City of Adelaide Review of Rating and Revenue

Transcription

1 City of Adelaide Review of Rating and Revenue Draft Report 11 May 2017 John Comrie JAC Comrie Pty Ltd

2 Table of Contents Executive Summary... i 1. Introduction Background Rating Theory Considerations Funding and Rating Policy Considerations An Assessment of Council s Current Rating Strategy Modelling Results for Alternative Rating Options Sources of Revenue Financial Sustainability Community Consultation and Other Issues Conclusions Recommendations Appendix 1 Analysis of Average AAV s and Average Rates by Land Use Draft Report - City of Adelaide Review of Rating and Revenue 11 May 2017

3 Executive Summary There is no single rating system that best suits or is preferred by all ratepayers. Which rating tools to use and the extent and details of their use is a choice a council needs to make having regard to a wide range of factors. It needs to be mindful of historic arrangements and the current and likely future circumstances and character of its community. Trade-off judgements inevitably need to be made. Consideration of the relative public finance criteria merits of various alternative options can help make this decision more objective and better able to be defended. The existing rating system of the City of Adelaide (CoA) uses assessed annual values (AAV s) as its basis of rating; this differs from other SA metro councils (which use capital values) but is not dissimilar to other capital city councils (4 of 7, including CoA currently apply a form of AAV s). Council s differential rating system is based on land use whereby two differential rates are declared; one rate for residential properties and another rate for all other properties (i.e. non-residential). Council needs to have careful regard to equity in designing its rating system. Tax principle criteria suggest that equity deliberations need to consider both benefits received by and the capacity to pay of different classes of ratepayers. Capital values and annual values (which are generally proportionally consistent with capital values) are a better (but not perfect) indicator of capacity to pay compared with site values. CoA s basis of rating doesn t use minimum rates or fixed charges (the Local Government Act allows use of either but not both). Whilst the majority of SA metropolitan councils and other capital city councils apply minimum rates a fixed charge is likely to better satisfy equity considerations in most instances. The CoA currently levies a separate rate which is applicable to an area defined as the Rundle Mall Precinct. The differential separate rate is proposed to fund marketing and management of the Rundle Mall Precinct, including as a destination for shopping and to enhance the vibrancy of the locality. Consideration could be given to extending the application of separate rates to the precincts in the vicinity of Hutt St, O Connell St, Melbourne St and the Central Market. Councils need to be able to justify the rationale for their basis and extent of differential rating. CoA s non-residential rate is set at approximately 122% of the declared residential rate and when compared to a sample of SA metro councils this is sitting at a relatively modest level. This differential is based on an objective whereby residential properties provide approximately 20% of the total rates revenue raised. A differential rate may reasonably take account of the impact of activities that have a direct correlation to the particular land use. For example, commercial properties may attract high levels of visitation from non-residents of the CoA which in turn necessitate a higher level of service provision. When this occurs it is reasonable to Draft Report City of Adelaide Review of Rating and Revenue 11 May 2017 i

4 apply a higher differential rate which effectively taxes commercial properties at a higher level. In terms of benefits received (the costs a council incurs in servicing the property) and capacity to pay, it seems hard to defend charging a higher differential rate on vacant land. Nevertheless, many councils do so; claiming that it is done as a policy disincentive to holding undeveloped land and therefore effectively to encourage development. In practice unless the differential rate was extremely high other factors are likely to be far more material in deciding whether a landholder will develop their property. CoA is one of the very few councils state-wide that provides a rating remission to pensioners. Generally speaking from an equity basis welfare support of this nature is better undertaken by state or Federal governments as they have much broader sources of income and mix of taxpayers to spread the financial costs across. The LGA has encouraged councils to offer rate deferrals rather than permanent concessions to pensioners. Well-designed deferral arrangements have no long-run cost to councils and can assist ratepayers in addressing capacity to pay challenges; similar comments apply in regard to self-funded retirees. Evidence from previous research on this topic indicated that the average annual income of self-funded retirees in South Australia was in fact higher than that of the average SA ratepayer. The CoA caps annual rates increases at 10% and applies conditions of eligibility which eliminate those properties (from receiving the benefit of the 10% cap) where the respective property valuation has increased as a result of new development, additions or alterations. Extensive use of caps can be justified and effectively allow for the phasing in over several years of significant increases in rates for individual properties where above average increases in property valuations would otherwise result in a large one-off increase in the amount payable. Caps have no direct cost to a council (since rates to other ratepayers are necessarily effectively correspondingly higher) and minimal negative equity implications over time if well thought through. They should not though be used as a substitute for other warranted rating reforms. CoA s rating policy sets out its approach, and processes, to deal equitably with the setting of rates and the options to manage payment of rates, including relief provisions through both postponement and remission of rates. It should be reviewed in the light of Council s response to the conclusions and recommendations set out in this report. In preparing this report some alternative rating options have been modelled. These apply AAV s as the basis of rating and they include examples of the impact of varying the differential rate relativities between residential and commercial ratepayers in conjunction with the use of fixed charges and a minimum rate. The modelling highlights that there are various potential rating strategies available that would reasonably satisfy rating theory considerations. Draft Report City of Adelaide Review of Rating and Revenue 11 May 2017 ii

5 The justification for the basis and extent of differentiation currently applied warrants review. It is stressed though that the current extent of application of differential rating may be reasonable for example CoA applies lower increases in differential rates for non-residential properties relative to residential ones than do many other councils. A significant redistribution of the overall rating burden across properties could eventuate from changes in these factors as is highlighted in the modelling. No rating system is perfect and when making changes to address any perceived concerns and/or better satisfy some classes of ratepayers a council needs to use its judgement of local circumstances. In making any changes it always runs the risk of creating unsatisfactory outcomes for some ratepayers. Rating theory and data modelling considerations suggest that CoA s rating system is reasonable for its circumstances. A review of the basis of setting its differential rates in regard to commercial/industrial and vacant land properties should be considered. There may also be merit in introducing a modest fixed charge. Council currently generates significant revenue from activities other than rates. Approximately 47% and CoA s operating revenue in 2016/17 is expected to come from other than rates. Although a higher level of own source revenue (rates and charges) gives a council greater control there is nevertheless no right or best level. It will depend very much on a council s own and the wider economic and government policy circumstances. Councils should focus on the level of income needed to maintain preferred service levels over the medium-longer term having regard to trade-off choices between revenue raising and service provision. Given the financial challenges facing other levels of government a council needs to be careful in assuming significant increases in ongoing funding from other levels of government. Generally speaking a council should set charges to recover comparable market prices and in the absence thereof the full long-run cost of provision of private goods to ratepayers. It should then aim to raise sufficient ongoing rate revenue to fully recover the net average long-run cost of its services and costs. CoA has produced annual operating surpluses in recent years (i.e. in 4 of the 5 previous years). Broadly speaking its financial sustainability targets are reasonable although it could be argued that the average underlying operating surplus ratio target range should be slightly higher and narrower (e.g. between 5% and 15%). If the CoA could achieve and maintain a satisfactory ongoing underlying operating surplus ratio target it could maintain a higher net financial liabilities ratio (eg debt levels) if need be without concern. Council s draft LTFP forecast operating results (noting that ongoing additional demands are likely to continue to emerge) are modest; the first four years are forecasting deficits and the remaining six latter years are forecasting only small Draft Report City of Adelaide Review of Rating and Revenue 11 May 2017 iii

6 surpluses. It should be noted that under-lying ongoing operating deficits typically mean that a council is under-charging ratepayers for the level of services it is providing relative to their cost. Achieving and maintaining modest operating surpluses (as is the recent CoA experience) is equitable for current and future ratepayers and generally speaking should remain a key objective. Doing so helps give councils the capability to renew and replace assets as required. In determining its annual rating and service level decisions the CoA needs to have regard to long-term financial sustainability considerations and achievement of financial sustainability targets in its financial decision-making. The CoA is currently reviewing its long-term financial plan (LTFP) and the importance of determining a system and quantum of rating and revenue raising that best suits its ongoing likely circumstances is critical. The CoA will need to ensure that emerging priorities or changed policy positions do not prevent Council from achieving targeted financially sustainable performance. Maintaining strong financial discipline and focussing on particular issues will assist in achieving ongoing financial sustainability. Key issues include: Adopting and annually reviewing a well-considered and robust LTFP; Ensuring strategic planning and annual budget decisions are made consistent with the achievement of appropriate financial indicator performance targets; ensuring additional revenue is generated to offset any new or enhanced services; maintaining up-to-date asset management plans and ensuring provision of ongoing budget funding for asset renewal at the level set out in such plans. It is important that a sound and strategic basis is in place to guide decision making associated with revenue, rates setting and long term financial sustainability. Draft Report City of Adelaide Review of Rating and Revenue 11 May 2017 iv

7 1. Introduction Rate revenue represents the largest source of operating revenue for most South Australian (SA) councils. It is therefore appropriate and in accord with the intent of the SA Local Government Act (1999) (LG Act) that councils periodically review their basis of rating. 1 The LG Act provides councils with considerable flexibility and alternative approaches in the way they raise general revenue from rates and charges. Over time the mix of a council s services can change as can the characteristics of its ratepayer base. The City of Adelaide (CoA) decided to undertake a Rating and Revenue Review to assess and benchmark its overall revenue generation profile, and consider the sustainability of the current revenue streams in the context of the adopted Strategic Plan and to inform the development of the Long Term Financial Plan (LTFP). It engaged Mr John Comrie (JAC Comrie Pty Ltd) to undertake the study and this report outlines his findings Background Each year all councils not only need to determine how much rate revenue to raise (including the quantum relative to other sources of revenue), they need to determine how they will raise it. Regardless of the amount raised there are a variety of decisions that need to be made as to what share of aggregate rate revenue is raised from each individual ratepayer. 3 The LG Act requires councils to have regard to equity in determining their basis of rating. 4 Key amongst these factors is the following: i) Whether to base rating on the site, annual or capital value of properties. 5 Site value represents the value of a property excluding development that has occurred on it. Annual value is the rental value of a property. Capital value is market value. In 2014/15 most SA councils (60) set rates based on the capital value of properties in their area. Seven councils (all rural or regional) used site value and City of Adelaide used annual value; 6 1 See LG Act Section Mr John Comrie operates a consultancy practice specialising in providing financial and governance advice to local governments. He has prepared much of the guidance material produced by the LGA to assist councils to improve their financial sustainability and performance. He has written and been published extensively on local government rating theory and practice issues. Further details about his background and experience are available at 3 See LG Act Sections 123 (2) (d) & (e). 4 See LG Act Section 151 (6) (d). 5 See LG Act Section All 2014/15 local government sector-wide data has been sourced from Local Government Grants Commission (LGGC) database reports. Draft Report City of Adelaide Review of Rating and Revenue 11 May

8 ii) Whether to apply a fixed charge or minimum rate and if so the amount. 7 A council can t apply both and doesn t have to apply either. 8 In 2014/15 thirty four councils applied a minimum, thirty three a fixed charge and only CoA applied neither. The minimum rate or fixed charge levied varies widely between councils. In 2014/15 the average minimum rate was $727 and the average fixed charge was $380; iii) Whether to apply differential rates or not. 9 Most SA councils do utilise this choice and set higher or lower rates in the dollar for different land uses and/or localities. Typically compared with the rate set for residential properties, councils charge a slightly lower rate in the dollar for primary production properties (not always, a few councils charge a higher rate) and a higher rate in the dollar for commercial/industrial properties. CoA s basis of rating utilises annual values and applies a differential rate in the dollar based on defined land use. The residential land use rate in 2016/17 was (cents in the dollar of assessed annual value) compared to the non-residential land use rate of CoA doesn t apply service charges but each year seeks to raise approximately 20% of its rates revenue from the residential sector and the 80% balance from non-residential properties. In 2016/17 an average valued residential property would have paid rates of $1,602. A council s rate in the dollar will vary both as a result of how much rate revenue it seeks to raise and as a result of the value of property in its district. All other things being equal a council with lower average property values will need to charge a higher rate in the dollar compared with a council with higher average property values in order to generate the same rate revenue. Table 2.1 below shows the approximate number of CoA rateable properties, the total rates revenue levied and the percentage of the totals for each class of property in 2016/17. It also shows average rates payable per property in each class. 7 See LG Act Section See LG Act Section See LG Act Section 156. Draft Report City of Adelaide Review of Rating and Revenue 11 May

