As the Government proposes a rates cap, councils may be forced to take on more debt if they ‘hope to plough on’ with investments and ‘this would be a credit negative,’ S&P says

Following the Government’s proposal to introduce a cap on rates, credit rating agency S&P Global Ratings says a cap on annual increases in property rates could strain the finances of New Zealand’s “debt-laden local councils.”

“Unless the cap is matched over time with cuts to spending growth, we believe this will be a credit negative for the sector,” S&P Global Ratings said.

Credit rating agencies like S&P Global Ratings assess an organisation’s financial strength, giving them ratings based on their capability and willingness to repay debts.

In a report called New Zealand Local Government Brief: Rates Cap Tightens the Financial Screws released on Tuesday, the credit rating agency said it will update its credit views on each council as plans become clearer.

“As councils prepare their next round of budgets, the impact on credit ratings will hinge on the extent to which they can tighten their belts in a revenue-constrained environment.”

This comes after S&P lowered the credit ratings of 18 councils and three council-controlled organisations by one notch in March, citing councils’ high and rising debt burden and policy uncertainty.

‘Live within your means’

On Monday, Local Government Minister Simon Watts announced the Government would be progressing a rates cap for local councils with analysis suggesting a target range of 2% to 4% increases per capita, per year. This means rates increases would be limited to a maximum of 4%.

The cap will apply to all sources of rates - general rates, targeted rates and uniform annual changes - but will exclude water charges and other non-rates revenue like fees and charges.

Consultation is open until February 2026 and if it goes through, legislation would be enacted in 2026 and be in law from January 1, 2027. There would be a transition period before a full regulatory model would be in place by July 1, 2029.

“Our message to councils is clear: focus on the basics, live within your means and be more transparent and accountable to the communities in which you serve,” Watts said.

Local government debt has increased 'significantly' since Covid-19 pandemic

In March, S&P said; "average deficits after capital accounts breached 20% of total revenue in fiscal 2024."

"Our forecasts point to these deficits remaining around this level over the next three years. Councils have increased their capital budgets to deliver infrastructure for growth, improve quality, and cover rising costs." 

S&P said the sector's debt increased significantly since the pandemic. 

"Total tax-supported debt rose to 197% of operating revenue in fiscal 2024.

"To cater for rising indebtedness in the system, in August 2024 the New Zealand Local Government Funding Agency Ltd. announced changes to its borrowing protocols, including higher debt covenants for 'high growth' councils.

"Increasing the debt ceiling will generally be negative for credit quality across the sector," S&P said in March. 

Among councils to have ratings lowered in March, Christchurch City Council and Wellington City Council had theirs reduced one notch to AA- from AA, while Auckland Council's remained at AA. (See credit ratings explained here).

Potential to exacerbate fiscal imbalances

S&P credit analyst Martin Foo said capping rates could exacerbate fiscal imbalances.

“New Zealand's councils have broad autonomy to raise rates as much as they see fit, and recent annual increases have far exceeded inflation,” Foo said.

“If councils are inhibited in their ability to lift future rates, they could struggle to balance the books.

“Subnational cash deficits and debt ratios in New Zealand are already much higher than global peers.”

The report said this proposed change limits budgetary flexibility for New Zealand councils, many of which they assessed as having above-average flexibility relative to domestic and international peers.

Ten out of 24 have above-average fiscal flexibility, the report said. 

“We reflect this in a positive adjustment to their budgetary performance assessments. We could remove this adjustment if a strict rates cap were enacted.”

The report said underinvestment could be an unintended outcome and that the proposed cap adds to policy uncertainty.

“In February 2025, we lowered our institutional framework assessment on the New Zealand council sector.

“Since then, the central government has unveiled an ambitious slew of proposals to reform the Resource Management Act, supplant regional councils, implement a regulated development levies system, and force councils to prioritise ‘core’ services.”

“The cumulative impact of these workstreams make long-term planning difficult,” the report said.

S&P noted the cap starts in 2029, but monitoring of rates starts in 2027, "presumably to dissuade frontloading of rate hikes."

"Rates inflation was 12.2% in the year to June 2025, the highest in decades. 'Rates,' general rates, targeted rates, and uniform annual charges, are recurrent taxes levied by councils on property owners."

Limited scope to raise non-rates revenue

S&P’s report said councils will need to contemplate cost cuts.

“We anticipate that some councils will downsize (usually discreetly, through hiring freezes or a 'sinking lid' policy), reduce levels of service, or seek other efficiencies," Foo said.

