Local authorities have been at the forefront of the response to the coronavirus pandemic which has put immense pressure on their finances. Supporting communities and keeping vital services running has never been more critical but this has led to high increases in demand and expenditure for local authorities. At the very same time, however, local authorities are facing a significant and immediate reduction in their income.
Although the Government has allocated some emergency funding to help local authorities respond, there are concerns about the funding pressures ahead and some local authorities have warned that they may be at risk of 'financial failure'. In this insight, we explore what this means in legal terms and some of the measures which are available to local authorities (and others) where serious financial difficulties arise.
Insolvency
Under English law it is not possible for a local authority to become insolvent and the insolvency procedures which apply to private persons or companies do not apply to local authorities.
Balancing the budget
Whilst a local authority cannot technically become insolvent, there is a legal duty on all local authorities in England and Wales to deliver a balanced revenue budget to fund the day-to-day running of services. The current concerns being raised relate to this duty.
Every local authority also has a duty to review its budget throughout the year and to take such action as it considers necessary to deal with any financial deterioration. Local authorities cannot borrow money to cover revenue expenditure.
Local authorities have, in theory, various options to address a budget deficit, such as reducing spending, increasing council tax or utilising other income streams. However, in the current circumstances these options are limited: the lockdown has led to significant demand for services whereas many income generating services have stopped altogether. Therefore, other measures may be required.
Section 114 reports
A key duty of every local authority's chief financial officer (CFO) under the Local Government Finance Act 1988 is to issue a Section 114 report if they judge that the local authority is unable to set a balanced revenue budget. Section 114 reports are generally only used in the most serious of circumstances and issuing one is seen as an action of last resort, usually precipitating central government intervention.
Once a Section 114 report is issued, the legislation requires an immediate spending restriction on all new expenditure (except on statutory services) and the full council must meet within 21 days. Although there is no prescribed legal provision as to what action must then be taken, the local authority will likely try to find ways to bring the budget back into balance (which is likely to require further reductions in expenditure).
Updates to Section 114 guidance
Although no Section 114 report has actually been issued since lockdown began, given the unprecedented circumstances we are currently experiencing,
some local authorities have warned that they may need to issue one as the year goes on.
Issuing a Section 114 report could have serious implications, particularly during the current pandemic. Therefore, the Chartered Institute of Public Finance & Accountancy (CIPFA) has this month updated its guidance temporarily so that local authorities can discuss financial concerns and a possible forthcoming Section 114 requirement with central government as early as possible.
The statutory responsibility of the CFO has not changed but CIPFA proposes two modifications to its guidance in the light of the pandemic. Firstly, a CFO should make informal confidential contact with MHCLG at the earliest possible stage to advise of financial concerns and a possible forthcoming Section 114 requirement. Secondly, the CFO should communicate the potential unbalanced budget position due to the pandemic to MHCLG at the same time as providing a potential Section 114 scenario report to the council executive and the external auditor. No CFO wants to be in a position to have to issue a Section 114 notice. The temporary changes to the CIPFA guidance are clearly aimed at avoiding the issuance of such notices and that is to be welcomed. The statutory duty on the CFO under Section 114 will nonetheless remain unaltered (even temporarily) and each CFO will therefore need carefully to consider their position.
Other measures to address financial difficulties
In previous cases where local authorities have faced severe financial difficulties, the Government has stepped in. The Secretary of State has powers under the Local Government Act 1999 to impose a range of measures where a local authority has failed to comply with its 'best value' duty (which could include a failure to set a balanced budget). The Secretary of State can (amongst other things) direct the authority to take any action which the Secretary of State considers necessary or the Secretary of State (or someone nominated by them) can themselves step in to exercise specified functions of the local authority.
Local authority creditors also have powers where the local authority is unable to pay its debts when they fall due. Where certain conditions are met under Section 13 of the Local Government Act 2003 a lender can apply to the High Court to appoint a receiver. The High Court may confer on the receiver such powers as it thinks fit, including any powers which the local authority has in relation to collecting, receiving, or recovering revenues, issuing levies or precepts or setting, collecting or recovering council tax. Given the significance and strength of these powers and the likely political ramifications from using them, it is no surprise that they remain (to our knowledge) untested.
