Private finance in the social housing sector: how we got here
In July, the Levelling Up, Housing and Communities select committee issued a report into the state and regulation of social housing in England which was, at times, highly critical of the sector. The report comes off the back of widespread media reports about the dire living conditions of some social housing tenants in the country which have sparked a national debate. This increased scrutiny around conditions is an important, albeit chastening, experience for housing associations across the country.
One criticism of note in the report is what the committee describes as the “commercialization” of social housing, which occurred partly in response to the coalition government of 2011 cutting government funding for new social homes by more than 50% via the Affordable Homes Programme. This increased the sector’s reliance on private finance, which MPs said has had “regrettable consequences” including housing associations straying further from their core purpose of providing good quality, sub-market rent homes. Similarly, MPs argued that the increased focus on attracting finance had led, in some instances, to HAs prioritising investors over tenants.
So how has private finance shaped the sector? This article will explore the way the mixed funding model has evolved in the last 35 years, and what the next chapter could look like for social housing investment.
Private finance was introduced at scale to the social housing sector following the creation of the Housing Act 1988. The legislation recognised the value of the assets housing associations were holding and gave them the ability to borrow against this. This funding allowed for large scale stock transfers from councils to HAs, financed by major banks through long-term debt. Supporters said this would deliver much-needed investment into council housing and improve issues of poor conditions and disrepair. Opponents argued that it was an ideologically-driven effort to privatise council housing.
What followed, according to Peter Williams, fellow at the University of Cambridge’s Department of Land Economy, was one of government’s most successful attempts to shift its own spending onto the private sector. “The government very consciously wanted to shift the burden of finance in the social housing sector, rightly in my view, from a reliance on grant to a reliance on the private market.” He notes that what transpired was a “safe and secure market with no defaults and very few losses”.
Since then we have seen a decline in central government funding for social housing and an increased amount of investment coming from the financial sector. Before the Housing Act came in, the government footed the bill for 90% of the cost of new affordable homes but the proportion of grant funding has since dwindled to 12-15%, or lower in some cases. According to the most recent data from the Regulator of Social Housing, the sector’s total agreed borrowing stood at £118.7bn by the end of March 2022, while the government is providing £11.5bn via its Affordable Homes Programme 2021-2026.
At the same time, the emergence of Affordable Rent and intermediate rent under the Coalition Government as a means to offset the drop in capital grant, has led to a significantly lower proportion of new social rent homes. According to the UK Housing Review 2022, in England, since 2012 social rented stock has fallen by 208,000. But stock let at Affordable Rents has grown to 311,000 lettings. This has been further exacerbated by grant funding programmes favouring shared ownership.
This shift from a starting point of 100% grant funding has accelerated over the last 35 years and has seen a period of “very low rates and a very liquid market,” says Mr Williams.
Higher rents – both in the affordable and private rented markets – have been subsidised by housing benefit, leading to an inflated housing benefit bill for the government, essentially shifting the cost to the public purse from capital to revenue.
Meanwhile, private finance was flooding into the sector as HAs sought alternative ways to fund themselves and investors recognised the value of social housing as a source of long-term, reliable returns supported by a regulatory framework and a perceived government guarantee in all but name.
As Piers Williamson, Chief Executive of THFC – which was itself set up by the National Housing Federation and Housing Corporation in 1987 to help smaller providers access the debt capital markets – notes: “Post-2008, housing associations were better credit than the banks.”
Initially, funding was reserved for a select few organisations with the capability and willingness to take on the new frontier. There were few organisations accessing the debt capital markets as we see today, and most HAs sought bank loans.
But the social housing private finance market has continued to mature and many housing associations have cultivated strong, professional relationships with lenders and treasury advisors, contributing to a greater understanding of how both sides work.
More recently there has been a marked shift towards capital markets funding through facilities such as bonds and private placements, particularly after the banks pulled back from long-term lending to the sector following the 2008/9 financial crisis. According to the Regulator of Social Housing, the proportion of capital markets funding held across the sector increased from 37% of all facilities in 2019/20 to 46% by 2021/22.
Over time, an increasing number of smaller and medium-sized housing associations have also been able to access the capital markets, including via aggregators – THFC now lends over £8bn to more than 160 housing associations. And as the sector has matured, a private placement market has evolved for those not of the scale to access the bond markets.
