Capitalisation Direction Mark Swallow

The recent news on the capitalisation direction issued to Nottingham City Council brings the tally of directions granted to local authorities at just under £150million with more set to be announced over the coming weeks.

The recipients of the recent capitalisation directions include Croydon (£70milion), Wirral, (£9million), Bexley (£3.87million), Eastbourne (£6.8million), Luton (£35million) and Peterborough (£4.8million) and all have come with strings attached with each of the authorities having to ensure that they pay off the capitalisation over the next twenty years via MRP; submit to an external assurance review and if borrowing is used to fund the expenditure then that borrowing must come from the PWLB at a 1% premium. Luton had further constraints imposed in that it will have to consider how it can reduce its financial exposure to Luton Airport.

Capitalisation is how the Government permits local authorities to treat revenue costs as capital costs. It is a relaxation of the accounting convention that ensures that revenue costs should be met from revenue resources only and that councils should not “borrow” to fund revenue expenditure. Obviously, a local authority does not need to borrow to fund the capitalised expenditure as it can legitimately use capital receipts to do.

In the definition of borrowing referred to in the directions MHCLG state that “where the authority’s capital financing requirement is increased as a result of the capitalisation of expenditure under this direction, any further borrowing from the date of the capitalisation letter up to and including, but not exceeding, the increase in the financing requirement must be obtained from the PWLB” this means that the local authorities cannot internally borrow or even borrow short-term from other locals to fund the expenditure and must therefore pay the 1% surcharge on borrowing costs.

The MHCLG make it clear that a Capitalisation Direction should be sought only for costs which are due largely to factors beyond the local authority’s control, the impact on COVID-19 on local authority budgets is an obvious example of such an event but the Nottingham direction is linked to the failed energy company and the impact that this has had on their finances so attempts at commercialisation can also have an impact on a local authority’s financial position.

The accounting for a direction is straightforward and is similar to the way that local authorities account for revenue expenditure which is treated as capital under statute (REFCUS).

As we get into the 2021/22 financial year, we may see more directions issued to both those local authorities that have sought assistance in 2020/21 and those that realise that things are tight in revenue terms once the ink has dried on the latest statement of accounts.

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