9 Table 2.1: CoA Assessments, Rate Revenue and Average Rates by Property Class 2016/17 Differentiating Factor No. of Rateable Assessments % of Rateable Assessments Rate Revenue ($000's) % of Rate Revenue Average Rates / Property Residential 12, % $19, % $1,602 Commercial 9, % $73, % $7,618 Industrial % $ % $3,697 Vacant Land % $ % $7,509 Other % $1, % $9,271 Total 22, % $96, % $4,290 Clearly, the structure of CoA s rateable assessments is heavily weighted in respect of 2 major land use classifications ( as shown in Table 2.1); these being residential and commercial properties which, collectively, are responsible for approximately 98% of rateable assessments and rate revenue. The CoA raises 53% of its total operating revenue from rates and the remainder is generated from the broad headings of statutory charges, user charges, grants, investments and other sundry income. Council s overall revenue generation is discussed in Section 7 of the report, and the sustainability of its current revenue streams (as they impact on strategic and long-run financial forecasts) is discussed in Section Rating Theory Considerations 10 On average SA councils in aggregate raised 69% of their operating revenue from rates in 2014/15 but the proportion does vary significantly between councils. 11 In 2016/17 CoA has budgeted to raise 53% of its operating revenue from rates and capital city councils nation-wide, on average, raised approximately 52% of their operating revenue from rates in 2016/17 (refer to Graph 7.2). 10 The author of this report contributed to LGA (SA) Financial Sustainability Information Paper No 20, Rating and Other Funding Policy Options which makes similar general points to those expressed in this section. See %20Rating%20and%20Other%20Funding%20Policy%20Options% pdf 11 See Local Government Grants Commission annual database reports. Draft Report City of Adelaide Review of Rating and Revenue 11 May

10 Significantly, councils in SA are currently free to determine how much rate revenue they raise annually. 12 It is in the best long-term interests of both a council s ratepayers and the council itself that the council exercise its rating powers responsibly, strategically and accountably. 13 Council rates are effectively a tax even if not universally recognised as such by ratepayers. 14 Public finance theory emphasises the importance of the following tax policy principles in designing a tax system and evaluating alternative types of taxes: i) Administrative simplicity this refers to the costs involved in applying and collecting the tax and how difficult it is to avoid; ii) Economic efficiency this refers to whether or not the tax distorts economic behaviour. The less so the more efficient it is. E.g. a flat 10% goods and services tax on everything is more efficient than one that collects the same revenue but only applies to some goods and not others; iii) Equity - equity considerations need to have regard to both benefits received and capacity to pay. All things being equal a person who receives more benefits should pay a higher share of the tax. Similarly a person who has less capacity to pay should pay less. Often though these factors are not complementary and weightings need to be given to the importance of each one. E.g. someone may receive more benefits but have less capacity to pay. Academic research continually reaffirms the appropriateness of property taxes being a major source of revenue for local governments. 15 Many local government services enhance property values. It is therefore reasonable that those who benefit from these services through higher property values contribute significantly to the funding of the services. 16 Property prices are also generally a reasonable indicator of capacity to pay. 17 This correlation is far from perfect but typically people who earn higher incomes live in and own higher valued properties (particularly when lifetime incomes, including incomes from capital gains, are taken into account). Similarly, higher valued 12 Limits on annual increases in councils rate revenue have been in place in NSW for many years and were introduced in Victoria in 2015/16. The South Australian Opposition s policy if elected is to introduce rate capping in South Australia. 13 See LG Act Section 150 (c). 14 Refer LG Act, S.150(a). 15 The paper Rating policies an ad hoc or principled balancing act? prepared by the author of this report and others and available through the Australian Centre for Excellence for Local Government (or includes further discussion and references regarding academic research on this topic). 16 Property values are of course also affected by many other factors too. 17 See The Correlation Between Income and Home Values: Literature Review and Investigation of Data Final Report, South Australian Centre for Economic Studies (June 2004) available at searchtype=query&searchstring=%27correlation+between+income+and+home+values%27. Draft Report City of Adelaide Review of Rating and Revenue 11 May

11 commercial properties are more highly valued because they are generally capable of generating more income on average over time compared with others of lesser value. Property taxes can adversely impact on persons who are asset rich and income poor but councils can to a large degree negate this weakness by offering ratepayers in these circumstances rate deferral arrangements (at no net cost to other ratepayers). 18 (See also further brief discussion on p.23 of Section 5.) Notwithstanding the overall suitability of property taxes for local government revenue raising, different methods of raising such revenue may better suit in different circumstances. This is often a judgement call that depends on the policy objectives and preferences of decision-makers and the character of the taxpayer base. These factors and therefore the most appropriate approach can change over time. There is no single best approach for all councils at any time or even a single council over time. A brief evaluation of various key factors and when one option or another is appropriate to apply is presented below. i) Valuation bases Whilst the availability of local government services affects the value of a property, it is generally the land component that is affected. Site value therefore is often a better indicator of relative benefits of local government services than capital values (which includes a component for land value and the value of buildings and other improvements to the property). Annual values too are influenced to a large degree by the nature of improvements to a property (e.g. the existence of a house that can be rented out). All valuation bases are influenced by many other considerations too and not just the extent of local government services. Site value is more economically efficient than capital value as a rating base. That is a person doesn t pay more in rates because of the extent of improvements they have made to a property. For example a person who wants to build a higher than average value home isn t discouraged from doing so because it won t mean that they ll pay higher council rates. The disadvantage of site values for rating purposes is that they are not generally as good an indicator of capacity to pay as capital values. Capacity to pay is an important consideration and the prime advantage of choosing capital value over site value. Generally speaking new apartments in the CoA with a high market value would pay less under site value thus increasing the relative rating burden on traditional residential properties. Annual values are typically reasonably correlated with capital values (and as a guide are generally about 5% of capital values). As such relativity between annual values 18 See LG Act Sections 182 and 182A. Draft Report City of Adelaide Review of Rating and Revenue 11 May

12 is likely to be a reasonable indicator of relative capacity to pay between different ratepayers. Annual values can be difficult to reliably estimate, e.g. for premium owner occupied residential properties where there isn t good rental market evidence. Similar issues can occur with capital and particularly site values for unique properties. CoA needs to closely monitor estimates of property value aiming for reasonable overall reliability. What is more important is not the absolute assessed value but the relative assessed value (since this is the basis of who pays what ). Annual values (i.e. CoA s current basis of rating) can work well in localities where strong rental markets for different types of properties exist. They often cause confusion though for ratepayers where a property is not rented out and are therefore not administratively simple or popular in circumstances where the majority of properties are occupied by their owners. There is no compelling justification for CoA to switch valuation bases. Rating based on annual values effectively offers similar advantages and outcomes as rating based on capital values. Site values generally offer no net advantages relative to the general circumstances of local governments and no specific net advantages have been identified relative to CoA s circumstances. A switch to rating based on site values would result in significant variation in rates payable (both up and down) by individual ratepayers. RECOMMENDATION 1: CoA continue to set rates based on each property s assessed annual value. ii) Fixed charge or minimum rates A minimum rate is an amount that is payable in rates where the ad valorem rate applied to the property s value would result in a lower amount payable. Effectively it results in lower valued properties paying more than they otherwise would. A fixed charge is an amount applicable to all properties. The ad valorem rate is applied on top of the fixed rate. The LG Act specifies that the minimum rate can be set to apply to no more than 35% of properties and that a fixed charge can generate no more than 50% of total general rate revenue. 19 The typical impact of a fixed charge relative to a minimum rate on the quantum of general rates payable is shown in Graph 3.1 below. 19 See LG Act S.151 (10) & S.158 (2)(d). Draft Report City of Adelaide Review of Rating and Revenue 11 May

13 If a large range of council services are provided and available relatively uniformly to all ratepayers (that is the benefits do not correlate as closely with property values) then it is equitable from a benefit principle perspective to recover the costs of such services by way of a fixed charge. Councils though need to have regard to both capacity to pay and benefits received in determining their rating structure. Graph 3.1: Illustrative impact of fixed charge and minimum rate on rates payable relative to property values 20 A system where a significant proportion of revenue was collected via a fixed charge and the balance by an ad valorem rate based on property values would often therefore seem a reasonable trade-off. Having a minimum rate rather than a fixed charge would mean that rates payable by all properties with a value above the threshold for which the minimum applies have the amount they pay determined purely based on their property value. Arguably this may mean that too much emphasis is being given to capacity to pay relative to benefits received considerations. At least equally importantly, it means owners of the lowest valued properties, i.e. those to which the minimum applies, are effectively paying a higher ad valorem rate. It seems hard to see the justification for use of a minimum rate, relative to a fixed charge, particularly in circumstances where a council also uses capital values or assessed annual values. This is because a council that uses capital values or assessed annual values has, at least implicitly, determined that capacity to pay is a prime factor in design of its rating system yet it applies an effective higher rate of tax to the owners of the lowest valued properties. 20 The same quantum of revenue would be generated under either option. The actual slope and points of intersection of the lines representing the use of a minimum rate or alternatively a fixed charge would vary depending on the fixed charge or minimum rate set. Draft Report City of Adelaide Review of Rating and Revenue 11 May

14 In Section 6 of this report various rating options have been modelled that show the impact of introducing a fixed charge whilst holding other factors constant. That Section also discusses the valuation profile of rateable properties in CoA (see p.28 & p.29) and concludes that there may be merit in CoA introducing a modest fixed charge (see p. 52). RECOMMENDATION 2: CoA consider introduction of a modest fixed charge in future as part of its basis of rating. iii) Differential rates Property values already take account of relative availability of and access to council services. Differences in availability and levels of services cannot therefore be a reliable basis for use of differential rates. Use of differential rates must objectively therefore be based on: perceptions of differences in capacity to pay relative to property value between properties with different land uses or in different localities; and / or the relative costs to a council generated by or in servicing properties affected by the differential that are not consistent with their relative value, or the policy objectives of a council. Councils are required to include in their annual business plans (and consultation drafts) the details of and reasons for proposed application any differential rating. 21 Many councils offer lower differential rates to rural (primary production) properties and charge higher differential rates to commercial and industrial property owners relative to residential properties. Presumably they believe that relative to the value of the property, rural property owners (primary producers) have less capacity to pay taxes and commercial and industrial property owners more or costs to directly or indirectly service different classes of properties vary. Evidence to substantiate such claims is likely to be difficult to find. Nevertheless the fact that such differential arrangements are commonplace and have not changed materially over time at least suggests that there is widespread community perception of such differences in capacity to pay. That is other ratepayers seem generally to accept primary producers often receiving more favourable rating treatment. Similarly there is typically across different council areas little agitation from commercial and 21 Refer LG Act S.156 and Regulation 6 of LG (Financial Management) Regulations. Draft Report City of Adelaide Review of Rating and Revenue 11 May

