts with the approach adopted by other European countries.

The undertaking of debt to finance day to day expenditure is not a strong fiscal discipline but borrowing to finance and maintain assets is a prudent and sustainable long term policy. This is a strong argument for the reclassification of this debt and also see (1) above.

(3) Allow the transfer of unutilised debt headroom across local authorities

The HRA Reforms will establish maximum debt ceiling for each local authority. A number of authorities will have potential headroom but will be unable to utilise this due to a number of factors, for example, shortage of land for development or low demand. A mechanism to allow the transfer of any headroom across local authorities would be helpful but this would be complex to administer and require an ongoing national framework to be maintained.

(4) Revised RTB Receipts Policy

The national pooling of RTB receipts until 2014–15 under the current GSR will reduce resources available to local authorities for new investment. The current policy should be reviewed and local authorities should be allowed to retain all the receipts and this would be consistent with the Localisation Agenda and the Self Financing HRA Framework. This will promote long term asset management and the replacement of stock lost through RTB sales.

The current cost of a new build property in Birmingham is £100,000 and the retention of RTB receipts locally would generate net additional resources of £45,000 per property. This together with borrowing would be sufficient to replace the property sold.

Nationally, the receipts are lower than 20 years ago due to a combination of the economic circumstances and the reduced availability of properties for sale (as a consequence of transfers of stock and the most desirable properties having been purchased). In Birmingham annual RTB sales are currently less than 200 (over the past couple of years) but were at a peak of 3,500 in the early 1990s.

This presents an opportunity to reconfigure the current discount policy and perhaps realign this to a percentage of the market value of the property as opposed to a fixed cash regional discount. This will be more transparent and equitable and will resolve some regional differences, namely, the maximum discount in South East authorities is only worth 10% of the valuation but up to 50% in Northern authorities.

The differential policies with respect to registered social providers of housing with the right to require could also be reviewed to provide greater incentives for RSL tenants to purchase their property (in Birmingham the maximum discounts for an RSL tenant is £11,000 compared to £26,000 for a local authority tenant)

How long-term private finance, especially from large financial institutions, could be brought into the private and social rented sectors, and what the barriers are to that happening

We are proposing a number of measures to incentivise the private sector to provide rented homes. These include—tax incentives; bonds;

Tax Incentives

Government needs to incentivise development financially. At the moment, development is seen as risky by lending institutions and developers alike. Government needs to create the conditions to mitigate that risk and make development of new housing more attractive to the market. There are a number of mechanisms that Government could use to achieve this but fundamentally this needs to happen in one of two ways—either by introducing taxation incentives to make development more financially viable in a fragile housing market, or by creating the conditions in which borrowing is more affordable for developers. A couple of options for achieving these objectives are set out below.

100% capital allowances

The Government should consider 100% capital allowances for companies developing new, energy-efficient, managed affordable housing. This would significantly reduce the initial capital cost of development by an estimated 25% (Town and Country Planning Association). This proposal would be tax neutral to the Government as the reduced tax take might be more than matched by increases in tax revenue from increased development activity, alongside an associated “multiplier” effect.

Incentivising development through lower interest rates

Government could make development by LAs more attractive by offering lower interest rates to LAs for development projects through the PWLB. The loss in interest would be compensated for by other tax revenues related to development. Government could also devise mechanisms to reduce the level of interest charged on housing development projects.

Bond issues

(1) Government housing bonds

Housing bonds would be debt securities issued by Government to raise money for affordable housing development. This is a funding approach often used in the USA.

The bonds can be issued by state or local government and is repaid with interest over a period of time.

In addition to repaying the bond principal, the state or locality must pay interest on the money it borrows. Housing bonds typically have a low interest rate. For investors, the interest paid by housing bonds is exempt from federal and sometimes state income tax because housing bonds are a type of municipal bond. This tax exemption helps to compensate for the bonds’ low interest rate.

(2) Private investor housing bonds

An alternative approach would be for housing bonds to be offered to private investors by appropriately regulated financial institutions.

These might carry up to 100% tax relief; if subscribed to by, say, 50% tax payers, such bonds should reduce the initial capital cost of affordable energy-efficient housing by up to 50%. The lost tax should be set against the increased tax take from increased development activity. The bonds, once subscribed, would be used to finance development by accredited affordable housing providers, including suitably accredited local housing trusts and local authorities, in areas designated locally by councils.

(3) Local authority bonds

There are no legal constraints on local authorities raising bonds directly. Such instruments have, in the past, been used to fund public infrastructure—notable examples include Birmingham City’s use of a bond to fund the National Exhibition Centre (NEC). But central government tightening of financial regulations on the use of public sector debt have made this much harder since the 1980s. An opportunity exists here for Government to ease these restrictions and make it easier for LAs to raise bonds themselves.

