More than one in five councils in England are at risk of financial failure within the next 12 months, without additional income or further spending cuts, analysis from Grant Thornton UK LLP suggests. This worrying figure increases to 25% by the end of next year, highlighting the extremely precarious financial position of the sector.

As we enter a critical election year, Grant Thornton UK describes the current financial outlook for local councils in England as “alarming”, with 40% of councils at risk of financial failure over the next five years.

The analysis uses data from Grant Thornton’s Financial Foresight tool, developed with the Chartered Institute of Public Finance and Accountancy (CIPFA). 

The perilous state of local authority finances has worsened since Grant Thornton’s previous analysis, conducted in October 2022, when one in six councils were deemed to be at risk of running out of money within 12 months.

Metropolitan boroughs and unitary authorities are at the highest risk of financial failure this year, followed by London boroughs and district councils. The research also finds that, despite the recent local government finance settlement for 2024/25, English councils face a £9bn funding black hole over the next five years.

While local authorities in England collectively have around £23bn in reserves, the analysis finds that this is not evenly distributed. The councils most at risk of financial failure often have the least access to usable reserves, exacerbating the risk of financial collapse and the subsequent impact on local communities.

Phillip Woolley, Head of Public Services Consulting, Grant Thornton UK LLP, says: “Local councils face an unprecedented financial crisis. Funding for key services like social care, homelessness and special educational needs has not kept pace with growing demand. This shortfall has seen some councils make risky commercial decisions and many divert funds from other local services, which can in turn create a continuous cycle of service decline and further demand.

“This stark reality poses significant challenges to local governance and the provision of essential services. Although the sector must learn from past failures to mitigate some future risk, without more fundamental reform in local government finance, these efforts may only offer limited relief. There have been calls for councils to use reserves to plug budget gaps, but this is not a sustainable solution – reserves can only be used once and are intended to be a safety net, used only in exceptional circumstances.

“The financial crisis in the sector has become increasingly evident over the past few years, with more councils declaring financial distress in this time than over the past 20 years. It is critical that a more comprehensive overhaul of both local government finance and models for social care is undertaken to address local councils' deep-rooted financial challenges.”

A recent survey from the Local Government Association found that almost one in five council leaders and chief executives in England think it is likely that they will need to issue a Section 114 ‘bankruptcy’ notice this year or next due to a lack of funding to keep key services running. A section 114 notice indicates that a local authority’s forecast income is insufficient to meet its forecast expenditure and prevents elected councillors from incurring new discretionary expenditure. In some circumstances, the government will appoint commissioners to take over the running of a local authority from the council concerned. 

Martin Wheatcroft FCA, an external adviser on public finances to ICAEW, says it is not just badly run councils – that either speculated and lost or mismanaged funds – that now face the distinct possibility of financial failure: “Many ‘normal’ local authorities are now looking vulnerable too, as they struggle to balance their budgets in the face of rising demand, rising costs and constrained funding.”

In particular, Wheatcroft says adult social care is a significant challenge for many local authorities, as an ageing population sees demand increasing each year as the number of pensioners grows. Meanwhile, the knock-on impact of the minimum wage increase of 9.8% from April will further add to the challenges facing councils in the coming financial year.

“With local authority core funding only going up 6.5% in the coming financial year, local authorities are having to look for further cuts in other already ‘cut to the bone’ public services to try and balance their books,” Wheatcroft adds.

Last month, the Department for Levelling Up, Housing and Communities released a call for views on greater capital flexibilities that would allow councils to either use capital receipts to fund operational expenditure or to treat some operational expenditure as if it were capital, without the requirement to approach the government.

The intention is to encourage local authorities to invest in ways that reduce the cost of service delivery and provide more local levers to manage financial resources. The consultation is open until the end of January.

Under the current rules, councils are restricted from using money received from asset sales or from borrowing to fund operating costs due to capital receipts being considered a ‘one-off‘, while borrowing creates a liability that has to be repaid.

Wheatcroft adds: “The government’s announcement of greater capital flexibilities may help stave off some of the problems for a while but is likely to further weaken local authority balance sheets in doing so.”