Select Committee on Transport, Local Government and the Regions Fifteenth Report

Part 1: Capital Finance and Accounts

7. Part 1 of the Bill introduces a new prudential regime for local authority borrowing. Ms Wellen of the Chartered Institute of Public Finance and Accounting (CIPFA) described the new prudential system:

"Essentially in the new system local authorities are going to be responsible for taking decisions on how much they can afford to borrow and, therefore, taking their own decisions with respect to their capital investment and their capital programmes."[11]

The prudential regime replaces the system of credit approvals, whereby central government stipulates the amount and type of capital investment that each authority may fund from borrowing. There are two conditions necessary for the meaningful operation of the prudential regime:

  (i)  powers (which we discuss further below); and

  (ii)  resources (in particular revenue funding), which are mostly in the control of central Government.

As CIPFA told us:

"A freedom under the Prudential Code to manage your own shop in terms of capital investment is not a freedom if you have not got the revenue support behind it."[12]

We welcome the introduction of the prudential regime for capital finance and hope that the resources needed to implement it will swiftly follow.

Clause 2: Control of borrowing

8. Clause 2 includes a duty on local authorities not to breach borrowing limits. It also includes provisions for the Secretary of State to make regulations governing loan agreements. We received evidence about loan agreements from the Local Government Association:

"In addition to imposing controls on local authority borrowing, Clause 2 provides for the Secretary of State to make regulations governing loan agreements. We question whether it is necessary to carry over into the new system, the detailed requirements that currently exist in this area. We are discussing with the Office of the Deputy Prime Minister whether these regulation-making powers are necessary and hope that the outcome of those discussions is that they are not. In the light of these ongoing discussions it would be premature to say now that we want these provisions removing from the Bill."[13]

We have asked the Local Government Association to report the outcome of its discussion with the Office of the Deputy Prime Minister on Clause 2 to the Committee. We will monitor developments.

Clause 3: Duty to determine affordable borrowing limit

9. Under Clause 3, each local authority is to determine and keep under review the amount of money it can afford to borrow. The Secretary of State can, by regulation make provisions about the performance of this duty, including a requirement for local authorities to follow particular codes of practice. The Explanatory Notes to this Clause explain that the power will be used primarily to specify the Prudential Code being produced by CIPFA, which will then lay down the practical rules for deciding whether borrowing is affordable. Ms Wellen of CIPFA


"The purpose of the Code we are developing is to support the local democratic decision making by ensuring that certain matters are taken into account during those decisions. Firstly, that local authorities need to have regard to their strategic plans, their management planning and option appraisal and so will have an impact on service delivery. Secondly, to make sure that in taking those decisions they take into account all of their assets and all of their liabilities, and that is very crucial to making sure they get proper decision making. Thirdly, and crucially, the Code will require them to set prudential indicators that will show that their decisions are affordable in the short and medium term, in the long-term sustainable, or if they are not will demonstrate quite clearly that they are not."[14]

Clause 4: Imposition of borrowing limits

10. Clause 4 gives the Government a power to limit both the borrowing of individual local authorities and aggregate borrowing across local authorities. Mr Raynsford told us that this would be a reserve power.[15] We received a great deal of evidence about Clause 4—arguing that it was drawn too broadly and could potentially undermine the prudential approach set out in Clauses 2 and 3. Evidence from the Local Government Association (LGA) stated:

"Clause 2 prevents local authorities from borrowing in excess of limits they themselves have determined under Clause 3 or in excess of limits imposed by the Secretary of State under Clause 4. The Secretary of State may impose a national limit on all authorities or set limits for individual authorities. The LGA believes that the key test of affordability should be authorities' own prudential limits, determined locally, which take account of local priorities and ability to pay. The decisions that authorities take will be in accordance with a Code produced by CIPFA. This will require them to act prudently when drawing up their investment plans and to frame their strategies with regard to certain prudential indicators relating to external debt, capital commitments and treasury management."[16]

Mr Travers of the London School of Economics and Political Science told us,

"There is no doubt that although the Government has set in the Bill a framework within which it would be possible to operate, its so-called prudential rules system, the same legislation would indeed allow the Government to operate a very different capital control system, one similar to or even more controlled than the present one."[17]

11. Mr Raynsford described the importance of central Government retaining a reserve power to limit the aggregate level of local authority borrowing in times of macroeconomic crisis.[18] The Local Government Association put forward recommendations about how Clause 4 could be amended to take account of this:

"If the Government is unwilling to make this change [the removal of powers for the Secretary of State to impose a aggregate limit on authorities] then the Bill should specify those circumstances in which the Secretary of State would exercise his powers. These could be couched in terms of protecting the country's economic interests or preventing levels of public expenditure becoming unaffordable nationally, these being the conditions for the use of the power contained in the White Paper and the Explanatory Notes to the Bill."[19]

12. We heard that the proposed power to allow the Secretary of State to impose a borrowing limit on individual authorities was unnecessary and should be removed. The Local Government Association argued:

"Clause 4 gives the Secretary of state a power to impose a borrowing limit on an individual authority. Irrespective of whether the power to set a national limit is retained we believe that this power is unnecessary given that the authority will have to comply with CIPFA's Prudential Code in determining its borrowing needs. This provision should be removed from the Bill."[20]

13. We recommend that Clause 4 be redrafted so that the circumstances in which the Secretary of State can control the aggregate level of local authority borrowing are limited to occasions where this is in the interest of the national economy and subject to consultation with representatives of local government and affirmative action by both Houses of Parliament. We also recommend that proposals for the Secretary of State to limit the borrowing of individual authorities be removed.

