Port Macquarie-Hastings Council Key Findings from an Independent Review of Financial Reserves What are financial reserves and why do we need them? • In order to adequately provide infrastructure to support development activity in the community, Council identifies infrastructure priorities and puts money aside in “reserve”. • This is kept aside (held in reserve) until the money is required for the major infrastructure projects that have been prioritised in the Capital Works programme – which is a list of projects, such as new infrastructure works, which are programmed for upcoming construction. Such new works could include construction of Council buildings, roads and bridges, or other Council-managed installations. In particular, the most common use of this money at Port Macquarie- Hastings Council is for building new roads, community facilities, and water and sewer systems. • By saving this money in “reserve”, Council can use these funds as either an alternative, or in addition, to borrowing money to provide these assets. UTS CRICOS PROVIDER CODE 00099F • It is generally preferable to use savings rather than borrow because a reliance on borrowings could result in the burden of excessive interest costs, which can have an adverse impact on Council’s financial sustainability. In addition, when infrastructure is funded through savings rather than borrowing, the money that is held in reserve can earn some interest income for Council. o As a result, when infrastructure is provided using reserve funds, there is both an interest saving (compared to if Council borrowed money instead of saving) and an interest earning (from the income earned by Council when this money is held in its savings fund). This means that there is less pressure on future rate increases for residents and on other user fees to recover infrastructure delivery costs. What are current reserves being used for? • Most of the funds which are saved in reserve have external restrictions. This means that Council can only use them for specific purposes and cannot be used by Council to fund general operations. This restriction on the usage of these funds is imposed externally by State government legislation which councils in New South Wales must comply with. Funds which carry external restrictions make up around 72 per cent of all reserve funds of Council. o An example of externally restricted funds are the contributions received by property developers in the form of levies (developer contributions). This makes up around 44 per cent of externally restricted reserves. This money UTS CRICOS PROVIDER CODE 00099F is saved in reserve and can only be spent on infrastructure delivery associated with development activity (that is, on infrastructure related to growth and cannot be used for existing assets such as repairing existing roads). Developer contributions that are held in reserve are broadly split into the following categories: ▪ a water and sewer fund (called Section 64 reserve funds), or ▪ a set of funds for roads, traffic, open space, and community facilities (called Section 94 reserve funds). ▪ These developer levies are charged differently and the funds are separately managed. This is so that there is no conflict of priorities between Section 64 and Section 94 infrastructure projects. o In addition to developer contributions, money is also set aside amongst other external reserves for other purposes in order to ensure sufficient maintenance of assets is undertaken. This is mostly saved so that water, sewerage, and waste management facilities, for example, are maintained and quality services can be delivered to the community. • There are also some funds set aside for other priority infrastructure as deemed by Council and Councillors. These are known as internally restricted reserves because they have been set aside for a particular purpose that has been UTS CRICOS PROVIDER CODE 00099F determined internally by Council and so the money can only be used for this specified purpose. This makes up around 28 per cent of all reserve funds. o The internal reserves have largely been set aside for commitments such as employee leave entitlements, plant replacement, playing fields, airport and transport infrastructure renewal. • The composition of reserve funds into usage categories (expenditures) as at end of the 2016-17 financial year has been summarised in Figure 1 below. o The pie chart on the left of the Figure splits the internal and external reserves of Council for 2016-17. o The pie chart on the right of the Figure splits the components of the external reserves of Council for 2016-17. • The composition of reserve funds into major asset categories (holdings) as at end of the 2016-17 financial year has been summarised in Figure 2 below. o The pie chart on the left of the Figure splits the internal and external reserves of Council for 2016-17. o The pie chart on the right of the Figure splits the components of the external reserves of Council for 2016-17. UTS CRICOS PROVIDER CODE 00099F Figure 1. Composition of reserves by category. 