15 industrial ratepayers as a result of being charged a higher tax rate. It seems well accepted. It is sometimes suggested that owners of commercial and industrial properties should pay a higher rate because they can claim a tax deduction for this payment. This is a dubious argument. Councils simply do not know the tax affairs of property owners and they will not be uniform across a class of properties. 22 Commercial and industrial property owners will only pay tax and therefore get a deduction for council rates paid if they make a profit. Primary producers are in the same position. Owners of residential properties that are rented out to tenants will also be able to claim a tax deduction. Many SA councils apply a higher differential tax rate on vacant land. There are no specific constraints in the Local Government Act regarding limits on application of differential rates. It is estimated that approximately 40% of SA councils apply a vacant land differential of between 100% & 200% of the residential rate, 16% between 200% and 300% and 7% by more than 300%. 23 Specific issues relating to use of differential rates relevant to CoA s circumstances are discussed in Section 5 (see in particular Recommendation 6 on p.20). iv) Use of a service charge The Local Government Act allows councils to apply a charge to ratepayers to recover the cost of dedicated services provided to specific properties. 24 The use of such a charge is generally appropriate whenever beneficiaries can be identified and it is practical to do so. It helps recipients appreciate the costs involved and provides feedback on value to service providers. It also means that properties that don t receive the service aren t paying higher taxes to help fund its provision to others. For example many regional councils have in place a service charge for their waste collection services (which often aren t generally provided beyond township boundaries); this is not evident among SA s metro councils (it could e.g. make particular sense to charge where a service is provided to some properties but not others (e.g. commercial)). Similarly regional councils often adopt service charges for Community Wastewater Management Systems (CWMS) and water supply services. 22 In any event given the relative financial scale of local governments it is likely to make little sense to effectively seek to structure its tax decisions in a way that seeks to negate the intended effects of the tax system of another sphere of government. 23 Based on data supplied by councils in most recent (16/17) LGA Rating Survey. 24 Refer LG Act S.155 Draft Report City of Adelaide Review of Rating and Revenue 11 May

16 The CoA provides a hard waste collection service for residential but not other properties. It does though provide a general waste and recycling service for business as well as residential properties. It also provides a cardboard collection service for small businesses. There will always be some services that are used (or available for use) more by one class of ratepayer than another. Councils need to determine whether there are overall net benefits (eg on equity and transparency grounds relative to administrative costs) of introducing a waste service charge. RECOMMENDATION 3: Consideration be given to introducing a waste service charge relative to overall equity and administrative considerations. v) Use of separate rates These are a potentially equitable, targeted way of recovering the cost of provision of services that are intended to primarily benefit a specific identifiable group of ratepayers. When adopting separate rates a council is required (in accordance with Sec 154 (9) of the LG Act) to specify in each rate notice sent to each ratepayer who is liable to pay the separate rate: the purpose or purposes for which the rate is declared; and the basis on which the rate is declared; the amount payable for the particular financial year; if relevant, the period for which the rate will apply (according to a determination of the council under Sec 154 (5)). The CoA currently levies a separate which is applicable to an area defined by resolution of Council as the Rundle Mall Precinct. The differential separate rate in the dollar (for the 2016/17 rating year) is set at cents and is estimated to generate $3.63m. The separate rate is raised to fund marketing and management of the Rundle Mall Precinct, including actions and initiatives to promote Rundle Mall as a destination for shopping and to enhance the vibrancy of the precinct. This is an example of how the specific beneficiaries are directly funding these activities and it is widely recognised within Australia and internationally as a wellaccepted, meritorious process. Each council that implements a separate rate is faced with equity issues in terms of who should and should not pay and whether there may be other beneficiaries nearby the designated properties to which the rate is applied. Each situation needs to be assessed on its own merits and decisions taken as to the appropriateness of the Draft Report City of Adelaide Review of Rating and Revenue 11 May

17 resultant designated zone. It is also not uncommon for a council to operate multiple separate rates for individual precincts within its jurisdiction. A local example is the City of Unley with 5 individual separate rates set up to the fund marketing and promotion of main street business activities (as shopping destinations) at each of its precincts at Goodwood Road, King William Road, Unley Road, Fullarton Road and Glen Osmond Road. CoA should consider the merits and practicality (and then potentially the level of support from affected ratepayers) of introducing a separate rate in other retail precincts to support promotional retail activity. Consideration should have regard to how monies would be spent and the associated expected value and the equity of such an additional rate. RECOMMENDATION 4: Council consider introducing a separate rate to support the promotion of retail activity in all in all significant retail precincts. vi) Concept of value capture The concept of value capture is currently quite topical. The SA Government has been interested in the idea and its potential application in local government (for example its applicability in possibly helping fund extending Adelaide tram routes) has also attracted some consideration. Simplistically value capture is typically associated with provision of infrastructure which leads to an increase in property values. The idea is that over time the cost of this infrastructure can be offset by properties taxes from the beneficiaries. 25 The idea has merit in theory but there are a number of practical problems with the concept, particularly in the local government environment. For example: a) Relative property values can vary for a variety of reasons. Applying a broad based property tax across a district to offset associated outlays would not necessarily ensure that beneficiaries and only beneficiaries of a development equitably pay. b) The above could be mitigated by applying a separate rate within a particular area. This still would have the problem a how and where to define boundaries. In practice there is unlikely to be a clear delineation between those properties that benefit and those that don t from specific major infrastructure. 25 The LGA has recently (Feb 2017) produced a publication Value Capture Explained, discussing the concept in a local government context. See alue%20capture%20-%20feb% pdf Draft Report City of Adelaide Review of Rating and Revenue 11 May

18 c) There is no guarantee that a council would generate sufficient additional rate revenue to offset its costs. Councils are likely to be lobbied over time to reduce any explicit additional rate or charge. d) New property owners may pay a premium for a site based on the associated existing or proposed infrastructure upgrade (although not necessarily if the additional broad based property tax was well recognised and had certainty of ongoing application). If they had paid a premium they are effectively paying twice if required to pay an explicit and significant additional tax. RECOMMENDATION 5: The CoA monitor the development of the application of value capture by the State and other local governments in SA and elsewhere and consider applying the concept in future where it considers it has merit. 4. Funding and Rating Policy Considerations Every council needs to determine how best to achieve its revenue targets from a combination of the various revenue raising options over which it has control. An appropriate starting point is to consider the public good / private good characteristics of the services provided and to review the extent to which the user charges (e.g. waste management service) recover an appropriate proportion of service costs over the long run. 26 In most circumstances a council should aim to charge prices comparable to those charged by private suppliers of similar services (subject to costs) but should also consider targeted concessions where warranted on social or other policy grounds. Pricing decisions also need to be mindful of a council s national competition policy obligations, and, where relevant, any price regulation stemming from operation of other legislation. 27 Where a council is a natural monopoly provider of private goods in its area it should transparently set rates or charges to recover full long-run costs. All council s taxing power is effectively limited to rates on property. Even where a council fully exploited opportunities to levy user based rates and charges, it would still in many circumstances need to rely on general rates for the majority of its 26 Public goods are goods or services that individuals cannot be effectively excluded from use of and where use by one individual does not reduce availability to others, e.g. a public park. It is generally appropriate that public goods be funded through taxation. 27 See National Competition Policy an Implementation Manual for Councils at: _An_Implementation_Manual_for_Councils1.pdf Draft Report City of Adelaide Review of Rating and Revenue 11 May

19 required operating revenue. 28 However, general rates should not be considered a surrogate for user charges. It is common for ratepayers to complain that they get few if any services for the rates they pay. These complaints reflect a fundamental misunderstanding about the nature of rates. Rates are not fees for services. They are better viewed as a system of taxation. In the Commonwealth and State taxation systems, individuals and businesses that pay the highest proportion of taxes do not necessarily consume the most services. Local Government taxation decisions should be equitable but this means not only taking account of who benefits from services but also having regard to differences in capacity to pay between different classes of ratepayers. While there are certainly good arguments for the broadening of councils revenue sources, and in particular more financial support from other spheres of government, the fact remains that property rates are both economically efficient and generally accepted by the community as an appropriate tax source for Local Government. Council rates are a highly visible tax and perhaps for this reason they do at times attract public criticism even though as a proportion of average incomes they have remained at approximately the same level for decades (at least on average across Australia) while Local Government services and responsibilities have continued to grow. At the same time taxes generated by the other two spheres of government have increased as a proportion of national income. Perhaps the only valid criticism of council rates, as a system of taxation, is that they may cause difficulty for some people whose place of residence is highly valued but whose current income is relatively low (where rates are predominantly structured as a valuation-based charge). As an answer to that criticism, it is important to recognise that the LG Act provides SA councils with reasonable flexibility in applying property rates. Councils are understandably sometimes reluctant to increase rates because of the impact this would have on specific sections of their communities. However, the flexibility available means it is usually possible for a council to equitably generate more overall revenue while reasonably protecting particular classes of ratepayers (e.g. persons with low capacity to pay) from an unfair burden. In making rating decisions councils should be aware of the capacity to pay of their community overall, and between classes of ratepayers, to the extent that this is known or can be reasonably estimated. The Australian Bureau of Statistics (ABS) publishes average individual annual income levels by council area and for the state 28 Some councils receive large levels of operating grants. By far the largest source is Commonwealth financial assistance grants which are allocated to all councils based mainly on need and independent of their own revenue raising and outlay decisions. Draft Report City of Adelaide Review of Rating and Revenue 11 May

20 of South Australia. The ABS also can provide councils with data on the sociodemographic composition of the communities in different parts of their areas. (See also Section 9.) Councils should also bear in mind the level of rates paid by ratepayers in other local government areas. Some of the key rating flexibilities and examples of their possible use are discussed below. i). Relationship between funding policy/strategy, long-term financial plan and annual budget A long-term financial plan (LTFP) should include a description of the financial strategy on which the plan is based. Work involved in the preparation of a LTFP should influence the final content of the subsequent annual budget. It makes sense for councils to adopt a locally appropriate financial strategy and financial targets in conjunction with the adoption of their LTFP that has regard to their particular circumstances, needs and constraints. Even if some of these elements are not legislatively prescribed it represents sound business practice to undertake this work to better inform future decision making. The funding policy and the LTFP should be used to guide the preparation of the annual business plan and the annual budget. 29 (See also discussion in Section 8 in regard to these matters.) ii). What are the issues for Councils? Whether formalised as a policy or not, each council should have a funding strategy that ensures that it equitably generates appropriate levels of operating revenue over time. The strategy needs to: consider whether today s ratepayers and other service users should pay more or less than the cost of providing today s services to them and the consequential implications for future ratepayers; strike an appropriate balance between funding from direct users of specific services (through user rates and charges) and broader public beneficiaries (through general rates) having regard to the public good/private good characteristics of key services; keep taxing and charging regimes under review to ensure they have appropriate regard to changes in: 29 The following papers are part of a suite of SA LG Financial Sustainability Information Papers that have been prepared primarily by the author of this paper. They are referenced in this report as they are considered to be applicable to LG generally: No. 8: Long-term Financial Plan ; No 9: Financial Indicators No. 13: Annual Business Plan and No. 20: Funding Policies and Strategies at Draft Report City of Adelaide Review of Rating and Revenue 11 May

21 - capacity to pay within sections of the community; - the extent of access to, use of, and benefit from, council services by various groups of service users and ratepayers. (See Recommendation 12 on p. 62 of Section 8.) 5. An Assessment of Council s Current Rating Strategy In this section CoA s current rating strategy is discussed in the context of the theoretical issues outlined in Sections 3 and 4 above. Council s current rating strategy is based on annual values in conjunction with two differential rates; residential ( cents) and all other non-residential property ( cents). The council seeks to levy approximately 20% of its total rates revenue from residential properties and the balance from non-residential properties. The rationale for CoA s basis of determining differential rates and in particular whether it is appropriate for them to be set based on generating approximately 20% of rate revenue from residential properties warrants review. Council should consider whether the 20/80 ratio of rate revenue raising from residential relative to other rateable properties reasonably fairly reflects the costs incurred by CoA in providing services to residential as distinct from other classes of ratepayers. This should include consideration of the costs of supporting visitors likely to be attracted to the Council s area predominantly but not exclusively by business ratepayers. It also needs to consider the capacity to pay tax principles of charging a higher tax rate for some classes of taxpayer compared with others. Ultimately Council will need to make a judgement call regarding these matters but should be able to provide arguments to support its decisions. Discussion of differential rating rationale in Section 3 highlighted it may be reasonable to charge higher or lower differential rates in circumstances where one category or another of ratepayers were disproportionately responsible for driving a council s costs (not reflected in different property values) for clear policy reasons. Furthermore a material change in the relative average value or changes in the number and value of different classes of property as a result of growth may warrant a change in rating differentiation For example assume residential properties initially represented 20% of the total value of properties in a council area and paid 20% of rates (same rate in the dollar as other properties). Now assume that residential properties subsequently increased in value relative to other properties. It does not necessarily follow that the residential rate in the dollar should be wound back relative to that applicable for other properties to ensure that residential properties still paid only 20% of total rates. The relative increase in the value of residential properties might reflect for example that a council is now doing more to support residential properties (and their occupiers) relative to other properties. In any event it suggests that residential ratepayers now have greater capacity to pay rates compared with other classes of ratepayers. Draft Report City of Adelaide Review of Rating and Revenue 11 May

