Local council 'bankruptcy'

On 7 June 2023, Woking Council declared that it was at serious risk of insolvency, citing "unprecedented financial challenges" leaving the council facing a deficit of £1.2 billion.

This is likely to be the largest financial failure in local government history. However, it forms part of a worrying trend, with several other local councils recently announcing an inability to balance the books. Both Thurrock and Croydon Councils have taken similar steps in the last 6 months, and, based on the results of a recent Local Government Association (LGA) survey, it seems that more may soon follow. The LGA survey revealed that around 90% of councils were using dwindling financial reserves to keep themselves running.

While we are used to hearing news of corporate insolvencies in the private sector, it is alarming that local councils are also evidently feeling the strain. But what does it mean when a local council declares itself 'bankrupt', what might be behind this trend, and what might the future look like for local councils.

Meaning of 'bankruptcy' for local councils

The media often describe local councils as going 'bankrupt': in fact, local authorities in the UK cannot technically become insolvent. Instead, where a local council is unable to meet spending commitments, what is known as a Section 114 Notice must be issued. Such a notice is issued pursuant to the Local Government Finance Act 1988, which provides that an appointed officer of the council needs to issue a section 114 Notice where spending is likely to exceed the resources available to it to meet that expenditure.

This results in an effective freeze on all new spending, with the exception of funding statutory services and other limited expenditure (including safeguarding of vulnerable people and honouring existing contracts).

The issuing of a Section 114 notice also enables central government to intervene and, where it can, assist with ensuring local services are supported. For example, Thurrock Council has recently been notified that government-appointed managers will take control of the day-to-day running of operations, including overseeing all major financial and higher level staffing decisions.

What is the cause of the trend?

Recent press coverage cites allegations that Thurrock, Woking and Croydon all ignored warnings from financial experts concerning risky investments in recent years. For example, in Thurrock it is alleged by the Guardian newspaper that the council’s financial advisers Arlingclose warned of its urgent concerns regarding the council’s “extreme” appetite for risk as far back as March 2018.

Four years ago, an LGA review determined that Woking Council's level of borrowing was “atypical amongst district councils”. Despite this, Woking continued to invest in new commercial ventures, including 30-storey skyscrapers, public plazas, parking facilities and shops.

Similarly in Croydon, debts were described by the borough's mayor as being accrued because of misguided commercial investments and "toxic historic mismanagement".

The question of why these local councils continued borrowing such large amounts of money and investing in new ventures when their financial position was so precarious remains unanswered. It is possible that investment in commercial enterprises was aimed at filling holes in budgets, given government cuts.

Covid-19 has also had a huge impact on local councils. Government implemented Covid relief measures, such as the granting of business rate relief and council tax holidays to companies have reduced a key stream of income for councils which has been cited as a possible reason for increased deficits. Following on from the Covid pandemic, the recent continued rise in the cost of living has increased both the demand for council services and the cost of actually providing the services for councils.

What will happen now?

Thurrock and Croydon councils have both announced plans to raise council tax in an attempt to get out of the red. Croydon's current plans involve increasing council tax across the borough by a record 15%. The government has approved the measure, viewing it as necessary to help the borough get back on a sustainable footing.

The rise in council tax, together with cost pressures resulting in less money for local services, will obviously be bad news for local residents in affected boroughs. In addition, private investors in local authority schemes or those investing jointly with councils will need to carefully consider the risks involved in such investments. Given the LGA note that 9 out of 10 councils in the UK are facing similar financial issues to Woking, Thurrock and Croydon, it may be the case that reports of local council insolvencies become a recurring feature in the media in the future.

This article has been co-written by Rebecca Wyke (Solicitor) and Peace Benson (Trainee Solicitor).