Panchayati Raj Institutions: Issues and Challenges

Municipal finances


From UPSC perspective, the following things are important :

Prelims level: 74th Constitutional Amendment Act

Mains level: Paper 2- Municipal finances


Recently, the Indian Institute for Human Settlements (IIHS) analysed data from 80 urban local bodies (ULBs) across 24 States between 2012-13 and 2016-17 to understand ULB finance and spending, and found some key trends.

Health of municipal finances

  • The 74th Constitution Amendment Act was passed in 1992 mandating the setting up and devolution of powers to urban local bodies (ULBs) as the lowest unit of governance in cities and towns.
  • Constitutional provisions were made for ULBs’ fiscal empowerment.
  • Challenges in fiscal empowerment: Three decades since, growing fiscal deficits, constraints in tax base expansion, and weakening of institutional mechanisms that enable resource mobilisation remain challenges.
  • Revenue losses after implementation of the Goods and Services Tax (GST) and the pandemic have exacerbated the situation.

Analysing the trends in municipal finances

Recently, the Indian Institute for Human Settlements (IIHS) analysed data from 80 ULBs across 24 States between 2012-13 and 2016-17 to understand ULB finance and spending, and found some key trends.

1] Own sources of revenue less than half of total revenue

  •  Key sources of revenue: The ULBs’ key revenue sources are taxes, fees, fines and charges, and transfers from Central and State governments, which are known as inter-governmental transfers (IGTs).
  • Important indicator of financial health: The share of own revenue (including revenue from taxes on property and advertisements, and non-tax revenue from user charges and fees from building permissions and trade licencing) to total revenue is an important indicator of ULBs’ fiscal health and autonomy.
  • The study found that the ULBs’s own revenue was 47% of their total revenue.
  • Of this, tax revenue was the largest component: around 29% of the total.
  • Property tax, the single largest contributor to ULBs’ own revenue, accounted for only about 0.15% of the GDP.
  • Figures for developing countries: The corresponding figures for developing and developed countries were significantly higher (about 0.6% and 1%, respectively) indicating that this is not being harnessed to potential in India.

2] High dependence on IGTs

  • Most ULBs were highly dependent on external grants — between 2012-13 and 2016-17, IGTs accounted for about 40% of the ULBs’ total revenue.
  •  Transfers from the Central government are as stipulated by the Central Finance Commissions and through grants towards specific reforms, while State government transfers are as grants-in-aid and devolution of State’s collection of local taxes.

3] Tax revenue is largest revenue for larger cities, while smaller cities are more dependent on grants

  • here are considerable differences in the composition of revenue sources across cities of different sizes.
  • Class I-A cities (population of over 50 lakh) primarily depend on their own tax revenue, while Class I-B cities and Class I-C cities (population of 10 lakh-50 lakh and 1 lakh-10 lakh, respectively) rely more on IGTs.
  • Own revenue mobilisation in Class I-A cities increased substantially.
  • It was primarily driven by increases in non-tax revenue

4] Increasing operations and maintenance (O&M) expenses

  • Operations and maintenance (O&M) expenses are on the increase but still inadequate.
  • While the expenses were on the rise, studies (such as ICRIER, 2019 and Bandyopadhyay, 2014) indicate that they remained inadequate.
  • For instance, O&M expenses incurred in 2016-17 covered only around a fifth of the requirement forecast by the High-Powered Expert Committee for estimating the investment requirements for urban infrastructure services.
  • O&M expenses should ideally be covered through user charges, but total non-tax revenues, of which user charges are a part, are insufficient to meet current O&M expenses.
  • The non-tax revenues were short of the O&M expenditure by around 20%, and this shortfall contributed to the increasing revenue deficit in ULBs.

Way forward

  • Improving own revenue: It is essential that ULBs leverage their own revenue-raising powers to be fiscally sustainable and empowered and have better amenities and quality of service delivery.
  • Stability in IGT: Stable and predictable IGTs are particularly important since ULBs’ own revenue collection is inadequate.
  • O&M expenses: Increasing cost recovery levels through improved user charge regimes would not only improve services but also contribute to the financial vitality of ULBs.
  • Measures need to be made to also cover O&M expenses of a ULB for better infrastructure and service.
  • Tapping into property taxes, other land-based resources and user charges are all ways to improve the revenue of a ULB.


The health of municipal finances is a critical element of municipal governance which will determine whether India realises her economic and developmental promise.

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