22 Other components of Council s current strategy which warrant consideration in the context of the theoretical issues discussed previously are: i). ii). iii). iv). the use of capital values as opposed to annual values as the basis of rating; the use of a fixed charge or minimum rate; and the use of rate capping and other exemptions and concessions. The use of separate rates to fund precinct activation Issues i). ii) and iv) above were discussed in a general sense in Section 3 but are expanded upon relative to CoA s circumstances below. Table 5.1 shows that of the selected sample group all the SA councils (other than CoA) are applying a minimum rate. 31 Similarly, the data in Table 5.2 indicates that four of the other six capital city councils are currently using minimum rates. In theory and in many circumstances a fixed charge is likely to be a superior policy choice compared with a minimum rate (See Section 3, ii) ). Application of either a fixed charge or a minimum rate results in a lower share of total rate revenue being raised by the ad valorem rate. This means that all other things being equal a council s rate in the dollar will consequently be lower. Using a fixed charge means that high valued properties pay relatively less. Other properties would generally pay more. Introducing a fixed charge would result in a property that was twice the value of another paying something less than twice as much in rates (inclusive of the fixed charge). Section 3. ii) of this report discussed the merits of applying a fixed charge or minimum rate. It concluded that generally speaking a fixed charge better addresses taxation principle considerations (see pages 6-8) of benefits received and capacity to pay than does a minimum rate. Having a reasonable fixed charge (compared with neither) is likely to support application of the taxation principle of benefits received but may adversely impact on capacity to pay considerations. 31 The LG Act specifies that a minimum rate if applied cannot be set at a quantum that would apply to more than 35% of properties; refer LG Act Section 158 (2) (d & da) Draft Report City of Adelaide Review of Rating and Revenue 11 May

23 Table 5.1: 2016/17 Adjacent Inner-metro councils comparative rating information 32 Council Basis of Rating Min. Rate Fixed Charge Diff. Rates Resi. Rate in $ Ave. Res. Rates incl waste mgt Waste Mgt Charge Burnside Walkerville Norwood PSP Unley West Torrens Charles Sturt Prospect Adelaide Capital val. Capital val. Capital val. Capital val. Capital val. Capital val. Capital val. Annual val. $810 Yes $1,661 Nil $1,133 Yes $1,963 Nil $939 Yes $1,491 Nil $758 Yes $1,729 Nil $870 Yes $1,150 Nil $1,042 Yes $1,333 Nil $1,118 Yes $1,732 Nil Yes $1,602 Nil Average $953 S1,583 Source: 2016/17 LGA Rates Survey for the SA council data. 32 Tables 5.1 and 5.2 are ranked by the effective comparable differential (residential) rate in the dollar. 33 Any comparison of CoA s rate in the dollar with other councils needs to have regard to the fact that it rates on annual values. As such and for comparison purposes, the CoA rate/$ shown in Tables 5.1 and 5.2 (particularly in relation to the other Adelaide metro councils who all rate on capital value) could be converted to an indicative notional rate/$ of for rating on capital values. This is based on AAV s equating to approximately 5% of capital value. Draft Report City of Adelaide Review of Rating and Revenue 11 May

24 Table 5.2: 2016/17 Capital city councils comparative rating information Council Basis of Rating Min. Rate Fixed Charge Diff. Rates Resi. Rate cents in $ Ave. Res. Rates incl waste mgt Waste Mgt Charge Sydney Site val. 34 $537 Yes $1,098 $270 Brisbane Site val. $636 Yes $1,631 $311 Darwin Melbourne Perth Hobart Adelaide UCV (site) val. NAV (Ann.) val. GRV (Ann.) val. AAV (Ann.) val. AAV (Ann.) val. $1,071 Yes $1,506 Nil Yes $1,181 Nil $695 Yes $1,177 Nil No $2,218 $245 Yes $1,602 Nil Average $735 S1,488 $275 Source: The capital city comparative data was obtained by a survey conducted by the consultant with the 6 interstate councils. All councils should be in a position to defend not only their use of differential rating but also the extent of difference in the differentials. (A discussion of the rationale for the general application of differential rates was included in Section 3 iii).)the extent and effect of CoA s differentials were outlined in Table 2.1. Shown below in Tables 5.3 and 5.4 is the use of differential rates by CoA and the same group of SA & interstate councils as in the previous two tables (Tables 5.1 & 5.2). In each case the differential rate is expressed as a percentage of the residential rate as applied in 2016/ A report has recently been prepared by the NSW Independent Pricing and Regulatory Tribunal (IPART) for consideration by the NSW Government recommending that councils in NSW be given the choice to rate on capital values. Draft Report City of Adelaide Review of Rating and Revenue 11 May

25 Table 5.3: 2016/17 Adjacent Inner-metro councils comparison of differential rates as a % of the declared residential rates Council Commercial Industrial Primary Production Vacant Other Adelaide 122% 122% 122% 122% 122% Burnside 100% 100% 100% 150% 100% Charles Sturt 312% 378% 184% 304% 174% Norwood PSP 120% 120% 120% 120% 120% Prospect 205% 205% 205% 125% 205% Unley 197% 197% 197% 197% 197% Walkerville 155% 155% 155% 155% 155% West Torrens 233% 233% 233% 233% 233% Source: 2016/17 LGA Rates Survey for the SA council data. Table 5.4: 2016/17 Capital city councils comparison of residential and commercial differential rates (as a % of the declared residential rates) Council Residential declared rate (cents in the $) Commercial declared rate (cents in the $) Ratio of Commercial as a % of Residential Adelaide % Brisbane % Darwin % Hobart % Melbourne % Perth % Sydney % Source: The capital city comparative data was obtained by a survey conducted by the consultant directly with the respective 6 inter-state councils. It should be noted that only the commercial rate relativities (with the residential rate in the dollar) were requested in the survey. Table 5.3 indicates that of the SA survey councils all of them (other than Burnside) are applying a higher differential rate (relative to the declared residential rate) to the land uses classified as non-residential; Burnside does so only in relation to vacant land. CoA s non-residential rate is set at approximately 122% of the declared Draft Report City of Adelaide Review of Rating and Revenue 11 May

26 residential rate and when compared to the SA sample group this is sitting at a relatively modest level; only Burnside and Norwood PSP sit lower. In relation to the capital city councils CoA sits at the mid-point (noting that Hobart does not apply differential rates) and two councils (Brisbane and Sydney) have significantly higher differentials in place for commercial properties. Whilst CoA s differential rate for non-residential property has been derived as a function of setting rates whereby 20% of total rate revenue is provided by residential properties it is not evident from the survey data that this is a process being used by other capital city councils. As highlighted in Section 3 iii) a differential rate may appropriately be set to reasonably take account of the impact of activities that have a direct correlation to the particular land use. For example, commercial properties may attract high levels of visitation from non-residents of the CoA which in turn necessitate a higher level of service provision. When this occurs it is possibly equitable (subject to property values) to apply a higher differential rate which effectively taxes commercial properties at a higher level (on beneficiary pays taxation principle criteria while also having regard to impact on other taxation principle criteria impacts). All of the SA sample councils in Table 5.3 are rating vacant land at a higher rate in the dollar from that which is applied to residential land use (Charles Sturt is the highest at 304% and CoA the lowest at 122%). In terms of benefits received (the costs a council incurs in servicing the property) and capacity to pay, it seems hard to defend charging a higher differential rate on vacant land. It may be reasonable to do so however on policy objective grounds. As highlighted in Section 3 (p.9) many councils do this claiming that it is done as a policy disincentive to holding undeveloped land and therefore effectively to encourage development. In practice unless the differential rate was extremely high other factors are likely to be far more material in deciding whether and when a landholder will develop their property. When rating by applying capital values vacant land will generally be valued at less than developed allotments but this is not so when rating using site values. RECOMMENDATION 6: It is recommended that COA review the basis of determining its residential rate relative to its rate for other classes of property and whether it is appropriate to continue to set rates based on residential properties generating 20% of total rate revenue, Vacant land rate relative to other differential rates and whether it would be practical and effective to charge a higher vacant land rate to encourage development. It should be noted that all other things being equal having no (or a very low) fixed charge or minimum rate will result in a higher rate in the dollar (e.g. if 20% of rate Draft Report City of Adelaide Review of Rating and Revenue 11 May

27 revenue was proposed to be generated from a fixed charge then the ad valorem rate in the dollar could fall by 20% to achieve the same overall quantum of rates revenue). It may also influence a council s decision about the variation in differentials relative to its residential rate. The average value of residential properties relative to the average value of other properties may also affect these relativities. Table 5.5: 2016/17 Capital city council comparison of the proportion of residential rates relative to non-residential rates Residential Non-residential Council No. rateable properties % props. % rate rev. % props. % rate rev. Adelaide 22,435 55% 21% 45% 79% Brisbane 458,841 94% 65% 6% 35% Darwin 34,677 86% 79% 14% 21% Hobart 22,242 86% 59% 14% 41% Melbourne 98,175 78% 35% 22% 65% Perth 18,417 70% 18% 30% 82% Sydney 117,988 84% 24% 16% 76% CoA s current rating strategy includes a target whereby residential properties provide approximately 20% of the total rates revenue raised. Table 5.5 above shows that when compared to the other capital city councils this is quite low (similar to Perth and Sydney); the overall average for capital city councils is approximately 52% residential rates of overall rate revenue raised. This share is dependent on both the share of residential properties in a council area and the nature of its rating structure. Draft Report City of Adelaide Review of Rating and Revenue 11 May

28 Graph 5.1: 2016/17 Capital city council comparison of the proportion of residential rates relative to non-residential rates Comments relating to CoA s current application of differential rates follow. As shown in Table 2.1 CoA s rateable properties are comprised primarily of those classified as residential and commercial (only 2% relate to alternative land uses). As such the following comments will discuss the current differential rating system based on these 2 major classifications plus vacant land (given Council s desire to encourage development). Residential CoA s Residential sector contains the largest number of rateable properties (55% of assessments) and contributes approximately 20% of total rate revenue. The average residential rates of $1,602 in 2016/17 are beneath the comparable SA adjacent inner-metro councils median average (say $1,631) and are marginally above the average residential rates of the same sample group ($1,583) (refer Table 5.1). When compared to the six capital cities the average residential rates of $1,602 are approximately $100 above the median average ($1,506) and are also above the average residential rates of the capital city councils ($1,488); refer Table 5.2. Draft Report City of Adelaide Review of Rating and Revenue 11 May

29 CoA s average residential rating level also sat above the state-wide average in 2016/17 which was $1,358 overall with metropolitan councils average residential rates of $1, Commercial CoA s Commercial sector contains the second largest number of rateable properties (43% of assessments) and contributes approximately 77% of total rate revenue. Average commercial rates were $7,618 in 2016/17 (refer to Table 2.1) and the differential rate applied to commercial properties was the same rate as applied to all non-residential properties. Graph 5.1 indicates that when compared to the six capital city councils the CoA is generating a greater proportion of total rates revenue from commercial properties than most others (primarily because it has a higher proportion of commercial properties). This graph shows that only Perth exceeds the proportion of rates revenue from commercial properties and the average of all capital city councils is approximately 42% of total rates revenue being provided from properties classified as commercial. Vacant land CoA has 0.2% of its assessments (56 rateable properties) classified as vacant land and this sector contributes 0.4% of total rate revenue. The differential rate applied to vacant land is the same rate as applied to all non-residential properties. Associated Issues Rate capping, rebates and remissions The Local Government Act specifies that rates payable are to be rebated for certain classes of properties. 36 It also provides councils with the power to make discretionary rating rebates and remissions in other circumstances (eg hardship). 37 It is appropriate for a council to offer rating rebates and remissions consistent with its policy objectives. At the same time it needs to be mindful of the long-run financial impact for itself and other ratepayers in making such decisions. It is always easier to introduce a concession than to remove it. It needs to be appreciated that applying a discretionary concession to one class of ratepayer inevitably means (at least in the long-run) that others must pay more (or receive less). 35 Source: 2016/17 LGA Rating Survey in which 60 SA councils participated. 36 Refer LG Act S.159 S Refer LG Act S.166 & S.182. Draft Report City of Adelaide Review of Rating and Revenue 11 May

