Select Committee on Office of the Deputy Prime Minister: Housing, Planning, Local Government and the Regions Ninth Report

1 Introduction

Historical background

1. Property taxation has existed in Britain for many centuries, though its modern form is widely held to derive from the 1601 Poor Law. As local government developed during the nineteenth century, local authorities were given the power to levy a property tax, or "rate", to fund their services. At this time, the right to vote was related to property ownership and it was decided that it would be appropriate to tax property owners as it would be they who benefited from locally-provided services.

2. Opposition to local taxation, or to aspects of its impact, emerged almost from the start. A number of politicians opposed the real or imagined profligacy of local government and the size of rates bills. Conservative politicians, notably Lord Salisbury, and Labour thinkers such as Sydney Webb questioned either the size of rates demands or their impacts on individuals, or both. In the 1920s, George Lansbury, as leader of Poplar Borough Council, effectively refused to levy part of the local rate on the residents of the borough.

3. From the early twentieth century central Government began to subsidise local authority services by grants or reimbursement of expenditure. After 1945, a significant proportion of the Welfare State developed within local government, with a consequent increase in council spending on services such as education, personal social services and social housing. Although central government significantly boosted central support for local authority spending, rates increased in real terms. By the 1960s, a small subsidy (the "domestic element") had been introduced to reduce the size of household rates bills as compared to those paid by non-domestic ratepayers. However, the growth in inflation during the early 1970s pushed local taxation up to far higher levels than had previously been the case. In 1974, the average increase exceeded 30%.

Layfield Committee

4. As a response to the adverse political reaction to such huge rates rises, the government set up an inquiry into local government finance, chaired by (later Sir) Frank Layfield QC. The Layfield Committee reported in 1976, offering the Government a choice between a more centrally-controlled system of local authority finance or a system with greater local autonomy. The latter system, favoured by a majority of the Committee, would have required a significant increase in local financial autonomy and the introduction of a new source of local revenue.

Community Charge

5. In the event, no local tax reform took place. The post-1979 Conservative Government published a Green Paper in 1981 which considered alternatives to the domestic rates, including a local income tax, local sales tax and a poll tax. Once again, no reform occurred. A second consultative paper, published in 1986, proposed the introduction of a poll tax as a replacement for the domestic rate, though it was now re-named the "community charge". The charge was introduced in Scotland in 1989 and England and Wales in 1990. At the same time, the non-domestic rate became a nationally-determined "assigned revenue".

6. The community charge was short-lived, largely because of its unpopularity, though also because it was difficult and expensive to collect. In 1991, the government reduced the charge by £140 per head, transferring the burden on to Value Added Tax, which increased from 15 to 17.5%. A further review of local government taxation led to the replacement in 1993 of community charge by the council tax.

Balance of Funding

7. Following the decision to transfer the non-domestic rate to Whitehall control and also the £140 reduction in community charge, the proportion of local authority resources raised from local taxation had slumped to just 20% of revenue income. Although this proportion has now risen to 26%, there is still a significant problem for local government when raising revenue - each 1% on or off expenditure leads to a 4% increase or decrease in local taxation. This "gearing" effect has meant that as successive governments have encouraged aggregate local authority expenditure to rise slightly faster than the equivalent central support towards that spending, council tax has risen far more rapidly than spending. Many individual council taxpayers have faced significant real increases in their council tax bills. Just as in the mid-1970s, there have been demands for reform to the system of local government finance.

8. Such demands were originally concerned with local government freedom. However, the size of local tax increases, particularly in early 2003, has shifted the focus of concern, and has led to a degree of popular dissatisfaction with council tax among taxpayers, although it remains the favoured means of raising revenue in local authority circles.

9. In its December 2001 Local Government White Paper "Strong Local Leadership - Quality Public Services" the Government had already committed itself to establishing a high-level working group to consider in detail issues arising from the current balance of funding and options for change. Over a year later, in January 2003, the Government announced Terms of Reference for the review and a start date of April 2003. The steering group, consisting of senior figures from local government, academia, Ministers and expert officials, and chaired by the Minister for Local and Regional Government, has met eight times. It has commissioned a number of interesting and useful research papers, available on the internet. The intended output is a report drafted by the ODPM secretariat, summarising the issues discussed and setting out the pros and cons of a range of options for changing the balance of funding. We commend the ODPM for its commitment to transparency on the progress of the review and for making a range of working papers publicly available, including the steering group minutes.

10. In February 2004 the ODPM Select Committee resolved to conduct an inquiry into local government revenue in order to inform the public debate. The Terms of Reference were published on 26 February 2004:

The Committee has resolved to undertake an inquiry into local government revenue, looking in particular at the following:

• What is the role and purpose of Government grant in ensuring adequate local government revenue?
• Is the current balance between centrally and locally raised revenue appropriate?
• Should businesses contribute directly to local services?
• Is the council tax a viable and adequate source of local revenue?
• What other local taxes might be acceptable? (e.g. a congestion tax, workplace parking tax, tourist tax, earnings related tax or sales tax.)
• Should there be a ceiling on local government expenditure and taxation, and if so how should controls operate?
• To what extent does central Government control or influence contribute to local government expenditure and taxation?

We received more than thirty written memoranda, and held five public evidence sessions, taking evidence from a wide range of organisations and individuals, including Ministers from the ODPM, the Treasury and the Department of Education and Skills.

11. We are grateful to our advisers, Professor Tony Travers and Rita Hale, to Kirstin McLarty and to the House of Commons Scrutiny Unit, all of whom contributed greatly to our inquiry.

