In conversation with Aileen Murphie: the road ahead for local government finance

Local council services are currently being delivered with 50% less central government funding than in 2010. In your view, how have councils been able to manage with less money and rising demand?

Our latest reports into financial sustainability have shown that local government has responded in a number of ways to the reductions in government grant since 2010. These include one off initiatives like recalculating minimum revenue provision, refinancing existing debt and drawing on reserves. There are reductions in expenditure which are not frontline, including reductions to for example, capital expenditure funded from the revenue account. But also, there have been large percentage reductions in service areas which are not social care: adult social care and children’s services have been relatively protected. Other areas such as planning and development, housing and cultural services have seen major reductions. Councils have been attempting to generate alternative income as well and increasing fees and charges to service users.

Business rates retention has been touted as a possible solution to council funding pressures. To what extent do you think this is true, and why?

In simple terms, if councils get to keep more business rates which are generated locally, then that would in theory make up for continuing grant reductions to 2020. However, there are a number of issues about relying on business rates as a large part of local authority funding which need to be overcome. These include:

Funding social care from business taxes – need vs. yield : The first and perhaps the most profound challenge to business rates then is whether it is the right tax to fund social services for the most vulnerable whose needs are ongoing and cannot be met other than via state funding. Business rates yield varies between areas through accidents of history and geography. Using business rates as a major part of local funding means that there has to be a mechanism for redistribution from areas of high yield to those with low, currently achieved by means of the system of tariffs and top ups.

Variability in the financial position of local authorities that depended most on government grants were affected most by government funding reductions and reforms. This is because of the relatively lower share in the income of grant-dependent authorities made up by other sources, such as business rates. Appeals have led to the creation of large provisions by finance directors meaning the amount of revenue funding available to an authority in a year was reduced until the appeal was settled. There has been a large growth in the backlog of appeals.

Increased economic activity is not linked directly to business rate growth. By allowing local authorities to benefit from growth in their tax base, the government’s expectation is that this should incentivise authorities to adopt planning and economic development practices that promote development and construction. This is expected to deliver economic growth in the form of jobs and increased economic output. But the link between tax base growth and economic outcomes is not direct. One complication is that business rates retention incentivises authorities to increase their tax bases, which is not the same as increasing economic growth. Lastly, there is the question of the differential capacity for growth of different areas. The map of changes in the business rates tax base in England over the last 5 years shows no clear geographical pattern.

Future policy changes could impact the amount of money available in 2020 from business rates. The Department will have to develop an approach that allows it to design a fiscally neutral system in the context of uncertainty over ‘the quantum’ (total money) available to local government by 2020. And apart from uncertainty over the total available and whether local government will have to take on new responsibilities as well (part of the original plan), governments over time have granted various kinds of reliefs for various favoured causes. It is not clear that HM Treasury takes into account the potential effect on the local government sector as a whole or the loss of revenue to individual authorities at a granular level. This makes the quantum vulnerable to policy changes on the run up to 2020 or afterwards.

Implementation The implementation of even 75% business rate retention scheme is complex and difficult, needing expertise and experience. If nothing else, the recent overpayment of £36m to pilot areas caused by an error in a spreadsheet illustrates that. There are a range of granular decisions on significant issues still to be taken, including the division of business rates within two-tier areas, the level of the safety net to prevent large falls and windfall rises, the proportion of growth that could be retained at a partial reset and precisely how a central approach to appeals would work.

Time is an issue: the Fair Funding Review on a new distribution formula for local government is due to be implemented in 2020-21 at the same time as increased reliance on locally retained business rates. There are interdependencies between the two projects which need to be properly understood as do the implications of decisions in one project which could affect the other. Time is also an issue for the business rate retention pilots to ensure that knowledge from the pilots can be properly evaluated and understood.

When adopting income generation strategies, what are the current challenges faced by councils?

There are a number: capacity and capability within the council; the opportunities presented locally and what the best way of maximising those are; the financial position of local partners who might want to be involved; the skills and economic potential available in each area.

What advice would you give to councils before they begin to approach income generation?

Bear in mind what auditors will be looking for locally: the VFM guidance under which auditors would consider whether In all significant respects, the audited body takes properly informed decisions and deploys resources to achieve planned and sustainable outcomes for taxpayers and local people

Aileen Murphie is the Director of Local Government Value For Money at the National Audit Office, and will be speaking in more depth about how local authorities can achieve financial sustainability, at the Public Sector Solutions Expo on 20 November. To register or find out more, please click here.