Japan’s Local Allocation Tax shows England that fiscal devolution needs both incentives for growth and fair funding for all areas.
Debates about English devolution often focus on which powers should move out of Whitehall. Japan’s experience suggests that an equally important question is how local authorities can receive the reliable, flexible funding needed to exercise those powers.
At the centre of Japan’s system is the Local Allocation Tax, normally abbreviated in English as LAT and known in Japanese as chihō kōfuzei (地方交付税). Despite its name, it is not a separate tax paid by residents. It is a mechanism through which nationally collected tax revenue is distributed among prefectures and municipalities.
Its purpose is both to guarantee local authorities a basic level of funding and to reduce differences between places with strong and weak tax bases.
A legally defined proportion of several national taxes is placed within the LAT system: 33.1% of income-tax and corporation-tax receipts, 50% of liquor-tax receipts, 19.5% of consumption-tax receipts and all local corporation-tax revenue. The system treats this money as revenue belonging to local government but collected nationally on its behalf. Japan’s Statistics Bureau therefore describes the LAT as a tax collected by central government in place of local authorities.
Around 94% is distributed as Ordinary Local Allocation Tax. For each authority, the government estimates the cost of providing a standard level of services—the “standard financial need”—using measures such as population, age structure, area, road network and local conditions. It then estimates the authority’s standard revenue-raising capacity.
In simplified form:
LAT entitlement = standard financial need − standard financial revenue
Authorities whose assessed needs exceed their revenue capacity receive the difference. Wealthier authorities whose calculated revenues can cover their needs receive no ordinary LAT. The remaining 6% is distributed as Special Local Allocation Tax, principally to meet exceptional or unforeseen costs, including those arising from natural disasters.
The sums involved are substantial. Japan’s Ministry of Finance says that ¥20.2 trillion has been provided through the LAT in the 2026 financial year, within total unrestricted local general revenues of ¥67.5 trillion. Japan’s Ministry of Finance
The LAT’s greatest strength is that it reconciles national standards with decentralised delivery.
Japanese local authorities are responsible for major services including education, social care, public health, infrastructure, waste management and local economic development. Without equalisation, prosperous urban authorities would be able to finance these responsibilities much more easily than rural, ageing or geographically dispersed communities.
The LAT does not eliminate these differences, but it gives authorities a common financial floor. A resident of a small town with a declining population should still be able to receive an acceptable level of public service, even where the local tax base cannot support it alone.
Crucially, LAT is general-purpose revenue rather than a collection of narrowly ringfenced grants. Authorities can normally decide how to use it according to local priorities. It consequently offers more discretion than a system in which local leaders repeatedly compete for short-term national funding pots.
Its formula-based character also provides continuity. Although amounts change annually, the underlying entitlement does not depend upon winning a competitive bid or securing a bespoke deal from a minister.
The system is not the same as complete fiscal autonomy. National government determines the size of the overall settlement; the standard costs used in the formula and the adjustments applied to different authorities. Local discretion begins only after the money has been allocated.
The calculations are also extremely complicated. Hundreds of measurements and correction coefficients are intended to reflect factors such as population density, climate, remoteness and demographic structure. This produces a more sensitive distribution, but one that can be difficult for councillors and residents—and sometimes officials—to understand.
Standardised calculations cannot fully capture every local circumstance. In a shrinking municipality, for example, population may fall more quickly than the cost of maintaining roads, schools, water systems and public buildings. Equalisation can help such places manage decline, but it cannot remove the underlying problem.
There is also a tension between equalisation and incentives. If additional locally generated revenue simply led to an equivalent reduction in LAT, authorities could gain little from growing their tax base. Japan limits this effect by counting only part of standard local tax revenue in the main calculation, allowing authorities to retain some benefit from economic growth. Nevertheless, the system remains more focused on maintaining services than on rewarding growth.
Finally, the apparent guarantee has sometimes been supported through borrowing. Although Japan has set the issuance of temporary fiscal countermeasure bonds at zero for both 2025 and 2026, the projected outstanding balance at the end of 2026 remains approximately ¥38.8 trillion. The LAT therefore provides stability for individual authorities without making wider national fiscal pressures disappear.
England has fiscal equalisation within its local-government finance system, but it lacks a single, clearly identified equivalent to the LAT. Councils depend on council tax, retained business rates and a changing combination of central grants. Needs assessments and equalisation arrangements exist, but they sit within a system frequently criticised for short settlements, ringfencing and repeated competitive funding exercises.
The direction of reform is now significant. The 2024 English Devolution White Paper introduced integrated settlements, initially covering six mayoral combined authorities, allowing funding to be moved across areas such as transport, housing, regeneration, skills and employment support. It also promised multi-year arrangements and less departmental micromanagement.
In July 2026, the government went further, confirming that English mayors would receive a share of income-tax revenue for the first time and retain more locally generated business-rates revenue. Greater business-rate retention is intended to begin in spring 2027, with an income-tax roadmap due at the Budget. UK Government announcement
This could give mayoral areas a stronger stake in economic growth. But tax retention and fiscal equalisation are not the same thing. If places simply keep more of the income tax generated locally, areas with high employment, salaries and productivity will receive the largest gains. Regions starting with weaker economies could fall further behind.
Japan’s lesson is therefore not that England should copy the LAT’s complex formula. It is that fiscal devolution needs two complementary mechanisms: a meaningful reward for growing the local economy and a transparent national guarantee that every area can fund essential services.
As others have noted, without the first, authorities have too little incentive or freedom to pursue growth. Without the second, fiscal devolution risks becoming a system in which already successful places are given the greatest capacity to succeed.
