Contact: Jon Pittam, ext 7400

1 Summary

1.1 The Local Government Association has published a discussion document as a contribution to the Government's review of the Balance of Funding of local government services. Cabinet is asked to approve a response to this discussion document and to agree that the response be copied to Hampshire MPs. The report also notes two other contributions to the Balance of Funding debate published by the Chartered Institute of Public Finance and Accountancy.

2 Reasons

2.1 The Council needs to influence the Local Government Association's contribution to the Government's review, to maintain the local funding of services and to widen the local taxbase.

3 Other options considered and rejected

3.1 Not applicable.

4 Conflicts of interest declared by the decision maker or a member or officer consulted

4.1 Not applicable.

5 Dispensation granted by the Standards Committee

5.1 Not applicable.

6 Reason(s) for the matter being dealt with if urgent

6.1 Not applicable.

Approved by: Date:

Councillor T.K Thornber, C.B.E.

Contact: Jon Pittam, ext 7400

1 Summary

1.1 The Government invited contributions in September 2003 from interested parties to its review of the funding of local government services, known as the Balance of Funding review. Cabinet agreed a response at its meeting on 22 September 2003.

1.2 The Government has continued to consider the options since then and has published a number of further research papers. The Local Government Association (LGA) has developed its own proposals for the future funding arrangements for local government and, following discussions with party leaders, has published for discussion a document titled `The Balance of Funding - A Combination Option' (attached as Appendix 1).

1.3 This report outlines the LGA's proposals in the context of the key points of the County Council's response to the Government in September 2003. A draft letter to the LGA commenting on its proposals is attached as Appendix 2, for Cabinet's approval.

1.4 The report also notes a draft paper on local income tax published by the Chartered Institute of Public Finance and Accountancy (CIPFA), and an article in a recent issue of CIPFA's Public Finance magazine defending the council tax.

2 The County Council's contribution in September 2003

2.1 The key points of the County Council's response to the Government's invitation in September 2003 to contribute to the Balance of Funding review were:

· business rates should be returned to local control thereby improving the balance of funding between central and local taxation to 50:50, subject to linking the increase in the business rates to an appropriate index of cost increases for local government agreed with the Government

· the council tax should be fine-tuned, by revising the top and bottom valuation bands and by increasing the number of bands to make it less regressive

· the council tax benefit system should be improved to give better protection to those on low and slowly rising incomes by raising thresholds

· `resource equalisation', introduced in the revenue grant distribution system in 2003/04 should be reversed or, at least, no further resource equalisation adjustments should be made in 2004/05 or subsequent years.

2.2 In addition, the Government should:

· not transfer any further services away from local government, such as schools, because their needs are best assessed locally and in view of the complexity of school funding

· not introduce a local sales tax or a local income tax

· not introduce `dynamic equalisation' (a suggestion by the Government that `tax-rich' authorities should share part of the proceeds from council tax increases with `tax-poor' authorities).

3 The LGA's proposals

3.1 The key problems with the existing system of local government finance identified by the LGA in their discussion document are:

· it distorts accountability, because the `gearing ratio' means that a 1% increase in spending results in a 4% increase in council tax on average, so the public cannot see any clear connection between the council tax and spending decisions

· it is not fair between local taxpayers, because the council tax is regressive and the benefit system is inadequate particularly for those on fixed incomes

· it is not fair between authorities, because the gearing ratio differs widely between authorities and too much funding depends on the grant distribution methodology which can never perfectly reflect local needs

· it does not provide a buoyant source of income, because an increase in the number of households is automatically matched by a reduction in grant from the Government

· it depends on only one local tax, the council tax.

3.2 The LGA's proposals are that there should be a combination of local taxation sources, including:

· a reformed and more equitable property tax

· the progressive return of the business rates to local control

· the transfer of a proportion of national income tax to fund local government directly, either initially as an assigned revenue which would subsequently evolve into a local income tax, or moving straight to a local income tax

· a reduction in grant to local authorities consistent with this shift in national income

· a basket of smaller taxes and charges.

