Memorandum by the Audit Commission (LGR
21)
1. The Audit Commission welcomes the opportunity
to submit evidence to the Committee's inquiry into local government
revenue.
2. The Audit Commission has responsibility
for promoting the best use of public money by ensuring proper
stewardship of public finance and by helping those responsible
for local public services to achieve economy, efficiency and effectiveness
on behalf of the communities they serve.
3. We have knowledge of the workings of
local public services through the work of our auditors and inspectors.
We also understand the issues that cut across local public services
because of our involvement in auditing and inspecting a range
of areas. The introduction of Comprehensive Performance Assessment
in local government, and proposals for it to be extended to other
areas, has in particular increased our understanding of the factors
that affect the performance of local government.
4. The Audit Commission also has a history
of commenting on the way in which funding affects provision of
local services. Eleven years ago, in "Passing the Bucks",
we reported on the difficulties councils had then in reconciling
their programmes of activity with resources allocated to them.
[5]More
recently, we reported last December on the reasons for high council
tax increases in 2003-04. [6]We
are currently carrying out work on education funding issues, looking
at how far changes that have been made to education funding arrangements
for 2004-05 and 2005-06 go toward addressing the school funding
problems experienced in 2003-04. We also submitted our views on
the issues that should be taken into account in the balance of
funding review in September 2003.
5. Findings from our local work are that
local public bodies in local government and health are generally
carrying out their stewardship responsibilities well. But:
— They are generally not good enough
at strategic finance, including medium to longer term financial
planning, linking financial planning and service planning, and
re-prioritising resources by disinvesting in lower priority services
in order to invest in higher priority services. [7]
— Institutional barriers to flexible
use of funds continue to get in the way of effective partnership
working.
— Ring-fencing of grants and other
targeting of funds—including the requirement to passport
funds to education—do not promote efficient and effective
resource allocation at a local level.
— There is a lack of accountability
to local people about how money is spent on local services.
6. The system of finance cannot resolve
these problems but it can help support the kinds of behaviours
that lead not only to good stewardship, but also to effective
service and financial planning, good partnership working, efficient
use of resources, and public accountability.
7. Based on our work on council tax rises
and education funding, we consider that:
— Predictability and stability in funding
are needed to ensure that the national funding system does not
get in the way of delivering economic, efficient and effective
services locally. This is particularly the case where the majority
of funding is provided nationally but could also apply where a
significantly smaller proportion of funding comes from national
sources.
— Clarity and openness about the basis
of national funding systems, and acceptance that these are not
subject to short-term manipulation, are key to acceptance of outcomes
from funding decisions. In our report on Council Tax increases
in 2003-04, we suggested the Government should be more transparent
about the basis for funding decisions. A more radical option to
increase transparency would be for an independent grants commission
to allocate resources—after government had determined the
total amount to be allocated. [8]
— Whilst grant distribution requires
some form of national needs assessment, decisions about spending
levels should primarily be taken at a local level. "Whitehall
knows best" does not work. We set out our views on this in
relation to national targets in our publication on targets in
September 2003. [9]We
believe the same applies to finance.
— Local bodies need to consult and
communicate better with local residents. The best already consult
and communicate well. But the funding regime makes that difficult.
And it provides an excuse for those with less of a commitment
to effective consultation and communication.
8. Predictability, stability, openness,
and flexibility could promote better value for money and accountability
locally. These could be implemented without changing the balance
of funding or reforming the tax system.
9. But the current balance of funding does
not help. It is predicated on government decision being the primary
determinant of what has to be spent at a local level. And, by
limiting the revenue raised locally, it:
— disguises the connection between
what is spent locally and the taxes raised to fund this; and
— exaggerates the relationship between
changes in spending and changes in the amount of funding that
needs to be raised locally, most dramatically, through the gearing
effect.
10. The issues we have set out above provide
the context for our comments on the issues the Committee propose
to address. Our comments on these issues are as follows:
THE ROLE
AND PURPOSE
OF GOVERNMENT
GRANT IN
ENSURING ADEQUATE
LOCAL GOVERNMENT
REVENUE
11. Government grant has a pivotal role
in ensuring adequacy of local government revenue in the English
local government system because of centralisation of decisions
on service provision and the inadequacy of council tax as the
primary source of local income for councils.