Principles

12. We have identified from evidence received several guiding principles for any system of local government finance -

• equity: it must be fair and be seen to be fair: as between different authorities, within individual authorities, and in its impact on individuals;
• simplicity: it must be relatively easy to collect, and as easy for a taxpayer to understand as is compatible with equity and accountability;
• flexibility: it must be adaptable to changing economic and constitutional circumstances;
• transparency: it must provide for a visible link to local levels of expenditure.
• accountability: it must allow for authorities who raise and spend money to be, and be seen to be, accountable to the people they serve.

Accountability

13. The relationship between accountability and the power to raise revenue has been relatively neglected since the Layfield Commission published its report in 1976. As Professor McLean and Dr. McMillan noted, "The 'Layfield hypothesis' suggests that turnout and the democratic accountability of local government are crucially affected by the structure of local finance".[1] Research commissioned for the Balance of Funding review from Professor Colin Rallings from Plymouth University in October 2003 suggested that there was no correlation between the two.[2] Earlier research by Professor John Gibson of Aston University, for the Scottish Parliament Review of Local Government Finance in 2002, reached a different conclusion.[3] The Local Government Association also stated that:

"The current local government finance system, whereby local authorities receive 75% of their funding from central government through grants and redistributed business rates, creates a dependency culture, impacts on local government expenditure levels and priorities and causes disproportionate council tax rises where central government funding is insufficient."[4]

14. The relationship between exercising a democratic right to vote and the current system of council tax is not straightforward. Guy Palmer from the New Policy Institute warned:

"My worry is that the assumption that is made is that by simply increasing the amount of money that is raised locally will result in substantial increased local accountability, whereas I think the equation is more complex than that."[5]

Peter Kenway from the New Policy Institute stated that:

"[…] the council tax is a very regressive tax and that means that the burden falls disproportionately not on the very lowest incomes because of council tax benefit but on the group who suffer most, which are the low paid in work. This has two effects as far as accountability is concerned. The first is that I do not see how families for whom council tax may be higher than income tax, which is indeed the case for families working at £5 an hour, can ever realistically be expected to be in favour of an increase in council tax. I do not see how they can exercise a democratic choice, they are not in a position to do so. Secondly, and related to that, local authorities themselves recognise that problem and feel under pressure."[6]

Consideration of how local revenue should be generated, and from whom, and how central and local financing should be balanced are intrinsically linked to the question of accountability, and ultimately the future of local government. Enhancing the accountability of local authorities to the people they serve is at the heart of the balance of funding debate.

Constitutional Change

15. The "thorough review" of the funding of local government in England represented by the Balance of Funding Review comes against a backdrop of constitutional change at every level:

• the European Union has an interest in taxation and, as never before, constrains the freedom of national governments, particularly but not exclusively on sales tax (VAT) rules and rates;
• asymmetric devolution within the four constituent parts of the United Kingdom provides models close to hand of different systems for financing local government, in the case of Scotland extending to a "tax-varying power" on the basic rate of income tax for Scottish taxpayers: a power not yet used, but of potent symbolism;
• the establishment of the Greater London Authority and the pending establishment, subject to democratic process, of one or more elected regional assemblies in England, which may seek to be more than machinery for the distribution of central funds, and to raise significant local revenue by precept adds to the complexity of existing arrangements;
• the introduction in recent years of a range of additional new measures in local government has provided at least in theory more freedoms and flexibilities, such as retention of some income, a single pot for capital, and congestion charging, matched by the requirements of Best Value and the Comprehensive Performance Assessment;
• any fundamental review of local government finance will touch on constitutional matters. Apart from Parliament, local government is the only institution in England with democratic legitimacy. The "balance of funding" between local taxation and centrally-determined sources will affect local authorities' capacity to act autonomously and, therefore, the extent to which they can be a check or balance on the power of central Government. Thus, any decision to give local government access to a larger proportion of national tax-setting capacity, or to reduce the scope of local authority spending responsibilities, will impinge upon the existing constitutional balance. Just as government initiatives in the House of Lords, the judiciary, and regional government human rights legislation have had or will have constitutional implications, so any change to local government's financial autonomy or responsibilities will impact on the balance of power between different elements of the State. The Balance of Funding review should be seen in this light, as should this report. Reforms that strengthen and support local democracy will enhance the constitution. The reverse is also true.

Local Authorities and People

16. Individuals and families rarely "belong" to one particular place, and few of us pay much regard to local authority boundaries in our daily lives. Particularly in urban areas, many people work in one authority and live in another. People use cultural and leisure facilities which may well be run by yet another authority. In their daily lives, people rely on environmental health, trading standards and other similar services provided by authorities other than those in which they have their home, although it is there they pay their council tax. There is much to be said for the "new localism"; but the reality of the increasing geographical mobility of individuals, and the complexity of their requirements for "local services", cannot be overlooked.

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1   LGR B/P 13 Prof. Iain McLean & Dr. Alistair McMillan (2003) 'New Localism New Finance p18 Back

2   BoF (11) October 2003 'Overview of research' ODPM Back

3   SP Paper 551 Session 1 (2002) Submission from Prof. John Gibson, EFG Research and Business School, University of Aston Back

4   Ev 26 HC 402-II [Local Government Association] Back

5   Q 2 [Guy Palmer, New Policy Institute] Back

6   Q 2 [Peter Kenway, New Policy Institute] Back

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Prepared 16 July 2004