Communities and Local Government CommitteeWritten submission from Home Group

Introduction

1. The Communities and Local Government Committee has recently launched an inquiry into the financing of new housing supply, focussing on the steps which need to be taken by Government to ensure that the resources are available to enable the nation’s housing needs to be met.

2. This note provides Home Group’s contribution to the debate and puts forward a range of options to increase the supply of finance available to housing associations to help deliver the affordable homes the country desperately needs.

3. Home Group (Home) is one of the leading nationwide registered providers of affordable and supported housing within the United Kingdom and the UK’s largest provider of care and support services. Home has a turnover in excess of £300 million, provides care and support services to more than 20,000 people and owns or manages over 54,000 homes. Established (through an Act of Parliament) as the North East Housing Association in December 1935, 2011 represents Home Group’s 75th year of operation.

Executive Summary

4. With increasing pressure on Government finances, grant available for the development of new affordable homes is likely to continue to decline. This note looks at some of the alternative sources of finance available to housing associations and suggests how they might be enabled to access additional finance to develop more affordable homes.

5. The note considers:

Joint ventures/partnerships.

Increased use of market sales.

Bond markets.

Equity versus grant financing.

Removal of historic grant.

Extending the recently announced right-to-buy policy to housing associations.

Releasing public land for development.

Tax incentives.

Maximising alternative sources of Government finance.

Background

6. Historically housing associations have required significant levels of grant funding from Government to ensure development of new social housing schemes was viable. Initially the sector relied heavily on grant, requiring 75–85% of grant from Government in the early years of grant funding in the mid-sixties.

7. Throughout the seventies and eighties successive Governments looked for financial innovations to reduce the burden on the state. The introduction of private finance in the late eighties greatly reduced the amount of grant required to finance development to around 30%. Although the level of grant subsidy has reduced, grant funding remains an essential element of housing association development finance. Housing associations enjoy top level financial ratings from rating agencies in part as a result of the stability of grant funding, ensuring they are not over leveraged with private debt.

8. Alongside the introduction of private debt finance, housing associations have also diversified the range of products on offer, introducing shared ownership models and developing a small proportion of housing for outright sale to cross-subsidise new developments. This increasingly sophisticated approach from housing associations has allowed government grant to go further and more affordable homes to be built.

9. More recently the Government have introduced the Affordable Rent product as part of the new Affordable Homes Programme. This has further reduced the amount of grant available to housing associations for development purposes. This has meant a greater reliance on debt financing and cross-subsidy alongside the additional income and borrowing potential generated through a move to 80% market rents.

Financing Affordable Home Delivery

10. The Homes and Communities Agency’s (HCA) Affordable Homes Programme runs until 2015 after which a new funding model for the delivery of affordable homes will be required. It is clear that the pressure on Government finances will continue, and the grant available for new affordable homes will be limited in the future. This note looks at some of the options available to housing associations to generate capital for new homes.

Increasing the Use of Joint Ventures/Partnerships

11. As mentioned earlier, grant funding from central government has been core to the viability of social housing development over the past half century. In the future, with continuing pressure on Government funds, and an environment where housing associations are developing homes with ever decreasing amounts of grant, alternative funding sources will be required to continue to deliver affordable homes.

12. Increasingly, housing associations have looked to enter into longer term partnerships with developers for the provision of affordable homes. This can take many forms but often involves housing associations taking on the social rented and shared ownership element of large mixed tenure schemes. These partnership arrangements share the risks of development between the partners and provide housing associations with an element of control surrounding the design and location of new properties (compared with s106 agreements). Whilst these partnerships can provide a degree of scale and certainty for housing associations, it also means taking on more sales risk. In a world where mortgage availability continues to be constrained and planning policy is still in development, the sales risk associated with any new development is significant. So whilst these joint venture partnerships will continue to be important they are not without risk. However they will form an important part of the picture when developing affordable housing in the future.

13. An example of one of the innovative joint venture partnerships Home Group are currently engaged in can be found in Appendix 1.

