Managing colleges’ financial sustainability

Rising pension costs are putting significant pressure on college finances. Staff costs, including pension contributions, typically account for around two-thirds of colleges’ running costs, and have been rising in recent years. Employer contributions to the Teachers’ Pension Scheme rose by over 40% in 2019. The government provided colleges with extra funding to cover this increase in 2019/20 and 2020/21, but colleges are worried about the affordability of contributions in future years. In addition, the Local Government Pension Scheme, which college support staff may belong to, has had a deficit in recent years and colleges have had to make payments to help cover the deficit, on top of their standard contributions. Recommendation: The Department should write to us within three months, setting out what it has done to assess pension cost pressures on colleges, and how it has taken account of these in its funding decisions.

It is clearly iniquitous that sixth-form colleges have to pay VAT while post-16 academies and schools with sixth forms do not. As part of the area reviews of post- 16 education and training provision, sixth-form colleges were given the option of becoming academies and, by 2018/19, 24 sixth-form colleges had converted. There is a financial incentive for colleges to convert because colleges have to pay VAT while academies (and other schools) do not. The Sixth Form Colleges Association estimates that the requirement to pay VAT means the average sixth-form college diverts around 4% of its funding away from frontline provision. This would equate to around £20 million per year across the remaining sixth-form colleges. The Department believes that, despite regular discussions between the two departments, the issue of inconsistent VAT treatment is not a priority for HM Treasury. Recommendation: The Department should work with HM Treasury to assess the merits of making the rules on VAT consistent for schools and colleges. 6 Managing colleges’ financial sustainability

Successful implementation of the new T level qualifications risks being delayed by a lack of work placements. In May 2018, the then Permanent Secretary at the Department requested and was given a ministerial direction, as he had concerns about the feasibility of delivering the new T level technical qualifications in 2020. The first three qualifications were launched in September 2020, but we remain concerned about the practicability of implementing the programme. A crucial element of each T level is the 20% of time spent on a work placement at a relevant employer, but colleges tell us of difficulties in securing those placements. COVID-19 has forced many employers to work virtually, and this is likely to reduce the opportunities for work placements even further. The ESFA acknowledges that some people still do not know what T levels are, but says it is working to engage with employers about the programme. Recommendation: The Department should write to the Committee before the start of the next academic year setting out what up-to-date assurance it has that there will be enough work placements for T levels. This should cover what impact the COVID-19 pandemic has had on the availability of placements, and plans to incorporate virtual placements.

The Department’s funding decisions are based on previous years’ student numbers, which risks holding back colleges that are growing. Funding for students aged 16 to 19, which makes up around half of college income, is based on the previous year’s learner numbers; other factors, such as retention rates, are based on data which are two years old. This means that colleges with increasing numbers of learners or improving retention rates are not funded for their full level of provision. This may become a growing problem, as learner numbers are expected to increase over the next few years as the population of young people rises. The ESFA reports that it is reviewing various aspects of the FE funding system – which, it acknowledges, is very complex – including how it uses lagged data. Recommendation: The Department should consider a change to the formula for funding colleges which takes account of real time or more recent information about student numbers. It should report back to us by the summer about how funding could be delivered that better reflects colleges’ real time position.

The Department’s, the ESFA’s and the Further Education Commissioners approach to intervention takes too long, costs too much and is not effective in making colleges more sustainable. At February 2020, government was intervening in nearly half of colleges for financial health reasons. Some colleges remain in intervention for a long time—for example, seven have been in formal intervention for five years or more—and 75 colleges have been in and out of early intervention more than once. The Department has spent substantial sums of public money on supporting colleges in intervention, including £253 million on emergency funding for 36 colleges with cashflow problems. This emergency funding was originally intended to take the form of repayable loans, but much of the money is now not expected to be repaid. Two colleges in Kent have been in the insolvency regime since mid-2019 and the ESFA expects these cases will end up costing it over £60 million. Payments to the education administrators amount to £6 million (10% of the total) so far, and could increase further. The ESFA acknowledges that intervention often Managing colleges’ financial sustainability 7 does not feel supportive to colleges and reports that it is taking action in response to Dame Mary Ney’s 2019 report on college financial oversight arrangements, which recommended the ESFA develop a more nurturing relationship with colleges. Recommendation: The Department should set out within three months what actions it plans to take to improve its intervention arrangements, and how it will assess the success of these actions.

