The local authority (LA) to LA lending market, estimated to total around £13bn, plays a critical role in supporting short-term liquidity across the sector. As local government reorganisation (LGR) progresses, the treatment of these inter-authority loans, particularly those spanning vesting dates, requires careful consideration to avoid operational disruption, unnecessary cost, and unintended risk.
A central challenge arises where existing transactions straddle vesting day. For example, a loan from County A to County B may, post-reorganisation, involve multiple successor bodies on either side of the transaction. In such cases, counterparties could multiply significantly, complicating both legal obligations and cashflow management. Agreement on how these loans will be treated and managed will be important. Options include pro-rata allocation of loans across successor authorities or transferring loans in their entirety to a single successor entity. While pro-rating may appear equitable, it introduces administrative complexity and fragmentation; conversely, whole-loan transfer simplifies administration but requires clear agreement on allocation fairness.
A pragmatic alternative is the use of “managed debt” solutions. Under this approach, one authority assumes responsibility for managing a portfolio of short-term loans and investments on behalf of others, charging an agreed rate and overseeing repayments as balances amortise. This model can provide continuity, reduce administrative burden, and allow portfolios to run down in an orderly fashion towards zero, avoiding unnecessary refinancing activity immediately post-vesting. There is also a precedent for this type of solution; managing short-term exposures in one place echoes the CIPFA advice relating to Housing Revenue Account reform in 2012, where long-term loans were split between the HRA and General Fund, but short-term loans remained with the General Fund and costs were recharged.
Avoiding additional cost remains a key priority. Replacing inter-authority borrowing with Public Works Loan Board (PWLB) funding at a spread of 80 basis points over gilt yields, with a minimum one-year term, would result in materially higher interest costs, ultimately borne by both existing and successor authorities. Retaining LA-to-LA lending where possible is in the sector’s collective interest.
Concerns around counterparty limits may arise as balance sheets consolidate. However, these are likely to be technical, short-lived breaches rather than indicators of increased credit risk. The aggregation of entities typically strengthens overall creditworthiness, with stronger balance sheets offsetting weaker positions. Arlingclose’s current approved lending list, for example, supports two-year deposits with most local authorities, with only a handful of authorities currently suspended. From a credit risk perspective, the sector remains robust.
Documentation will be important in navigating this transition. Loan documentation can be amended to include clear contractual wording to address LGR scenarios, including explicit provisions for novation (in whole or part), recognition of successor obligors, and requirements for advance notification. This mirrors the approach taken by HM Treasury on Public Work Loan Board Facility Loans, where transfer of debt relating to LGR will be considered, with at least four weeks advance notice required. For local authority deals agreed on iDealTrade, inclusion of break clauses, allowing either party to exit early with appropriate compensation for interest differentials, adds flexibility, if, for example, detail on how loans will be managed is not provided in a timely manner. Maintaining a clear audit trail for all transactions will also be essential.
Looking ahead, simplification should be prioritised. Assigning short-term debt and investment portfolios to a single successor authority, at least temporarily, may offer the most straightforward route. This can be accompanied by adjustments to longer-term debt allocations to ensure equitable outcomes across new entities. Importantly, this approach mitigates the risk of a “cliff edge” refinancing requirement at vesting day, while providing reassurance to investor authorities regarding settlement and liquidity.
As vesting day approaches, it may be prudent to limit durations on local authority investments, perhaps to a maximum of one year, to enhance flexibility for new unitary authorities. Above all, treasury management decisions should remain aligned with the evolving risk appetite and policy frameworks of successor authorities.
In summary, early planning, clear documentation, and a focus on simplicity will be key to managing short-term inter-authority lending through LGR efficiently, while minimising cost and operational risk.
For more information on the support services Arlingclose can provide during LGR, please contact us on treasury@arlingclose.com.
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