Financial sustainability of local authorities Contents

1The Department’s understanding of financial risk amongst local authorities

1.On the basis of a report by the Comptroller and Auditor General, we took evidence from the Ministry of Housing, Communities and Local Government (the Department) and local authority stakeholders on the financial sustainability of local authorities in England.1

2.Local authorities provide a range of services such as highways and transport, culture and leisure, and housing. Some services, such as adult social care and waste collection, are statutory duties set by government. Local authorities can also provide discretionary services in line with local priorities, such as economic development or support for tourism. Different types of local authority have different service responsibilities. For instance, only London borough councils, metropolitan borough councils, county councils and unitary authorities have responsibility for adult and children’s social care. District councils do not.2

3.The Department is responsible for distributing the majority of government funding for local authorities. Departmental ministers set the limits on the extent to which local authorities can increase their council tax rates without holding a local referendum. The Department is also responsible for taking the cross-government lead in supporting HM Treasury on decisions about local government funding at spending reviews. Spending reviews determine how much money the Department will have over the following four years, and how much government funding local authorities will receive. The Department also maintains a system of local accountability that assures Parliament about how local authorities use their resources, including preventing and responding to financial and service failure. Local authorities also deliver services that are the responsibility of government departments other than the Ministry of Housing, Communities and Local Government, in which case those departments are responsible for establishing their own arrangements to ensure services are delivered and are financially sustainable.3

4.Local authorities in England have had their funding reduced since 2010–11 as successive governments have sought to reduce the fiscal deficit. Local authorities have also seen increases in demand for key services in areas such as adult and children’s social care.4 The financial position of the local authority sector has worsened markedly since we last looked at this in 2014.5 The breadth of service spending by local authorities was narrowing and becoming focused on a core offer centred on social care.6

Risks to financial sustainability

5.Between 2010–11 and 2017–18 government funding for local authorities fell 49.1% in real terms. Over the same period local authorities’ spending power (government funding plus council tax) has fallen by 28.6% in real terms. Council tax income has grown in this period, which has offset the reductions in government funding to a degree. The level of reductions in spending power varied markedly between different types of local authority, with some metropolitan borough councils and London borough councils having their spending power reduced by over 40%. The reductions have now levelled off and spending power is now expected to stay roughly flat in real terms up to 2019–20 across the local authority sector as a whole.7

6.The reduction in spending power faced by local authorities has coincided with an increase in demand for social care and housing services. Between 2010–11 and 2016–17 the estimated population in need of care aged 18 to 64 in England increased by 9.5%, and the estimated population in need aged 65 and over increased by 14.3%. Over the same period the number of children looked after by local authorities increased by 10.9% and the number of households accepted as unintentionally homeless and in priority need increased by 33.9%. In addition to growing demand for services, local authorities have also had to absorb a range of other cost pressures. These include the National Living Wage, increased employer national insurance contributions and the apprenticeship levy.8 The Local Government Association told us that a combination of increases in service demand, additional cost pressures and reductions in funding will leave the sector with an estimated funding gap of over £5 billion by the end of the decade.9

7.Many local authorities, particularly those with social care responsibilities, began to show potentially worrying signs of being under financial pressure. In 2016–17 local authorities with social care responsibilities as a whole overspent their service budgets by over £1 billion. This was largely attributable to a 10.4% overspend on children’s services, and a 3.7% overspend on adult social care.10

8.In response to reductions in their funding, local authorities can reduce the amount that they spend on public services, reduce other areas of spend, seek new sources of income or use their finance reserves to fill any remaining gaps. An increasing number of local authorities with social care responsibilities are now drawing down their financial reserves, with 66.2% doing so in 2016–17.11 Some of these authorities are drawing down their reserves at a very rapid rate, and 10.6% will exhaust their reserves within three years if they continue to use them at the rate they did in 2016–17.12

9.We asked the Department whether it was worried about the impact of simultaneous reductions in local authority funding and increased demand for services. The Department recognised that the current financial position is hard for local authorities and that growth in spending on social care means that financial risk is increasing in the system.13 However, it nonetheless asserted that the local authority sector is sustainable for the current Spending Review period. The Department said that that local authorities as a whole had built up their reserves prior to 2016–17, and that the Office for Budget Responsibility forecasts that authorities’ use of their reserves will decline. The Department told us that where it identifies that local authorities are under financial pressure then it will respond and put money into the system, such as its new funding for adult social care.14

10.In February 2018, the statutory financial officer for Northamptonshire County Council issued a section 114 notice indicating that the authority was at risk of spending more in the financial year than the resources it had available, which would have been unlawful. The authority effectively put itself into special financial measures. The authority was already subject to an inspection of its financial management and governance ordered by the Secretary of State.15 The Department told us that it has a risk register of local authorities. It would not share how many authorities were currently rated as being at risk, but the Department told us that it did not believe that any other local authority was in the same position as Northamptonshire County Council.16 However, it would not provide an assurance that there would not be any further section 114 notices in this spending review period.17

Defining and assessing financial sustainability

11.The Department is responsible for maintaining a framework that provides assurance about how local authorities use their resources, including understanding risks to financial sustainability in order to prevent financial failure. We asked the Department how it assessed the financial sustainability of local authorities. The Department told us that it does not have a measure of sustainability and it was unable to provide a definition of unsustainable.18 Likewise, it told us that it does not have a threshold figure at which it would be concerned by the share of service spend accounted for by social care.19

