There has been a lot of social media commentary about the County Council’s high level of borrowing since they effectively declared themselves bankrupt. In particular about their reliance on what are known as "LOBO loans" which have rightly come in for criticism.
Northamptonshire County Council (NCC) currently has £609m worth of outstanding borrowing of which £150m is through LOBOs.
Lender Option Borrower Option or "LOBO loans" are long-term loans from the private financial markets specifically aimed at Councils. It used to be that Councils did pretty much all of their borrowing from the Government’s Public Works Loan Board (PWLB) which offers cheaper deals than normally available on the money markets, but a few years ago, councils were permitted to take on borrowing in the form of these LOBO loans.
I suspect the government were keen to keep borrowing off its books and this was one way to make that happen.
These loans have come in for criticism for several reasons. Firstly, they can be for very long periods. Typically a loan from the PWLB may have been for 20/25 years, but these loans can be for 50 to 70 years which means an awful lot of interest paid over a very long time.
However, from a council’s point of view, this may have been part of their appeal. This is because stretching out payments for such a long time the annual payments are less than if you were paying it off quicker. This allows more cash to be spent on services - but the sting in the tail is that you may end up paying a lot more in the long run.
The other problem with them is the interest rates. They came with a ‘teaser’ rate which was very low for the first few years then increased to a higher rate after this introductory period, but which is typically higher than councils could have expected from the PWLB! Goodness knows why people fell for it, given these loans are being paid off for decades, why would you agree to pay higher rates?
I guess it really was about pushing the costs as far down the line as possible but a short-term gain equals a long-term loss as far as I can see.
The main question mark about these sorts of products, however, is the Lender Option - the LO in the title. It gives lenders an option to increase the agreed rate with very little notice, the Borrower Option, would then kick in which would enable the council at that stage to pay the loan off in full if they so wished.
I have copies of some of the original loan contracts that NCC took out and on loans from Barclay’s Bank for example, on the front page of the contract it comes with the warning:
"Please note that the nature of this loan is that the interest rate may increase at a time that you may consider disadvantageous to you".
Luckily because interest rates have been low until this point (although there is a lot of speculation that that will change), no lender has yet exercised their right to increase rates and give Northamptonshire County Council the option to either pay them off or refinance them.
But this means that NCC is trapped. They have to continually pay these loans at rates that are all higher than they could borrow elsewhere. The highest is for £5m from HSBC and is 11.375% and this is probably the best part of 10% higher than if the loan had been taken out with the PWLB. That means just on that one £5m loan (out of a total of £150m of loans), each year the Council is paying half a million pounds more in interest than it would otherwise have to!
Overall the Council is paying over £6m a year just in interest. Unfortunately, I don’t have all the contract details nor the technical expertise to analyse this any further but that’s probably at least twice as much paid in interest as they would need to had they taken out government loans. That is money that could be spent on services, looking after the elderly or filling potholes!
So why don’t the Council simply take better loans out elsewhere and pay the loans off early? The answer to that is another one of the problems inherent with these loans. The ridiculous penalty clauses; to pay the £150m total would cost £256m!
So for me, the big question is why on Earth did NCC sign up for these products in the first place? Especially given all the problems that they have? One answer to that is they were advised to by so-called financial experts who were being paid huge commissions to do so. All of the loans NCC have were sold to them from CAPITA, but I still don’t understand why Councils couldn’t see that the long-term effect of these loans would be felt by the residents of their areas for decades to come.
Clearly whoever took these decisions were just looking at the short-term implications and suckered into thinking that by spreading the repayments over decades they were keeping the costs down. Even though it worked out worse in the long run, and even though they signing up to restrictive and costly terms.
I am pleased to say that NCC seems to have belatedly come to their senses and even though they currently have nineteen LOBO loans, they haven’t taken out any new ones since 2010. But isn’t this yet another example of the sort of short-term thinking found in local government rather than a sensible and prudent long-term financial plan?
I would like to thank the guys at http://debtresistance.uk/ for their help in putting together this information and discussing some of the technicalities with me.
Below is a list of LOBO loans held by Northamptonshire County Council: