The Perils of Local Government Financial Sustainability

There is one thing that virtually everyone in the local government sector would I am sure agree on, which is that the financial sustainability of the sector is in peril. With a decade of reduction in central government funding, especially sharply felt in England, the curre

nt Covid crisis and the fallout from it is placing even greater strain on town hall coffers.

Covid-19 financial pressures for local authorities in England totalled £10.8bn during 2020, as forecast pressures for 2020-21 rose to £12.5bn, according to latest returns submitted to government.

Figures released by the Ministry of Housing, Communities and Local Government show that councils' forecast pressures for 2020-21 at £12.5bn, around £600m more than the £11.9bn predicted at the end of October. The majority of the predicted pressures are a result of additional Covid-19 spending at £6.8bn, with a further £5.7bn from income losses.

Local authorities are still experiencing significant revenue losses amid high levels of

additional expenditure. This is incredibly concerning, even for those councils that entered the pandemic in a strong financial position.

Overall, council spending rose by almost 20% between November and December, from £438m to £531m, in part down to localised restrictions. Additional spending from March to December was £5bn, with around half of that (£2.4bn) coming from adult social care costs.

Just before Christmas the Institute of Fiscal Studies jumped in with its analysis of the provisional local government finance settlement, suggesting that Councils' core spending power will be 3% lower in real terms next year than in 2015-16 once population growth is accounted for.

The IFS warned the cut could be even larger if council tax did not raise as much as assumed next year and said the presentation of the figures by the Ministry of Housing, Communities & Local Government amounted to “double counting” of the £670m extra for council tax support.

Around 87% of the £2.2bn increase in core funding for 2021-22 comes from MHCLG’s assumption that councils make the maximum council tax increases allowed before being required to hold a referendum and that the number of homes eligible to pay council tax next year continues to grow.

The IFS said the government has assumed that even without increases in tax rates, the tax base would grow by about 1.7%, with the trend of reducing claims for council tax support continuing. However, the impacts of coronavirus on employment and incomes means this is not expected to be the case.

This financial strain is certainly not limited to England.

A recent report from the Scottish Accounts Commission said that the financial impact of Covid-19 on councils in 2020-21 is estimated at £767m, with just over half of the amount due to lost income.

They estimate that councils have been allocated £936m in Covid-19 funding for 2020-21 up to November. However, £250m was passed to third party organisations, businesses and individuals, while £134m was eaten up by the decision to reopen schools full time in August.

Local authorities will need to revise their medium-term financial plans in light of the pandemic, to update savings requirements and financial assumptions over the forecast period.

In a recent briefing, COSLA warns that communities in Scotland face ‘unavoidable and damaging consequences’ if local government fails to receive a fair funding settlement this year.

It reveals that Scottish councils have a funding gap of £360m due to the impact of COVID-19 and loss of income.

How is this sustained pressure on local government finances manifesting itself?

In the past month alone, we have seen:

• The Government announcing the first appointments to Nottingham City Council’s improvement and assurance board, tasked with providing external ‘advice, challenge and expertise’ to the council as it gets its finances back on track. This will include the sale of £100m of property assets, as well as the loss of up to 272 jobs to balance the budget in 2021/2022.

• Luton Borough Council predicting a further £30m hit in lost dividend income from Luton Airport over the next two years due to Covid-19, on top of a £16m gap this financial year, creating a ‘major risk to its financial sustainability’. This is in addition to a £16m loss in dividend income last July, led to the council implementing £22m in savings and use of reserves to help balance its budget.

• Gateshead MBC considering cutting up to 155 jobs as it attempts to close a £18.6m budget gap next year. The budget gap for 2021/22 forms part of a longer-term requirement to save £58.4m over five years. A report to members has warned service cuts are inevitable, saying that ‘We can no longer afford to do everything for all residents’.

• North Yorkshire County Council announcing plans to use reserves to absorb the burden of its budget gap next year. The authority’s projected cash shortfall will reach £59m by 2023/24, having faced an extra £82m of spending in response to COVID-19 in the past year. It is proposing to use £8m of reserves while raising council tax by 3.49% including a 1.5% adult social care precept.

• Auditors warning Sutton LBC to be careful about relying too much on its reserves to offset current and future demand and cost pressures. The report said that if the forecast overspends are met by the general fund reserve, this could potentially reduce the general fund reserve balance to £6.3m, and the Council’s general fund and non-schools earmarked fund is already significantly low compared to other London boroughs.

• Lancaster City Council considering successive tax increases and use of reserves to close budget gap. The council estimates it will require £3.8m of reserves to balance its budget this year and is planning to use £2.2m of reserves in 2021/22.