30 CoA uses a range of rate caps, rebates and remissions and collectively they amount to rate revenue foregone of approximately 5%. 38 This level of rebates and remissions is close to the state-wide local government overall average for rebates and remissions which has been estimated at 5.2% 39. The following remissions of rates are currently (in 2016/17) provided: Pensioner Remission A pensioner ratepayer who owns their own home and has satisfied the eligibility criteria to receive a State Government funded Cost of Living Concession, will also receive (on application) a Council funded Pensioner Remission of rates to the value of $100 for the financial year. Self-Funded Retiree Remission A self-funded retiree ratepayer who owns their own home and has satisfied the eligibility criteria to receive a State Government funded Cost of Living Concession, will also receive (on application) a Council funded Self-Funded Retiree Remission of rates to the value of $50 for the financial year. Hardship Remission A ratepayer, who satisfies the eligibility criteria and currently receives a State Government funded hardship benefit, will also receive (on application) a Council Hardship Remission to the value of $100 for the financial year. Financial Hardship In addition to the remission for pensioners, self-funded retirees and financial hardship beneficiaries, applications for remission of rates based on financial hardship will be considered on merit. An applicant who satisfies the eligibility criteria for hardship does not automatically become eligible for a remission of rates. If appropriate, and where possible, consideration will be given to flexible payment options. CoA is one of the very few councils state-wide that provides a rating remission to pensioners. Generally speaking from an equity perspective, welfare support of this nature is better undertaken by state or Federal governments as they have much broader sources of income and a broader taxpayer base to spread the financial costs across. The LGA has encouraged councils to offer rate deferrals rather than permanent concessions to pensioners. Well-designed deferral arrangements have 38 Gross rates revenue is approximately $101m before capping, rebates and remissions are applied and the net rates revenue is approx. $96m. 39 Source: SA LGA report (2016) titled Quantifying the Impact of Rating Exemptions and Rebates Draft Report City of Adelaide Review of Rating and Revenue 11 May

31 no long-run cost to councils and can assist ratepayers in addressing capacity to pay challenges. 40 Similar comments apply in regard to self-funded retirees. Evidence from previous research on this topic indicated in fact that the average annual income of self-funded retirees in South Australia was higher than that of the average SA ratepayer. 41 From 2015/16 the State Government discontinued funding pensioner and senior concessions of rates. (It has revised eligibility and now sends a payment direct to beneficiaries.) Prior to then councils applied the rating concession to eligible properties and were reimbursed. As a result of these changes councils are no longer provided by the State with pensioner details. It would be very laborious and difficult for a council to seek to maintain reliable information itself. It would need eligible ratepayers to apply and confirm eligibility on an ongoing basis. As a result of the changes in administrative arrangements at least one of the few councils that previously offered its own rating concessions to pensioners has now discontinued the practice. RECOMMENDATION 7: The merits of providing pensioner and self-funded retiree remissions be reviewed, with a view to potentially discontinuing these concessions. The CoA resolved as part of its rates declaration in 2016/17 to cap any increase in rates payable (per individual property) at 10%. Similar to other SA councils using caps the CoA applies conditions of eligibility which eliminate those properties (from receiving the benefit of the 10% cap) where the respective property valuation has increased as a result of new development, additions or alterations. Extensive use of caps can be justified and effectively allow for the phasing in over several years of significant increases in rates for individual properties where above average increases in property valuations would otherwise result in a large one-off increase in rates payable. They have no direct cost to a council (since rates to other ratepayers are necessarily effectively correspondingly higher in the short-run) and minimal negative equity implications over time if well thought through. They should not though be used as a substitute for other warranted rating reforms. A council s rating structure should be underpinned by regard to taxation principles but in making transitions consistent with such principles (or in response to the impact of valuation volatility) the application of a rating cap can be a sensible response with little policy consideration drawback. 40 See Local Government Act s.182 and S.182A and p.7 of Local Government Association, Financial Sustainability Information Paper 20, Rating and Other Funding Policy Options May See Section 5 of South Australian Centre for Economic Studies, Review of State Rating Concessions, Oct 2011, Draft Report City of Adelaide Review of Rating and Revenue 11 May

32 Transfer of Housing SA property to Community Housing Providers There has been a trend over recent decades (for a variety of reasons) for governments to arrange for services once directly provided by them to instead be provided by other organisations (sometimes by for-profit entities and sometimes by not-for-profit ones). An example of this which is currently impacting on councils in SA is the provision and management of public housing through Community Housing Provider (CHP) organisations. Many residential properties once owned and managed by Housing SA (formerly SA Housing Trust) are being progressively transferred to CHP s. Unlike Housing SA / SA Housing Trust these CHP bodies are eligible for a 75% rating rebate under Section.161(4)(c) of the LG Act. Hence, through the transference of these traditional roles (to CHP s) a form of cost-shifting to local governments emerges (councils lose rate revenue but retain responsibility for servicing the property and its residents) The SA Government has a program running state-wide (from 2015/16 to 2017/18) to transfer approximately 12,000 Housing SA properties (which are currently fully rateable) to the stewardship of CHP s. It is estimated that the transfer of the 12,000 Housing SA properties would impact negatively on local government to the extent of approximately $11m per annum. This represents about 0.8% of total rate revenue currently generated by all SA councils. Should a State Government in future ultimately divest all Housing SA properties to CHP s then the total rate revenue foregone would equate to about 2.7% of SA local governments collective rate revenue. The CoA has indicated that it has been advised that 140 Housing SA properties within its jurisdiction (out of a total of 548) will be transferred to CHP s at this stage. Based on the broad state-wide average of $917 per affected property (see above paragraph) then the immediate financial impact would amount to approximately $130,000 per annum in rates foregone. Part of the contractual arrangement between the SA Government and the respective CHP s requires on-going modernisation, upgrading and rejuvenation of the housing stock and land which may provide some aesthetic benefits to the local council area and possibly improved property values. The extent to which this may translate back to local government in positive dollar value terms is essentially unknown. CoA s current Rating Policy Council has adopted a Rating Policy which specifically addresses the following rating-related issues: Draft Report City of Adelaide Review of Rating and Revenue 11 May

33 Method of valuation Basis of rates exemptions Differential general rates Separate rates Rating equity Payment of rates Rate rebates Postponement of rates Remission of rates Late payment of rates State Government concessions Grievance procedure The rating policy sets out CoA s approach, and its processes, to deal equitably with the setting of rates and the options to manage payment of rates, including relief provisions through both postponement and remission of rates. It should be reviewed in the light of Council s response to the conclusions and recommendations set out in this report. 42 RECOMMENDATION 8: That COA s rating policy be reviewed in the light of Council s response to the conclusions and recommendations set out in this report. 6. Modelling Results for Alternative Rating Options Having regard to the issues discussed in previous sections of the report some broad analysis of CoA s rates database was undertaken to determine the distribution and quantum of average AAV s within its jurisdiction; refer to Graph 6.1 and 6.2 below. 42 The SA LGA has produced a model Rating Policy which is included as Attachment 2 in Information Paper No. 20, Rating and Other Funding Policy Options. Draft Report City of Adelaide Review of Rating and Revenue 11 May

34 Graph 6.1 Distribution of AAV s for properties classified as Residential 12,380 rateable assessments are classified as residential land use. The average AAV of residential properties is approximately $14,600 and the majority of residential properties (approximately 77%) are clustered within a range of AAV s between $7,500 and $17,500 (see Graph 6.1 above). Residential properties predominantly comprise houses, cottages, apartments, student accommodation and other supported accommodation. Draft Report City of Adelaide Review of Rating and Revenue 11 May

35 Graph 6.2 Distribution of AAV s for properties classified as Non-residential 10,055 rateable assessments are classified as non-residential land use. The majority of non-residential properties (approximately 60%) sit at the low end within a range of AAV s between $0 and $22,500 (see Graph 6.2 above). Notably, approximately 19% of very high valued non-residential properties have AAV s in excess of $50,000. These high valued properties give rise to an average AAV of all non-residential properties of approximately $61,800. Non-residential properties predominantly comprise commercial shops and offices (approximately 43% of rateable properties) with only small numbers of industrial, vacant and other land uses (collectively less than 2% of rateable properties). As highlighted in Section 3 i), AAV s are generally closely correlated with CV s and therefore are considered to be a reliable guide as to capacity to pay. It would seem reasonable therefore to conclude that owners of properties with a very high AAV would typically have more capacity to pay council rates than those who owned properties with much lower valuations. A number (eleven) of alternative rating options have been modelled having regard to property valuation data applied by CoA in determining its 2016/17 rating decisions. The impacts of these alternative approaches have been quantified relative to actual rating outcomes achieved in 2016/ Total overall rate revenue modelled in all instances is equivalent to that raised in 2016/17 before adjustments for rate capping and rebates are applied ($101M). The rate modelling discussed in Options 1 to 9 considers the changes which occur to the average general rates component. It excludes the separate rate component which is not directly related to the differential general rates which are set for residential and nonresidential properties. Draft Report City of Adelaide Review of Rating and Revenue 11 May

36 The rate modelling outputs have been structured to illustrate the relative impact of changes based on the existing land use based system of differentiating. The modelling scenarios include examples of varying the relativities between residential and commercial ratepayers in conjunction with applying fixed charges. An illustrative sample of key options that were considered is discussed below. The eleven options modelled all assume the same level of aggregate rate revenue is raised (as in 2016/17). This assumption enables the options to highlight the impact for different categories of ratepayers of alternative rating approaches relative to current arrangements. The modelling results are based on the amounts ratepayers would have paid under each scenario in 2016/17 compared to the actual 2016/17 rating outcomes. All options also are based on continuing to apply assessed annual values as is unequivocally recommended in Recommendation They show e.g. the impact of introducing a fixed charge (a fixed charge is recommended for consideration) (see recommendation 2) and from varying differentials as is recommended (see Recommendation 5). The application of a minimum rate (at $500) is also modelled in Option 4, but is not recommended to be implemented. Adopting the exact detail of any of these models would almost certainly not result in identical outcomes to those shown in future years. Changes in the number of properties and the mix of relative values over time would result in a different outcome. For example, in future, properties in one differential rate category may increase in value relative to others. If this happened and the relative differential rates remained unchanged, property owners in the category that increased disproportionately to the others would pay more in rates relative to those in the other categories. Option 1: No differential rates - i.e. a common rate in the dollar for all rateable assessments. In the absence of evidence to do otherwise a neutral starting position to consider rating theory application would be based on no differential rates. This option shows the impact of such an approach and it assumes: AAV s as the basis of rating; Same overall quantum of rate revenue as currently raised in 2016/17; and A common rate in the dollar ( cents) is applied to all properties. Table 6.1 shows the impact on average revenue per assessment. 44 In any event reliable property site value and capital value data was not available to enable modelling (for illustrative purposes) to be undertaken. Draft Report City of Adelaide Review of Rating and Revenue 11 May