Market Sales and Group Restructuring

14. One option available to housing associations is to increase the amount of homes built for outright sale and use the profits generated to re-invest in new affordable homes. Currently housing associations are able to develop a certain proportion of homes for outright sale and still retain the privileges associated with charitable status/not for profit. There is scope to change the structure of housing associations and create for-profit businesses as part of the overall group. This restructuring can allow development of a larger number of units for outright sale and some providers have gone down this route to cross-subsidise affordable housing. As described above, a greater reliance on outright sale to fund further development carries with it significant risks (especially in the current financial climate) and will not be suitable for all (particularly smaller) housing associations. The legal structures and cross financing of this type of arrangement can be very complicated and care must be taken to protect charitable status when operating this business model.

The Bond Market

15. The bond markets have in recent years provided an additional source of finance for housing associations. Bond issuance has risen since the onset of the banking crisis and will continue to be a useful form of finance for the sector in the future. The banking crisis and the resulting cost of traditional debt finance has improved the competitiveness of the bond market. Bond finance also allows providers to diversify sources of debt funding—an increasingly important consideration given the tightening of lending from traditional sources.

16. A recent development in the bond market has been Places for People’s recent retail bond issue in June 2011. This was the first time any housing association has accessed the retail bond market and another example of the sector innovating to access new sources of finance. The retail bond market targets individual private investors and not large corporates and pension funds that the sector has in the past encouraged to invest through more traditional corporate bonds. The success of the launch of the bond is encouraging and could provide a significant additional funding stream for the sector that is attractive to individual investors. However, if retail bonds are to be a success they must deliver value for money and not prove to be too expensive to service when compared with traditional debt or corporate bonds.

Equity Versus Grant Financing

17. One alternative funding option is to allow housing associations to generate funding through the release of shares—with the equity raised used to build more homes. This would require a fundamental change to the operating model of housing associations in the move to a “for profit” element or arm of the organisation. This could be achieved without full privatisation through some form of cooperative, mutual or partnership arrangement which could still include not for profit elements within the new business model.

18. Generating equity through issuing shares clearly has the direct benefit of generating funding, but there are also other reasons to consider such a move. Traditional debt finance is generally provided by the big five banks and building societies and in post-credit crunch world there is likely to continue to be a tightening of lending to housing associations. By raising funds through equities, housing associations can diversify their capital base and become less reliant on traditional debt finance.

19. Clearly having a “for-profit” element as part of the business model will mean significant changes for many in the sector and investors will indeed want to see a return on any investment. This changes the dynamic of the business model and could increase the pressure for providers to generate returns. This must be achieved without compromising quality and customer service. Currently in the not for profit model, all returns are re-invested within the business to improve customer service and the quality of homes.

20. Home Group, like the majority of the major developing RPs is a Charitable, Industrial and Provident Society (IPS). Whilst we have explored with interest many of the recent proposals concerning the creation of share capital or equity within housing associations, our legal advice is that raising equity finance would adversely impact both our charitable and IPS status which therefore prevents us from taking this option forward.

Removal of Historic Grant

21. Many RPs have recently raised the issue of historic grant write-off with Ministers, with the suggestion being that the written-off debt would reduce the gearing of housing associations and allow access to significant additional borrowing—to build new affordable homes.

22. This would of course require the support of banks and other lenders to make this work as key to the success would be borrowing at the same low interest rates the sector has benefited from in the past.

23. We understand the historic grant held within housing association properties does not sit within CLG or HM Treasury books as an asset and therefore there could be a case for writing off some or all of the historic grant without detrimental impacts on the public finances.

24. Whilst this proposal sounds attractive at face value it raises many issues surrounding the accounting treatment of the written-off debt. It is possible that the change in status of the debt could have unintended consequences through eg increased depreciation charges that could leave little or no advantage in financial terms after write-off. Also, in many cases access to additional borrowing is not the single limiting factor for housing associations when looking to build more homes. Increased borrowing could lead to additional costs to I&E and interest cover ratios which limit the development capacity of many housing associations. We have raised the potential difficulties surrounding write-off of grant debt through discussions with CLG officials and would be happy to engage further to develop thinking on this issue.

Extending the Revised Right to Buy Policy to the Registered Provider (RP) Sector

25. The Prime Minister has announced plans to revive the right to buy policy—pledging to increase the discounts to council housing tenants who wish to buy their homes and for the money raised from the sales to be re-invested in new affordable homes.

26. The Government have argued that the revised right to buy policy could be applicable to up to two million council houses, and through introducing appropriate discounts to tenants, up to 100,000 new affordable homes could be delivered. Although the announcement concerns council tenants we believe a similar policy could be introduced for RP tenants to deliver even more affordable homes.

