« Previous | Contents | Next »
Listen
Section 3: History of Local Government Finance in Scotland 10
The Poor Law of 1579
1. The origins of local taxation in Scotland are to be found in the Poor Law of 1579, which made provision for the poor of the parish a legal obligation. Previously, provision for the poor had been made almost wholly by charitable contributions through the church authorities. 11 Previously towns had been created Royal Burghs, with the right to collect dues for the provision of infrastructure, and the common good, from court fines, petty customs and lands given to the Burghs by the King. There was no system of local administration as such. 12
2. From 1579 and for nearly three hundred years of minimalist government, local rates provided the basis of local services. The parish rate provided the starting point, which assessed all inhabitants of the Parish according to their "means and substance", and was levied on both owners and occupiers of property. Boyle 13 interpreted this approach as what we today would call ability-to-pay, although it considered both income and wealth.
3. There was no uniform system of assessment, and the tax encompassed personal belongings as well as immovable and moveable property. Moreover, eligibility to pay and the form of assessment varied with different rates. Local services for poor relief, public health, roads, police and education, each had separate rates. For example, the sewer rate was levied on owners of property, the Burgh assessment on occupiers, and the lunatic asylum rate on both. 14 But although there was no uniform system, the underlying concern of means and substance was to reflect ability to pay. This use of separate rates within ad hoc systems of local administration relied on very rough assessments of income.
Developments in the 19th Century
4. After the extension of the franchise in the 1832 Reform Act, a process of modernisation and consolidation began, in terms of both the structure and finance of local administration. From 1845, parish rates were levied only on immovable property, based on net annual rental value, the beginning of the 20th century rating system. This still assumed, however, that the valuation of property was a reasonable proxy for ability to pay, in a period of very limited franchise open only to the property owners. This system was formalised in the Lands Valuation (Scotland) Act, 1854, with the valuation roll being prepared annually. This legislation still forms the core of valuation law today.
5. This Act set an important principle, namely that the rental basis of valuing property "was originally introduced as a method of estimating the income of property owners", but "not necessarily related to the income of the resident". 15 This distinction between owners and occupiers continued in Scotland until 1956.
6. The process of consolidation of the separate rates was a gradual one, and finally completed in the Local Government (Scotland) Act 1929. The other major development, predating this merger by over a hundred years, was the introduction and growth of central government grants to local authorities.
7. The 19th century witnessed the growth of industrialisation and urbanisation, creating new pressures on government, and the beginnings of the shift from minimal government to modern government. For local government, its fiduciary duty as the trustee of public funds was established as its scope grew in terms of its service responsibilities.
8. During the 19th century, grants from central government grew steeply and steadily, following the first such grant for prisons in 1825. The growing dependence on grant reflected "the relative inflexibility of local tax yield arising from its reliance on the property tax as the main source of revenue" (Bennett, 1982, p.43). By the end of the 19th Century, there were grants for police, education, housing, roads and relief for the Highlands. 16
9. These are known in the language of public finance as specific grants (or categorical grants in the USA), as they are tied to specific programmes. Specific grants can require matching funds from the local authority, and are used to stimulate and foster service development. This growth reflected the strain on local rates as the expansion and the range of services provided increased. The result was that central government became the driving force of development, taking the financial and legislative initiative in planning and regulating services and spending, whilst local government became the major mechanism of service provision.
10. Much of this expansion took place in the form of permissive legislation, which left discretion with local government. It was during this period of development that arguments between "centralists" and "localists" emerged. By 1880, central support had doubled from 4.5% to 9.8% of local expenditure. Localists favoured local control as a way of limiting government whereas centralists favoured increased central power to promote uniform services. In practice, the permissive nature of the statutory obligations facilitated variations and low spending in rural areas. The argument between "centralists" and "localists" continues to this day.
11. These developments were recorded in the Goschen Report on Local Taxation in 1870. It demonstrated that, whilst rateable values had risen by 200%, local taxes had increased by only 135%, thereby reducing the tax burden, in part by substituting central grants. Indeed, rates had actually fallen in some rural areas. Goschen favoured consolidated units of local government, uniform valuation methods, and the allocation of assigned revenues in place of specific grants to increase central control over expenditure totals.