37 Table 6.1 Change in Average Rates by Class of Property Option 1 $ Ave Change Residential $292 Non-residential -$359 Option 1 results in: Average Residential rates increasing by 18%; and Average Non-residential rates decreasing by 4%. Graph 6.3. Percentage of Properties Paying More or Less by Scale of Variation - Option 1 Graph 6.3 shows that when the existing (2016/17) differential rates are removed and all properties are rated using a common rate in the dollar the residential properties face rates increases of approximately 18% - this impacts on 55% of CoA s properties. The converse impact applies to non-residential properties because effectively a lower rate in the dollar is being applied to these properties. The nonresidential properties face rates decreases of approximately 4% - this impacts on 45% of CoA s properties. Option 2: No differential rates with a $300 fixed charge This option builds on Option 1 and shows the impact of introducing a relatively modest fixed charge. A fixed charge could potentially (as discussed in Sections 3 Draft Report City of Adelaide Review of Rating and Revenue 11 May

38 and 5) improve equity particularly if a significant share of the benefits of a council s services are relatively equally distributed across ratepayers. It assumes: AAV s as the basis of rating; Same overall quantum of rate revenue as currently raised in 2016/17; A common rate in the dollar ( cents) is applied to all properties; and Fixed charge at $300. Table 6.2 shows the impact on average revenue per assessment. Table 6.2 Change in Average Rates by Class of Property Option 2 $ Ave Change Residential $462 Non-residential -$569 Option 2 results in: Average Residential rates increasing by 28%; Average Non-residential rates decreasing by 7%; Residential properties providing 26% of total rates revenue ( non-residential 74%); and Rates from the $300 fixed charge making up approximately 7% of total rates revenue Draft Report City of Adelaide Review of Rating and Revenue 11 May

39 Graph 6.4. Percentage of Properties Paying More or Less by Scale of Variation - Option 2 Graph 6.4 shows that introducing a modest fixed charge has a marked effect on the redistribution of the total rates burden; approximately 20% of properties face no increase or a decrease in rates payable, and 80% of properties face increased rates. The decreased rates relate to non-residential properties and the increased rates apply across both residential and non-residential properties with the increases in excess of 20% predominantly relating to residential properties, This option effectively takes the basis that was modelled in Option 1 (i.e. common rate in the dollar) and builds on it by setting a fixed charge which generates approximately 7% of total rates revenue. It is noted that CoA s rate in the dollar decreases when compared to Option 1 as the ad valorem rate is set at a level whereby it is generating less of the overall rates revenue. Option 3: No differential rates with a $500 fixed charge This option modifies Option 2 to shows the impact of a higher fixed charge. A higher fixed charge could potentially improve equity if a high proportion the benefits of a council s services are relatively equally distributed across ratepayers. It assumes: AAV s as the basis of rating; Same overall quantum of rate revenue as currently raised in 2016/17; A common rate in the dollar ( cents) is applied to all properties; and Fixed charge at $500. Draft Report City of Adelaide Review of Rating and Revenue 11 May

40 Table 6.3 shows the impact on average revenue per assessment. Table 6.3 Change in Average Rates by Class of Property Option 3 $ Ave Change Residential $576 Non-residential -$709 Option 3 results in: Average Residential rates increasing by 35%; Average Non-residential rates decreasing by 9%; Residential properties providing 27% of total rates revenue ( non-residential 73%); and Rates from the $500 fixed charge making up approximately 11% of total rates revenue Graph 6.5. Percentage of Properties Paying More or Less by Scale of Variation - Option 3 Graph 6.5 shows the impact of introducing an increased fixed charge (from that modelled in Option 2). This option indicates a more marked effect on the redistribution of the total rates burden when considering the rates increases in excess of 30%. As in Option 2 approximately 20% of properties face no increase or a decrease in rates payable, and 80% of properties face increased rates. The decreased rates relate to non-residential properties and the increased rates apply Draft Report City of Adelaide Review of Rating and Revenue 11 May

41 across both residential and non-residential properties with the increases in excess of 30% predominantly relating to residential properties; approximately 82% of residential and 20% of non-residential properties are impacted by increases in excess of 30%. This option effectively takes the basis that was modelled in Options 1 (common rate in the dollar with no fixed charge) and 2 (common rate in the dollar with a $300 fixed charge) and applies an increased fixed charge which generates approximately 11% of total rates revenue. It is noted that CoA s rate in the dollar further decreases when compared to Options 1and 2 as the ad valorem rate is set at a level whereby it is generating less again of the overall rates revenue. Option 4: No differential rates with a $500 minimum rate This option applies a $500 minimum rate in conjunction with a common differential rate in the dollar and follows on from Option 3 which is modelling the impact of a $500 fixed charge. It assumes: AAV s as the basis of rating; Same overall quantum of rate revenue as currently raised in 2016/17; A common rate in the dollar ( cents) is applied to all properties; and Minimum rate at $500. Table 6.4 shows the impact on average revenue per assessment. Table 6.4 Change in Average Rates by Class of Property Option 4 $ Ave Change Residential $281 Non-residential -$345 Option 4 results in: Average Residential rates increasing by 17%; Average Non-residential rates decreasing by 5%; Residential properties providing 23% of total rates revenue ( non-residential 77%); and Draft Report City of Adelaide Review of Rating and Revenue 11 May

42 Approximately 6% of properties would attract the $500 minimum rate (i.e. those properties with AAV s less than $3,850). Graph 6.6. Percentage of Properties Paying More or Less by Scale of Variation - Option 4 Graph 6.6 shows the impact of introducing a minimum rate whilst not applying differential rates. It is a similar scenario to Option 1 and the graph only varies marginally from Graph 6.3 (Option 1). The variation that occurs is a result of the $500 minimum rate which shows the majority of residential properties experiencing increased rates between 10% and 15% (in Option 1 the residential properties experienced slightly higher increases of between 15% and 20%). Similarly, the majority of non-residential properties face rate decreases of between 5% and 10% (in Option 1 the non-residential properties experienced slightly lower decreases of between 0% and 5%). A small percentage (4%) of predominantly nonresidential properties face rates increases exceeding 30% under Option 4. The $500 minimum rate would apply to approximately 6% of rateable properties and it has been previously noted that the LG Act allows for a maximum of 35% of rateable properties to be levied a minimum rate. It is noted that CoA s rate in the dollar decreases when compared to Option1 as the ad valorem rate is set at a level whereby it is generating less of the overall rates revenue. However, CoA s rate in the dollar increases under the $500 minimum rate scenario when compared to the impact of a $500 fixed charge (Option 3). Draft Report City of Adelaide Review of Rating and Revenue 11 May

43 There is no compelling strong case on tax principle grounds for introducing a minimum rate (particularly relative to a fixed charge). This option has been included here to show the impact relative to other options. Option 5: Differential rates with a $300 fixed charge A fixed charge is applied in this option and the existing differential rate in the dollar relativity between residential and non-residential property (at 122.5%) is retained. The rationale for possible application of a reasonable fixed charge is described in Option 2 above. Option 2 utilised no differentials. This option shows the impact of the same fixed charge as for Option 2 but with the application of existing relative differential rates. It assumes: AAV s as the basis of rating; Same overall quantum of rate revenue as currently raised in 2016/17; Existing differential rate in the dollar relativity is applied i.e. residential at cents and non-residential at cents; and Fixed charge at $300. Table 6.5 shows the impact on average revenue per assessment. Table 6.5 Change in Average Rates by Class of Property Option 5 $ Ave Change Residential $190 Non-residential -$233 Option 5 results in: Average Residential rates increasing by 12%; Average Non-residential rates decreasing by 3%; Residential properties providing 22% of total rates revenue ( non-residential 78%); and Rates from the $300 fixed charge making up approximately 7% of total rates revenue. Graph 6.7. Percentage of Properties Paying More or Less by Scale of Variation - Option 5 Draft Report City of Adelaide Review of Rating and Revenue 11 May

44 Graph 6.7 shows that introducing a modest fixed charge in conjunction with CoA s adopted (2016/17) differential rates has less of a marked effect on the redistribution of the total rates burden compared to the previous options where a fixed charge was applied (Options 2 and 3). Under this scenario approximately 42% of properties face either increases or decreases in rates payable of up to 10% and 58% of properties face increased rates in excess of 10%. The decreased rates relate to non-residential properties predominantly (a much smaller proportion of residential face decreases). The increased rates apply across both residential and non-residential properties with the increases in excess of 20% applying similarly to approximately 20% of residential and non-residential properties. As was the situation in the previous fixed charge options, CoA s rate in the dollar decreases when compared to the adopted 2016/17 differential rates. Option 6: Differential rates with a $500 fixed charge An increased fixed charge (from Option 5) is applied in this option and the existing differential rate in the dollar relativity between residential and non-residential property (at 122.5%) is retained (as was modelled in Option 5). The rationale for possible application of a high fixed charge is described in Option 3 above. Option 3 utilised no differentials. This option shows the impact of the same fixed charge as for Option 3 but with the application of existing relative differential rates. This option assumes: AAV s as the basis of rating; Same overall quantum of rate revenue as currently raised in 2016/17; Draft Report City of Adelaide Review of Rating and Revenue 11 May

45 Existing differential rate in the dollar relativity is applied i.e. residential at cents and non-residential at cents; and Fixed charge at $500. Table 6.6 shows the impact on average revenue per assessment. Table 6.6 Change in Average Rates by Class of Property Option 6 $ Ave Change Residential $316 Non-residential -$389 Option 6 results in: Average Residential rates increasing by 19%; Average Non-residential rates decreasing by 5%; Residential properties providing 24% of total rates revenue ( non-residential 76%); and Rates from the $500 fixed charge making up approximately 11% of total rates revenue. Draft Report City of Adelaide Review of Rating and Revenue 11 May

46 Graph 6.8. Percentage of Properties Paying More or Less by Scale of Variation - Option 6 Graph 6.8 shows that by increasing the fixed charge (compared to the previous Option 5) in conjunction with CoA s adopted (2016/17) differential rates a similar trend is evident but clearly the redistribution of the rates burden is more pronounced at the higher end of rates increases. In this option approximately 23% of properties face rates increases in excess of 30% whereby the previous option 5 forecast approximately 9% would face increases in excess of 30%. Under this scenario approximately 28% of properties face either increases or decreases in rates payable of up to 10% and 70% of properties face increased rates in excess of 10%. The decreased rates relate to non-residential properties predominantly (a much smaller proportion of residential face decreases). The increased rates apply to both residential and non-residential properties with the increases in excess of 20% relating predominantly to residential properties; approximately 65% of residential and 33% of non-residential properties are impacted by increases in excess of 20%. As was the situation in the previous fixed charge options, CoA s rate in the dollar decreases further when compared to the adopted 2016/17 differential rates. Option 7: Differential rates with a $150 fixed charge A relatively low fixed charge is applied in this option and the differential rate in the dollar relativity between residential and non-residential property is varied to enable residential properties to continue to provide 20% of the total rates revenue (and nonresidential 80%) as per CoA s current practice (and what is also modelled in the following Options 8 & 9). This option assumes: Draft Report City of Adelaide Review of Rating and Revenue 11 May

47 AAV s as the basis of rating; Same overall quantum of rate revenue as currently raised in 2016/17; Differential rate in the dollar relativity is varied from that used in options 2 and 3 i.e. residential at cents and non-residential at cents; Residential properties provide 20% of total rates & non-residential 80%; and Fixed charge at $150. Table 6.7 shows the impact on average revenue per assessment. Table 6.7 Change in Average Rates by Class of Property Option 7 Residential $0 Non-residential $0 $ Ave Change Option 7 results in: Average Residential rates neither increasing or decreasing; Average Non-residential rates neither increasing or decreasing; Residential properties providing 20% of total rates revenue ( non-residential 80%); and Rates from the $150 fixed charge making up approx. 3% of total rates revenue. Graph 6.9. Percentage of Properties Paying More or Less by Scale of Variation - Option 7 Draft Report City of Adelaide Review of Rating and Revenue 11 May