"If councils hope to plough on with large capital investment programs, they may be forced to take on more debt. This would be credit negative."

The report said there is limited scope to raise non-rates revenue.

“At most councils, rates revenue represents about one-half to two-thirds of total income. Some councils could partly offset lost rates revenue by lifting parking fees, bus fares, and other user charges.”

“However, many other revenue lines, like consenting fees and development contributions operate on a cost recovery model under legislation,” the report says.

The report also notes that how exemptions are assessed will be important.

Under the Government’s proposed rates cap policy, councils won’t be able to increase rates beyond the upper end of the band - unless they get permission from a regulator that is appointed by the central government.

Watts said permission would only be granted under extreme circumstances such as a natural disaster, and councils will need to show how they plan to return to the target range.

And if councils need to raise revenue to pay for things outside of extreme circumstances - for example, catching up on past underinvestment in infrastructure - they will need to apply to a regulator for approval.

Councils, again, would need to give justification and show how they plan to return to the target range over time, Watts said.

The report said as severe weather events become increasingly common and with many councils wanting to renew ageing assets, “the regulator’s amenability to exceptions could be a crucial credit consideration”.

“Councils are not homogenous. A one-size-fits-all cap could heap pressure on those councils that need revenue growth the most.”

Limiting capacity to borrow and invest

On Tuesday, regional councillor and chair of Greater Wellington Regional Council Daran Ponter said it’s simple economics.

“Like all councils, our borrowing is secured against our rates revenue,” Ponter said.

“Any cap or constraint on rates would limit our capacity to borrow and invest in essential infrastructure for environment management, flood protection and land management, provision of regional parks, and public transport.”

“The mere signal of change has not been well received by international financial and market indicators. Any resulting future credit rating changes will result in an increase in our financing costs,” he said.

Ponter said this would stop progress and major investment in the Wellington region and that approximately $90 million in infrastructure spending represents 2% on rates.

Mayors have also spoken out about the proposal.

Auckland mayor Wayne Brown told RNZ: “Councils are faced with making decisions that involve significant investment and should not be restricted by [central] government telling us what we can and can't do.”

"I'm an advocate for getting value for money for Aucklanders. That means knowing the problem we're fixing before we fix it. Putting a cap on rates isn't going to solve anything. It will just defer it for a couple of years then ratepayers will be paying even more.”

Wellington mayor Andrew Little said the proposal may create limits that in the long run, would see a “deterioration of council assets”.

Central Otago mayor Tamah Alley told RNZ: "It will work to reduce the rates rises. Will it work to provide the best services to our communities, to meet their wants and needs? Maybe, maybe not.

"It will mean that we are saying no to our communities more often and it will mean that we are deferring projects that they wanted to see go ahead - but that might be okay if it means that they've got more money in their back pocket."

Following the announcement on Monday, Local Government New Zealand (LGNZ), an organisation that advocates for New Zealand’s local councils, said having a targeted rates band promises greater flexibility but would restrict investment in core services like roads, bridges and public transport.

On October 31 Finance Minister Nicola Willis announced an increase and extension to the Crown Liquidity Facility for the Local Government Funding Agency (LGFA), which is a collective borrowing vehicle for the local government sector. The facility size was increased to $3 billion from $1.5 billion, with its term extended to June 2037 from December 2031.

Willis noted the facility was established in December 2011 when LGFA was created and has never been drawn on.

"The changes will enable the agency to continue to secure competitively priced financing which supports the delivery of critical infrastructure and public services. The increase takes effect today," she said.

‘Stop doing dumb stuff’

Speaking to reporters on Monday afternoon, Prime Minister Christopher Luxon said with central government, you have to make tougher choices and be more intentional about what you’re going to do with the money you have.

“That’s all this will force local governments to do as well.”

 When asked if the Government could guarantee that the services councils provide wouldn't be impacted or diminished as a result of rate caps, Luxon said: "Ultimately that's a decision for each council to make."

"In the same way that families have had to make do with the budgets that they've got and the revenue that comes in, and the income that comes in, they have to deal with their expenses the same way that [central] government is doing that ... We expect local governments to do the same thing."

There needed to be better management, Luxon said. “Stop doing dumb stuff.”

Luxon said there were good mayors running their councils well and doing a great job.

"But there are others that need to step up their game, build their financial literacy, manage their balance sheets better and think about where that money goes."

*Martin Foo was a guest on the Of Interest podcast talking about the current account deficit and sovereign credit ratings in 2023.