12. Our work on council tax rises in 2003-04[10]
found that pressures on local spending as a result of government
decisions were one of the principal factors that led to high increases
in council tax in 2003-04. We noted, amongst other things, the
impact on local spending decisions of:
— national targets to determine not
only what the expected outcomes are, but also how they need to
be achieved[11];
— determination nationally of local
spending levels. This particularly applies to schools' spending—which
accounts for 40% of local government spending—but is also
seen in the increasing level of ring-fenced funding provided to
local government in recent years;
— regulation, including the impact
of recommendations from inspectorates to improve services.
13. While decisions on level of services
to be provided are centralised, government grant inevitably has
a role in ensuring adequacy of funding.
14. In order to achieve a change in the
balance of funding, the Government would also need to devolve
spending and funding decisions. Government grant would need to
continue to be provided to allow equalisation for different needs
and resources. It could—and should—have a much smaller
role in ensuring adequacy of local revenue, but only if there
is devolution of decision making on services.
THE APPROPRIATENESS
OF THE
CURRENT BALANCE
BETWEEN CENTRALLY
AND LOCALLY
RAISED REVENUE
15. Currently 74% of local government funding
is controlled nationally and 26% locally. As we pointed out in
our report on council tax increases in 2003-04, this results on
average in each additional 1% spent by local councils above what
the Government has allowed for in its grant settlement adding
4% to local council tax bills. As a result, councils' decisions
to spend more or less than the Government builds into finance
settlements have a magnified effect on council tax increases or
reductions. In addition, redistribution of grant between councils,
unless matched by changes in spending, also has a magnified effect.
16. It is not the balance of funding alone
however that causes lack of accountability. Accountability would
be enhanced if:
— there was less national prescription
about what local government has to do and spend;
— there was more clarity from national
government about what it had allowed for in the national grant
settlement;
— there was more stability and predictability
of grant funding; and
— councils themselves improved consultation
and communication with residents about council tax and budget
issues.
17. There are three broad options for resolving
the current imbalance of funding between national and local sources,
as follows:
— The first would be to increase the
amount of funds that can be raised locally to fund the current
range of services that are provided by local government. This
could only be achieved by increasing the yield from council tax
or identifying other new sources of local income. This is the
most obvious way of redressing the current imbalance of funding;
it begs the question however the viability or acceptability of
raising the yield from council tax, re-localising the business
rate or introducing new forms of local taxation.
— The second would be to review the
responsibilities of local government to align them more closely
with resources raised locally. If this simply involved removing
responsibility for certain functions, such as school funding,
then there would be a clear reduction in accountability. But there
could be alternative approaches which could enhance local democratic
accountability. The current arrangements where certain services,
such as health, are funded nationally, and others, such as education,
are funded locally follow the pattern of local government responsibilities
rather than the nature of the services themselves. Local democratic
accountability could be increased by giving local councils, in
partnership with other local organisations, increased ability
to determine the allocation of funds within sectors at a local
level—and the ability, with local agreement, to transfer
funds between sectors. Council tax could be used to fund primarily
local services aimed at promoting local social, economic, and
environmental well-being, and to top up funds allocated to national
services, including health and education.
— A third option would be to leave
local government responsibilities and ability to raise tax largely
unchanged but to amend the grant regime to reduce or eliminate
the gearing factor. This option was set out in a paper by CIPFA
to the balance of funding review. [12]The
advantage of this approach would be that it would help address
the gearing factor with minimal change to other aspects of the
local government finance system. But this system was tried in
the 1980s and the complexity of the system, together with the
uncertainty, perverse incentives and creative accountancy it gave
rise to, suggests that careful consideration would have to be
given before this system was tried again.
BUSINESSES CONTRIBUTION
TO LOCAL
SERVICES
18. Business rates account for 22% of local
authority income in 2003-04—transferring them back to local
authority control would increase the proportion of spending funded
locally from 26% to 48%.
19. However, there are powerful arguments
for not transferring business rates fully back to local government
control, including the unequal distribution between local authority
areas with a resulting impact on resource equalisation and differential
gearing ratios, and legitimate concerns about the potential impact
on local businesses.
20. The issues on return of the business
rate to local control were covered in papers by the Local Government
Association[13]
and the Confederation of British Industry to the balance of funding
review and we do not intend to repeat them here. [14]
21. The introduction of the business growth
incentive scheme provides an incentive for councils promoting
business creation in their areas. The introduction of business
improvement districts also provides a basis for improved engagement
between councils and businesses which will benefit local areas.
22. The pegging of increases in the business
rate multiplier to the rate of inflation since 1990, at a time
when there has been significant overall growth in the economy,
has deprived local government as a whole of a considerable source
of income. The shortfall has had to be made up by a combination
of general taxation and local taxation.
