Finance Commission – Issues related to devolution of resources

Municipal finance reform through Finance Commission recommendations


From UPSC perspective, the following things are important :

Prelims level: Finance Commission

Mains level: Paper 2- Transformation of financial governance of municipalities

Transforming the financial governance of India’s municipalities

  • Interim report of the Fifteenth Finance Commission of India (XV FC) indicates that it could fundamentally transform the financial governance of India’s municipalities.
  • Final report for FY 2021-22 to FY 2025-26 is expected to be tabled along with the forthcoming Budget 2021-22.
  • Building on the track record of previous finance commissions, the XV FC Commission has significantly raised the bar on financial governance of India’s municipalities in the interim report in at least four specific ways.

4 Provisions in the interim report

1) Increase in the outlay for municipalities

  •  It has set aside Rs 29,000 crore for FY 2020-21 and indicated the intent to raise the share of municipalities in the total grants’ of local bodies including panchayats gradually over the medium term, from the existing 30 per cent to 40 per cent.
  • This could result in the outlay over five years being in the range of Rs 1,50,000-Rs 2,00,000 crore compared to Rs 87,000 crore during the XIV FC period.

2) Ensuring financial accountability through conditions

  • Two very important entry conditions have been set for any municipality in India to receive FC grants:
  • 1) Publication of audited annual accounts.
  • 2) Notification of floor rates for property tax.
  • These two entry conditions lay strong foundations for financial accountability of municipalities and own revenue enhancement respectively.
  • Similarly, the Atmanirbhar Bharat Abhiyan links Rs 50,000 crore of additional borrowing limits for states to reforms in property taxes and user charges for water and sanitation.
  • There is also a thrust on municipal bonds and municipal finance reform conditions under AMRUT.

3) Distinguishing between million-plus urban agglomerations, and other cities

  • The XV FC has adopted an approach of distinguishing between million-plus urban agglomerations, and other cities.
  • This is well-founded, based on the pattern of urbanisation in India, where 53 million-plus urban agglomerations comprising 250-plus municipalities account for approximately 44 per cent of the total urban population.
  • The remaining 4,250-plus municipalities comprise 56 per cent of the total urban population.
  • Of the remaining 56 per cent, there is a “long tail” of approximately 3,900 municipalities with 33 per cent of the total urban population.
  • The XV FC has now provided for 100 per cent outcome-based funding of approximately Rs 9,000 crore to 50 million-plus urban agglomerations (excluding Union Territories) with specific emphasis on air quality, water supply and sanitation and basic grants to the rest of the cities, with 50 per cent of the end-use tied to water supply and sanitation.
  • For the first time, there is also an acknowledgement of the metropolitan area as a unified theatre of action to solve complex challenges of air quality, water and sanitation, with implicit emphasis on inter-agency coordination.

4) Common digital platform for municipal accounts

  • The report recommends a common digital platform for municipal accounts, a consolidated view of municipal finances and sectoral outlays at the state level, and digital footprint of individual transactions at source, the FC has broken new ground and demonstrated farsightedness.

Role of the state governments

  • The ultimate responsibility for municipal finance reforms remains with state governments.
  • Constitutional bodies such as the finance commission can, at best, prepare the ground and provide incentives and disincentives.
  • We need municipal legislation to reflect progressive and enabling financial governance of our cities through five reform agendas:
  • 1) Fiscal decentralisation including strengthening state finance commissions.
  • 2) Revenue optimisation to enhance own revenues.
  • 3) Fiscal responsibility and budget management to accelerate municipal borrowings.
  • 4) Institutional capacities towards an adequately skilled workforce.
  • 5) Transparency and citizen participation (for democratic accountability at the neighbourhood level).
  • The first step needs to be predictable fiscal transfers from state governments to municipalities and other civic agencies on a formula-based approach as against the present practice of ad hoc, discretionary grants.
  • State finance commissions would need to emulate the XV FC and its predecessors, and emerge as credible institutions.
  • State governments need to ensure that state finance commissions are constituted on time, resourced right, and their recommendations taken seriously.

Consider the questions “Financial governance of our cities faces several challenges. Discuss the reforms that could transform the financial governance of municipalities”


The state government must act on these reform agenda and ensure the transformation of financial governance of their municipalities.

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