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Analysis: What's happening to council reserves?

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The level of reserves held by councils has proved controversial in recent years, with the issue becoming a hobby horse of the two most recent communities secretaries.

Headline figures

Headline figures

Last month LGC reported that excluding reserves held for schools and public health, which are ringfenced, the amount of reserves had fallen for the first time in seven years.

The overall reduction was small, less than 1% or £208m. But as with any set of national figures the headlines can mask wide variation. This week LGC has delved deeper into the figures, published by the Department for Communities & Local Government, to explore what is happening across the country.

Non ringfenced reserves

Non ringfenced reserves

The overall reduction was driven by a £500m drop in earmarked reserves held by police and fire authoritites and the Greater London Authority. Council earmarked reserves, held for a specific purpose, actually increased by £129m.

However, within the total reduction, unallocated reserves, the true rainy day fund, were down by £39.1m. Metropolitan authorities saw a decline of more than 7% over the year while counties and London boroughs were also down by more than 3%. But growth in districts and other unitary authorities’ reserves shored up the figure (see graph).

Regionally, Yorkshire and Humber saw by far the largest fall in unallocated reserves. This was driven by substantial reductions of more than 30% at North Yorkshire CC, Kirkless Metropolitan Council and Bradford City MDC. Kirklees director of resources David Smith told LGC the use of £12m of reserves was planned and was part of a strategy to “draw down those unallocated reserves to support the budget, whilst implementing long term savings that will bring us back to balance without reserve use”.

Overall more than a third of upper tier councils finished the year with less unallocated reserves than they started it with and 15% reduced their reserves by more than a fifth.

However, only counties and London boroughs saw an overall reduction in their non-ringfenced reserves (earmarked and unallocated reserves). The falls were 3.4% and 0.5% respectively, leaving both classes of councils with just over £3.5bn each. 

With numbers like this it is easy to see why, during austere times, successive ministers have been highly critical of councils. Many individual council balance sheets show total reserves of more than £1bn.

Former communities secretary Eric Pickles repeatedly criticised councils for failing to break into their municipal piggy banks. His successor Greg Clark also highlighted the issue, saying in January that one of the advantages of the security of four-year settlements was that councils should be able to make more use of reserves. Finance chiefs report these high profile comments can lead to some difficult conversations with councillors, particularly from incoming administrations, who want to know why this cash cannot be spent on services, avoiding some of the more difficult cuts.

However, finance chiefs insist this is missing the point. For a start, they argue, schools and public health reserves should be excluded as they are ringfenced and so cannot be spent on day to day running costs. In addition, a line on the balance sheet does not always reflect cash in the bank: many councils are already making use of their reserves, for example to avoid having to borrow money themselves or even lend it to other authorities. The consensus among finance professionals is that borrowing costs would rise if councils depleted their reserves too significantly.

Reserves

Reserves

Disagreement tends to centre on earmarked reserves: while section 151 officers maintain they cannot dip into these reserves for anything other than the specific purpose, sometimes the specific purpose may be called something like a “resilience fund” rather than funding for a named project.

For example, within its £39m reserves, Warrington BC has a £4.8m strategic reserve and a £7.8m medium term financial plan reserve. Mark Dennett, a senior accountant at the council, told LGC they were earmarked “specifically to support the general fund against future risk”. He acknowledged most councils would probably class both of these as unallocated.

Nottingham City Council deputy leader and portfolio holder for resources Graham Chapman (Lab) told LGC there was “fluidity” between earmarked and unallocated reserves. He said members had to interrogate assumptions made by finance officers to ensure they were not holding too great reserves as the officers’ assessments tended to be overly pessimistic.

“That’s a real problem for members,” he said.

Nottingham saw one of the largest decreases in unallocated reserves during 2015-16 but Cllr Chapman said this was due to unspent funds during the previous year having been initially included in reserves, rather than reallocated for spending.

In times of real crisis all earmarked reserves are fair game. Northamptonshire CC, which has some of the most severe budget pressures in the country, set a budget for 2016-17 which included planned use of reserves earmarked to “smooth” the payment of a school private finance initiative deal that has higher repayments in its later years. The plan is that they will be replenished in future years.

Northamptonshire is among the four councils which saw the largest reductions in their non-ringfenced reserves during 2015-16, as were Buckinghamshire and Somerset CCs which froze all non-essential spending part way through the year due to fears of budget overspends.

At 55%, Thurrock Council saw the largest proportionate reduction, from £27.3m to £12.3m. Director of finance and IT Sean Clark told LGC this was mainly a result of using the funds to buy the council out of its back office contract with Serco, which has since released savings.

Buckinghamshire, Northamptonshire and Somerset said the use of reserves during the year was planned. A spokesman for Somerset pointed out that as the council’s level of reserves was low,  “any use of them looks disproportionately high even though the amount spent is not high in comparison with similar councils”.

Buckinghamshire CC’s draft 2015-16 accounts said reserves had “fallen faster than previously planned” in recent years in order to “fund a number of the time limited initiatives … as well as in-year increases in demand pressures”.

The report said financial plans did not assume any further use of general reserves “as the forecast level at the end of 2015-16 is now deemed to be at the minimum level required (approximately 5% of the net budget requirement)”.

Somerset’s draft statement offered a similar warning.

So what is the right amount of reserves?

Blurred lines over earmarked reserves aside, guidance from the Chartered Institute of Public Finance & Accountancy used to stipulate unallocated reserves should be between 2% and 4% of net expenditure. However, in recent years the institute has declined to set a figure, describing the process of setting reserves as an “art not a science”.

LGC’s analysis found the median level of unallocated reserves held by upper tier councils was 2.7%. Of the 146 of the 152 councils for which we have data, 42 had unallocated reserves equivalent to less than 2% of net current expenditure while a fifth had 4% or more.

Amongst districts the picture is very different with four-fifths having unallocated reserves of 4% or more. More than two-fifths had reserves of greater than 10%, up to South Oxfordshire DC which has 72%.

New communities secretary Sajid Javid has yet to reveal whether he will demonstrate a more nuanced understanding of the role of reserves on a council balance sheet than his predecessors. Despite the increasing financial pressure on councils, the amount of non-ringfenced reserves held by councils has almost doubled since 2008-09.

While this may seem counterintuitive it reflects increasing uncertainty amongst councils, uncertainty that was compounded in 2013 with the introduction of 50% business rates retention which left council income vulnerable to successful appeals. Only counties, which are less vulnerable to appeals have reduced their reserves since then.

Unless this uncertainty is addressed the amount of cash in reserves is only likely to increase. If Mr Javid does want councils to reduce their reserves he would be best focusing his efforts here.

Reserves mapped out

Reserves mapped out

Analysis: What's happening to council reserves?

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