Loans and finance: how much does the sector borrow?

With the Prime Minister launching Big Society Capital yesterday with the aim of stimulating social investment, I thought it might be a good time to look at what we know about existing finance arrangements in the sector, and perhaps make a judgement about the possible impact of Big Society Capital.

A whole range of finance is available to charities; here I’m going to focus on loan finance, as it is the area with the most information. However, data on existing use of loans finance is scarce – partly because of some of the difficulties outlined below, and partly because it is still an emerging area.

In 2001/02 we found the total value of loan finance to the sector was £1.7 billion – estimating current values of loans from these figures would suggest the sector has £3.5 billion in loans – around 21% of its total liabilities. This is very much an estimate though.

If Big Society Capital’s full £600m value was used by the sector, it would represent a 17% increase on its current loans. However, in comparison to the sector’s asset base – including all its buildings, investments and other assets – £600m is a drop in the ocean, just 0.7% of the sector’s total net assets. Defenders of the fund would argue that this is just the start of developing a market for social finance.

Figures suggest this is still an underdeveloped market – the National Survey of Charities and Social Enterprises found that just 2% of charities were satisfied with access to loan finance.

From informally looking at the data around loan finance, I’ve identified a few possible trends. We’re hoping to look into this in a lot more detail to see whether they hold true.

1) Mortgages are the most common form of loan

Perhaps because they have to be declared in charities’ accounts, mortgages seem to play the biggest part in organisation’s loan finance. This makes sense, as the biggest risk that comes with getting a loan is being able to pay it back, and using a mortgage to buy or construct a building means you have created an asset which will provide income to pay back the loan.

Most mortgages appear to be standard commercial products, under the same terms as any other business.

2) Informal loans

Another key source of loan finance for charities, particularly smaller ones, appears to be informal loans; often from trustees or supporters of the organisation (again, loans from trustees have to be recorded in the accounts).

These loans often come with favourable terms, such as very low (or zero) interest rates, and with long periods before repayment or no set repayment date.

They provide a useful way for organisations to get working capital, but could leave them vulnerable or dependent on the goodwill of one person.

These anecdotal findings suggest that the new forms of social finance, and specialist charity lenders, are relatively underdeveloped at the moment. We don’t yet have the numbers to back this up yet, this is something we’re going to work on over the next few months.

For an overview of all different forms of Social Investment, take a look at the Knowhow Nonprofit guide Social Investment Made Simple.

How do charities record loan finance?

It’s worth a quick diversion to look at how we measure charities’ use of finance (and we’re going to particularly look at loan finance here). Normally, charities fund their work through income – that is they are given money as donations or grants, or paid it in fees, contracts or through fundraising. There are a whole range of ways that organisations get money, and if they haven’t spent this money at the end of the year the can keep it in the bank for next year. This is recorded in the Statement of Financial Activities in charities’ accounts, and forms the basis for the income part of the Almanac.

Loan finance is different. When a charity takes out a loan, this isn’t seen as “income”. Because the loan has to be repaid – after a specified or unspecified time, and with interest added or not – it goes onto the “balance sheet”. The amount of the loan is recorded as an asset – cash that can be spent – as well as a future liability – because at some point it will have to be paid back. So in accounting terms, when an organisation gets a loan, their assets rise, the amount they owe rises, but their income stays the same.

But the amount that charities owe – recorded as “creditors” in their accounts – doesn’t just represent loan finance. A whole range of planned future payments are recorded under this heading, including commitments to future grants and projects, repayments for hire purchase equipment and others. Often loans and other forms of finance are not recorded separately. When estimating current loan finance from 2001/02 figures, we’ve assumed that ratio of loan finance to other creditors has stayed the same – this assumption might not be correct.

All this means that loan finance can be difficult to measure. While it is recorded in charities’ accounts, it’s outside of the fields we traditionally collect, and often recorded in a variety of different ways.

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David Kane was formerly NCVO’s Senior Research Officer. He discusses open data and emerging trends in the voluntary and community sector and wider civil society.

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