Nasreen Hussain, Director of Finance and Resources at Soha Housing, a mutually owned provider based in Oxfordshire, explains: “We felt that private placements were only available for those looking to borrow £100m or more – but we soon realized this wasn’t the case.”
This proliferation of funding to smaller HAs has been crucial according to Nasreen. She notes: “We have £160m of private placement debt now but it was just £40m when I joined in 2014.”
Inevitably, the increased presence of private finance in the sector has led to questions about how it is impacting housing associations’ connection to their social mission.
Housing associations pride themselves on their foundations as organisations with an important social mission, and rightly so. The work of housing associations has produced thousands of sub-market rent homes at a time when council housebuilding has receded significantly.
But the recent media storm around the sector has brought the efficacy of this social mission into sharp relief. There are without doubt, examples where housing associations have, for whatever reason, failed to fulfill their basic duties of providing safe, affordable housing. But it is hard to say whether the issue can be specifically linked to increased levels of private finance.
As Piers Williamson argues: “I can think of organisations that probably have strayed to being too commercial and that’s due to a complex cocktail of leadership and governance.
“But good boards stick to social purpose and they really do keep the excesses of commercial minded executives in train.”
On the other hand, he suggests, the developing relationship between HAs and the financial sector has led to the “professionalization” of the sector “which has been a massive success story, if you look globally”.
Piers notes that forthcoming legislation to bolster consumer regulation will help ensure that commercialisation of the sector is kept in check.
Peter Williams suggests that evidence of HAs failing to uphold their original purpose, as argued by some, is “a consequence of scale”. He says the recurrence of mergers in the housing association sector has meant HAs have become “larger and more complex organisations”.
As well as keeping HAs in check, there is also a need to continue to examine lenders to the sector, say Nasreen.
“It is important to know your lender. There has been a number of more obscure lenders entering the sector and it feels as though the narrative around knowing your lender is not as strong as it was five or six years ago,” she explains.
A looming crisis that will test HAs’ commitment to their core purpose, and links directly to their financial viability, is the issue of rents. With the country gripped by rising inflation and a cost of living crisis, boards will have to decide how far they can increase rents without inflicting excessive financial hardship on customers.
HAs have the freedom to increase rents CPI+1% but with inflation creeping well into double figures, doing so would have a devastating impact on residents. A government consultation is now underway to cap rents at 3, 5 or 7% over the next year – which some argue will have a more material impact on HA balance sheets than the four-year rent reduction introduced by the government in 2015.
It seems likely that development pipelines will take a hit as most HAs look to prioritise investment in existing homes and the financial wellbeing of residents. As a result, it is possible that HAs will look to borrow more in order to maintain a certain level of housebuilding, but many with the liquidity to do so will avoid raising new funding amid soaring interest rates.
The data from the Regulator of Social Housing shows a clear trend of declining grants rates and increasing private finance in the sector, which begs the question: how long can this continue?
The rising popularity of social housing as an ESG investment has meant that there is plenty of interest in the sector when it comes to seeking funding. Practically all new funding is ESG-linked.
The sector has identified the emerging ESG agenda as a way to strengthen its reputation with investors, reflected in the creation of the Sustainability Reporting Standard for Social Housing. This collective movement promises to reinforce the relationship between HAs and lenders and ESG proficiency is evidence of the aforementioned “professionalisation” of the sector. However, the need for grant cannot be overlooked, especially at a time when HAs are dealing with soaring costs linked to building safety.
For Peter Williams, this combination of challenges means we have now reached the point where it is “right to be exploring the issue of equity investment in housing associations”.
He adds: “We are now seeing the beginning of partnership arrangements between long term patient capital, and HAs in which a productive and I believe relatively safe set of arrangements can be put in place that allow for equity investment in HAs with HA beginning to focus more on their capabilities as managers rather than tying up huge amounts of capital in their housing stock.”
Peter suggests the move will be a challenge to the “hearts and minds” of the sector which has historically owned and managed its stock but concludes “we are now at a point where probably a second wave of innovation is required”.
Piers Williamson is more circumspect about the future of equity based models. But he says “the specialist application for this could be HAs that are experiencing short term strains on cash flow due to fire safety remediation”.
Whatever the future trajectory of private finance in the social housing sector, it cannot be at the expense of landlords’ commitment to tenants. The Regulator is bringing in tighter consumer regulation which is a positive step but real change must come from the boardroom.