23. There is a good case for reviewing ways
of ensuring that increases in the local business contribution
to local government costs increase more in line with increases
in wealth in the economy than they have done in the past. This
could involve reviewing the basis for setting the annual increases
in business rates at a national level. Or consideration could
again be given to local councils being able to supplement the
rate poundage within specified limits.
VIABILITY AND
ADEQUACY OF
COUNCIL TAX
AS A
SOURCE OF
LOCAL REVENUE
24. Council tax is simple to calculate;
it is transparent (even if the arrangements which give rise to
the level of tax and changes to it tax are not); it is easy to
collect; and, as the principal tax on property, it widens the
overall national tax base and spreads the tax burden. Whilst council
tax in its current form is not popular, it is unclear that its
replacement by another tax would lead to more public acceptance.
Reform, as a way of increasing viability, should be considered
as an alternative to replacement.
25. The New Policy Institute, in its report
on the reform of council tax to the Balance of Funding Review
meeting on 15 January 2004, [15]identified
options which would help to address some of the existing weaknesses,
including making council tax more progressive, addressing the
planned revaluation in 2007, and increasing take up of rebates
by those entitled to them.
26. Revaluation remains a thorny issue.
There have been no revaluations of council tax since it was introduced
in 1990-91. When revaluations do happen, as is proposed for 2007,
there can be significant and relatively arbitrary changes to the
amount of tax that has to be paid in different areas and on different
types of property.
27. Reform of the council tax will lead
to losers and winners. Reform should be implemented at the same
time as revaluation—and there would need to be a clear distinction
between the impact of reform on the bills and the impact of local
spending decisions. And there have to be clear decisions about
the arrangements that apply thereafter, including the introduction
of a system of regular/rolling revaluations.
28. Adequacy of council tax needs to be
considered in the context of consideration of alternative approaches
to achieving increases in the proportion of revenue raised locally.
ACCEPTABILITY OF
OTHER LOCAL
TAXES EG
A CONGESTION
TAX, WORKPLACE
PARKING TAX,
TOURIST TAX,
EARNINGS RELATED
TAX OR
SALES TAX
29. The balance of funding review set as
its criteria for assessing new local taxes: impact on the balance
of funding, local accountability, progressivity, evenness of distribution,
buoyancy, in-year predictability and collectability/administrative
ease.
30. We would add to these a judgement about
whether the tax itself helps achieve local community objectives.
The evidence of the congestion charge in London is that a local
tax can both yield income and produce community benefits. Work
carried out by the Audit Commission on charging for local government
services identified the scope for local councils to become much
better at linking overall charging policies to corporate objectives.
[16]
31. The introduction of new local taxes
would require increased openness about accounting for local government
funding. The current artificial distinction between fees, charges,
and direct grants, which are included in councils' net budgets,
and central government grant and non-domestic rates, which are
excluded, does not promote accountability. The addition of new
taxes risks further confusion and obfuscation, unless there are
clear requirements on councils to present information in an open
and transparent way.
32. Congestion taxes, workplace parking
taxes or tourist taxes would only affect local government income
at the margins and would not significantly change the balance
of funding. This is not the case with local sales taxes or local
income taxes. These could have a fundamental impact on the balance
of funding. A key consideration in the introduction of new taxes
of this kind would be the extent to which they were open and transparent,
and increased accountability to local citizens.
CONTROLS ON
LOCAL GOVERNMENT
EXPENDITURE AND
TAXATION
33. If councils are properly accountable
to local citizens for the spending and taxation decisions they
make, there should not be a need for centrally imposed ceilings
on spending and/or taxation through capping or similar mechanisms.
34. Under the current system of local government
finance it is very difficult for council tax payers to understand
the relationship between councils spending decisions, their delivery
of services and the level of council tax that councils raise.
In 2003-04, there was no clear relationship between the increases
in a council's budget and its council tax increase, largely because
of changes to grant distribution. Councils themselves tend not
to be good at communicating what they are spending additional
money on. And the passing of blame for council tax increases or
budget reductions between central and local government adds to
the confusion.
35. This absence of adequate local accountability
provides a justification for centrally imposed limits on spending/council
tax. But these are inevitably crude and do not reflect local circumstances.
They are also not sustainable if the intention is to increase
local democratic accountability.
36. The arbitrariness of the mechanisms
is demonstrated to some extent by the different forms that capping
controls have taken. The capping controls operated in the 1980s
and 1990s were controls on spending. When they applied universally,
most councils spent at the level determined by the capping controls.
