We have just taken on borrowing for the first time to buy some investment properties so this is the first time we have ever had to consider MRP. We are using the annuity method however we are a bit confused as the interest rate we are to use. All the guidance says is the PWLB rate however is there a rule that it must be the annuity, EIP or maturity rate? Any help on this would be most appreciated.
We adopted the annuity method four years ago. Guidance available at the time was not very specific. We are charging MRP over 50 years, so I opted for the PWLB 50-year annuity certainty rate in the MRP calculation. The calculation has passed audit scrutiny for the past three years, though this is no guarantee that your auditors would find it acceptable.
Why not do a calculation in advance and run it past your auditors? They might refer it to a technical team, so you could be forewarned of potential problems.
In our case, the DCLG''s draft MRP guidance implies that we should reduce the MRP period to 40 years. If this is the correct interpretation, and the guidance is implemented with 40 years as the maximum for assets other than freehold land, then I have already prepared a revised calculation using the 40-year annuity rate of four years ago.
as an authority which has never borrowed, we're calculating the annual expenses for a new construction project which we need to borrow for. is the MRP included in the annual expenditure? for example, if we take a Maturity loan out from the PWLB, although we are not physically paying the PWLB back each year, we obviously still need to make the provision in the accounts. However, does this need to be factored in as a physical cost/expense to the project?
As far as I understand, there's no requirement to use the PWLB annuity rate. At Central Bedfordshire Council, we apply the relevant PWLB annuity rate (reduced by a 0.2% discount for the "certainty rate") as at the start of the financial year based on an estimated useful economic life of either 10 years, 30 years or 50 years. Other local authorities use an interest rate of 2.0% based on the Bank of England's target inflation rate. It really doesn't matter so long as the rate you apply has some reasonable basis.
Whilst there's no requirement to use the PWLB annuity rate, at Central Bedfordshire Council we apply the relevant PWLB annuity rate (reduced by a 0.2% discount for the "certainty rate") as at the start of the financial year based on an estimated useful economic life of either 10 years, 30 years or 50 years. Other local authorities use an interest rate of 2.0% based on the Bank of England's target inflation rate. It really doesn't matter so long as the rate you apply has some reasonable basis. The interest rate used is relevant insofar as it determines the slope of the MRP curve, i.e., the higher the interest rate the steeper the MRP curve with a relatively low MRP charge in the early years and a much higher MRP charge in later years.
Whilst there's no rule over which discount rate to use for calculating MRP, you should be able to explain the basis for its selection. For example, our external auditor requires us to state its source, e.g., PWLB historical annuity rate as at the start of the financial year.
Given that you're using the annuity method for calculating MRP, it would make sense to use the PWLB annuity rate.
Alluding back to the comment from the colleague at Central Bedfordshire concerning the MRP curve, the lower the annuity rate used the less likely (logically) auditors are to query it regardless of the source. Likewise the lower the assumed asset life. Ultimately it's all about being prudent and reasonable.