12.HM Treasury disliked the "open-ended" nature of specific grants, as grants reflected local decisions to spend. However, assigned revenues had similar effects and by the end of the 19th Century, all major local services were again funded by specific grants with a fixed percentage of support, a development which again fostered service expansion. By 1920, grants' share of spending had increased to 24%. 17 But the distribution of grants had become problematic, being described as "a chaos which practically no-one understands". 18 Grants in the UK had grown from £500,000 in 1842 to £20m by 1900, and further still to £110 million by 1928 - nearly 16% of government revenues. 19
13. These 19th and early 20th century developments mark the beginning of the current "Balance of Funding" debate, as local government finance grew not only in absolute terms but in relative terms also, as its share of the UK Government's spending also increased. Moreover, the Royal Commission on Local Taxation of 1901 began a new debate on how grants should be distributed between authorities on the basis of need.
The Local Government (Scotland) Act 1929 and Post-War Developments
14. This legislation is significant for a number of reasons: first, it is exceptional in that issues of structure and finance were considered together - in contrast with the subsequent reviews of structure which dealt with either in isolation. Second, it was the first application of a Scotland-wide system of equalisation (an expansion of the scheme to provide relief in the Highlands to support the lack of fiscal capacity which had been implemented in 1888). Third, it consolidated both structures and finance in a system with fewer local authorities, and fewer government grants.
15. The 1929 Act sought to reduce the burden of rates, both on industry and more generally, by substituting central grant. In the case of equalisation, it developed the grant system to reflect both fiscal capacity - the authorities' ability to raise funds - and spending needs - the necessity to incur expenditure on the service assessed. It reflected the relatively high levels of needs and low tax bases in Scotland's cities and remote rural areas, relative to her towns and suburbs. Local authorities also had responsibility for national assistance and hospitals, so the fiscal capacity issue was a real one. The General Exchequer Contribution ( GEC) was still supported by a range of special grants. The Act also completed the process of derating agricultural land and buildings to provide an economic stimulus to that sector.
16. This new block grant approach was further developed in the post-war period, to cope with the rapid rise in expenditure following the establishment of the British Welfare State. The GEC had also been regarded as a mechanism which facilitated local discretion, a recurring argument in governmental pronouncements in the post-war period.
17. The introduction of the Exchequer Equalisation Grant ( EEG) was accompanied by the transfer of responsibilities for national assistance, hospitals, gas and electricity to central government. The EEG was calculated on the basis of rateable values, with grants paid to authorities whose yield fell below a standard level, and the residual element after equalisation was allocated on a per capita basis. The EEG was examined in Scotland in 1955 by the Committee on Valuation and Rating, chaired by Lord Sorn, but it was mainly concerned "with the adequacy of the formula for determining local grant to Scotland", 20 which in itself reflected the Goschen Formula - the predecessor to the Barnett Formula.
18. The second stage of reform came in 1957. By this time, the grants system, with its many elements, had become extremely complex. The 1957 review sought to strengthen the rating system and in fact rejected a proposal from the Royal Institute of Public Administration for a local income tax, on grounds of administrative cost and practicality in terms of the technology of the time. The Review reduced the de-rating of industry from 75% to 50%, thereby expanding the tax base, and included education in the block grant. The EEG was renamed the Rate Deficiency Grant, and the enlarged block grant element became a new General Grant.
19. The cumulative effect of these changes was to promote expenditure growth through grants, and reduce the proportion of local government finance raised through rates. Until the 1960s, ratepayers had been sheltered from spending increases by central support in the form of grants. Rapid growth with increasing inflation resulted in substantial rises in local taxation.
