UK: RP Issues: A Briefing For Registered Providers Of Social Housing - The Year Ahead, Spring 2013

Last Updated: 19 March 2013
Article by Jonathan Pryor, David Alexander, Andrew Bond and John Rainsford

EDITOR'S COMMENT

By Jonathan Pryor

This newsletter is packed full of informative articles. We start with an important reminder that the RP sector is particularly exposed to the risks from fraud. The article emphasises the importance of understanding the risks and ensuring that your control environment is effective, rather than just assume it is. We then discuss the relatively unattractive Green Deal and the potentially more positive Energy Company Obligation, outlining a number of challenges.

Next we comment on the Cost Sharing Exemption and assess the degree to which this might be beneficial. The article makes clear that this exemption has practical difficulties, which may explain why there has been relatively little take up so far. Our fourth article discusses our highly informative survey on Executive Pay. There is a wealth of further information available from the full survey, which we would encourage readers to review.

Our next topic is Real Time Information, yet another impact on the sector due to Universal Credit, followed by a commentary on pensions, where yet more change is coming our way. This is a complex area so further discussion with your advisers (or of course our inimitable Chris Murray) is likely to be essential.

Not all associations are genuinely constrained by their loan covenants. However if you are, the next article provides some useful thoughts on responses, focussing on the debt per unit covenant as an example. This is followed by an important article on service charges and an awkward judgement in the High Court which may have significant repercussions for RPs on the key area of consultation with service charge payers. Our final article discusses a number of tax changes.

I do hope you find the newsletter an informative read. Please do not hesitate to contact any of the authors or me if you would like further information or any assistance on the points raised.

FIGHTING FRAUD IN THE HOUSING ASSOCIATION SECTOR - UNDERSTANDING AND IDENTIFYING THE RISK NOW MAY HELP PREVENT FUTURE FRAUD

By David Alexander

Reported fraud is at an all-time high. The Association of Certified Fraud Examiners estimates that the typical organisation loses 5% of its revenue to fraud each year. In the registered provider sector, this figure represents a potential sector-wide fraud loss of more than £600m (based on 2011 global accounts turnover of £12.6bn).

Don't think that your organisation is immune to fraud, especially in the current economic climate. And when it does occur, governing boards, bankers and other stakeholders are holding officers to account. Ignorance of fraud is no defence – it is now recognised as a business risk to be managed in the same way as any other business or financial risk. Tenancy fraud is often cited as a common fraud risk in social housing and certainly it is a challenge which registered providers face every day. However, the problem is not limited to tenancy fraud. From our own case book we have seen an increase in fraud or attempted fraud at registered providers and more often than not it is internal fraud committed by staff which causes the biggest disruption. By understanding the fraud risk areas, you can go some way to ensure you are not part of next year's statistics.

Maintenance fraud

One of the biggest risks to internal controls is collusion. When two or more individuals cooperate to commit fraud there is a real risk that they will be able to circumnavigate normal 'prevent and detect' controls. Maintenance fraud, in our experience, is by far the most common fraud involving internal staff. In a recent case an Audit Commission inspection identified a backlog of maintenance work. Upon further inspection our team identified collusion between the surveying team and the work contractors allowing for works to be amplified and as a consequence the overpayment of maintenance. Lack of segregation of duties, ineffective recruitment procedures, an inadequate whistle-blowing process and a lack of declarations of interest process all contributed to make this fraud possible.

Development fraud

Again, collusion can be a key factor in development fraud where, due to the potential gains to be made from a single transaction, employees colluding with external professionals can net huge gains to the fraudsters.

An organisation's best defence to these types of fraud is to understand the risks associated with the transactions in question by asking the following questions: How are external service providers vetted? Are employees allowed to introduce their own counterparties without the appropriate due diligence taking place? Are post transaction reviews carried out by independent staff who understand the warning signs and badges of fraud?

Payment fraud

In many cases fraud does not distinguish between one business sector and the next. Fraud is committed by individuals and individuals are motivated by factors beyond your control. The challenges of the current economy can be enough to cause sufficient hardship for an otherwise honest employee to commit fraud. A failed relationship, an unpaid debt, an addiction can all add to a lethal cocktail of circumstance which tip an employee over the edge.

We investigate many frauds in both the registered provider and other sectors where an outwardly honest hard-working employee takes advantage of basic control weaknesses in the payments system. Examples include the simple diversion of both BACS and cheque payments which go undetected, sometimes for years. The reason these frauds go undetected is because simple controls are not maintained and instead the organisation relies upon the unfortunately misguided assumption that all employees are honest. Separating the functions of payment preparation, authorisation and bank reconciliation is essential. Forged signatures are still a problem on cheques but it is much more likely now for passwords to be compromised when making electronic payments.

Understand the risks

If you are going to stop fraud in your organisation you need to understand the risks. This applies to both generic fraud risks such as BACS fraud as well as sector specific fraud such as maintenance and development frauds. You also need to understand that fraud risks change over time as the organisation changes and reacts to the underlying economic conditions. But most of all you need to understand that fraud is committed by individuals who are motivated by circumstances often outside your control. Understand the risks of fraud, monitor those risks on a regular basis and ensure that your control environment is effective and designed to match those risks. You won't stop all fraud but you'll prevent a lot and just maybe when next year's statistics are published there will be some good news.

GREEN DEAL - NO DEAL? ENERGY SAVING OPTIONS FOR RPs

By Andrew Bond

As the majority of readers will be aware, the Green Deal kicked off formally on 28 January 2013. This major government initiative, intended to facilitate the retrofit of property, save energy and reduce carbon, has been long heralded.

