On 29 November 2022, the outcome of the 2022 ONS (Office for National Statistics) review of the classification of the English college sector was announced: colleges would be reclassified back into the public sector.
What is the impact of the reclassification?
What caught most of the sector out was that the decision would have an immediate effect. Colleges and their subsidiaries are now part of central government subject to the framework for financial management, as set out in Managing Public Money (MPM). At 200 pages (with the annexes) the March 2022 edition of MPM will be a “must read” for all. The DfE (Department for Education) acknowledges that some of the MPM requirements are already embedded into college funding agreements, however, there are many that are not, and together with the new requirements, could result in challenges for the sector.
The good news is that government is providing an additional £150m of capital funding in 2023 to 2024 to have an even funding cashflow from 2023 to 2024 (16 -19 and adult education budgets). They are committed to working in partnership with the education sector to develop a new comprehensive colleges’ financial handbook. This will likely be similar to the Academies Financial Handbook, which was replaced in 2021 by the Academy Trust Handbook (ATH). The ATH is not just about financial matters but also signposts a wider range of non-financial requirements. The expected colleges’ financial handbook (let’s start to refer to it as the CFH), will include specific rules the sector will have to follow.
Some of the implications of the immediate (29 November 2022) impact of the reclassification have been set out and published by the DfE.
What we currently know and some of the new immediate requirements
If a transaction or agreement was not formally in place prior to 29 November 2022, then MPM applies.
Borrowing and the new requirements
There is an expectation that colleges will continue to repay existing debt to maturity. However, college debt may have lump sum requirements at the end of the debt term and some colleges may have been expecting to refinance this residual debt commercially. However, if this residual debt cannot be refinanced by a commercial lender with terms and conditions that are compliant with MPM (unlikely) and the college does not have sufficient cash reserves to repay in full, then in these cases the DfE will provide funding to enable the college to repay the residual debt. The DfE will recover funds from the college over an agreed period.
DfE expects colleges to phase out existing overdrafts and revolving credit facilities by no later than 1 August 2024.
New private sector borrowing (borrowing from a commercial lender, loans from Local Authorities and other non-public sector organisations but excluding DfE lending), is extremely unlikely to meet the MPM framework. Under the MPM framework, public sector organisations may borrow from the private sector, but only if the transaction will deliver better value for money for the Exchequer. Why? This is because non-government lenders face higher financing costs. It is unlikely that colleges will be able to satisfy this condition (delivery of better value for money) for new private sector borrowing.
Any proposals for new private sector borrowing, will need DfE consent.
It’s important to be aware that any amendments to existing borrowing* will require prior consent from the DfE if such changes are within scope of MPM (increases in private sector interest costs). When applying for prior consent, colleges must provide evidence of how the change will meet MPM rules.
The DfE has helpfully set out a list of amendments that may be within scope of MPM. These include changes relating to the term loan, repayment profile change, interest rate change outside the existing agreement terms (including any move between variable and fixed interest rate) and providing additional security.
New finance arrangements will be subject to MPM framework and colleges will be required to obtain written consent from the DfE in advance before committing to any new financing arrangements or actioning any new drawdowns of existing overdrafts, revolving credit facilities or loans.
Any additional usage of existing overdraft, revolving credit facility or drawdowns of existing term loans will be subject to DfE consent and timelines. At the end of the consent period, DfE expects colleges will be able to ensure that such variable working capital facilities and other facilities are worked down to nil or repaid in full.
It is possible that some colleges may have inadvertently breached this requirement of MPM, if existing available facilities have been utilised post 29 November 2022, without realising DfE consent was required.
*Existing borrowing is any debt taken out and utilised (for example: drawdowns of existing term loan, overdraft, revolving credit facility).
Colleges will be able to continue with existing finance leases until they come to the end of their term and will also be able to enter into new finance leases.
For college fixed asset disposals, no consent from the DfE is required, although the proceeds must be ringfenced for reinvestment in future capital expenditure.
Novel, contentious transactions
Transactions by colleges or their subsidiaries that may be considered novel (no prior experience or outside of normal business), contentious (cause controversy or criticism) or cause repercussive pressures on the college sector or other parts of the public sector to take a similar approach or set a precedent, must always be referred to DfE for prior approval.
Colleges fall within the scope of senior pay controls as set out by HM Treasury. The DfE will be updating its existing guidance to reflect the principles as set out in the HM Treasury guidance (look out for this being published). The current HM Treasury requirements are that when an appointment will attract a total remuneration of £150,000 or above, approval must be obtained from the Chief Secretary to the Treasury.
The DfE have made it clear that they will work with the sector to make sure that colleges are able to get approval for new or amended reward packages that fall within the scope of senior pay controls. This includes all new appointments that are due to be advertised from May 2023.
Colleges will have continued delegated authority to make individual severance payments, provided any non-statutory/non-contractual element is under £50,000 or under 3 months’ salary (whichever is lower). Beyond this limit, DfE approval will be required.
Any proposed payments that are linked to a non-disclosure agreement will require DfE approval, no matter what the value. Where supported, DfE will also require HM Treasury consent.
DfE prior approval is required for a special severance payment where the exit package (which includes a special severance payment) is at or above £100,000 and/or the employee earns over £150,000.
Any special severance payment which is novel, contentious or repercussive, whatever the value, must have DfE approval and will be referred to HM Treasury for final consent.
There are restrictions on compensation payments, ex gratia payments, write offs, indemnities, guarantees and letters of comfort.
New budgetary reporting requirements
DfE will be requesting spend data on a fiscal year basis to 31 March.
For those of you expecting to recover VAT, there is no change at present, which for many, will be disappointing news.
The ESFA (Education and Skills Funding Agency) will begin to draft the CFH (colleges financial handbook) and aim to share that draft in autumn 2023 for consultation (in the middle of 2023’s audit cycle: financial statements, regularity and DfE funding reviews). The first CFH will be finalised for publication March 2024, with an effective date of 1 August 2024 and will set out the actions colleges must take to comply with MPM.
The ESFA will be developing guidance on many of the issues arising from MPM and these are expected to be published in the coming months.
One area not mentioned in information published so far is prior consent for related party transactions - one to watch!
Familiar and similar to academy regulation?
It’s likely that the coming months could be extremely challenging while colleges get to grip with the requirements of the MPM framework.
Impact on internal and external audit
The changes following reclassification into the public sector will have impacts on internal and external audit. There are a significant number of new requirements that will require changes to college policies and procedures and as a result, a review by internal audit of these changes to those documents no doubt would be welcome by the college audit committee, and sooner rather than later.
The DfE will no doubt need to demonstrate how the MPM framework has been complied with from 29 November 2022 to 31 March 2023 for Departments’ own regularity reporting. MPM requirements from 29 November will most likely impact on the college regularity framework and require external audit to factor the changes into their work. With regard to these matters, we look forward to the DfE clarifying the approach and implications for colleges and indeed auditors.
At RSM, we are always available should you have queries about reclassification changes and their impact.