20. The final stage in the consolidation of the grant system arrived in the introduction of the Rate Support Grant in 1967. Rates increases had stimulated protest following the revaluation in England in 1961. Local spending was consuming a growing share of the national budget, as new responsibilities were added. Revaluation involves shifts within the range of tax liability, and in 1961, this varied from a decrease of 17% to an increase of 68%. Public protest was marked. 21 The Allen Committee was set up to examine these pressures, and reported in 1965. Research carried out for it showed rates to be a highly regressive tax which took up more of the household income in poorer families than in wealthier households (Allen Report, p.134).
21. The Allen Committee had also highlighted the clear nature of rates - as a tax which funds services which bring benefits to communities which are indivisible by nature, and which also bring national benefits as well as local benefits. Whilst rates had begun as a tax which broadly reflected ability-to-pay, it now was more accurately regarded as a tax on the consumption of property, and its inelastic nature constrained the scope for consistently increasing it to fund new expenditure.
22. The Government dealt with the burden on poor households by introducing rates rebates, in recognition of the fact that rates were part of core housing costs, and funding through benefits would reflect that. Much of the protest from ratepayers, however, came from middle class households, and this was responded to by introducing a new domestic element which had the effect of a general reduction in domestic rates. Fiscal capacity and expenditure needs were dealt with through the resources element and the needs element. Protest receded temporarily, but the combination of high inflation with local government reorganisation led to a further crisis during 1971-74. In Scotland, grant was increased again, to the point of accounting for 75% of spending, and a further review was established.
The Layfield Report 1976 (Layfield)
23. The mid-1970s saw a period of widespread UK public protest and ratepayer complaints following dramatic increases in rate bills. Oil prices had risen steeply in 1973 and inflation was running at over 20%. In Scotland, many households had faced significant increases in their rates bills following the revaluation of 1973 combined with the 1975 reorganisation of local government, as a result of which low tax areas were merged with high spending cities in the new Scottish regions, while the old authorities ran down balances, spent common good funds and entered into new spending commitments in their final year.
24. In the midst of such discontent, the Government established a Committee of Inquiry into Local Government Finance in 1973, chaired by Frank Layfield Q.C, and gave a commitment to replace rates with more broadly based taxation related to ability to pay. 22
25. Layfield has been described as "the most comprehensive review of local government ever produced" 23 and "a benchmark for subsequent studies". 24 Yet as two of its distinguished members wrote recently, this is perhaps ironic as its central recommendation - the need to clarify responsibility and therefore accountability for local expenditure and taxation - was rejected by the government of the day, and only its more practical proposals were implemented. 25
26. Layfield proposed to retain rates and block grant as core elements of the system, and concentrated its argument on the balance of funding issue. It identified a centralising trend in local government finance. The result of this trend was a drift to central responsibility and a weakening of local government, because of the growth of grant within the total of local funding, a drift which Layfield felt was incompatible with responsible local government.
27. Layfield favoured a localist model, concluding that the only way to sustain a vital local democracy was to enlarge the share of local taxation in local authorities' revenue and thereby make councillors more directly accountable to their electors for their spending and rating decisions. Its proposal at the time was to reduce the percentage of grant support from 60% to 40%, which it assumed would clarify that responsibility for setting the pace and direction of service development, expenditure and taxation lay with local authorities, reversing the trend of the previous hundred years.
28. Layfield favoured a change in the balance of funding by introducing a local income tax as a supplement to rates. This would result in a more progressive and broad-based local tax system with greater independence from the centre and as a result, a greater degree of local accountability. Layfield regarded local income tax as the only serious candidate for a new source of local revenue.
29. The Layfield Report remains an influential document today, and current researchers still acknowledge it and feel the need to address its arguments.
The Local Government (Miscellaneous Provisions) (Scotland) Act 1981
30. In the light of the larger economic and financial crisis facing the United Kingdom in the aftermath of the OPEC26 price increase of 1973, and the subsequent International Monetary Fund loan to the UK Government in 1976, the public expenditure philosophy shifted from expansion to retrenchment. To control local government expenditure, the Treasury introduced cash limits to the amount of grant paid to councils. In Scotland, a system of current expenditure guidelines was introduced in 1977, which set an indicative overall target for each local authority.