4 Proposed response to the LGA

4.1 The County Council's submission to the Government in September 2003 proposed reforms to the council tax to make it more equitable and for the return of business rates to local control. The County Council argued against a local income tax, however. Adding a further major local tax to a reformed council tax would result in a loss of simplicity and transparency about the way local government's taxes are calculated and set. It could also lead to an increase in direct taxation which would act as disincentive for economic growth.

4.2 The public's perception of introducing additional local taxes also needs to be considered, at a time when they are already very concerned about the level of the council tax. Many people could find themselves paying more under a dual taxation system of council tax and local income tax. Adding a raft of additional minor taxes such as localised vehicle excise and stamp duty would be a publicity own goal.

4.3 These issues are covered in the proposed response in Appendix 4.

5 Other recent publications on the Balance of Funding

5.1 The Chartered Institute of Public Finance and Accountancy (CIPFA) has published a draft research paper on the possible introduction of a local income tax. On balance, CIPFA sees more difficulties than advantages, although the paper acknowledges the potential of a local income tax to improve the balance of funding, the greater buoyancy of a local income tax and its more progressive nature (except for those on fixed incomes if the local tax rate increases). A summary of some of the key issues raised in the paper is attached as Appendix 2.

5.2 CIPFA's Public Finance magazine of 23 January 2004 included an article "In Defence of Council Tax" by Tony Travers, the director of the Greater London Group at the London School of Economics and an experienced commentator on local government matters. He argues that:

· the council tax is a very effective local tax, but its high `visibility' to the taxpayer, compared with most national taxes, has been a major factor in the recent public disquiet

· the recent large increases in council tax reflect pressure on local authorities from central Government to increase spending without providing sufficient increases in central funding

· the council tax raises a comparatively small amount (£18.4bn in 2003/04) compared with national taxes such as income tax (£118.8bn), national insurance (72.6bn) and VAT (£69.0bn) - but has generated much more public outcry than, for example, the increase in national insurance rates in April 2003 and the year-on-year growth in VAT revenues, which are largely invisible to the public

· central Government is not subject to the same disciplines that local authorities face on their taxation, such as separate identification of VAT, fuel tax, alcohol and tobacco duties etc on all goods and services, or a capping regime, passporting prescription, audit and inspection etc

· the Treasury also does not have to provide each taxpayer with an itemised annual statement covering all central taxes paid which would average around £15,000 per household, compared with annual council tax bill of £1,000 for Band D households.

5.3 The article in full is attached as Appendix 3.

Recommendations

1 That the Cabinet authorises the County Treasurer to respond to the Local Government Association's discussion document on the Balance of Funding review on the basis of the draft response attached as Appendix 2 subject to any comments Cabinet may have.

2 That the agreed response be copied to Hampshire MPs.

Section 100D Local Government Act 1972 background papers

The following documents disclose facts or matters on which this report, or an important part of it, is based and has been relied upon to a material extent in the preparation of this report.

N.B. the list excludes:

Published works.

Documents which disclose exempt or confidential information as defined in the Act.

TITLE FILE

None.

i:\ . . . . \ian\docs\Balance of Funding Review - LGA1.doc

Appendix 2

A Local Income Tax - a review of practical arrangements for UK local authorities

Initial Draft Report by CIPFA

Issues identified in the paper include:

· three possible models:

`assigned' revenues, with part of the national income tax allocated to local authorities by central government - would give no structural link between what the local authority spends and the local tax paid by its residents

a local income tax set by local authorities but collected by the Inland Revenue - likely to be the most efficient but could involve a loss of transparency between national and local tax

a local income tax set and collected by local authorities, either using Inland Revenue data on incomes or not - likely to be more expensive administratively than using Inland Revenue systems

· people subject to income tax are much more `mobile' than property, in terms of employer(s) and home address, requiring more detailed records that have to be updated more frequently

· only one in seven people complete a tax return - the rest pay via PAYE - and so central records of income or residence are not kept by the Inland Revenue for over 85% of people (from data published in 1992)