26% 24% 28% 72% 18% 17% 10% 6% Internal External s94 Developer s64 Developer Water Sewerage Waste Mgt Other Figure 2. Composition of reserves by major asset class. 31% 17% 28% 72% 24% Internal External Water Sewer General/Waste UTS CRICOS PROVIDER CODE 00099F What is an appropriate level of financial reserves to set aside? • It is difficult to determine precisely the right mix of money to set aside in reserve for future infrastructure and money to use today for current infrastructure. • Councils who are good financial managers strive to have sufficient money put aside to ensure that priority projects can be delivered to the community in a timely and cost-effective manner. Just like household savings, this can mean that some current income is saved rather than spent, in order to provide for the future. In particular, sometimes current minor renewal projects may need to be deferred in order to ensure that sufficient savings are being put aside in reserve for major future projects. • If councils have not allowed enough funds in reserve for infrastructure projects, they need to either borrow, sacrifice some spending, or increase rates bills. Conversely, if councils have set aside too many funds rather than put into use for infrastructure projects, this can contribute to a backlog in infrastructure delivery. • The challenge for Council is to balance these interests to ensure that an appropriate level of reserves is held, in consideration of developments within the council area, as well as the state of, and demand for infrastructure. • Among the main factors that may weigh on Council’s determination of the appropriate level of reserves is the level and nature of development activity within the council area. UTS CRICOS PROVIDER CODE 00099F o This is because councils experiencing a high level of development activity (such as Port Macquarie-Hastings Council, see Figure 3) require relatively high levels of reserves in order to adequately cope with the required levels of infrastructure spending. o In addition to requiring relatively higher levels of reserves in areas of high development activity, these councils are also required to accumulate these funds relatively quickly – because it is likely that major infrastructure commitments also may fall due sooner than in other areas. Figure 3. Number of Lots Created (Land Subdivisions). 1250 1000 large increase in new lots created in PMHC from 2014-15 750 compared to peers 500 250 0 08-09 09-10 10-11 11-12 12-13 13-14 14-15 15-16 16-17 Port Macquarie - Hastings Tweed Ballina Coffs Harbour Kempsey Midcoast UTS CRICOS PROVIDER CODE 00099F • In light of the pressures placed upon Port Macquarie-Hastings Councils’ asset and financial management as a result of development growth (see Figure 3), the water and sewer capital works programme, in particular, has recently undergone a major revision. o This includes ensuring all projects are named in a consistent and clear manner. The projects have also been split into preconstruction and construction phases, with the aim of clearly defining the phase of the project and improving planning and budget estimates for the construction phase. • Because different councils have different experiences of development activity, infrastructure needs, varying size and capacity to raise funds, and so on, this means that making comparisons between councils’ reserve balances for the purposes of benchmarking is difficult. In particular, straight comparisons between two neighbouring councils may result in misleading conclusions about respective performance of councils. What is the assessment of the current reserves level? • The University of Technology Sydney, Centre for Local Government (UTS:CLG) was engaged by Council to conduct an independent analysis of the appropriateness of Council’s reserve levels. UTS CRICOS PROVIDER CODE 00099F • UTS:CLG identified that Council has projected relatively fast development growth into the medium term. This means that Council may be required to fund infrastructure going forward relatively quickly and to a relatively larger scale compared to some of its peer councils – which may be reflected in relatively high levels of reserves compared to some neighbouring councils. • Overall, UTS:CLG found Council’s reserve levels to be broadly appropriate and reasonable in light of Council’s circumstances. In particular, it is UTS:CLG’s assessment that Council has successfully maintained a prudent buffer to prepare against potential financial risks associated with the predicted high development activity. • In particular, UTS:CLG determined that: o Compared to councils experiencing similar development activity and demand, Port Macquarie-Hastings Council’s Section 94 reserve funds sit at an appropriate level. o Compared to councils experiencing similar development activity and demand, Port Macquarie-Hastings Council’s Section 64 reserve funds are currently higher than some of its peer levels. As at 30 June 2017 Section 64 reserve funds were at just over $71m.