OPINION: Preparing for periodic payments
Will the federal government’s aged care reform package make providers less reliant on bonds? KPMG’s Dr Henry Cutler suggests it might be time for providers to review their current business model.
Above: Dr Henry Cutler
“The accommodation bond is a unique characteristic of the Australian aged care market. Since their introduction in 1997, a large proportion of providers have become reliant on bonds, using them to fund refurbishment, or to repay commercial debt quicker, thereby reducing the cost of capital.
“However, aged care reforms announced by the Australian government may change all this. In its response to the Productivity Commission the Australia government has accepted the need for greater choice over paying for accommodation. From 1 July 2014, residential aged care providers will be required to offer the option of paying with a bond, periodic payment or a combination of both. These will need to be published in a transparent manner.
“There is no doubt that some people will pay periodically. The size of this shift will depend on the capacity for residents to pay a periodic payment and the attractiveness of bonds compared to other investment options. This is because periodic payments will free up assets that would have otherwise been used for a bond.
“Indeed, keeping the former home looks like an attractive alternative investment given the long-run return on housing. The former home is also exempt from the pension assets and income tests if rented out and the resident makes periodic payments. One could imagine people keeping their homes and using the rental income to pay periodically, while capturing capital gains from house price increases. Any shortfall between rent and periodic payments could be made up by other financial products, such as a reverse mortgage or a debt free equity release product. These products are already available.
“Providers reliant on bonds will therefore need to source funds from other means, such as commercial debt or equity investors. If providers find it difficult or expensive to cover their funding gap, they will be eventually forced out of the market.
“Some aged care providers will find it difficult to cover their funding gap. These are likely to be smaller not for profit providers with a heavy reliance on bonds, low occupancy rates, low earnings, and limited management experience. Providers with old stock without the capacity to allow ageing in place may also find it difficult.
“However, a shift to periodic payments will not mean the end of residential aged care. Many markets around the world function well without accommodation bonds, instead relying on commercial debt or equity to raise funds for aged care investment. For providers who exit the market there will be others quick to take their place. These providers are likely to be larger organisations with experienced management and access to funds through cash reserves or easy access to debt.
“There are some steps that can be taken now to prepare for any shift to periodic payments.
“Providers should gain a good understanding of their cost structures to ensure accommodation and care is appropriately priced. They should review their business model and focus on building the strength of their management team.
“Providers must also be competitive. This may require taking the opportunity to improve accommodation facilities now, build greater service differentiation, or implement robust reporting and management systems. Most importantly, providers should ensure they deliver better quality care compared to facilities in the same area. This crucially relies on good quality facilities and a happy workforce.”
Dr Henry Cutler is a director – health economics leader- at KPMG
Henry, thank you – you make some interesting points in relation to bonds vs alternatives. I’d like to take a more basic approach as someone who has spent over 15 years trying to make the numbers add up. Frankly I don’t care which way the income is derived as long as there is adequate income to cover the real costs. Currently there is no real recognition of the true cost of capital – whether one has equity or debt – a return on funds invsted needs to be made to provide a return on equity or repay debt. There continues to be nothing in policy that alleviates this position.
Generally, residents can pay a bond or a periodic charge or a combination of both – NOW. There is nothing in the Government announcment that would increase the proportion of periodic payments relative to bonds. Indeed to the contrary, the introduction of bonds in high care and the announced price controls on super bonds is likely to increase the incidence of payment of bonds relative to periodic payments.