14. We recommend that Clause 4 be amended along the following lines:

4 Imposition of borrowing limits

(1) Where the Secretary of State considers that it is necessary to do so in the interests of the national economy, he may by regulations set a limit on the aggregate level of borrowing of money by local authorities.

(2) No regulations may be made under this section unless -

(a) the Secretary of State has consulted such representatives of local government as appear to him to be appropriate,

(b) he has laid before each House of Parliament a report explaining the reasons why he considers it necessary that the regulations be made, and

(c) the report has been approved by resolution of each House of Parliament.

(3) Section 116(1) and (2) does not apply to regulations made under this section.

Clauses 2 and 24 would need to be appropriately amended.

Clause 10: Capital receipts

15. Clause 10 relates to the use of capital receipts by local authorities. It creates provisions for the 'pooling' of such receipts across councils. We have received evidence that Clause 10 could undermine the prudential regime-the knowledge or even possibility that capital receipts would be pooled could change sale and investment decisions made by local authorities and would reduce the prudential limit for each authority. Mr Bisland of CIPFA told us,

"I think it is more likely that Members are going to be reluctant to sell assets if they think they are going to be pooled."[21]

Ms Wellen of CIPFA added,

"The direct link with the prudential system is that local authorities are going to have to regard to all their income sources, so if they are keeping all their capital receipts they can do their programme of activity for capital receipts in the knowledge of what they are going to get. If those capital receipts are going to be pooled and then redistributed, in order to take proper account of the income they are going to have they will need to know how that pooling is going to operate because otherwisewe are talking quite large amounts of money herethey will not know what income is going to come in to support the capital investment. So the pooling will have a direct impact on how the prudential system operates."[22]

We recommend that Clause 10 be removed from the Bill


16. We received a great deal of evidence commenting on the difference between the treatment of the pooling of receipts in the White Paper and the draft Bill. The White Paper refers to the pooling of housing receipts whilst the draft Bill refers to any capital receipt. Recognising that the Government may insist on going ahead with Clause 10, we were pleased to hear the Minister's commitment that the final version of the Bill will refer to housing capital receipts only, with respect to Clause 10.[23] We also welcome the Minister's commitment that Clause 10 will not be used retrospectively.[24]

17. We received evidence from the Chartered Institute of Housing that recommended an approach which differentiates between stock transfer and right to buy receipts.

"It helps to distinguish the two main kinds of housing receipts, right to buy receipts and receipts resulting from transfer. There is a prima facie case for right to buy receipts being directly recycled by the local authority in the way that, for example, housing associations, broadly speaking can do so."[25]

The Minister has proposed that the Government retain Clause 10, but amend it so that it relates solely to housing capital receipts. If this happens, the approach to pooling housing receipts should differentiate between right to buy and stock transfer receipts. The former should be retained locally for re-investment in housing (either new build or renewal, depending on local market conditions).

18. The draft Bill contains insufficient information abut the operation of any pooling system and any redistributive mechanism that could be used, meaning that it is not possible to comment on its fairness. The draft Bill gives power to the Secretary of State to make provisions about the use of capital receipts by regulation. Mr Perry of the Chartered Institute of Housing said,

"A lot depends on the kind of formula you use, the extent to which there are some receipts left at the local level and the transparency of the overall operation. One of the dangers would be that, as happens at present, the receipts are scooped into a national pool and nobody ever knows the relationship between the national pool established from receipts and the bigger pool set aside by the Treasury for resources generally."[26]

The draft regulations for Clause 10, which relates to capital receipts, must be available when the Bill reaches the Committee Stage. We would be disturbed if the Government introduced a mechanism which took resources away from areas of housing need.


19. Clause 10 gives the Secretary of State the power to make provisions about the time within which the capital receipts must be used. With the exception of the current provisions on set-aside, there are presently no restrictions on the timescale within which authorities must utilise receipts. Additional restrictions are seen as being against the spirit of further freedoms for local authorities and could skew decisions under the prudential regime. We recommend that the measure in Clause 10(1)(b) that allows the Secretary of State to make provisions about the time within which decisions about the use of capital receipts be made be deleted.

Clause 21: Accounting practices

20. Clause 21(1) gives the Secretary of State the power to specify accounting practices by regulation. The memorandum from CIPFA stated:

"In order to comply with UK Generally Accepted Accounting Practices, provide good management information and to ensure the sustainability of capital investment, CIPFA recommends that depreciation is charged within the accounts of local authorities and is resourced... The full application of depreciation would be consistent with the Government's fiscal strategy, which treats depreciation as a part of current expenditure, and with resource accounting."[27]

We support the recommendation of CIPFA that treatment of depreciation should move towards UK Generally Accepted Accounting Practice, in line with the resource accounting approach and that such a move should be resourced. It seems logical that central and local government finance should be run on the same basis and under proper accounting rules.

11   Q87 Back

12   Q91 Back

13   LGB05(a) Back

14   Q87 Back

15   Q641 Back

16   LGB05(a) Back

17   Q282 Back

18   Q641 Back

19   LGB05(a) Back

20   LGB05(a) Back

21   Q113 Back

22   Q109 Back

23   Q670 Back

24   Q674 Back

25   Q242 Back

26   Q246 Back

27   LGB29 Back

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