48 Graph 6.9 shows that applying a relatively low fixed charge (compared to the following Options 8 & 9) in conjunction with CoA s current system of differential rates, whereby it seeks to generate 20% of rates revenue from residential properties (and 80% from non-residential) has a similar, but more moderate impact on the redistribution of the total rates burden when compared to Options 8 & 9. Under this scenario approx. 88% of properties face either increases or decreases in rates payable of up to 10% and 12% of properties face increased rates in excess of 10%. The decreased rates relate to both residential and non-residential properties. The increased rates apply to both residential and non-residential properties with the increases in excess of 15% (i.e. 8% of total properties) applying predominantly to low valued non-residential properties. As was the situation in the previous fixed charge options, CoA s rate in the dollar decreases when compared to the adopted 2016/17 differential rates. Option 8: Differential rates with a $300 fixed charge An increased fixed charge (compared to Option 7) is applied in this option and the differential rate in the dollar relativity between residential and non-residential property is varied to enable residential properties to provide 20% of the total rates revenue (and non-residential 80%) as per CoA s current system of rating. Council currently applies differentials to generate 20% of its rate revenue from residential properties. This option shows the impact of continuing that practice and introducing a reasonable fixed charge. It assumes: AAV s as the basis of rating; Same overall quantum of rate revenue as currently raised in 2016/17; Draft Report City of Adelaide Review of Rating and Revenue 11 May

49 Differential rate in the dollar relativity is varied from that used in options 2 and 3 i.e. residential at cents and non-residential at cents; Residential properties provide 20% of total rates & non-residential 80%; and Fixed charge at $300. Table 6.8 shows the impact on average revenue per assessment. Table 6.8 Change in Average Rates by Class of Property Option 8 $ Ave Change Residential $11 Non-residential -$14 Option 8 results in: Average Residential rates increasing marginally (by less than 1%); Average Non-residential rates decreasing marginally; Residential properties providing 20% of total rates revenue ( non-residential 80%); and Rates from the $300 fixed charge making up approximately 7% of total rates revenue. Draft Report City of Adelaide Review of Rating and Revenue 11 May

50 Graph Percentage of Properties Paying More or Less by Scale of Variation - Option 8 Graph 6.10 shows that introducing a relatively modest fixed charge in conjunction with CoA s current system of differential rates, whereby it seeks to generate 20% of rates revenue from residential properties (and 80% from non-residential), has less of an impact on the redistribution of the total rates burden when compared to the previous fixed charge options. Under this scenario approximately 69% of properties face either increases or decreases in rates payable of up to 10% and 31% of properties face increased rates in excess of 10%. The decreased rates relate to both residential and non-residential properties. The increased rates apply to both residential and non-residential properties with the increases in excess of 20% (i.e. 13% of total properties) applying predominantly to non-residential properties. As was the situation in the previous fixed charge options, CoA s rate in the dollar decreases when compared to the adopted 2016/17 differential rates. Option 9: Differential rates with a $500 fixed charge An increased fixed charge (from Options 7 & 8) is applied in this option and the differential rate in the dollar relativity between residential and non-residential property is varied to enable residential properties to continue to provide 20% of the total rates revenue (and non-residential 80%) as per CoA s current practice and what was modelled in Options 7 and 8. This option assumes: AAV s as the basis of rating; Same overall quantum of rate revenue as currently raised in 2016/17; Draft Report City of Adelaide Review of Rating and Revenue 11 May

51 Differential rate in the dollar relativity is varied from that used in options 2 and 3 i.e. residential at cents and non-residential at cents; Residential properties provide 20% of total rates & non-residential 80%; and Fixed charge at $500. Table 6.9 shows the impact on average revenue per assessment. Table 6.9 Change in Average Rates by Class of Property Option 9 $ Ave Change Residential $20 Non-residential -$24 Option 9 results in: Average Residential rates increasing by 1%; Average Non-residential rates decreasing marginally; Residential properties providing 20% of total rates revenue ( non-residential 80%); and Rates from the $500 fixed charge making up approximately 11% of total rates revenue. Graph Percentage of Properties Paying More or Less by Scale of Variation - Option 9 Draft Report City of Adelaide Review of Rating and Revenue 11 May

52 Graph 6.11 shows that applying an increased fixed charge (compared to the previous Options 7 & 8) in conjunction with CoA s current system of differential rates, whereby it seeks to generate 20% of rates revenue from residential properties (and 80% from non-residential), has a similar impact on the redistribution of the total rates burden when compared to Option 8. Under this scenario approximately 54% of properties face either increases or decreases in rates payable of up to 10% and 42% of properties face increased rates in excess of 10%. The decreased rates relate to both residential and non-residential properties. The increased rates apply to both residential and non-residential properties with the increases in excess of 20% (i.e. 25% of total properties) applying predominantly to non-residential properties. As was the situation in the previous fixed charge options, CoA s rate in the dollar decreases when compared to the adopted 2016/17 differential rates. Option 10: Differential rates with no fixed charge This option is similar to CoA s current system of rating but the differential rate in the dollar relativity between residential and non-residential property is varied. It has been modelled to highlight the impact of not introducing a fixed charge (if not considered warranted) but applying a lower difference in the differential rate between residential and other ratepayers (assuming eg that CoA s cost of different service provision for different classes of ratepayers did not justify a higher differential). The differential rate in the dollar is set at 110% (i.e. non-residential rate is 110% of the residential rate in the dollar) compared to the 2016/17 differential which is set at 122.5%. This option assumes: AAV s as the basis of rating; Same overall quantum of rate revenue as currently raised in 2016/17; and Differential rate in the dollar relativity is varied from the current 2016/17 adopted rates such that the non-residential rate in the dollar is 110% of the residential rate i.e. residential at cents and non-residential at cents. Table 6.10 shows the impact on average revenue per assessment. Table 6.10 Change in Average Rates by Class of Property Option 10 $ Ave Change Residential $151 Non-residential -$185 Draft Report City of Adelaide Review of Rating and Revenue 11 May

53 Option 10 results in: Residential rates increasing by 9%; Non-residential rates decreasing by 2%; and Residential properties providing 22% of total rates revenue ( non-residential 78%) Graph Percentage of Properties Paying More or Less by Scale of Variation - Option 10 Graph 6.12 shows that when the differential rate relatively between residential and non-residential is compressed (i.e. set at 110% compared to the adopted 122.5% in 2016/17) then the residential properties face increased rates of approximately 9% and the non-residential properties face decreased rates of approximately 2%. Option 11: Differential rates with no fixed charge This option is similar to CoA s current system of rating (and Option 10) but the differential rate in the dollar relativity between residential and non-residential property is again varied. The differential rate in the dollar is set at 135% (i.e. nonresidential rate is 135% of the residential rate in the dollar) compared to the 2016/17 differential which is set at 122.5%. It has been modelled to highlight the impact of not introducing a fixed charge (if not considered warranted) but applying a higher difference in the differential rate between residential and other ratepayers (assuming eg that CoA s cost of different service provision for different classes of ratepayers so supported). This option assumes: AAV s as the basis of rating; Draft Report City of Adelaide Review of Rating and Revenue 11 May

54 Same overall quantum of rate revenue as currently raised in 2016/17; and Differential rate in the dollar relativity is varied from the current 2016/17 adopted rates such that the non-residential rate in the dollar is 135% of the residential rate i.e. residential at cents and non-residential at cents. Table 6.11 shows the impact on average revenue per assessment. Table 6.11 Change in Average Rates by Class of Property Option 11 $ Ave Change Residential -$127 Non-residential $157 Option 11 results in: Residential rates decreasing by 8%; Non-residential rates increasing by 2%; and Residential properties providing 18% of total rates revenue ( non-residential 82%) Graph Percentage of Properties Paying More or Less by Scale of Variation - Option 11 Graph 6.13 shows that when the differential rate relatively between residential and non-residential is expanded (i.e. set at 135% compared to the adopted 122.5% in 2016/17) then the residential properties face decreased rates of approximately 8% and the non-residential properties face increased rates of approximately 2%. Draft Report City of Adelaide Review of Rating and Revenue 11 May

55 Summary of Rate Modelling Options The 11 options modelled have employed permutations involving no differential rates (i.e. common rate in the dollar), differential rates (residential properties with different rate than others), fixed charges set at differing values (no fixed charge in 3 options) and a minimum rate (set at $500). A single minimum rate option was modelled as generally a fixed charge is a superior policy choice. Table 6.12 summarises the criteria used to generate each option as well as the dollar value changes in average revenue per rateable property by residential and non-residential differential rating sectors. There is a reasonably significant variation in average rates payable by residential and other properties in most of the options modelled other than Options 7, 8 and 9 which are based on the existing 20% / 80% ratio of residential rates revenue to nonresidential rates revenue (in conjunction with a fixed charge). Even in these options where the overall average doesn t change greatly there is however significant variation in rates payable for properties of different value. Of the remaining options it highlights that there is unlikely to be any single permutation/system which results in relatively little variation in average rates payable in the residential and nonresidential land use categories relative to the current outcomes. Draft Report City of Adelaide Review of Rating and Revenue 11 May

56 Table 6.12 Change in Average Rates by Class of Property Summary of All Options Change in Average Revenue per Rateable Property Option Fixed Charge Differential Rates Relativity 45 Residential Non-residential 1 No differentials +$292 -$359 2 $300 No differentials +$462 -$569 3 $500 No differentials +$576 -$709 4 No differentials with $500 minimum rate +$281 -$345 5 $300 Existing % +$190 -$233 6 $500 Existing % +$316 -$389 7 $ % $0 $0 8 $ % +$11 -$14 9 $ % +$20 -$ % +$151 -$ % -$ Table 6.13 below shows the impact on Residential properties with a relatively low AAV ($7,500), an average AAV ($15,000) and a high AAV ($60,000). 45 The differential rates relativity is calculated as the percentage of the non-residential rate/$ to the residential rate/$. Draft Report City of Adelaide Review of Rating and Revenue 11 May

57 Table 6.13 Illustrative Rates Outcomes for Residential Properties General Rates - Residential Option Fixed Charge Rate cents/$ % Rates from FC AAV $7.5k AAV $15k AAV $60k Current $862 $1,724 $6, $1,010 $2,021 $8,082 2 $ % $1,244 $2,189 $7,854 3 $ % $1,399 $2,299 $7,694 4 $ $974 $1,949 $7,794 Min. Rate 5 $ % $1,106 $1,911 $6,744 6 $ % $1,268 $2,036 $6,644 7 $ % $935 $1,721 $6,432 8 $ % $1,015 $1,730 $6,018 9 $ % $1,117 $1,733 $5, $938 $1,877 $7, $797 $1,595 $6,378 Table 6.14 below shows the impact on non-residential properties with a relatively low AAV ($30,000), an average AAV ($60,000) and a high AAV ($240,000). Draft Report City of Adelaide Review of Rating and Revenue 11 May

58 Table 6.14 Illustrative Rates Outcomes for Non-residential Properties General Rates Non-residential Option Fixed Charge Rate cents/$ % Rates from FC AAV $30k AAV $60k AAV $240k Current $4,224 $8,448 $33, $4,041 $8,082 $32,328 2 $ % $4,077 $7,854 $30,516 3 $ % $4,097 $7,694 $29,276 4 $500 Min. Rate $3,897 $7,794 $31,176 5 $ % $4,248 $8,196 $31,884 6 $ % $4,262 $8,024 $30,596 7 $ % $4,296 $8,442 $33,318 8 $ % $4,359 $8,418 $32,772 9 $ % $4,448 $8,396 $32, $4,128 $8,256 $33, $4,305 $8,610 $34,440 The modelling highlights that there are potentially several rating strategies available that would reasonably satisfy rating theory considerations. Application of a low fixed charge (say e.g. $150) may better satisfy taxation principles by ensuring that low value properties contribute more to the costs CoA incurs in providing services that are not reflected in such properties relative value. Introducing a small fixed charge would increase the relative rates revenue generated from properties that currently otherwise pay modest rates but there are very few such properties. A list of average annual values and average rates paid by property type was compiled and is shown in Appendix I. The justification for the basis and extent of differentiation currently applied also warrants review and be resolved before determining whether to apply a fixed charge or not. It is stressed though that the current extent of application of differential rating may be reasonable for example CoA applies lower increases in differential rates for non-residential properties relative to residential ones than do many other Draft Report City of Adelaide Review of Rating and Revenue 11 May

