Where next for local government financial reform?

By David Phillips | 26 June 2017

Last week’s Queen’s Speech inevitably focused on Brexit. A lot of the subsequent media coverage highlighted the Conservative manifesto pledges that were missing: specific changes to the social care means-test; the means-testing of the Winter Fuel Allowance; and plans for new grammar schools. But councils will have noticed another notable absence: a Local Government Finance Bill. With the 2016/17 Bill failing to pass before the election, where does this leave reforms to the local government finance system? 

First up, there is legally no reason why the Fair Funding Review cannot go ahead as planned: changes to the formulas and methods used to assess councils’ funding needs are allowed under existing legislation. But that does not mean the fallout from the election will not affect the review. Politically, delivering it was always going to be difficult. Because it will leave the overall quantum of funding unchanged, gains from the review for one council mean losses for another. And it’s a fair bet that those councils losing will make more of a noise than those gaining, some of whom may think they are still relatively under-funded and should have gained even more. A weakened government may feel less able to rock the boat and create lots of angry losers (and ungrateful winners). So what could it do? 

It could try to find extra money to boost the overall quantum of funding for local government: benefitting winners and losers alike. Talk of the ‘end of austerity’ might make this possible, but there will be many calls for additional funding – not least the NHS. It’s also not yet clear what impact Brexit will have on available revenues.

For less money, the Government could instead target money at the losers by introducing a transitional protection scheme, limiting the scale of year-on-year funding cuts (perhaps to a cash-terms freeze, as is typical for transitional protection schemes for people impacted by benefits reforms). Or it could rely on damping mechanisms, slowly phasing in the gains for winning councils to pay for a slow phase-in of the losses for losing councils. But while damping was always going to be a part of the Fair Funding Review – large overnight changes in funding can be difficult to deal with, for winners as well as losers – if taken too far it would call the entire exercise into question, and risk pleasing no-one.    

Things are more complex for the move to 100% business rates retention. The government could go ahead with the headline policy itself: it is already piloting 100% retention, without new legislation, after all. But a host of changes planned alongside 100% retention do require legislation. Councils would probably be happy to see the back of some of these – such as giving the Government the power to mandate and dissolve pooling arrangements. But they may be less happy about being unable to reduce the business rates multiplier, introduce property-owner business improvement districts (BIDs), or, in the case of mayoral combined authorities, levy an infrastructure supplement. 

One of the biggest complaints councils have with the existing partial business rates retention scheme is the risk resulting from appeals against VOA valuations. IFS research has shown appeals have had markedly different impacts on revenues in different parts of the country, so plans to compensate councils for revenue losses as a result of backdated appeals under the 100% retention scheme, would have sensibly insulated councils from a big risk outside of their control. However, it is unclear whether the necessary compensation payments could be made without new legislation: provisions for such payments were set out in the 2016–17 Local Government Finance Bill. 

If it is not, councils will have to ask whether they want 100% business rates retention, if that means 100% of the risk associated with appeals. Central government should also ask whether a move to 100% retention makes sense in such circumstances. 

If there is a pause, there is a silver lining: a chance for a broader re-think of local government finance and the balance of responsibilities between central and local government. Is retention of the remainder of business rates the right new revenue stream for councils or should they receive a portion of local income tax revenues instead? Should we be focusing on the structure of business rates (and for that matter council tax) rather than the allocation of revenues? Is it sensible to fund an area like adult social care, with rising demand and increasing political pressure for more generous and more consistent service standards, from constrained and varying sources of revenue like local taxes?

So the Queen’s Speech poses more questions for local government finance than it answers. And in-depth debate and analysis remains as important as ever.   

David Phillips is association director at the Institute for Fiscal Studies
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