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Section 114 and all that

It’s been in the news this week that Birmingham City Council has effectively gone bankrupt. This kind of thing is very much in my wheelhouse – in my day job, I’m a public sector finance specialist – so I thought it might be worth reflecting on how this sort of thing happens in local government and what comes next.

Local authorities are established by Act of Parliament, so they can’t just go bust like a commercial organisation can. But they can most definitely run out of money. Indeed, with limited control over their income and even less control over the things they have to pay for, balancing the books is a challenge for council finance directors everywhere.

Councils are obliged by law (by the Local Government Finance Act 1992, to be precise) to set a balanced budget each year. This means that they must have sufficient anticipated income to cover their planned expenditure. If it looks like income won’t cover expenditure, they can draw down from any financial reserves that they might have.

This is what many local authorities have been doing for the past few years. Mostly because expenditure has been rising – a consequence of increasing costs and growing numbers of people using councils’ services – while the funding available to pay for it has not. Consequently, local authorities generally have little remaining financial buffer. So if anything goes even slightly wrong, it can tip them over the edge.

This is where Section 114 comes in. Section 114 of the Local Government Finance Act 1988 says that the chief financial officer of a local authority must issue a report – known, for obvious reasons, as a Section 114 notice – if it appears that the council’s expenditure for the year is likely to exceed the resources available to fund it. This notice needs to be sent to each member (councillor) of the local authority and to the authority’s auditors.

Once a Section 114 notice has been issued, the members of the authority must meet within 21 days to discuss the notice and to decide what they are going to do about it. Until this meeting has been held, the authority is not permitted to enter into any new agreements that will lead it to incur expenditure. It can honour existing commitments, but it cannot start anything new.

Once a Section 114 notice has been issued, local authority members have two options. Firstly, they can demonstrate that the notice is unwarranted and that the authority does, in fact, have enough income to cover its expenditure. I’m not aware of this ever having happened in practice, though. Council finance directors are usually pretty good at their jobs. And they really don’t issue a Section 114 notice lightly.

The second option is to pass a revised budget that balances income and expenditure. This sounds easy enough, but in reality it’s incredibly tough. Lots of services provided by local authorities – such as education, social care and development control – are statutory in nature, meaning that the council has to provide them. So it’s the so-called discretionary services – services that the council doesn’t technically have to provide – that bear the brunt of any cuts.

This is why many towns no longer have a tourist information centre, a decent sports centre, a programme of cultural activities or any public toilets. It’s also why it takes longer for the roads to get repaired, why the verges and open spaces get mown less frequently, and why there are fewer litter bins around than there used to be. I’m pretty sure that Councils don’t want to cut funding for these things. They just don’t have a choice.

Issuing a Section 114 notice is, then, a big deal. After all, if the authority could balance its budget with a few minor tweaks, it would have done that instead. A Section 114 notice is, essentially, the authority saying that it’s in a deep financial hole and doesn’t know how to get out of it.

Thankfully, though, we don’t see that many Section 114 notices. At least, not yet. And those that we do see tend to arise because a local authority has either been very unlucky or, more commonly, has done something monumentally stupid.

Hackney Council issued a Section 114 notice in 2000, for example, in the wake of a disastrous ‘transformation’ programme. Northamptonshire County Council issued two Section 114 notices, both in 2018, after a similar transformation programme fell apart and, not to put too fine a point on it, the council just sort of imploded.

Croydon Council issued a Section 114 notice in 2020 after unwise commercial investments left it with unaffordable levels of debt. And then subsequently issued two more notices, in 2020 and 2022, after it failed to sort out the original mess. Thurrock Council and Woking Council both issued Section 114 notices earlier this year after doing the same sort of thing, with the latter investing in a range of hotels and other high-rise buildings that left it with debts of £1.2 billion.

And now Birmingham City Council has issued its Section 114 notice as a result of liabilities arising from equal pay claims, the settling of which is estimated to cost up to £760 million of money that the Council simply does not have.

Once a council has issued a Section 114 notice, it’s never entirely clear what is going to happen next. Hackney Council got itself back into financial balance through a programme of cuts that gutted many of its services. Northampton County Council was abolished and its responsibilities shared across two new unitary authorities. And the others – with the exception of Birmingham, for the moment – have all gone into ‘special measures’, which means that they’re effectively being run from Westminster.

While I have little sympathy for those authorities that have essentially dug a hole for themselves through unwise decisions and inept financial management, I fear that we’ll start to see more Section 114 notices being issued over the coming months and years. And many of these will arise not because councils have done something stupid, but because the funding available to them has just not kept up with what they’re being asked to do.

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Image: David Clarke on Unsplash





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