59 councils. A significant redistribution of the overall rating burden across properties could eventuate from changes in these factors as is highlighted in the modelling. It is stressed that the Options 1 to 11 shown above are simply representative of those available to Council and their effects. Various adjustments to their detail could be made to further refine the impacts relative to Council s particular circumstances and judgement of equity considerations and other factors. 7. Sources of Revenue Council generates significant revenue from activities other than rates as shown in Graph 7.1 below, as do most other councils. Graph 7.1: City of Adelaide Sources of Income 2016/17 Sources of Income 2016/17 Grants, 2.5% Investment Income, 0.1% Other Income, 0.2% User Charges, 35.6% Statutory Charges, 8.5% Rates, 53.1% Graph 7.1 is a high-level analysis of revenue sources and it highlights that two major categories (rates and user charges) provide approximately 89% of total operating revenue. The CoA's revenue can be further disaggregated and shown as a percentage of total operating revenue as follows Residential rates 11% (of total operating revenue) Draft Report City of Adelaide Review of Rating and Revenue 11 May

60 Non-residential rates 42% Other business revenue 7% Off-street parking revenue 15% On-street parking revenue 6% Grants 2% Subsidiary operations 7% Other revenue 4% Expiation revenue 6% The two highlighted (bold font) sources of revenue above ("Other business" and "Offstreet parking") comprise the extent of CoA's current business operations; so approximately 22% of CoA's total operating revenue is currently provided from commercial activities. A survey conducted of interstate capital city councils showed varying relativities exist in respect of sources of income. Graph 7.2 below indicates the respective sources of income by council and also shows an overall average of all capital city councils Care should be taken when interpreting the comparative data as not all of the interstate councils report on the same headings (i.e. categorisations of revenue). Hence, when completing the survey form it is probable that some allocations have been made by staff at the respective councils which may not be necessarily consistent across all of the survey councils. Draft Report City of Adelaide Review of Rating and Revenue 11 May

61 Graph 7.2: Australian Capital City Councils Sources of Income 2016/17 Although a higher level of own source revenue gives a council greater control there is nevertheless no right or best level. It will depend very much on its own and the wider economic and government policy circumstances. Councils should focus on the level of income needed to maintain preferred service levels having regard to trade-off choices between revenue raising and service provision. Given the financial challenges facing other levels of government a council needs to be careful in assuming significant increases in ongoing funding from other levels of government. Councils need to exercise extreme care in pursuing investment decisions to generate long-run revenue and a sound rate of return relative to the costs of capital and the risks involved. They also need to be mindful of National Competition Policy principles (essentially that they are not competing unfairly with commercial businesses because of advantages they enjoy as governments). It is not unreasonable for a council to pursue a commercial opportunity, particularly if it believes it will deliver good social as well as acceptable commercial outcomes. More so if it believes the social outcomes won t eventuate without its actions. Councils need to be mindful that they do not exist per se for commercial reasons. There are examples of councils delivering good public policy outcomes (eg establishing a commercially viable retirement village) in more remote localities ( if we don t do it no-one else will ) but there is likely to be more interest in business opportunities from commercial entities in larger capital city markets. Before embarking on an investment proposal the CoA should understand why the Draft Report City of Adelaide Review of Rating and Revenue 11 May

62 opportunity is available (why haven t other business people pursued the opportunity?). E.g. does market failure exist (why?) or does Council have particular advantages and expertise not more widely available? The ability to create limited liability companies allows investors to pursue opportunities whilst mitigating risk. Historically and world-wide it has been an important factor in promoting economic development. Councils in South Australia can t create such entities and need to be aware of long-term risk. Other legal entities undertaking business with local governments expect local governments to settle their liabilities in full and could theoretically pursue through the courts an order (as has happened) for a council to raise additional rate revenue to do so. In summary councils need to be cautious regarding potential to generate commercial revenue. Councils have taxing powers (ability to raise rate revenue) and should not be afraid to responsibly use this taxing power to the extent necessary for overall equitable community benefit. Where a council has control over the setting of specific charges it should generally speaking set prices to recover the comparable market prices and in the absence thereof the full long-run cost of provision of private goods to ratepayers. It should then aim to raise sufficient ongoing rate revenue to fully offset the net average longrun cost of its total services. It is also noted from Graph 7.1 and supporting data above that on and off-street parking represents about 21% of CoA s total operating revenue in 2016/17. This is a large share of the total and particularly having regard to Council s financial performance as discussed in Section 8. It will be important in Council s long-term financial planning that it has regard to the likely impact of driverless cars and similar technology in future on its long-run revenue and overall financial performance. The impact may not be significant in the short/medium term but that may not be so thereafter. RECOMMENDATION 9: Council develop a policy regarding the pursuit of commercial income that encourages a cautious approach that has regard to social and risk consideration. Commercial opportunities should not be disregarded but rates are likely to be an appropriate source of revenue to fund much of CoA s aggregate service costs on an ongoing basis. RECOMMENDATION 10: In the absence of reasons to the contrary CoA generally base its charges for private goods on comparable market prices or where not readily available the full long-run cost of provision to ratepayers. Draft Report City of Adelaide Review of Rating and Revenue 11 May

63 RECOMMENDATION 11: Council have regard to expected trends in the development of driverless cars and the likely financial impact thereof in its long-term financial planning considerations. 8. Financial Sustainability Councils historically set rating decisions to generate sufficient cash to offset the budget year s net expenditure outlay needs. The 2005 SA Local Government Financial Sustainability Inquiry emphasised the risks of such an approach. Similarly it is not appropriate for councils to base forward financial projections on particular rate in the dollar outcomes. Councils these days are encouraged to prepare LTFPs and asset management plans and base annual revenue raising and expenditure decisions on maintaining acceptable underlying long-run performance for specific financial indicators. The Local Government Association has provided guidance to councils regarding generally applicable target ranges for the three financial indicators that all SA councils are now required to report performance against in their annual business plan, annual financial report and LTFP. 47 The CoA has set its own target ranges as follows: Operating Surplus Ratio between 0% and 20%. Net Financial Liabilities (NFL) Ratio between 0% and 80% Asset Sustainability Ratio between 90% and 110% (over a rolling five year period) Broadly speaking these targets are reasonable. It could be argued that the average underlying operating surplus ratio target should be slightly higher and narrower (e.g. between 5% and 15%). Likewise if the CoA could achieve and maintain a satisfactory operating surplus ratio target it could maintain a higher net financial liabilities ratio if need be without concern. Council has produced annual operating surpluses in recent years (i.e. in 4 of the 5 previous years).the current draft LTFP forecasts deficits in the first four years and the remaining six (latter) years are forecasting modest surpluses. 47 See LGA Financial Sustainability Information Paper no.9 Financial Indicators available at Draft Report City of Adelaide Review of Rating and Revenue 11 May

64 Table 8.1 Adjacent Inner Metro Councils Financial Sustainability Indicators (2015/16) Table 8.2 Capital City Councils Financial Sustainability Indicators (2015/16) Achieving modest ongoing operating surpluses over time is generally the key to maintaining financial sustainability. Any surplus achieved reduces the need, for Draft Report City of Adelaide Review of Rating and Revenue 11 May

65 example, for loan funding of additional capital works and it provides a buffer to protect against future risk and uncertainty. It also ensures capacity to undertake required asset renewal as and when required. This doesn t mean however that councils reporting small operating deficits for a period of years are necessarily unviable. Each council s circumstances and future revenue and service level and expenditure needs warrant careful analysis before decisions regarding viability can be made. Nevertheless it is generally in the best interests of a council and its community for it to strive for and achieve small ongoing underlying operating surpluses. Council s draft LTFP indicates modest operating results throughout the ten year planning period. The estimated Operating Surplus ratio sits around break-even in the main after an initial forecast operating deficit of approximately 14% in 2017/18. The subsequent Years 2 to 7 forecast break-even performance followed by the final three years of the LTFP which is forecasting operating surpluses around 2% rising to 3% in the final year (2026/27). Similarly its forecast NFL ratio is forecast to sit within CoA s targeted levels between 0% and 80%. The initial years of the planning period see the NFL ratio sitting around 55% and progressively falling back to around 34% by Year 10. CoA s level of debt and other net financial liabilities relative to its income has, historically, been modest (refer to Table 8.3). For example its NFL ratio has sat at levels well beneath the collective of all SA councils (approximately 30%) through 2011/12 to 2015/16. Council s previous financial performance and its future forecasts suggest that it would be operating within manageable parameters assuming future borrowing does not differ greatly from what is currently forecast. CoA s current and future projected NFL ratio is modest. LGA guidance material makes it clear that councils with a strong operating result, ongoing growth or capital projects generating significant revenue are likely to comfortably manage with a much higher ratio than 100%. Table 8.3 below shows Council s recent financial performance. Draft Report City of Adelaide Review of Rating and Revenue 11 May

66 Table 8.3 City of Adelaide Recent Financial Performance 2011/ / / / /16 Actual - $m Actual - $m Actual - $m Actual - $m Actual -$m Op. Surplus/(Deficit) $3.9 ($11.6) $8.8 $9.1 $1.3 Operating Surplus ratio 5% (14)% 10% 9% 1% Total Assets $1,301 $1,291 $1,308 $1,348 $1,352 NFL ratio 7% 13% 18% 18% 15% Asset Sustainability ratio 77% 115% 59% 90% 90% The 2005 SA Local Government Financial Sustainability Inquiry highlighted that spending by councils on new additional assets or upgrading existing assets to deliver higher standards of service will result in higher operating costs in future years. These higher costs come about because of additional operating (including depreciation) expenses associated with the new/upgraded assets. Effectively, in order to maintain financial sustainability a council needs to be willing and able to generate additional revenue (or reduce other service levels and costs) whenever it commits to acquiring new or upgraded assets; or to generate off-setting savings from additional efficiency initiatives. 48 Spending on asset renewal does not have the same effect on a council s operating result as acquiring new/upgraded assets. There is unlikely to be any material increase in maintenance, operations or depreciation costs from asset renewal; in fact they may fall. In 2014/15 the LGGC reported that councils in aggregate spent 115% on asset renewal relative to the amount they spent on new/additional assets. The CoA has averaged at 64% for the 5 previous financial years. Graph 8.1 below shows that over recent years the CoA spent approximately 10% less on renewal of existing assets than it did on acquiring new assets. The amount spent on asset renewal is approximately 72% of the depreciation expense incurred over the same period. This means that Council has been consuming its current stock of assets at a rate greater than it has been replacing them. Council s Integrated Business Plan 2016/17 includes asset renewal funding levels which are consistent with amounts set out in Council s Asset Management Plans. 48 This is assuming the council doesn t already have a large, ongoing, underlying operating surplus that it is appropriate to run down. Draft Report City of Adelaide Review of Rating and Revenue 11 May

67 Graph 8.1 City of Adelaide Capital Expenditure on Renewal and New Assets Council s draft LTFP forecast operating results (noting that ongoing additional demands are likely to continue to emerge) are modest; the first four years are forecasting deficits and the remaining six latter years are forecasting only small surpluses. It should be noted that under-lying ongoing operating deficits typically mean that a council is under-charging ratepayers for the level of services it is providing relative to their cost. Achieving and maintaining modest operating surpluses (as is the recent CoA experience) is equitable for current and future ratepayers and generally speaking should remain a key objective for all councils. In determining its rating and service level decisions the CoA should have critical regard to long-term financial sustainability considerations in its revenue-raising decisions. 49 The CoA is currently reviewing its LTFP and the importance of determining a system of rating and revenue raising that best suits Council s ongoing likely circumstances cannot be over-emphasised. The CoA will need to ensure that emerging priorities or changed policy positions do not prevent Council from achieving targeted financially sustainable performance. Maintaining strong financial discipline and focussing on particular issues (as 49 See LG Act Section 151(5) Draft Report City of Adelaide Review of Rating and Revenue 11 May