Students are losing out as colleges cut mental health and other support services in response to financial pressures. The Department’s funding for colleges fell by 20% in real terms over the six years from 2013/14 to 2018/19, and the ESFA rated the financial health of 35% of colleges as ‘inadequate’ or ‘requires improvement’ in 2018/19. The ESFA emphasises that the sector’s financial position did not decline as much as had been feared in 2015, but we consider this detracts from the continuing financial fragility. More colleges will face financial difficulties as a result of the COVID-19 pandemic and, when we took evidence, the ESFA had concerns about the cash position of 64 colleges. Many colleges have responded to their increasingly tight financial position by cutting back on enrichment activities designed to improve students’ wider learning experience, and on welfare services such as mental health support. The Department believes that colleges are good at prioritising their activities in response to financial pressures, but accepts that this is an area it needs to monitor. Recommendation: The Department should undertake research into the extent to which college support services are meeting students’ needs, including canvassing the views of students themselves. In its Treasury Minute response, we expect the Department to give a firm commitment to taking this action, and details of the timetable for the research. 8 Managing colleges’ financial sustainability 1 Financial pressures

On the basis of a report by the Comptroller and Auditor General, we took evidence from the Department for Education (the Department) and the Education and Skills Funding Agency (the ESFA) on managing the financial sustainability of colleges.1

Financial pressures are affecting provision for students. They have caused some colleges to narrow their curriculum and reduce the length of courses. Some FE colleges have significantly reduced enrichment activities for students, such as careers advice and employability activities, and some are particularly concerned about reduced mental health support for students.13 The Department told us that colleges had been good at prioritising support, and supporting vulnerable students was important to them. It acknowledged, however, that colleges had had to make difficult choices during challenging times, and that it was important for it to remain alive to these issues. The ESFA said that it was looking at students’ experience of being supported and trying to understand their perspectives.14 Pension costs

Staff costs typically account for around two-thirds of colleges’ running costs, and have been rising in recent years. Colleges usually offer the Teachers’ Pension Scheme to their academic staff and the Local Government Pension Scheme to their support staff. Employer contributions to the Teachers’ Pension Scheme rose from 14.1% to 16.48% in 2015 and to 23.68% in 2019. This means that the current contribution rate is 44% more than in 2015 and 68% more than the rate before 2015. The government is providing extra funding to FE providers to cover increased contributions in 2019/20 and 2020/21, but colleges are worried about the affordability of contributions in future years.15

The Local Government Pension Scheme has had a deficit in recent years, and colleges have had to make payments to help cover the deficit, in addition to their standard contributions.16 Committee Members have been told of concerns about the potential impact of the deficit repayments on the balance sheets of otherwise financially healthy 7 C&AG’s Report, para 2.5 and Figure 4 8 Committee of Public Accounts, Overseeing financial sustainability in the further education sector, Session 2015–16, HC 414, 16 December 2015 9 Q 50 10 C&AG’s Report, para 1.15 11 Association of Colleges, para 2 (MCF00001) 12 Q 54 13 C&AG’s Report, para 2.24 14 Qq 57, 59 15 C&AG’s Report, paras 2.19–2.20 16 C&AG’s Report, para 2.20 10 Managing colleges’ financial sustainability colleges. The ESFA told us that the scheme’s deficit had grown to more than £3.5 billion and that, although colleges could negotiate, the scheme provider had the power to impose deficit reduction contributions.17 Payment of VAT

Between September 2015 and March 2017, government oversaw a programme of 37 area reviews of post-16 education and training provision across England. As part of the programme, sixth-form colleges were given the option of becoming academies and, by 2018/19, 24 sixth-form colleges had converted.18 The Department highlighted that there are a number of reasons why a college may choose to become an academy, but acknowledged that one reason may be that, while colleges pay VAT, post-16 academies and other schools do not.19

The Sixth Form Colleges Association has estimated that the requirement to pay VAT means that the average sixth-form college diverts around 4% of its funding away from frontline provision.20 Based on funding data in colleges’ accounts for 2018/19, this would equate to an average of almost £0.5 million per college, or around £20 million per year across all the remaining sixth-form colleges.21

The Department explained that VAT treatment was a longstanding issue and that VAT registration had a range of implications not just the payment of VAT. It said that it had regularly raised the situation with HM Treasury, but did not believe that the issue was a priority for HM Treasury.22 Implementation of T levels