27. RP homes could be offered to tenants at a sale price which would cover the build cost of a new affordable home of a similar size locally. The sale proceeds generated would be used by the RP to build a home of equivalent size within the same local housing market area wherever possible. In order to help the tenant move into home ownership, Government would gift some of the grant that was utilised when building the original home to the tenant to use as a deposit when seeking a mortgage. This would result in:

A tenant being able to access a mortgage to buy the property through the use of historic grant as a deposit.

A new home being built in the local area on the back of the sale—one new affordable home would be built for the sale of every home.

A solution for the use of historic grant.

A new affordable home within the RP’s asset base—maintaining supply within the local area.

28. We believe this innovative use of historic grant could provide Government with a route to help thousands of hardworking families achieve their dream of owning their own home whilst also maintaining the numbers of affordable homes for rent. A fuller description of the policy proposal can be found in Appendix 2.

Releasing Public Land

29. A significant element of the cost when developing new homes is land value. Government have clearly recognised the need to release more publicly owned land and recent announcements from CLG Ministers in this regard are welcome. The Housing Minster has indicated that he hopes the majority of released public land could be developed on a “build now, pay later” model to reduce the upfront costs for developers. Whilst this is helpful in cash flow terms, it will still require developers to pay full value for the public land that is brought forward for development.

30. We believe Government must go further if it is to encourage the scale of house building the country requires. Land must be available at reduced cost to increase the levels of affordable homes delivered. Government must also work with local authorities to ensure they are doing all they can to bring forward low cost land for development.

Tax Incentives—VAT and Corporation Tax

31. Housing associations currently benefit from lower levels of VAT in many areas of our activity. However one area in which associations currently pay full VAT is repairs and maintenance. If the rate of VAT was brought down to the lower 5% level, collectively the sector could save millions of pounds which could be used to deliver more affordable homes. The reduction in VAT could also help the sector achieve its ambitions surrounding energy efficiency and provide a stimulus for jobs and economic growth.

32. Home Group through our registered charity status is not currently required to pay corporation tax. However, as many in the sector are not registered charities, many housing associations are currently liable for corporation tax. Any change in legislation which protects housing associations from corporation tax could release significant funds within the sector which could be used to deliver more affordable homes.

Maximising Other Forms of Government Finance

33. In order to maximise finance available for new development, housing associations should continue to be at the forefront of Government funding schemes for energy efficiency and micro generation. Schemes such as the Green Deal, Renewable Heat Incentive and Feed in Tariffs fit will with the social purpose of housing associations. These schemes help to protect our customers from fuel poverty and reduce the capital costs associated with retrofitting our stock. Housing associations are well placed to lead the roll out of such Government schemes and have demonstrated our ability to deliver large scale renovation programmes through eg the Decent Homes Standard. Preferential access to Government funding and capital through these schemes, alongside access to planned schemes such as the Green Investment Bank will not only provide the Government with the scale needed to realise the planned benefits of the schemes, but also allow housing associations to focus the limited funding available to them on the development of new affordable homes.

Investor Confidence

34. The social housing sector remains attractive to investors due to the certainty of the rental income and the current housing benefit formula (and their effective link to RPI). This alongside the fact that housing benefit is paid direct to landlords, which in turn reduces arrears and keeps the costs of rent collection down appeals to investors and allows the sector to access favourable lending rates.

35. Assuming housing demand continues to remain high, the rates of debt interest the sector can access are low, and rents predictable then the sector will continue to appeal to investors looking for a secure (if modest) return on investment. Any changes that upset this balance of factors which inform investor confidence could have dire consequences for the sector. If we are to move to a model where new affordable homes are funded from a range of funding sources then the sector must continue to be able to access favourable rates of debt (and bond) finance.

36. Any planned changes to the funding or benefit systems must not adversely affect investor confidence. For example, the introduction of the new Affordable Rent model linked to market rents will increase the rental income and borrowing power of housing associations. However as rents are linked to market rents there is potentially less certainty in the rental income received, which in turn could have a knock on effect to lender confidence and the cost of debt finance. Careful monitoring of this and other planned changes (eg housing benefit) will be required to retain investor confidence in the sector.

