Are new funding solution exposing housing associations to new risks?

20 June 2017

Mandatory requirements from April 2016 to reduce social housing rents by 1% a year for four years — coupled with wider continued funding cuts — have put housing associations under immense pressure.

Mandatory requirements from April 2016 to reduce social housing rents by 1% a year for four years — coupled with wider continued funding cuts — have put housing associations under immense pressure. Business models have had to evolve fast and finance teams have needed to really think outside the box on funding, with some creative and progressive results. But has the sector’s understanding of their evolving risk profile kept step with their innovation?

The social housing rental formula had previously allowed housing associations to raise rents in line with the consumer prices index (CPI), plus 1%, and formed a significant part of their investment profile. Its reversal, which came as part of a £12bn welfare reform saving the Government wanted to make by 2019-20, has resulted in a 12% reduction in average rent income for housing associations.

With social landlords owning half of Britain’s rented homes and constructing one in five of all new homes, the cumulative effect of the series of policy changes — including the rent cut and the extension of Right To Buy — has been to not only create a more difficult operating environment, but also place at risk the construction of at least 27,000 housing association homes and the credibility of the sector’s overall credit profile.

Since the contract between Affordable Housing Finance (AHF) and the Government came to an end in March 2016, and withbids for the Affordable Homes Programme (AHP) now closed, finance teams at housing associations have had to explore a range of alternative funding options. The level of fixed overheads for social housing providers means the breathing space has been little-to-none, with fund replacement required and fast.

So instead of generating this funding through rent, alternative methods have had to be found. Research undertaken last year by Savills showed that housing providers were responding, in the main, by making savings in planned maintenance. However, in order to maintain net present values, they would need to go much further and look at reducing day-to-day costs as well as developing more creative commercial solutions to generate income. 

Housing associations have started to respond to this. We are seeing more commercial models of selling housing, constructing houses, launching repair and maintenance services and more. Other progressive ideas have included social dividend funds, which allow tenants to apply directly for grants to improve their communities; local authorities partnering with private developers to build on council land, with all profits from rents and sales going straight back into the council; and even renewable energy initiatives that have zero running costs, allowing landlords to charge for a reduced price for heat and use that income to offset the 12% reduction in rent which has followed the formula change. Housing associations have also been looking at new and inventive ways of borrowing to fund some of these projects.

While all of these innovations and solutions bring new opportunities to generate income, they simultaneously create a whole suite of new risks associated with these new activities. Consequently, housing associations are finding themselves with a level of commercial risk that they simply didn’t have before. Take, for example, an association that has branched out into housing design and/or construction. If the wrong materials get specified on that project, or a major design fault is discovered post construction, the housing association is likely to be responsible for that error, even if a subcontractor was involved, and could be exposed to legal action by the client. There’s also a significant risk attached to mergers and acquisitions activity, something we’ve seen a huge amount of in the sector in recent years.

There’s no doubt that the social housing sector has had to evolve — and quickly — and the journey ahead will be both challenging and changeable. It’s vital that housing associations maintain a comprehensive understanding of their evolving risk profile to ensure these risks are mitigated, managed and transferred appropriately to best protect the organisation as its business model continues to develop. This is often a challenge for housing associations and their finance teams when they’re entering into completely new territory and commercial solutions, so seeking external support with a risk and insurance specialist is key.  

Martin Crowe is Commercial Director and Deputy Managing Director at Arthur J. Gallagher, who can offer social housing risk specialists across every area of business and commercial activity.  To speak with one of our specialists, call 01245 341200

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