· collecting a local income tax from earned income is likely to be easier administratively than from investment income

· would require an expansion of existing administrative and ICT systems

· would also have administrative implications for employers, particularly those whose employees commute from a wide area covering different local authority areas

· yield and cash flow from a local income tax would be much less certain than from a property tax, with some of it not being paid until assessments are finalised after the end of the year

· resource equalisation may be necessary as the yield from a local income tax is likely to be much higher in some areas than others, probably requiring transfers from South East to the Midlands and North

· a local income tax would require more extensive confidentiality and data protection than a property tax

· council tax payers on low incomes currently protected by council tax benefits could have to pay more tax under a local income tax, depending on the interaction between benefit scales and personal allowances

· the complexity of local government tiers - county, districts, fire and police - would be mirrored by a complexity of local income taxes: there would not be a single local income tax

· may be difficult to introduce a local income tax in England and Wales but not, say, in Scotland because of cross-border employment and residency - agreement would be necessary from the devolved administrations

· a local income tax would have to be between 4p and 6p to replace the council tax nationally, depending on whether it applies to all income tax bands, lower, basic and higher.

Appendix 4

Response to the Local Government Association's Discussion Document `The Balance of Funding - A Combination Option'

Letter to:

Mr M Heiser

Local Government Association

Local Government House

Smith Square

LONDON

SW1P 3HZ

Dear Mr Heiser

Balance of Funding - A Combination Option

The County Council's Cabinet considered the Local Government Association's discussion paper on the Balance of Funding options at its meeting on 12 February and asked me to pass on the following comments.

The County Council supports reforms to the council tax to make it more equitable, including improving the benefit system and encouraging greater take-up. The council tax still has virtues as a local tax, however, and should not be destroyed in the reforms. The recent public concern has mainly resulted from the large increases in the amount that the Government has tried to force through the council tax in recent years and its high `visibility' compared with other forms of taxation.

The County Council also agrees that business rates should be returned to local control. This would have a significant impact on the balance between central and local funding. Although business rates may be a buoyant source of funding, as the discussion paper suggests, in practice the annual increase in the rate in the £ has been limited by the Government to the retail price index. This has resulted in local businesses making a smaller contribution to funding local services since the rates were nationalised. Reassurance for the business community about the scale of future increases in local business rates will continue to be necessary, however, and it is suggested that increases should be linked to an appropriate index of cost increases for local government services.

The County Council is concerned about the introduction of a local income tax as a second local tax. It would complicate the calculation of local taxes and further reduce the transparency for the public of the budget calculation and tax setting process. Over time, it could also lead to an increase in direct taxation providing a disincentive for economic growth.

Assignment of revenue from national income tax would have little practical benefit for local authorities. It would continue to be central funding and could still be subject to central prescription over its use. If a truly local income tax is the ultimate aim for local government, agreeing to assignment of revenues as a first step would run the risk of the Government defaulting in the longer term on promises to convert it to a local income tax.

It is also likely to be difficult to gain public acceptance for additional local taxes at a time when concerns about the level of the council tax are at their highest. There will be as many people who lose from any new tax arrangements as gain. One set of highly vocal campaigners are likely to replace another. Significant reductions in the amount raised by the council tax may be necessary to encourage acceptance of an additional local tax. Similarly, the business community may need the incentive of a reduction in business rates to accept their return to local control.

The likely effect on public perceptions also suggests that it would be counter-productive to pursue a range of other additional taxes, particularly if they are unlikely to raise much income. The best taxes may be those that are unseen. Adding a local tax to what may seem to the public to be almost all their activities will not improve local government's popularity. The further loss of public support is unlikely to be worthwhile given the relatively minor penny packets of additional income that will be raised, which will be largely irrelevant to the needs of services of the scale of education. There will also be a further loss of simplicity and transparency about the way that local taxes are calculated if a raft of additional taxes are introduced.

Please let me know if you need any further explanation of these comments.

Yours sincerely

County Treasurer