Legal Implications

37. Although this note has not considered the legal implications of the options discussed above we believe Government must look favourably on relaxing/amending necessary legislation governing the sector if we are to enable a more innovative funding model for the delivery of new affordable homes.

38. Current restrictions surrounding the charitable status of some housing associations can mean that it is difficult to raise equity finance and to trade commercially. Clearly this provides significant barriers to the sector when looking to access additional funding and move away from a reliance on Government grant. It is vital that Government looks to relax some of the restrictions currently limiting the sector’s ability to raise additional finance if housing associations are to deliver increasing numbers of homes with limited grant.

Conclusion

39. Over time housing associations have continued to innovate in the way they access finance to develop new affordable homes. The reliance on Government grant has declined and new forms of low cost finance have ensured affordable homes continue to be developed to meet growing housing demand. The introduction of Affordable Rent through the Affordable Homes Programme provides a new route to reduce the reliance on Government grant and its implementation will be followed closely by the sector and our investors.

40. Although the sector’s reliance on Government grant has over time declined, grant still remains a vital element of the current funding model when financing new affordable homes. Grant ensures housing associations are not over-leveraged with private debt and underpins the stability of the current funding model. Building homes with the aid of grant has been the defining factor of developing housing associations—the one element of our business model that sets us apart from the private sector. Grant ensures the viability of schemes, plays a big part in maintaining investor confidence, which allows the sector to access low cost private debt.

41. Whilst the sector has demonstrated its willingness to innovate and seek out new sources of low cost finance, we have yet to reach a position where we are delivering large numbers of homes without grant. To move to a position where housing associations are delivering affordable homes with no grant will require changes to the regulation and restrictions currently governing the sector. Developing without grant will mean increasing the number of homes for outright sale to cross subsidise affordable homes; increasing rents, and; a heavier reliance on private debt.

42. With planned changes to the welfare system and reforms to social housing rent and tenancy policies, it is essential that the sector retains an element of stability when designing any future funding model for the delivery of affordable homes. Stability and predictability of returns is vital to retain investor confidence, which in turn will enable housing associations to access the private finance at affordable rates to continue developing new affordable homes the country desperately needs.

APPENDIX 1

AN EXAMPLE OF INNOVATIVE JOINT VENTURE DELIVERY OF AFFORDABLE HOMES

Gateshead BIG Project

1. Gateshead Council has agreed to form a joint venture partnership with Evolution Gateshead, a consortium of Home Group and Galliford Try, to build around 2,400 new homes south of the Tyne (650 of which will be affordable homes).

2. The homes will be created on 19 different sites (approx 70 hectares) and include both greenfield and brownfield sites. The sites will be developed over a period of 15 to 20 years by a Joint Venture Vehicle (Gateshead Regeneration Partnership) which is a formal partnership between Gateshead Council and Evolution Gateshead.

The Partners

3. Home Group—Registered Provider of Social Housing with a strong historic presence in Gateshead. Currently own and manage 1,725 affordable homes in Gateshead. Home will own and manage all affordable homes provided by the partnership.

4. Galliford Try—FTSE 250 listed housing developer which builds over 1,800 homes annually. Galliford have delivered over 500 units in the North East over the past 10 years. Galliford Try will also act as the construction manager for the physical delivery of the sites.

5. Gateshead Council—The regeneration of the proposed 19 sites within Gateshead fits well with the Council’s Sustainable Community Strategy (Vision 2030). Gateshead Council will provide the sites for the project with no cash investment or gap funding required. The Council will also receive 50% of the return from the project.

What is innovative about this?

6. Creating a joint venture partnership means that both sides will be able to share the risks—and the rewards—of the development, and the return from the development will reduce the Council’s reliance on central government funding. The profits from the project will be split 50:50 between Gateshead Council and Evolution Gateshead.

7. In addition, it will allow a whole package of sites to be developed, including important regeneration sites which will greatly improve the choice of homes available to people wanting to live in Gateshead.

8. Whilst on the whole the working relationships in the Gateshead BIG project have been very productive there are challenges to working within the joint venture model, some of which are highlighted below:

9. Attitudes

Much is down to individuals and strong personal relationships—the ability to get on but also the ability to be able to challenge and change without damaging the relationship (obvious but very true)—attitude is everything and the will to make things work.