Following the introduction of revised capping controls in the
1999 Local Government Act, the controls applied to council tax.
Both approaches should from a commonsense point of view lead to
the same result—but they do not because of the impact of
differences in gearing factors and changes to grant distribution
which distort the connection between spending and council tax
changes. Both are arbitrary and get in the way of democratic accountability.
37. Transparency at a national and local
level, stability and predictability of funding mechanisms, and
reduced micro-meddling in local spending decisions would all lead
to increased accountability. Capping may be thought necessary
when other forms of accountability are missing but is a poor substitute
for real local accountability.
CONCLUSION
38. The current arrangements for funding
local government do not promote accountability and get in the
way of efficient and effective use of resources at a local level.
39. There are various measures that could
be taken within the existing system to increase accountability
and promote improved efficiency and effectiveness. These include
increased predictability and stability in the grant regime—including
extended notice of changes to funding, use of grant floors and
ceilings, longer term grant settlements, and increased transparency
about the basis for the settlements. They also include less central
specification through the use of national targets of locally provided
services and less central control over spending by local government,
including reviewing the approach to pass-porting of schools formula
spending share and reduced use of ring-fenced grants.
40. But the current situation, whereby 74%
of local government funding is in the form of grant, is not sustainable
in the longer term. The most obvious way of addressing this is
by giving local government increased access to local sources of
income—although alternatives, including realigning service
responsibilities of local government, could be considered so long
as this was within a framework of increasing overall local accountability
for the provision of services locally.
41. The Audit Commission does not believe
the council tax should be abolished. Workable proposals for reforming
the council tax are being considered by the balance of funding
review which could address short-comings with the tax, including
making it more progressive and increasing take-up of rebates by
those who cannot afford to pay. If council tax were more progressive,
it would make it more feasible for it to meet a higher proportion
of local spending need.
42. The return of business rates to local
control would change the balance of funding but would introduce
new problems including increased variations between authorities
of resource base. There are also legitimate concerns from businesses
about the extent to which local councils could vary the local
business rate multiplier. There is a case however for reversing
the historic decline in businesses' contribution to the cost of
local services since the national business rate was introduced
and also in giving councils some—but not unfettered—access
to the business rate.
43. The introduction of new taxes and charges,
which could be related to the achievement of local social, economic
and environmental objectives, is feasible, but there would need
to be clearer accountability for where income comes from if this
happens—otherwise the public will see new charges being
introduced without being aware of how they are being used to fund
local services. The most significant change to the balance of
funding would be achieved if a local sales tax or a local council
tax were to be introduced. However, such changes should only be
contemplated if it was clear that they could be introduced in
such a way that accountability to local citizens was increased.
5 Passing the Bucks: the impact of standard spending
assessments on economy, efficiency and effectiveness, Audit Commission,
1993. The first Audit Commission publication on the grant system
was in 1984 when we reported on "The impact on local authorities"
economy, efficiency and effectiveness of the block grant distribution
system. Back
6
Council tax increases, 2003-04: why were they so high? Audit
Commission, 2003. Back
7
Difficulty in moving resources from one service to another is
caused, amongst other things, by public loyalties to existing
provision and especially buildings. Back
8
The Audit Commission suggested an independent grants commission
as one way to increase transparency in "Passing the Bucks"
although we also noted that experience overseas suggested this
did not necessarily resolve political issues surrounding decisions
on public spending and taxation. Back
9
Targets in the Public Sector, Audit Commission, 2003. Back
10
Council tax increases 2003-04: why were they so high? (Audit Commission,
2003). Back
11
Details of how the Government uses national targets and proposals
for limiting their use to specifying a limited set of expected
outcomes for citizens are set out in the Audit Commission publication,
Targets in the Public Sector (Audit Commission, 2003). Back
12
"The balance of funding and gearing-exploring options for
improving the current system", paper by Steve Freer, Chief
Executive of CIPFA, presented to the Balance of Funding Review
on 21 October 2003. Back
13
"Re-localisation of business rates", paper by the LGA,
presented to the Balance of Funding Review on 15 January 2004. Back
14
"Re-localisation of business rates", paper by the CBI,
presented to the Balance of Funding Review on 15 January 2004. Back
15
"Reform of council tax", paper by the New Policy Institute,
presented to the Balance of Funding Review on 15 January 2004. Back
16
The Price is Right, Audit Commission, 1999. Back
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