Council Funding Shakeup Explained

England's Town Halls on the Brink: A £2.1bn Funding Shake-up Creates Winners and Losers Amidst Bankruptcy Fears

A radical government overhaul of council funding is poised to strip billions from London's inner-city boroughs and move it to other parts of England. A landmark report from the IFS (Institute for Fiscal Studies) reveals the plan will create a stark map of winners and losers. Some authorities in the capital face real-terms budget cuts of as much as 12 percent, even after accounting for measures designed to soften the blow. This seismic shift arrives as local government teeters on the edge of a systemic collapse. Many councils across the nation warn of impending bankruptcy, squeezed by the soaring need for public services and years of underfunding. Ministers contend the reforms are essential to fix a broken system. Critics, however, warn it amounts to little more than rearranging the deckchairs on a sinking ship.

What is a Section 114 Notice?

When a council's finance chief determines that planned spending will exceed available income, they must issue a Section 114 notice. This measure, under the 1988 Local Government Finance Act, is the closest a public authority can get to declaring bankruptcy. The process is not technically a bankruptcy, as councils cannot become insolvent in the same way as a commercial business. However, the notice immediately freezes all new, non-essential spending. It effectively halts everything apart from protecting vulnerable people, staff payroll, and fulfilling existing contracts. Recent years have seen a worrying rise in these notices, with authorities like Birmingham, Croydon, and Woking forced to take this drastic step.

A System at Breaking Point

The scale of the financial crisis in English local government is immense. A recent survey by the LGA (Local Government Association) painted a grim picture. It found that one in four councils could be forced to seek an emergency government bailout within the next two years to stave off effective bankruptcy. The funding gap for the upcoming year alone is projected to be over £2 billion. This is not a silent, administrative crisis. The consequences involve direct cuts to vital public services that communities rely on daily. A £4 billion funding gap and an "out-of-control financial crisis" could push even well-managed councils over the edge, the Levelling Up, Housing and Communities Committee warned.

The Crisis in Adult Social Care

The financial earthquake's epicentre shaking town halls is the adult social care sector. The need for these services has skyrocketed, driven by an ageing population and the increasing complexity of people's needs. Councils have a statutory duty to provide this care, meaning funds must be diverted from other services to meet these obligations. The Association of Directors of Adult Social Services (ADASS) calculated that councils faced an extra £1.8 billion in costs for adult social care in the last year alone. This increase is fuelled by rises in the National Living Wage for care workers and general inflation, costs which providers pass on to the commissioning councils.

The Spiralling Cost of Special Needs

Alongside social care, the budget for children with disabilities and special educational needs (SEND) is another major pressure point. England’s county councils have accumulated a SEND deficit of £2 billion this year, a figure projected to hit £2.7 billion in 2025-26. A special accounting measure currently allows councils to keep these debts off their main balance sheets, but this is set to expire in March 2026. If it ends, the County Councils Network (CCN) warns that 26 of England's largest authorities could be driven to bankruptcy overnight. The surge is driven by a growth in the number of children eligible for support and a reliance on expensive independent sector school placements.

The Government's Prescription: The Fair Funding Review

The government’s proposed solution is the Fair Funding Review, a complete re-evaluation of how central funds are allocated. The existing framework has not been revised for more than a decade, creating a disconnect between a council's funding and the actual needs of its community. The review aims to re-establish this link. It introduces new, complex formulas to assess spending requirements for specific high-cost services. These include adult and children's social care, home-to-school transport, and highways maintenance. For all other services, a general "Foundation Formula" will be applied, based on elements such as population size and levels of poverty. A three-year rollout of the changes will begin in the 2026-27 financial year.

A New Geographical Divide

The IFS analysis shows the reforms will create a clear geographical divide. Inner London, particularly its western boroughs, stands to be the biggest loser. Even with transitional protections, areas like Westminster, Wandsworth, Kensington and Chelsea, Hammersmith and Fulham, and Camden are projected to witness their total funding fall by 11-12 percent in real terms by 2028. These councils lose out partly because the new system evens out council tax income variations; they currently have low tax rates but many high-value properties. In stark contrast, many boroughs on the outskirts of London are expected to benefit from the adjustments. Cities beyond the capital, such as Wolverhampton, Slough and Nottingham, also fare well in the projections.

