CIPFA has this month, issued a consultation on its proposals to strengthen The Prudential Code for Capital Finance in Local Authorities (2017). This follows the completion of HMTs consultation on Public Works Loan Board (PWLB) borrowing the results of which were published at the end of 2020 and which limit access to the PWLB for local authorities found to have engaged in controversial debt-for-yield activities. Bevan Brittan reported on the PWLB reform last month.

The proposed shake-up of the Prudential Code follows the lead of PWLB reform by clarifying the misinterpretation of the existing rules that has left some authorities over extended and clarifying restrictions on borrowing to fund purchases solely to make an investment return: “debt-for-yield”. Local authorities should have regard to the Prudential Code in formulating their capital investment plans and therefore the updates might help to clarify some of the less clear elements of the changes to the PWLB borrowing rules.

The consultation focuses on six main areas of change to the Prudential Code:

  • Amendment of paragraph 45 of the Prudential Code to clearly sate that borrowing for debt-for-yield investment is prohibited unless incidental to the main function e.g. regeneration
  • Ensuring commercial investment is consistent with statutory provisions, is proportionate to service and revenue budgets and is consistent with effective treasury management practice
  • Updated requirements to assess the affordability of commercial activity within local authority capital strategies
  • New objectives of sustainability and a requirement that capital expenditure is consistent with corporate objectives e.g. diversity and innovation
  • New prudential indicators on affordability - external debt to net service expenditure (NSE) ratio, and commercial income to net service expenditure
  • A new liability benchmark aimed at the promotion of good practice and understanding of debt management by local authorities in relation to capital investment.

The consultation is likely to be welcomed by most but may also been seen as unhelpful to those making well-considered attempts to tackle changes to budgetary cuts through commercial investment that might otherwise leave them short without such innovation.

If we are re-imagining a post-Covid world in which local authorities demonstrate community leadership and seek to support the local economy through economic, social and environmental regeneration and development of infrastructure and housing to meet the needs of the local population, they will certainly need to borrow to fund that local development. The proposed changes to the Prudential Code aim to clarify the decision making process when entering into such arrangements and identify areas outside the discretionary powers of local authorities.

Overall, the market remains buoyant for local authorities seeking to raise finance in the capital markets as they are quite rightly considered safe and secure borrowers. These new clarifications will focus the attention of authority decision makers and lenders on ensuring borrowing and investment is properly considered with less scope for stand-alone investment in commercial property and more focus on what outcomes can be achieved for the local economy and long term sustainability, over and above just commercial return.

Responses to the consultation are sought by 12 April 2021.

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