T levels are new technical qualifications which follow GCSEs and are equivalent to three A levels.23 In May 2018, the then Permanent Secretary at the Department had concerns about the feasibility of delivering T levels by the target date of 2020. He requested, and was given, a ministerial direction to proceed to that timetable.24 Delivery of the first three T levels – in construction, digital, and education and childcare – started on time in September 2020, with further subjects to be introduced over the following three years.25

T levels combine classroom learning and ‘on-the-job’ experience during a work placement of around 45 days (20% of the overall time) over the two-year course.26 Committee Members have heard from college principals about difficulties in recruiting students, largely because of the challenge of securing enough work placements, and 17 Q 84 18 C&AG’s Report, para 11 and Figure 8 19 Q 69; C&AG’s Report, para 2.20 20 Sixth Form Colleges Association, Sixth Form Colleges: 2020 Key Facts and Figures, June 2020 21 Q 70; ESFA, College accounts academic year 2018 to 2019, June 2020 22 Q 69 23 Department for Education, Introduction of T Levels, September 2020 24 Q 73; Department for Education, T Levels: ministerial direction, May 2018 25 Qq 60–61; Department for Education, Introduction of T Levels, September 2020 26 Department for Education, Introduction of T Levels, September 2020; https://www.tlevels.gov.uk/students/ about Managing colleges’ financial sustainability 11 their consequent fears about colleges losing income. This situation had been exacerbated during the COVID-19 pandemic as it was difficult for students to undertake physical work placements and the ESFA would not accept virtual work placements.27

The Department acknowledged that the move to T levels was challenging, particularly delivering work placements which were an important element of the new qualifications.28 The ESFA emphasised the additional funding it had given to colleges to create work placements, and said that it had had positive feedback from colleges and students involved in the first T levels. It told us it was working hard to engage with employers, but acknowledged that people did not always know what T levels were.29 It accepted that work placements had become more difficult as organisations had moved to working virtually. It was working with Ministers to explore options, but had to make sure that the quality of experience for students would be maintained.30 27 Qq 37–38, 61, 73–77 28 Q 75 29 Qq 38, 61–62, 75 30 Q 37 12 Managing colleges’ financial sustainability 2 Government funding and support for colleges Funding arrangements

Most college funding follows the learner, and each college’s funding is largely determined by the funding rates per learner and the number of learners it has. Funding for students aged 16 to 19 was by far the largest funding stream in 2018/19, and represented around half of all college income.31 The formula that the ESFA uses to calculate funding for these students is based on student numbers from the previous year, and data for other parts of the formula, such as student retention rates, are taken from two years previously.32

While colleges with fewer students than in the previous year, or with worsening retention rates, benefit from the ESFA’s approach, colleges who recruit more students during an academic year than the number they were originally funded for may not receive full funding for those additional students during that academic year. This will become an increasing problem for colleges if learner numbers start to rise in line with demographic trends for 16- to 18-year-olds.33

The ESFA acknowledged that the FE funding system was complicated and said there were a range of reasons for this including the complexity of the college sector itself, with colleges offering very different programmes and catering for very different groups of students. It told us that it was reviewing various aspects of the funding system including how it used lagged data. It expected the forthcoming White Paper on further education would include a commitment to try to make funding as straightforward as possible.34 Intervention

Colleges’ autonomy means that, for example, government does not have the power to appoint or remove college staff. Colleges can borrow commercially, and they may make financial surpluses or deficits.35 We asked the ESFA whether its intervention powers were adequate. The ESFA said that the combined efforts of its teams and the FE Commissioner ought to be enough, given the funding contracts it had with colleges, so long as they could maintain dialogue. It was, however, theoretically possible for a college to “bury its head in the sand” and to keep the ESFA away until the last minute.36 The Department stressed the importance of supporting good college leaders to make improvements and of building a sector that could sustain itself as far as possible.37

The intervention regime for colleges incorporates a number of phases, from prevention work, through early intervention and formal intervention to, in the most serious cases, 31 C&AG’s Report, paras 1.7–1.8 and Figure 1 32 Q 43; C&AG’s Report, para 2.10 33 Qq 43–45; C&AG’s Report, para 2.10 34 Q 64 35 C&AG’s Report, para 4 36 Qq 107, 112 37 Q 109 Managing colleges’ financial sustainability 13 insolvency.38 At February 2020, the ESFA was intervening in nearly half of all colleges for financial health reasons—84 colleges (35% of open colleges) were in early intervention, while 31 (13%) were subject to formal intervention.39