• Wigan MBC considering bringing its leisure centres back in-house in a bid to safeguard jobs following the impact of COVID-19 restrictions. A charity has provided leisure services in Wigan since 2003, including leisure centres, country parks and outdoor education.

• Auditors expressing serious concern over the future viability of Peterborough City Council, which is involved in high level discussions with the Ministry of Housing, Communities & Local Government over support measures to help it meet next year’s budget gap of £36m.

• District Councils Network issuing new forecasts of a £411m total loss during 2020-21 for leisure centres run by district councils alone.

• An increasing number of local authorities in England reporting a dip in parking surpluses, which they warn could impact their ability to fix potholes and tackle congestion.

• Croydon LBC issuing a second Section 114 notice - imposing restrictions on all new, non-essential spending.

• Up to 12 other councils are understood to have made capitalisation requests to the Government and are waiting for decisions.

• The Public Accounts Committee (PAC) warning that more councils will ‘soon be unable to balance their books and be forced to issue Section 114 notices’. The recent PAC report on the whole of government accounts for 2018/19 has said the Government’s ‘exposure as the funder of last resort’ meant the ‘precarious financial position’ of local authorities presented a ‘significant risk’. The PAC report also said the delay in the completion of audits of local government bodies had already led to a ‘lower quality picture of the financial performance and position of the UK public sector than in the previous year’.

On a more positive note, Spelthorne Borough Council’s controversial commercial investment strategy has allowed it to propose council tax freezes next year despite Covid-19 disruption.

The council has been the most high-profile council using cheap government borrowing to buy property, acquiring around £1bn of property assets in recent years. It has been reported that the council has collected 97% of rent due throughout the pandemic, with the balance nearly all made up of rent deferral agreements. There is no question that without the commercial investment strategy, the council would have struggled to provide some specialist services during the pandemic.

A council report last month, said that the authority’s commercial income has allowed it to report a £1.5m underspend on its budget for this year.

From discussion that I have had with some other local authorities that have legacy commercial property portfolios, portfolios that they have owned for decades, the rent collection rates are nowhere near this. This sounds like an endorsement of Spelthorne’s investment strategy, despite the flack they have received from many quarters, including Government.

When he spoke at the Local Government Association finance conference earlier this month, communities secretary Robert Jenrick was still coming out with his ‘mantra’ that councils must curtail the risk of their commercial investments or understand that the government will take a more active role in managing this.

His department’s permanent secretary Jeremy Pocklington set an equally clear tone at a recent CIPFA roundtable for chief finance officers. They stressed the importance of taxpayer funds being used in an appropriate, responsible and accountable way for the benefit of communities.

In an article in Local Government Chronicle this month, Rob Whiteman, CEO of CIPFA, made the observation is that the sector has been very tolerant of those councils ‘misinterpreting’ the Prudential Code, with threats that the Government could curtail borrowing freedoms if problems persist.

At the LGA Conference Mr Jenrick said: ‘A minority of local authorities have been taking excessive risks with taxpayers’ money. The pandemic has exposed the risk of these unwise investments.’ I am not sure that I agree with that.

This Government intervention in the sector reminded me of similar interventions by the former Communities Secretary Eric Pickles back in 2015 when he urged local authorities to stop bleating about not having enough money, and to dip into their reserves to maintain frontline services. A suggestions that all of us at the time knew was ridiculous, and which exposed the lack of understanding at Government level of local authority finance, and financial pressures. We are seeing the same thing now from Mr Jenrick in my opinion.

In the case of the much vilified Spelthorne Borough Council, their investments might turn out to be very prudent indeed, and have provided a financial cushion that others that have not invested so wisely, do not have. Those authorities that have sat on commercial property portfolios for decades without investing properly in them, may well be suffering greater drops in property income.

As I have discussed in previous blogs and articles, the public debate around risk still seems to be focussed on the borrowing risk rather than the acquisition risk.

As we have seen during the current pandemic, the commercial rental income risk is more likely to come from older property portfolios than from the newer property portfolios. It is the older portfolios that have not been invested in for decades, with successive cuts in maintenance budgets, resulting in disproportionately greater market obsolescence. Equally, there are very few examples of dynamic asset management of these ‘legacy’ commercial property portfolios, with limited churn or risk rebalancing.

Perhaps one lesson that will come out of this pandemic and the financial shock that it has created for the local government sector, is that our financial management and asset management have been far too disconnected, and for far too long. The sector as a whole needs to work at connecting that back up, and developing property asset strategies that positively contribute to financial sustainability, and which do not create financial risk.