31. The 1980s marked a further shift in emphasis away from the control of local government in the aggregate to a concern with the spending of individual councils, a concern reflected in the passage of the Local Government (Miscellaneous Provisions) (Scotland) Act 1981.
32. In 1979, the Scottish Office had set a testing 7.5% target for spending reductions, with the prospect of further reductions in later years. This had led to widespread opposition across political parties in local government. The target was revised to a more realistic 2.3%, though much of this was achieved through savings in capital spending. In 1980, inflation at the high level of 22% resulted in major increases in rates bills, averaging 30%. In real terms, the spending targets were modest, but in cash terms, they created substantial public resentment.
33. The Government took the view that high spending had caused the rates increases, and that the problem was mainly the result of the decisions of a few authorities. Significantly, however, the 1980 budget decisions led ministers to seek a more discriminatory set of policy instruments for influencing local decisions than the conventional adjustments to the level of grant support.
34. The legislative changes introduced in 1981 were opposed by local authorities who presented them as a challenge to their historic right to set their own expenditure and rate levels. The Act created powers of selective intervention against individual councils, and drew upon an existing statutory power from 1966.
The Secretary of State for Scotland, if satisfied that the expenditure of a local council was "excessive and unreasonable", could seek parliamentary authority to effect a reduction of its Rate Support Grant. The 1981 legislation further amended and updated this power, so that it could be used prospectively.
35. The main target was Lothian Regional Council, who imposed 40% rates increases two years in succession, and adopted a high profile stance of political resistance. The savings from the Government's action, which became known as ratecapping, were around £30 million per annum, about 20% of the "overspend", and 2% of total local authority spending. Although the use of capping was limited, its availability caused a deterioration of relations between central and local government, and its existence would have constrained decisions by most authorities.
36. At the same time, the Government continued with the conventional approach of reducing the percentage support paid by grant, from 68.5% to 61.7%, and this trend continued until 1988 89, by which time it had fallen to 52.2%. The figures for this period reveal how sensitive rates levels are through the gearing effect and the inelasticity of the rating system. This difficult and complex situation was further compounded by revaluation in 1985.
Community Charge (The Poll Tax)
37. In 1986, the Government published its Green Paper "Paying for Local Government". It was this Green Paper which paved the way for both the nationalisation of non-domestic rates and the introduction in 1989 of the Community Charge.
38. Previous reforms to the rating and grant system had been concerned with improving the equity of the system. The Green Paper's analysis suggested these reforms had failed, because the form of local taxation did not provide sufficient incentive to electors to restrain council spending. The central argument in the Green Paper was the need to strengthen local accountability by tackling the weaknesses of the current system. These were:
- The high proportion of local taxation raised from non-domestic ratepayers to whom, not having any votes, councils were not answerable;
- The fact that only a minority of electors paid rates, and that bills did not reflect the variations in households' consumption of local services; and
- The grant system was complex and blurred accountability for local spending decisions.
39. The recommended alternative to domestic rates was a per capita community charge, which became commonly known as the poll tax, which the Green Paper argued would provide a closer reflection of modern people-based services than a property tax. The link between voting, paying and spending would be strengthened by converting non-domestic rates ( NDRs) into a nation-wide tax, set and controlled by central government and distributed to authorities via the grant system, although it was collected still by the local authorities.
40. This Non-Domestic Rate Income ( NDRI) element formed part of a new financial framework for local government. Central government set total levels of Government Supported Expenditure ( GSE) each year. This was supported through Aggregate External Finance ( AEF), which was composed of Revenue Support Grant ( RSG) and Specific Grants, as well as NDRI.
41. In practice, this was intended to be a system of accountability at the margins. All marginal spending decisions would be funded by local taxpayers, thereby directly linking higher spending ( i.e. any spending above the assessed expenditure need figure for which grant is payable) to higher tax bills. This would discourage electors from voting for "higher service standards than they would be prepared to finance if they bore the full marginal cost themselves" (Green Paper, p.38).
