IRRV Alert September 3 2008

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WELSH ASSEMBLY GOVERNMENT CONSULTATION ON PRESCRIBING DECAPITALISATION RATES FOR THE 2010 NON DOMESTIC RATING LISTS

 

 

 

On 1 April 2010 new rating lists will be introduced in Wales.  Some of the new rateable values will be derived from the contractor’s basis of valuation and this consultation paper contains proposals for prescribing the decapitalisation rate to be used by valuers in such cases

Please send your responses by 10 October 2008 to:

 

LGF1consultations@wales.gsi.gov.uk

Or

Paul Harrison

Local Government Finance Division

Welsh Assembly Government

Cathays Park

CARDIFF

CF10 3NQ

(Telephone 02920 82 5307)

THE PRESCRIBED DECAPITALISATION RATE

Introduction

1. On 1 April 2010 new rating lists will be introduced in Wales.  Some of the new rateable values will, as before, be derived from the contractor’s basis of valuation and this consultation paper contains proposals for prescribing the decapitalisation rate to be used by valuers in such cases. Separate consultation exercises are taking place in England and Scotland where final decisions will be made by the UK and Scottish Governments.

The Contractor’s Basis Of Valuation

2. Broadly speaking, the rateable value of a property is taken to be its market rental value at the valuation date.  For the 2010 rating list, the valuation date is 1 April 2008.  In most cases, valuers will use evidence of actual rents to determine rateable values but that is not always possible.

3. Where there is insufficient rental evidence available, valuers may use the receipts and expenditure method of valuation to ascertain the rateable value of a property.  Where there is insufficient rental evidence available and the property is of a type which is not considered suitable for valuation by the receipts and expenditure method, valuers may have to resort to a valuation on the contractor’s basis.

4. The contractor's basis of valuation requires a valuer to estimate the cost of replacing the buildings and any other rateable items such as plant and machinery.  This cost is then adjusted to reflect any obsolescence in the actual property, and the figure arrived at added to the capital value of the site.  The total capital sum is then decapitalised by using a "decapitalisation rate" to give an annual equivalent which is taken to be the rateable value.

5. The contractor’s basis is generally used to value large industrial property and specialised public sector buildings, for example oil refineries, chemical process plants, shipbuilding yards, hospital and schools.

The Decapitalisation Rate

6. Before the 1990 rating list, valuers and the courts had experienced great difficulties in deciding the appropriate decapitalisation rate to use in contractor’s basis valuations.  This resulted in extensive litigation which would have been revived with the introduction of each new rating list. 

7. To eliminate the risk of appeals and remove uncertainty about rateable values the Government decided to prescribe the decapitalisation rate using powers in the Local Government Finance Act 1988.  For the 1990 rating list, the rate was set at 6% except for educational and health care properties which had a lower rate of 4%.  For the 2005 rating list the main rate was set at 5% and the lower rate - again for educational and health care properties - at 3.3%.  Broadly speaking, the rates were set having regard to various interest rates and property yield rates. If regulations are not changed, these rates will continue to apply to the 2010 rating list.

Whether To Prescribe The Decapitalisation Rate

8.The scope for excessive litigation on decapitalisation rates remains as significant now as it was in 1990.  It could be argued that because the courts have not considered decapitalisation rates since before 1990, the scope for argument in appeals over the appropriate rate is greater than it has ever been.  Therefore, the Assembly Government proposes to continue to prescribe the decapitalisation rates to be used in the contractor’s basis of valuation.

9. The Assembly Government will prescribe parts of the rating valuation process only using the contractors basis, for those industries or occupiers, where disputes regarding the appropriate rate are most likely to arise. These include:

·        educational or health care properties,

·        local government properties,

·        Crown properties,

·        large industrial properties,

·        pipelines,

·        sewage treatment works,

·        airports and airfields, and

·        mineral works

The Assembly Government welcomes comments on the proposal that it should continue to prescribe the decapitalisation rates used in contractor’s basis valuations.

Setting The Rate

10. It is generally accepted that there are 3 main methods which are appropriate for reaching a decapitalisation rate.

The traditional route involves estimating the cost of borrowing allowing for deductions which take account of the effects of inflation over time and real costs of appreciation or depreciation. This approach would produce a decapitalisation rate between 6% and 8.5%.   

 

Yields from property investment which examine rates of return on capital  investments.   Average yields on industrial investments as at April 2008 (the valuation date for the 2010 rating list) suggest a rate of not less than 8%

The money market approach which analyses the factors which determine yields in the investment market.  This method indicates a rate of between 6.5% and 10%.

          

11. The evidence from these methods suggests that the main decapitalisation rate could fall within a wide range of 6% to 10%.  Two of the three methods suggest that a more appropriate range would be between 6% and 8%. However, setting the rate between these parameters could result in an increase of over 3 times the average increase in rateable values for other types of property in Wales. 

12. The Assembly Government therefore proposes to set decapitalisation rates that avoid this result, and increase the rateable values of properties that are assessed using this rate in line with the average increase in rateable values for businesses across Wales. A decapitalisation rate of between 4.25% and 4.5% is likely to achieve this result.

The Assembly Government welcomes views on whether the main decapitalisation rate should be changed from 5% to a value between 4.25% and 4.5%

Education, Healthcare and Ministry of Defence Properties

13. Since 1990 a lower decapitalisation rate has been prescribed for educational and health care properties.  The different treatment for educational and health care properties is very difficult to justify on rating grounds alone. However, although these properties tend to be very specialised it is unlikely that this reason alone would lead valuers and the courts to select a lower decapitalisation rate than for other specialised properties.

14. The Assembly Government proposes to continue to set a lower rate for educational and health care properties. Moving these properties to the proposed  main rate could substantially increase their rates bills by more than the national average.  This would run counter to the Assembly Governments priorities in these key policy areas, and would increase costs that fall ultimately to be met largely by the Assembly Government. The Assembly Government therefore proposes to set decapitalisation rates that avoid this result, and increase the rateable values of these properties in line with the average increase in rateable values for businesses across Wales. A decapitalisation rate of between 2.8% and 3% is likely to achieve this result.

The Assembly Government welcomes comments on the proposal that educational and healthcare properties should continue to benefit from a lower decapitalisation rate and whether the current rate of 3.3% should be changed to a value between 2.8 % and 3%. 

Financial Implications

15.  We estimate that retaining the current rates of 5% and 3.3% would lead to average increases of around 29%, which is significantly greater than the expected average increase in the rateable values of other properties in Wales.This does not necessarily mean a 29% increase in rates bills as there are various other factors to consider. A key one is the multiplier (or poundage) for 2010-11 which will be set by the Assembly Government in 2010 when full information on the effect of the revaluation is available. The legislation requires that the multiplier is set so that, following the revaluation, broadly the same level of rates is raised as before. This is so that revaluation does not result in an overall increase in yield from business rates, but redistributes rates paid more fairly by reflecting current prices and relative rateable values.    

16. The decapitalisation rate is only one of several factors which could affect the outcome of a contractor’s basis valuation.  Rateable values for 2010 may vary from the rateable values in the 2005 rating lists because of, for instance, changes in the value of land or changes in building costs.  Whatever the Assembly Government decides to do, rateable values and rates bills may still change due to other factors.

17. The higher the decapitalisation rate set, the higher the overall relative increase in rates payable by businesses that it applies to. This in turn increases the overall yield across Wales from rates as a result of the revaluation and therefore reduces the multiplier, so that the additional income from business that the decapitalisation rate applies to is effectively redistributed amongst all rate payers by reducing their rates bills


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