What the role is of the public sector in providing support in kind-for example land or guarantees-as opposed to cash, and what the barriers are to this happening

The key issue with LA land disposals is the legal requirement for LAs to achieve best consideration under section 123 of the Housing act 1985. While LAs have the ability to give discounts to RSLs in exchange for nomination rights, the principle of best consideration must govern all LA land transactions, and the starting point for LAs must be that they seek to derive market value from land sales. This is an approach which is being replicated by the HCA in its Asset Disposal Strategy.

However as described above, LAs can use their land to incentivise development by the way in which they dispose of land. Not insisting upon land receipts up front but only at the point of sale of the constructed property under the BMHT model makes a huge difference to developers as they do not have to raise the loan finance necessary to fund the purchase of the land. Deferred receipts schemes, coupled with incentive share or overage agreements can enable public sector landowners to meet the dual objectives of achieving best consideration and making sites more attractive to developers.

How effective the Government’s “Affordable Rent” proposals are likely to be in increasing the funds available for new housing supply, and how sustainable this might be over the medium to long term

The affordable rent model will increase supply in the medium term however the issues with this model are:

Most RPs have a limited number of rent conversions to support the programme and once these rents have been converted they will be unable to afford to develop any more new homes.

The affordable rent programme by its very nature will result in increased rents. This will:

Reduce the number of social rented properties available;

Disincentivises people on benefits from taking up lower paid work and remain trapped in benefits;

Increase the cost of housing benefits across the board to the Treasury;

Create geographical concentrations of rich and poor as the advent of universal credit means that lower income families are no longer able to live in higher value areas.

It is not clear that the ARP will achieve its primary objective of capturing an element of the £1.6 billion in surpluses generated by RSLs every year, or the £20 billion + that is on RSLs’ balance sheets. This is money that should be spent on building new homes rather than sitting on RSLs’ balance sheets.

Government should review how successful the ARP has been in terms of ensuring that RSL: surpluses are spent on development, and come up with other ways to incentivise RSLs to use these surpluses on a “use it of lose it approach”.

Government should also review the use of Recycled capital Grant funding (RCGF) to ensure that it is used on the development of new supply only, and made available for this purpose as soon as the receipts are realised.

How and where the more limited capital and revenue public subsidy can best be applied to provide the biggest return on the investment, in housing supply terms

It is our contention that the limited capital and revenue public subsidies available can be best applied through local authorities for the biggest return on investment. This is on the basis that local authorities have a number of key advantages to secure value for money as follows (particularly the bigger urban authorities):

tax advantages—in particular with regard to VAT exemption and corporation tax;

the costs of managing housing are significantly lower than comparative RSL providers (due in part to economies of scale (for back office support) and the ability to defray overheads over a bigger general cost base of the Council;

procurement advantages, particularly for larger authorities (Birmingham has secured significant savings for the current repairs and maintenance contracts (in excess of £37 million in the next three to five years);

the availability of land that can be used for development; and

the ability to borrow from the PWLB at reasonably preferential rates.

What the role is of state lending or investment, as opposed to grant funding, and the appropriate balance between them

The use of public subsidy should be made available to RPs on the following criteria:

Value for money—the cost to the public purse for each scheme measured in terms of the outputs it creates in terms of the number of new homes, affordability of rent levels, build quality, and jobs created;

Means testing—there is no justification for making grant available to RPs which have significant cash reserves—as suggested above, RPs with large cash reserves need to be incentivised to use these for development. Withholding grant from such RPs is one way of doing this. Historically the need for grant has been determined on a scheme specific basis, in future this should take into account the overall financial position of the RP.

The potential use of Government bonds has been described above—this is another way in which Government can make finance available for development.

How housing associations and, potentially, ALMOs might be enabled to increase the amount of private finance going into housing supply

A key suggestion for us is ensuring that RSLs use their reserves for development and that the willingness of RSLs to use their reserves is taken account of in the allocation of grant funding.

In terms of increasing the amount of private finance going into housing supply through RSLs and ALMOs, as described above potential mechanisms for this are tax incentives or preferential interest rates for investment in the development of affordable housing.

Role of housing development in the economy

In this context it is worth noting the benefits created to the UK economy by housing development.

The recent fall in housing activity has contributed to a 1% fall in GVA. Oxford Economics estimate that impact of the fall in house prices on consumer spending has contributed a further 1% fall. Put another way, the impact of changes in the housing market contributed to around a third of total fall in UK GDP from 2007 to 2009.

Housing therefore matters in macro-economic terms, especially as the overall national multiplier is one of the highest of any sector (due to the relatively low import content of housing output).

Research carried out in the US by the National Association of Home Builders (2010) estimates that building 100 new social housing units for families leads to the creation of 80 jobs from the direct and indirect effects of construction and 42 jobs supported by the induced effects of the spending.

In addition to these “real-time” jobs and economic activity, building 100 social housing units also leads to the long-term creation of 30 new jobs that support the ongoing consumer activity of these homes’ new residents. For both developments, the National Association of Home Builders estimates that new residents would generate earnings for local business owners and employees in excess of $2 million annually.

October 2011

Prepared 1st May 2012