42. The community charge was introduced to Scotland in 1989 (one year earlier than in England and Wales), following the passage of the Abolition of Domestic Rates, etc (Scotland) Act 1987. The shift in tax unit from household to individual increased the volume of transactions, adding to the costs of collection. The requirement that each individual had to pay at least 20% of the tax - even though compensated directly through benefit - made the administration of rebates more complex and the costs of collection and recovery increased.
43. The community charge was very unpopular. It was expensive and difficult to administer. Collection costs rose from £14 million under rates in 1988 89, to £43.5 million by 1990 91. By January 1990, 421,400 cases of non-payment were being pursued, leading the Accounts Commission to describe the reform as "the single greatest administrative upheaval" local government had faced since 1975. 27 The implementation of the new tax system resulted in spending growth rather than the anticipated expenditure reductions.
44. In 1990, the Government responded to the crisis in local government finance by increasing grant in order to reduce poll tax bills, specifically through an increase in VAT. 28 This reduced the proportion being met by council taxpayers to an average of around 15% across Scotland. The Government proposed broadly to maintain that level under the community charge, and to ensure that extra support from central funds resulted in lower bills, not higher expenditure.
The Council Tax in the 1990s
45. The 1991 Consultation Paper "A New Tax for Local Government" attempted to take a pragmatic approach towards establishing an acceptable tax and strengthening central control. The central argument was to maintain a degree of local accountability whilst protecting local taxpayers from excessive bills.
46. Although fairness was identified as an underlying principle, this was not perceived simply in terms of ability-to-pay, but in "most adults making some contribution" (p.2), and in trying to ensure that public perception was that the system was fair. The argument that all electors should pay something towards the cost of local services was dropped in favour of a tax which would take account of most adults in a household with a reduction for single-person households, with the tax varying within a limited range according to property values. In practice, council tax is in effect a property tax with a 25% discount for single-person households. The operation of a banding system with an upper limit prevents very high bills falling on a minority of properties, and meant there was less need for regular and frequent valuations of properties.
47. Other elements of the previous system remained, in terms of non-domestic rate income and the grant system. Grant would continue to be paid at a level consistent with the Government's assessment of an authority's need to spend to provide a standard level. Spending above this level at the margins would be reflected in higher household bills, whilst the benefits of spending below the standard level would fall to households.
48. The transition to council tax was smooth. There were several reasons for this. Firstly, the council tax model removed many of the administrative problems of the community charge. The number of bills was reduced, the full payment of benefits direct to councils restarted, and the need for a register of taxpayers removed. The volume of enquiries regarding total taxes fell, and the level of appeals under banding fell in comparison with rates.
49. In 1993, the electorate appeared to support the change to council tax 29 as reflected in councils' dealings with the public. Correspondence with complaints from local taxpayers to council finance departments was halved, and much of such correspondence raised community charge non-payment rather than council tax itself. Elected members, who had ensured that action to implement the community charge had been delayed to the last possible moment with the law, now provided those resources needed for implementation. Collection rates improved rapidly, from 87% in 1992-93, to 95% by 1995-96 with provision for bad debts reduced from £490 million in 1992-93 to £81.6 million in 1995-96. Such objections as there were concentrated on the discount arrangements, and the upper banding limit. 30
50. The Government's combination of tight capping limits with new provision for efficiency gains reduced "overspending" in the short run, from 5.4% in 1990-91, to a low of 1.3% in 1992-93; thereafter it began to grow again, reaching 4.6% in 1996-97, the first year of local government reorganisation. In the first four years of council tax, grant fell by around 2.5% per annum, whilst council tax grew by around 1.5% per annum, in real terms. 31
51. However, reorganisation of local government in 1996 led to a new source of instability in local government finance. As the new authorities set their first budgets, there was an exceptional last-minute intervention to provide additional funding support of £100 million, to alleviate spending reductions and cushion increases in council tax. 32
52. The revised financial framework established under the community charge was continued in the reformed system. In 1996, RSG, Specific Grants and NDRI together provided 87% of GSE, with 13% raised through council tax.