The basic concept is attractive. Operating under what is termed the 'golden rule', it is intended that finance is available to households to install more energy efficient equipment or insulation. The golden rule requires financing costs should be less than the savings in the cost of fuel over the life of the individual deal. Considerably regulated, the Green Deal Oversight and Registration Body will be responsible for registering and overseeing accredited assessors, providers and installers. For registered providers, the opportunity to see fuel poverty and climate change addressed at little likely cost to them would be something they might be expected to get behind in a big way – but to date there has been very little take up and press coverage has been largely negative. Few housing associations appear to want to become providers and consumers appear even less interested. Many commentators have pointed out that though the theory is fine, householders may not actually save money in total because of fuel price increases and because there may be a tendency to keep the house warmer rather than bank the savings. Complexity has probably also put off many. For private or shared equity homeowners there is also concern that, since the financing arrangement attaches to the property rather than the current occupants, it is unclear whether, when they come to sell their property, a 'green deal' loan attaching to it may put off potential buyers.

To date it appears unlikely that some of the issues that might need to be worked through from an accounting point of view for housing associations are likely to be at all material – but if they do become so, guidance will be required on questions such as the following.

  • Given the green deal financing attached to the property, is it really a loan to the tenant or to the association?
  • How do I account for components replaced under the green deal?

ECO – Go?

Before you relax you might want to consider the lower public profile but potentially 'must have' scheme known as the Energy Company Obligation (ECO). ECO also launched this year and is intended to back up the Green Deal for works that do not meet the 'golden rule' under the Green Deal. Under legislation, energy companies are obligated to make substantial carbon savings. The power utilities will therefore provide funding in exchange for production of carbon savings by RPs and others. So, for example, if a group of houses which would benefit from solid wall insulation is identified, it should be feasible for housing associations (or others) to approach an energy company directly or go through an auction system, to seek to agree that the energy company finances the majority of the works in return for carbon credits. Power companies are expected to invest approximately £1.3bn per annum under the scheme and so it is a significant potential source of funds. Anecdotally, we understand that there are some quite large deals already being discussed in this area, the attractions for a registered provider being much the same as for the Green Deal generally. However the funding and works can be organised at scale with long established energy companies with whom associations may have worked on other schemes (including predecessor schemes).

There are, however, potential downsides. For example, power companies are unlikely to finance 100% of the costs. Nevertheless, we can potentially see ECO take off in quite a big way quite quickly. If it does, some material accounting issues could start to arise. These schemes are likely to vary in detail and could perhaps, for example, be structured in the form of a grant for works or at the other extreme, a sale of carbon credits to an energy company. Either way, because it is the tenant that is in theory more likely to take the benefit of the energy savings, it should not be assumed any costs incurred by the association are necessarily capital costs. There is a good chance they should be expensed. We suggest you ask your development and sustainability colleagues what they are up to in this area and have a look at draft agreements before they are finalised. Please give us a call if you would like to discuss anything. We'd be interested to hear from you.

SHARING THE COST - THE COST SHARING EXEMPTION POLICY

By John Rainsford

For RPs and other independent organisations, forming a group could help reduce VAT and other costs

With the long lead in to the introduction of the Cost Sharing Exemption policy, which was implemented by UK law on 17 July last year, most readers will be aware of the relief. However, as the exemption has now been available for about eight months, it may be a good time for registered providers, and other potentially qualifying bodies, to reassess the benefits of the exemption, and whether it could create cost saving opportunities. Currently, some organisations are finding that while the exemption seems an attractive proposition, the arrangements necessary to implement and operate it are not sufficiently cost effective compared to alternative arrangements.

Forming a cost sharing group

The Cost Sharing Exemption allows registered providers and other independent organisations which have exempt or non-business activities, to form a cost sharing group (CSG) which provides certain services at cost to its members without VAT, in a similar way to services provided within a VAT group. As well as reducing potentially irrecoverable VAT, the CSG may allow the members to reduce operational costs by obtaining economies of scale and sharing certain functions such as the repairs and maintenance of residential property, housing management and back office services.

The five conditions

The exemption may only apply where the following conditions are met.

  1. There must be an independent group (a CSG) supplying services to its members. The CSG can take any legal form which is separate from its members, such as a limited company or an unincorporated association.
  2. All members must be involved in exempt or non-business supplies. HMRC considers at least 5% of a member's supplies should be exempt/non-business. 3. The services supplied by the CSG must be 'directly necessary' for a member's exempt/non-business activities. If a member's activities are at least 85% exempt/non-business, HMRC allows all the supplies it receives from the CSG to be treated as directly necessary.
  3. The CSG only recovers the cost of making the supplies from its members. Registered providers which provide services for smaller registered providers in the same CSG should therefore be aware that no profit element may be charged. A CSG can however run a surplus or a deficit. Any supplies outside the CSG may be subject to VAT.
  4. The Cost Share Exemption should not lead to distortion of competition. As a CSG is not a commercial outsourcing arrangement and can only supply its members on a direct reimbursement basis, HMRC therefore believes the exemption should not distort competition.

The practicalities

Any RP seeking to reduce its costs should consider the option of forming a CSG, but there are many practical implications, such as which services can be shared, who will be the members, who will operate and administer the group, and what legal form will it take. The Cost Sharing Exemption is a new concept to the UK, offering potential cost savings, however it may take some cultural change to work as a cooperative and share commercial information with others before its full potential is realised. As an alternative, RPs may wish to consider other ways of achieving costs efficiencies, such as insourcing.

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