12.We asked on what basis the Department asserted that the local authority sector is financially sustainable without being able to measure it. The Department told us that it uses a range of data and information to assess sustainability in the local authority sector. This includes analysis of data on a range of financial measures such as local authorities’ use of reserves. The Department told us that it has developed a financial sustainability data tool to support its analysis and that it liaised closely with other departments, particularly the Department for Education and the Department for Health and Social Care. It also said that it examines the capacity of leadership to take challenging financial decisions, and that they draw on the peer challenge work undertaken by the Local Government Association which can also include analysis of financial planning and decision making.20

13.However, the Department’s sustainability tool still does not include a definition of unsustainability, but relies on identifying outliers to raise concerns about areas.21 The Department was similarly unable to explain satisfactorily precisely how, drawing on the information available to it, it assesses on a consistent basis whether an authority is financially sustainable or not, and therefore how it could conclude that the sector is sustainable. The Department is therefore not able to say at what specific point it would have a concern either about individual local authorities or the sector as a whole.22

14.The Association of Local Authority Treasurers Societies (ALATS) told us that there is a growing level of nervousness and uncertainty among local authorities over their ability to balance their budgets in future. We asked whether it knew how many local authority chief finance officers were at the point where they felt that they were will not be able to balance their budgets in the next couple of years. ALATS told us that it did not have that data.23 ALATS recognised that there was a lack of data on the level of financial stress faced by local authorities, and that it needed to put more effort into data provision.24

15.The Department told us that it would make a thorough quantitative assessment of the local authority sector’s costs and pressures as part of the next Spending Review. However, it would not share the results of its assessment of the financial sustainability of the local authority sector that made at the 2015 Spending Review, citing that this was given as confidential advice to Ministers.25 The Department conceded that as a result there was little analysis of the sustainability of the local authority sector in the public domain. It also told us that it would prefer greater transparency and openness on the financial sustainability of local authorities as this allows the Government to be challenged on its estimates relating to local authority financial sustainability. It suggested that it would like to see organisations such as the Institute for Fiscal Studies take up this sort of work, and that it was engaging with the Office for Budget Responsibility on some aspects of the assessment of local authority financial sustainability.26

Improving accountability arrangements

16.The financial accounts of local authorities are audited by independent external auditors. They also assess whether authorities have adequate arrangements in place to ensure that local spending is value for money. We asked members of our pre-panel whether they thought external auditors were up to the job in terms of providing sufficient warning on risks to a local authority’s financial sustainability.27 ALATs told us that external auditors were equipped to carry out a full and thorough financial audit of local authorities, but that it missed the additional scrutiny, particularly around data, that was previously provided by the Audit Commission.28 The Chartered Institute of Public Finance and Accountancy (CIPFA) similarly told us that the fees paid to firms for their audit of local authorities had been reduced substantially. It warned that there is a risk that the role of the external auditor is “ … reduced to signing off the accounts and meeting […] regulatory requirements”29 and that it was important to ensure that there is not a race to the bottom in terms of the quality of external audit”.30 CIPFA told us that despite fee reductions, external auditors should not forget that they still retain their public interest reporting responsibilities, which allow them report on any matter coming to their notice during the audit. CIPFA also told us that it intended to produce a resilience index to help local authorities understand if they were using their reserves at an alarming rate. The NAO told us that external auditors have issued numerous qualifications and warnings. It also reported concerns that local authorities may not be paying sufficient attention to these findings. It cited the example of Northamptonshire County Council where a series of red flags by the external auditor had not been robustly addressed by the local authority.31

17.Most authorities have an internal scrutiny function that holds the executive to account. We asked our pre-panel witnesses whether local authorities were providing sufficient resources to support their scrutiny functions, including their financial scrutiny functions, and ensure they had the independent advice they needed to challenge decisions. The Society for Local Authority Chief Executives (SOLACE) told us that scrutiny was most effective when there is rounded, independent evidence.32 But it recognised that the scrutiny function in local authorities is variable and it is not getting to the heart of the pre-policy scrutiny with the kind of expert, independent advice and evidence that it should.33 ALATS added that while it would hope that local authorities do make sufficient resources available to provide advice to their scrutiny functions it conceded that scrutiny advice was currently a “mixed bag”.34

1 Report by the Comptroller and Auditor General, Financial sustainability of local authorities 2018 , Session 2017–19, HC 834, 8 March 2018

2 C&AG’s Report, paras 2, 3.3; figures 10, 17

5 C&AG’s Report, para 15; Public Accounts Committee, Financial sustainability of local authorities 2014, 34th Report of Session 2014–15, HC 833, 19 January 2015

6 C&AG’s Report, paras 13, 27

7 Q 1; C&AG’s Report, paras 1.5–1.6, 1.11; figure 2

8 Q 1; C&AG’s Report, para 1.19; figure 4

9 Q 1

10 Q 58; C&AG’s Report, para 3.6; figure 17

11 Q 61; C&AG’s Report, para 3.16

12 Q 1; C&AG’s Report, para 16

13 Qq 62, 81

14 Qq 60, 62–63

15 C&AG’s Report, paras 17, 3.25–3.26

16 Qq 86–87

17 Q 217

18 Qq 104, 119

19 Q 78

20 Qq 89, 105

21 Qq 114–116

22 Q 125

23 Q 7

24 Q 23

25 Qq 106–107

26 Q 111

27 Q 37

28 Q 40

29 Q 38

30 Q 1

31 Qq 39–40

32 Q 29

33 Q 31

34 Q 33

Published: 4 July 2018