53. Whilst central government increased the level of grant support in the early years of council tax, by 1993-94, it had returned to grant restraint, which in real terms fell from £5.69 billion in 1992-93 to £5.43 billion in 1995-96, whilst council tax rose from £558 at Band D to £784. Over this period, the share of local government spending funded by government fell by 4.5%, with council tax rising by 17% in real terms. 33
54. The change of government in 1997 brought a gradual return to grant increases in the Comprehensive Spending Review of 1998 ( HM Treasury, 1998), the abolition of universal capping controls on spending, and a slow rise in spending and council taxes.
55. The Devolution White Paper 34 stressed the importance of local government spending in the devolved powers, and the need for clear lines of accountability over local expenditure and taxation. Whereas in the past consistency of approach had been delivered through policy uniformity within the UK, the impact of devolution on local government finance within the Treasury's framework of financial control was more complex. The financial arrangements limited the extent to which Council Tax Benefit could be increased and provided for the UK Government to take account of any excess growth in locally financed expenditure over the national trends in the Scottish Budget.
56. The Labour Government decided that any reform of local government finance should be a matter for the new Scottish Parliament to determine. In the interim, increases in non-domestic rates would be restricted to inflation, whilst universal capping would be removed. The Government established the Commission on Local Government and the Scottish Parliament, chaired by Sir Neil McIntosh, in 1998 to review central-local relations, but excluded finance from its remit.
57. Nonetheless, the McIntosh Commission did make a number of comments about local government finance in its Report. It recorded that it had been told repeatedly that "a reform of local government finance was essential in order to ensure responsive and responsible local government and healthy local-central relations" and that the present arrangements had been criticised on a number of grounds. Those grounds were, in summary, as follows:
- Increased central control of formerly local decisions - namely, centralisation of business rates and council tax capping - had "removed from councils the discretion to decide on behalf of their local electorates where the balance should be struck between levels of service and levels of local taxation". The Report suggested that this loss of discretion was "widely regarded as having undermined the democratic credentials of local government and contributed to public apathy about local government".
- An 80% (central) and 20% (local) balance of funding and the consequent council tax gearing effect produced by this balance. The Report stated that this balance was "heavily criticised" and argued that the gearing effect severely limited councils' discretion on spending and taxation levels.
- The "obscurity of the system" exacerbated the above problems. The Report made the point that many members of the public assumed the council tax paid for local services and could not understand how service levels could be static or fall at the same time as there were large increases in council tax levels. It was argued that this led to a "natural tendency for local and central government each to blame the other … for rises in council tax".
58. The Commission shared those concerns and thought it was "vital for local democracy that ways are sought of responding to them". However, the Commission also thought that there were features of the local government finance system which should be preserved. The first was that the local taxation base and the authorities' spending needs an equalisation process to make possible common standard of services. The second was the principle that Government grant is un-hypothecated so that councils' spending priorities are not dictated through the grant system.
59. Having regard to its own remit - namely, "to consider how councils can best make themselves responsive and democratically accountable to the communities they serve" - the Commission contended that it would be better if councils could raise a "much higher proportion of revenue locally". The Commission recorded the conflicting views of local government and Scottish business on the question of whether or not control of business rates should be returned to local government and suggested that there should be a wide ranging debate on this matter which, amongst other things, took into account the shared interest of both sides in the health of the Scottish economy. But the Commission made clear it was "convinced that in the long term the proportion of revenue raised locally needs to be increased substantially".
60. The Commission recommended that "an independent review of local government finance should be instituted immediately" and suggested that the financial provisions of the European Charter of Local Self-Government might provide a useful starting point for such an inquiry.
61. The Scottish Parliament inherited a system of local government finance which had been reformed only six years earlier, and which had retained the high level of grant support introduced with the community charge, and the needs-based formula for grant distribution. It had also inherited the recommendation from the McIntosh Commission that there should be an independent inquiry into local government finance in Scotland.
« Previous | Contents | Next »