There is often a local authority distrust of the private sector and unless the LA are commercial in their approach (like Gateshead have been) then this makes things very challenging.

JV working is still a relatively novel approach for many local authority partners which can result in a cautious approach (which can hamper innovation and result in partners “playing it safe”).

A key barrier to success is the attitude and approach of the public sector partner/local authority—JVs can only work well when there is a will on all sides for sharing long term risk and reward rather than immediate returns and short term gains.

10. Commitment

Large scale projects over many years need organisations to commit long term. All partners need confidence in each other, the agreement and the support from the community and politicians before entering into any arrangement.

LAs are facing major cuts which means long term regeneration is slipping down the priority list in favour of asset disposals to maintain a LA operational budget—this is a major barrier at the current time—LAs do not need to sell the family silver—JV models can allow LAs to hang on to their assets in the long term

Ensuring that the parties in a JV (whether public or private) have aligned objectives—there are some developers for instance that are driven by immediate returns rather than a long term approach—therefore only when there is a synergy of approach to JVs really work.

11. Resources

Often a lengthy process with associated resource and cost implications—bidding rounds can be over several months/years and need significant resources (at risk). Need to be of sufficient size as an organisation to take on costs and risks of this approach.

Legally very technical and again comes at significant cost and resource implications. Structures can be complicated to set up so can only really be justified on projects of a certain size, or as a portfolio of individual projects.

12. Technical

The often overlong, overcomplicated procurement process—different authorities/organisations have very different approaches—a major barrier to delivering a successful JV.

Sometimes there is the risk of overcomplicating the model—each opportunity warrants an appropriate individual solution—barriers are often how the funding is structured and a lack of understanding/transparency.

Encouraging Joint Venture Partnerships

13. As mentioned above, joint venture partnerships can bring real benefits to all partners if the right deal can be put together. The barriers outlined above provide significant challenges to agreeing joint working arrangements but all can be resolved through discussion and negotiation between partners.

14. Joint venture working is still a novel approach to many local authorities which often results in a cautious approach by the public sector. Many local authorities will be looking to generate additional income to offset Government grant reductions over the coming years and JV partnerships could provide the additional capital they require without selling off valuable assets. CLG working with the Local Government Association could help to promote the benefits of JV working through providing case studies and best practice guides for local authorities to try and break down some of the perceived barriers to this kind of working and encourage innovative JV partnerships.

APPENDIX 2

EXTENDING THE REVISED RIGHT TO BUY POLICY TO THE REGISTERED PROVIDER SECTOR

Right to Buy in the Registered Provider Sector—Home Group’s Proposal

Purpose

1. This note puts forward the case for extending the Government’s revised right to buy policy to the Registered Provider (RP) sector. Through the innovative use of historic grant held within social housing, Government could help thousands of families buy their own home whilst maintaining the supply of affordable homes for rent.

Background

2. The Prime Minister has announced plans to revive the right to buy policy—pledging to increase the discounts to council housing tenants who wish to buy their homes and for the money raised from the sales to be re-invested in new affordable homes.

3. It is hoped that the plans, along with proposals to release more government land for development, could lead to the creation of 200,000 more affordable homes.

4. Further details on the policy will be included in the Government’s housing strategy to be published in the Autumn. Although the announcement concerns council tenants we believe a similar policy could be introduced for RP tenants to deliver even more affordable homes. This note puts forward the case for extending the Government’s revised right to buy policy to RPs.

Proposal

5. The Government have argued that the revised right to buy policy could be applicable to up to two million council houses, and through introducing appropriate discounts to tenants, up to 100,000 new affordable homes could be delivered.

6. As homes in the RP sector have also been built with the assistance of grant we believe RP stock could also be included in the revised government scheme to deliver even more affordable homes.

7. RP homes could be offered to tenants at a sale price which would cover the build cost of a new affordable home of a similar size locally. The sale proceeds generated would be used by the RP to build a home of equivalent size within the same local housing market area wherever possible. In order to help the tenant move into home ownership, Government would gift some of the grant that was utilised when building the original home to the tenant to use as a deposit when seeking a mortgage. This would result in:

A tenant being able to access a mortgage to buy the property through the use of historic grant as a deposit.

A new home being built in the local area on the back of the sale—one new affordable home would be built for the sale of every home.