At February 2020, seven colleges in early intervention had entered it when the policy was introduced in November 2015; 75 colleges had been in early intervention for two or more separate periods; and seven colleges in formal intervention had been there for more than five years, with two of these having been there for more than seven years.40 The ESFA accepted that some colleges stayed in intervention for a long time and said that, sometimes, new issues emerged after a college had entered intervention.41

Between November 2014 and March 2019, the ESFA paid £253 million to 36 colleges which had serious cashflow problems. The purpose of this emergency funding was to help the colleges maintain their teaching and other services for learners. At the beginning of this period, government’s intention was that all the emergency funding would be repayable. However, at March 2020, the ESFA had categorised 39% of the total (£100 million) as non-repayable.42

The ESFA told us that some amounts that were originally given as loans then had to be converted to grants because not enough work had been done at the outset to assess whether there was a realistic expectation of repayment. It explained, however, that if a college did not have the capacity to repay debts, emergency funding had to be given as a grant in order for the college to continue to provide for learners.43 It also said that emergency funding was now subject to stronger governance arrangements, involving HM Treasury, which included an assessment of value for money.44

In January 2019, the Department introduced an insolvency regime for colleges, which applies aspects of corporate insolvency law and involves a special administration regime known as ‘education administration’. The overriding priority while a college is in education administration is to protect the students. Two colleges in Kent entered education administration in 2019—Hadlow College, and West Kent and Ashford College.45

The ESFA confirmed that the administration processes for the two colleges were largely complete, although some statutory duties and administrative tasks remained to be done.46 It estimated that it would have spent more than £60 million on the two cases by the time they were completed. It said that a large proportion of this related to the costs of bringing the colleges’ estates up to a reasonable standard, before other providers took them on. It had also provided a significant amount of emergency funding to pay the colleges’ creditors.47 The ESFA estimated that the cost of the administrators 38 Q 97 39 C&AG’s Report, para 19 40 C&AG’s Report, paras 19, 3.21, Figure 9 41 Qq 99, 104 42 C&AG’s Report, para 20 43 Q 108 44 Q 110 45 C&AG’s Report, paras 3.31, 3.33 46 Qq 102–103 47 Q 92–93 14 Managing colleges’ financial sustainability was £6 million – 10% of the total cost – and was likely to rise further as the process was finalised.48 The Department asserted that, without the insolvency regime, it would have cost over £20 million more to resolve the problems at the two colleges.49

In July 2020, the government published an independent review of college financial oversight by Dame Mary Ney. The review made a number of recommendations with a view to improving the support individual colleges and the sector received, and enhancing oversight and intervention arrangements. Dame Mary proposed a new, more nurturing relationship between government and colleges.50 In written evidence, the Association of Colleges described the existing intervention regime as “very negative”.51 The ESFA acknowledged that intervention—including the use of the word—jarred with the sector. It told us that it was taking action in response to Dame Mary’s report, including moving the FE Commissioner into the ESFA, to present a more joined-up approach to intervention.52 The Department’s strategy for further education

As mentioned above, between September 2015 and March 2017, government oversaw a programme of 37 area reviews of post-16 education and training provision across England. The area reviews aimed to ensure that there was the right capacity to meet the needs of students and employers in each area, provided by institutions that were financially stable and able to deliver high-quality provision.53 The Department told us that the programme had helped to limit the financial deterioration of the college sector.54 However, we note that the sector still faces strategic challenges including sustainability; relevance to local labour markets; accessibility and equity of provision across the country; and clarity of the message about what colleges offer.55

The Department has not had a clear long-term strategy covering the college sector’s role, structure and funding in an integrated way.56 The Department said that there had been individual elements of long-term strategy, such as giving employers more of a voice about skills and reviewing the number of qualifications on offer. It also highlighted that the impact of COVID-19, together with concerns about productivity, meant there was now a huge amount of focus on setting a strategy for further education and skills development.57 The ESFA told us that it hoped the White Paper resulting from this work would be published before the end of March 2021. It said that the White Paper would articulate the role of FE in the education landscape, the importance it must have, and the things it needed to deliver for the future success of the country.58 48 Qq 94–95, 100–103 49 Qq 96–97 50 C&AG’s Report, para 3.14 51 Association of Colleges, para 4 (MCF00001) 52 Qq 97, 104, 111 53 C&AG’s Report, Figure 8 54 Q 114 55 Qq 83, 90, 106, 108–109, 113; C&AG’s Report, para 3.11 56 C&AG’s Report, para 3.10 57 Qq 64, 80 58 Qq 65–66, 89 Managing colleges’ financial sustainability 15