Scottish taxes: Local authority funding

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Donald-Drysdale By Donald Drysdale for ICAS

9 March 2016

Council tax changes recently announced in Scotland were less than many had anticipated, but further reform of local authority funding is expected.

The state of council tax

As reported in our article on Council tax replacement options tabled, the Scottish Commission on Local Tax Reform had published a report entitled Just Change: A New Approach to Local Taxation in December 2015, arguing that the current system of council tax must end.

It was therefore a surprise, bringing relief to some and disappointment to others, when the Scottish Government announced last week that there would be various changes in the rates of council tax. This fell short of the more fundamental options which had been proposed as 'just change' - namely, a replacement property tax based on the value of land and buildings, a land value tax based on the value of land only, or a local income tax - and was described by some commentators as 'just tinkering'.

Council tax is currently based on estimates of property values as they were (or might have been) in 1991 - 25 years ago - even though many of Scotland's homes hadn't even been built at that time. The Commission on Local Tax Reform suggested that the council tax system as it currently exists is flawed, with tax demands bearing little relationship to property values or ability to pay.

The changes announced

Fairness is in the eye of the beholder. To make the system allegedly fairer from April 2017, the rates on properties in the four highest council tax bands (E, F, G and H) will be hiked in a move that will generate £100 million a year to be spent on education. There had been calls in recent months for additional higher bands for the most valuable properties, particularly in Scotland's major cities, and it is surprising that these have not been heeded.

From next year the average band E household will pay £2 a week more, while the average household in the highest band will pay £10 a week more. Three-quarters of Scottish households fall within bands A to D and will be unaffected by these increases.

A further 54,000 households living in bands E to H on low incomes - more than one third of which are pensioner households - will be entitled to an exemption from the changes through the council tax reduction scheme. Steps will be taken to address the low uptake of this scheme amongst pension age households.

The reforms will also give additional support to families on low incomes across all council tax bands by extending the relief available to households with children. Some 77,000 low income families, accounting for 140,000 children, will benefit by an average of £173 a year.

We are told that the changes announced will still leave bills in every band lower than they would have been had the freeze not taken place.

From April 2017 councils will be allowed to end the council tax discounts that presently apply to second homes. This is hardly surprising, given the additional dwelling supplement being added to Land and Buildings Transaction Tax from April 2016.

Scottish council tax bills have been frozen since 2007. We are told that the changes announced will still leave bills in every band lower than they would have been had the freeze not taken place, and that average rates in all bands will remain lower in Scotland than in England.

The council tax freeze will continue until April 2017, and local authorities will retain the £70m a year of funding which has sustained this. Thereafter they will have discretion to increase council tax annually by a maximum of 3%, which could generate up to a further £70m a year for council services across Scotland.

Practitioners who recall development land tax, which was widely regarded as a bad tax, may be interested to note that there will be consultation on enabling councils to levy a tax on development land, and vacant and derelict land, to reduce land banking and increase the supply of homes.

What further changes might follow?

First Minister Nicola Sturgeon has stated that the changes announced will pave the way for longer term reforms that will give local councils the benefit of growth in the Scottish economy. She said that tax to fund local government would become more progressive, and funding of local services would become more transparent.

She has recognised demands that local authorities should become more responsible for their own finances and less dependent on grants from Holyrood without adding to the burden on households, and the freedom to increase council tax rates annually from 2017 is clearly a nod in this direction.

More importantly, the Scottish Government plans to consult with local councils on the possibility of exchanging a fixed proportion of their general revenue grant for the assignment of a fixed proportion of devolved income tax revenues raised in Scotland, distributed to individual councils by the existing needs-based formula. This is proposed as a means of reducing councils' reliance on grant funding and making them more financially accountable.

Ms Sturgeon has expressed her hopes that in future the contribution individuals make to the delivery of local services will be more closely tied to their earnings, and that councils will be incentivised to support economic growth. It remains to be seen whether she is referring simply to a formula for assigning Scottish income tax revenues in accordance with local growth indicators, or whether she has a local income tax in mind.

Battle lines being drawn up

The Holyrood parliament is to be dissolved at midnight on 23 March, and the Scottish elections take place on 5 May. It is unfortunate that pleas from Edinburgh, Cardiff and Belfast to David Cameron, not to hold the EU referendum at a time when it might distract from the devolved administration elections, fell on deaf ears.

Although the European question will feature strongly in the Holyrood election campaigns, it is to be hoped that this won't overshadow key domestic Scottish issues including those of tax policy. The parties have already expressed differing views on how the devolved income tax powers should be used. The funding of local government and the future of council tax are other issues that candidates of all parties should address, and it is important for Scotland that a just, balanced and workable long-term solution emerges.

Article supplied by Taxing Words Ltd

Want to find out more?

Changes to tax in Scotland will be among the topics for discussion at this year's ICAS Tax Conference, taking place on 24 May in Glasgow. Book now.

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