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The vital role of local authority accounts

Author: ICAEW Insights

Published: 06 Dec 2022

Two experts explain how the financial statements provide important information on the financial sustainability of local authorities despite audit delays that impact their usefulness.

Local authority financial statements are generally viewed as being complicated, but for experienced accounts users they are a vital source of information that paints a picture of the financial health of local authorities.

The audited statements are an important tool for decision-making by councils, who need to know where they stand financially, as well as for central government in making funding decisions. They are also critical to ensuring accountability to councillors and audit committees acting on behalf of residents and local taxpayers on whether public money is being spent effectively.

External readers also have a keen interest in what is going on and the accounts provide key information on the financial performance and position of local authorities up and down the country.

“As a financial institution, we provide credit and payment facilities to local authorities,” says Colin Lowen, Director of Local Government and Social Housing at NatWest. “We want to understand whether local authorities can weather future financial storms as this informs our risk management.”

Alan Finch, Principal Adviser, Finance at the Local Government Association (LGA) agrees that accounts are essential to understanding the financial position of local authorities. “The financial statements are audited, so they act as a check on the data submitted by councils to the Department for Levelling Up, Housing and Communities,” Finch says. “Where there are outliers in the returns, we go back and check them to the accounts.”

Both Lowen and Finch say it is not necessary for them to look at every single note in the financial statements to obtain the information they require. Both agree that the notes about usable reserves were of most interest to them. 

“These are essential for understanding the robustness of a local authority’s financial position,” says Lowen. “The earmarked reserves note required by the CIPFA LASAAC accounting code tells us whether a local authority is proactively managing its potential liabilities.”

Finch also pays close attention to the note on movements in earmarked reserves. “Once you have looked at a few sets of accounts you start to get a sense of the way the breakdown of reserves changes in relation to risk.”

Meanwhile, liabilities and debt servicing costs are key balances in the financial statements, Lowen believes. “When making decisions over whether to provide finance, we need to understand the ability of the borrower to service their debt”, he explains. “Unlike spending on council services or capital projects, which can potentially be changed or delayed, the local authority must meet existing liabilities and debt service costs as they fall due.”

Finch also picks out the Capital Financing Requirement, a measure of a local authority’s need to borrow to fund capital expenditure, as a key number in the accounts. “The Capital Financing Requirement is a better measure of indebtedness for local authorities than total borrowing because there is also internal borrowing,” he explains. Internal borrowing is where a local authority uses its reserves rather than external borrowing to finance expenditure. 

Both agree that one of the strengths of the financial statements is that they are subject to audit. “We focus on the audited financial statements on the annual report and accounts document,” Lowen explains. “The narrative report is useful for telling the financial story, but financial performance is subjective so is prone to individual bias and interpretation.”

For this reason, Lowen prefers to use other sources than the narrative report to understand performance against budget. “It is important to understand how a local authority performs against its original budget as this can tell you about how realistic their forecasting is. I look at documents such as council and cabinet minutes to form my own judgement,” Lowen explains. 

Finch and Lowen share the concerns of other stakeholders about local authority audit delays. Only 9% of 2020/21 audited accounts were published by the 30 September 2021 deadline. 

Lowen explains that regular audit delays make NatWest’s reviews of local authority financial strength difficult. “There can be significant differences in the reserves positions between the draft and audited accounts. For those local authorities that are several years behind, we may not have an accurate picture of their financial position.”

Similarly, Finch is concerned that, as well as creating work for council finance teams, audit delays create additional financial risks for councils. “When a local authority has multiple years of accounts outstanding, there is always a risk that something emerges that means everything has to be backdated. A £1m adjustment in the Comprehensive Income and Expenditure Statement one year can be a £4m figure over four years.”

Finch adds: “The value of the accounts to external users depends in part on timely publication of audited statements. Councils are the most transparent part of the public sector – we set and monitor budgets in public – but there is a risk we will lose that trust.”

It will take concerted action from all parts of the local audit and reporting system to resolve the delays. However, as local authorities grapple with rising costs and an increasing number find themselves in financial difficulty, timely audited financial reports are more important than ever.

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