A solution for the use of historic grant.

A new affordable home within the RP’s asset base—maintaining supply within the local area.

Issues

8. Although tenancies provided through RPs are not exactly the same as those provided to council tenants, many of the rights available to tenants in council housing apply in some form in the RP sector. Certain RP tenancies allow tenants the right to acquire their home if they have lived in the property for over two years in the same way council tenants have the right to buy. Therefore there is a clear case for extending the Government’s revised right to buy policy to the RP sector.

9. If the revised right to buy policy is extended to cover the RP sector as suggested in this note some of the historic grant within the property being bought under right to buy would move to the tenant and not all to the RP (as currently happens) when the house is sold. This is the key innovation of this model. Although the RP would not benefit from the full transfer of grant, the new property built with the proceeds of the sale would maintain the level of the RP’s stock in the local area. So, for example:

House is bought by sitting tenant for £120,000 using 20,000 of the historic grant held within the property as a deposit to raise mortgage finance for the purchase.

RP receipt from the sale is therefore £100,000.

Build cost for new build in local area for a similar property is £100,000.

The tenant now owns the property and the RP builds a new affordable home in local area thus maintaining supply.

Affordable property delivered (at up to 80% market rent) without the need for additional grant.

10. In cases where the sale receipt does not cover the cost of rebuild the RP would use additional borrowing capacity of new property set at Affordable Rent levels to plug the construction cost gap.

11. Therefore this innovative model of affordable home delivery would help move the sector away from a reliance on Government grant, increase the borrowing power of RPs alongside helping tenants into home ownership and delivering new affordable homes.

12. This would not require “new” Government money but the innovative recycling of historic grant. Currently Treasury have few conditions on housing grant held in RP properties and there is no defined schedule for its repayment. Essentially the grant is held in the asset long term without repayment or recycling of the grant until homes are sold or demolished. Through extending the revised right to buy policy to the RP sector, Government can open up an innovative route to recycle historic grant—ensuring the grant is not locked away in RP assets but working hard to help families own their own home whilst also delivering more affordable homes the country desperately needs.

13. It is intended that the sale proceeds are used to build a similar sized property (ie the same number of bedrooms) within the local area where possible (eg property type meets local needs as set out in local plans and there are suitable development opportunities locally). Where local development is not possible a new home must be delivered within the wider HCA region.

14. A number of key elements would need to be in place to ensure the model’s success. First, the HCA would need to have a prominent role in facilitating the process. The build costs for different sizes of properties (eg one-bed, two-bed, etc) would need to be established for local areas (eg local authority or broad market rental area) to help establish the sale price for individual properties. This will be key to the success of the policy as the sale proceeds must cover the build cost of a new affordable home. Clearly this will be achievable in more desirable, higher value areas but may prove difficult in some lower value locations.

15. Second, the proposed model would require an element of scale to deliver the benefits envisaged and the development capability of RPs will play a large part in the extended right to buy policy’s success. Clearly RPs will not have prior knowledge of which homes will be bought and sold, so care must be taken to protect the business planning of individual RPs whilst also encouraging home ownership.

16. Third, as the level of historic grant used to build individual properties has varied over time, similar property types in a local area could contain significantly different grant amounts. In order to avoid perceived “winners and losers” from the proposed policy a way of smoothing out historic grant rates must be found. This would ensure the policy provides a level of equality to tenants wanting to take advantage of the right to buy. This could take the form of an average grant rate per property type, or perhaps, a percentage of the home’s value per property type. This will provide a level of certainty surrounding the value of the grant/deposit the tenant receives when they invoke the right to buy.

17. Finally, although we have no way of knowing the overall demand for this from customers we believe this policy will be attractive to many families. Key to the success will be the access to mortgage finance for customers to enable them to purchase their own home. This must be at an attractive rate for customers and will require the support of the financial sector to make this work.

Conclusion

18. As mentioned above, the right to buy may not be appropriate for all customers but could provide a route to home ownership for many whilst protecting the numbers of affordable homes for rent. Clearly this new approach would need to dovetail with other government housing policies and raises many questions that would need to be resolved to ensure a smooth introduction. Nevertheless, we believe this could be an innovative model for the delivery of new affordable homes the country needs whilst also helping hard working families achieve their dream of home ownership.

October 2011

Prepared 4th May 2012