A Tale of Two Regions

Beyond the capital, the redistribution creates more winners and losers. Yorkshire and the Humber, alongside the East Midlands, are poised to receive the most significant funding increases under the new model. The IFS report also notes that localities with significant, though not peak, population levels are expected to benefit. This category includes councils responsible for towns like Crawley and Blackpool, which rank as some of the primary beneficiaries in the projections. The stated aim of the reforms is to direct money more accurately towards need. However, the changes are so significant that they will inevitably cause major financial adjustments for local authorities across the country, regardless of their current financial health.

The Business of Rates Reset

A crucial, and highly technical, element of the reform involves business rates. From 2013, local authorities could retain a share of any growth in the business rates collected in their area. This was intended to incentivise local economic growth. The Fair Funding Review will press a giant reset button on this system. All the growth in business rates revenue that has built up after 2013 is to be effectively pooled and then redistributed based on the new needs-based formulas. This means that councils which have successfully fostered significant commercial development over the last decade will lose that financial advantage, with the proceeds shared out across the country.

A Plaster on a Gaping Wound?

Representing councils across England, the Local Government Association (LGA) has responded with deep scepticism. While acknowledging the need for reform, the LGA insists that simply redistributing an insufficient pot of money will not solve the fundamental problem. For years, the association has warned of a growing funding gap, which it estimated would reach £8 billion by 2025. Their core argument is that the entire local government sector needs a significant injection of new, additional funding from central government. Without it, they argue, the Fair Funding Review will fail to make local services sustainable and may simply move the hardship of long-term council financial strain between different localities.

Fears of an Urban Bias

The proposals have also sparked fears of an urban bias among county councils. The County Councils Network (CCN) has called for the review to be transparent and strictly "evidence-led." They are concerned that ministers may base the new formulas on 'judgement rather than robust evidence', giving too much weight to urban indicators like deprivation and population density. The CCN argues that this overlooks the unique cost pressures in rural areas. Factors like market failure in care services and the high cost of home-to-school transport over large distances are just as important as urban deprivation in driving council spending, and they worry these may not be sufficiently reflected.

The Smallest Voices Cry Foul

The funding shake-up has drawn criticism from every level of local government, right down to the grassroots. The National Association of Local Councils (NALC), which represents parish and town councils, argues the system is deeply unfair to them. They highlight the problem of "double taxation," where residents in parish areas pay council tax but often do not receive the same level of services as those in non-parished areas. The NALC is lobbying the government for parish councils to have the right to apply directly for streams of central government funding. They are also demanding fair and consistent funding when larger authorities devolve local services down to them.

A Political Minefield

The reforms present a significant political dilemma for ministers. A broad consensus exists that the old system is unfit for purpose, yet creating a replacement produces losers as well as winners. With a critical round of local elections looming next year, forcing deep cuts on a new set of councils is a perilous move. Labour ministers have criticised the existing regulations because they do not account for the increased need for local authority support in less affluent communities. The Liberal Democrats have been more scathing, with Daisy Cooper, the party's deputy leader, branding the changes as a "robbing Peter to pay Paul" scenario, a sentiment echoed by many council leaders who will see their budgets shrink.

Shifting the Deckchairs

The government’s plan will alter how central funds are allocated to councils, which currently represents about half their total income. The rest is raised locally through council tax, with yearly increases capped at 5%. The shake-up does not change the total amount of money in the system; it only changes who gets what. Proponents argue this is a rational and long-overdue correction. However, critics within local government see it differently. They contend that without an overall increase in funding, the reforms are merely shuffling inadequate resources around, moving the immediate crisis from one town hall to another without solving the underlying structural deficit facing the entire sector.

A Future of Difficult Choices

Ultimately, the funding reforms force a difficult set of choices upon local leaders. Those in areas expected to face cuts of millions will have to find savings, which inevitably means cutting non-statutory services. These often include the very things that make local communities vibrant, such as the maintenance of parks, library opening hours, and support for cultural activities. Even councils poised to benefit from the adjustments still face immense pressure from the rising costs of services for adults needing social care and children with special needs. These pressures continue to outstrip any funding enhancements, ensuring that even for the "winners," the financial crisis is far from over.

Conclusion: An Uncertain Path Forward

The government's attempt to reform council funding is a logical response to a system that has become divorced from reality. By trying to align funding with need, it seeks to create a more rational and equitable settlement for England’s local authorities. However, this painful redistribution is taking place against a backdrop of unprecedented financial distress. With many councils already on the brink of bankruptcy, the Fair Funding Review risks being seen not as a solution, but as an exercise in managed decline. It will create clear winners and losers, but without a substantial injection of new cash into the system as a whole, it may do little to secure the future of the vital local services upon which millions of people depend.