Government faces tough delivery challenges in social housing

This article first appeared in the October issue of Infrastructure magazine.

National’s election win gives it a mandate to push through its proposed social housing reforms without the need for compromise but this does not mean that the way ahead will be plain sailing as there are serious rips and head winds to be navigated.

The policy objective is clear - to ensure that the government’s immense investment in housing is directed toward those in greatest need, to encourage innovation in delivery and to entice in new capital from the so-called “third sector”, which includes non-profit organisations and, potentially, iwi.

Much of the legislative framework was put in place last year with the passage of the Social Housing Reform (Housing Restructuring and Tenancy Matters Amendment) Act 2013.  This:

  • introduced a system of three yearly reviews for Housing New Zealand Corporation (HNZC) tenants, beginning this year with the review of around 800 state house tenancies where the households are paying at or near market rents
  • extended Income Related Rent Subsidies (IRRS) to community housing providers (CHPs)
  • transferred the housing needs assessment function from HNZC to the Ministry of Social Development, and
  • established the Community Housing Regulatory Authority which will be responsible for the registration and monitoring of private sector IRRS recipients.

However the real challenge is to build the capacity of New Zealand’s community housing sector.  Such has been the dominance over many years of Housing New Zealand in this market that not much has been able to grow in its shadow - and certainly not to a scale that has created anything close to a multiple provider model.

The numbers tell the story.  HNZC owns or manages 69,000 houses.  Local government has around 11,000 and the CHPs around 3,000.  Also, most CHPs and potential CHPs have specific constituencies whose needs they are seeking to meet. And, with the possible exception of iwi, they tend to have relatively shallow capital bases which will restrict their ability to raise capital (be that equity or debt). 

This is especially given that the need to keep rents affordable will mean that the returns on investment will be small.  HNZC’s return on equity in 2013-2014, for example, was only 1.4 per cent.

Progress so far has been slow.  A Social Housing Fund was created in 2011 as an interim measure while the final institutional systems were put in place.  It has received capital funding of around $140 million but that is now fully allocated so it is not accepting any further applications at this time. 

The bigger solution may lie in the government’s target of transferring 20 per cent of HNZC’s portfolio to CHPs by 2020 but even achieving that is a far from straightforward proposition.  To our knowledge, not a single house has so far been transferred.

Much of HNZC’s stock is no longer fit for purpose.  There are deferred maintenance costs across HNZC’s assets of between $1 billion and $1.5 billion, the average age of its properties is 41 years (which, by international standards, is old for social housing) and 37 per cent are less than fully utilised because of their location or their configuration – all this while 3,000 high priority applicants sit on the waiting list.

Other problems identified by Community Housing, an umbrella CHP organisation, in a paper earlier this year are:

  • the structural conflict of interest created for HNZC by the need to return solid dividends to the Crown
  • the commercial unreality of prices based on HNZC book value [and local authority rating values], relative to tenants’ ability to pay, and
  • linked to the last point, the fact that no CHP can afford to pay current market values in high-demand areas where the social need is greatest and then keep rents below market – “the deals simply don’t stack up”.

Community Housing suggested that to get the stock transfers moving the government needed to appoint “a new negotiating partner not constrained by the requirements imposed on HNZC”. 

Such a new negotiating partner is now being designed by a special Treasury-led Establishment Unit comprising Treasury and Ministry of Business, Innovation and Employment officials working with Housing NZ. 

They are to report back in December this year on the creation of an Independent Transactions Unit (ITU) to be up and running in the first quarter of 2015.  This entity is likely to be a special purpose vehicle with the single objective of developing the social housing market. 

They are also to recommend a series of funding options and to assess the fiscal implications of progressing any particular option.  Possible mechanisms include:

  • asset and tenant transfers out of HNZC
  • increased operational subsidies to CHPs (to cover the cost of capital or even to provide for a commercial return), and
  • models featuring a mix of both of the above, with the Crown taking an equity stake in a CHP in the early years while it becomes established.

It is envisaged that CHPs would be required to reinvest surpluses into new housing supply rather than pay dividends to shareholders.

Any and all of these levers have significant fiscal impacts for all stakeholders so the ITU will need a clear mandate and set of policies to guide how it operates, including governance, structural and operational arrangements. 

The social housing stock is a significant item on the Crown’s balance sheet. Any transactions devolving that stock which value existing social housing assets differently to their current carrying value on the Crown’s books could have far-reaching implications for the government’s commitment to reach and maintain budget surpluses from the end of the 2014-2015 financial year. 

The Establishment Unit will be pursuing a rigorous policy design process but still there is considerable scope for development of the programme. In particular, it is difficult to see how the necessary influx of private sector capital will be achieved as the ability of the (current) third sector participants to contribute will always be constrained by (relatively) limited balance sheets.  

Even more fundamentally, in order to attract private sector capital, commercial returns must be generated from somewhere within the mix.  It is not obvious how this will be delivered given the below market rents inherent in social housing.

For all of these reasons, the risk that such a market might ultimately fail (or fail to deliver in a manner that meets the social policy priorities) must be counted as high, which will pose its own problems.  It is difficult to see how the government would be able to avoid an intervention to rescue a collapsing third sector participant and, if this is widely anticipated, the government will face the usual moral hazard concerns which arise in these situations.

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