8th September 2026
The Scottish Government is heading towards a difficult 2027-28 Budget. The problem is not a single £1 billion deficit, but a combination of falling real-terms funding, a £720 million tax reconciliation, difficult savings targets and rising spending pressures.
The Scottish Government's finances are not about to collapse. But the latest assessment from the independent Scottish Fiscal Commission (SFC) shows that the Government faces a much tighter financial position in 2027-28 than it does this year.
The important point is that there is no single £1 billion black hole. Rather, the Government is facing a combination of pressures which could amount to more than £1 billion. It is therefore more accurate to describe the situation as a £1 billion-plus fiscal squeeze.
A good year followed by a difficult one
The irony is that the Government's financial position in 2026-27 has improved significantly.
The SFC estimates that overall funding is around £859 million higher than was expected when the Budget was prepared. Day-to-day funding is now expected to rise by 3.5% in real terms this year.
That gives the Government some welcome breathing space.
The problem is what happens next.
In 2027-28, day-to-day funding is expected to fall by 1.2% in real terms. So the Government moves from a relatively comfortable funding position this year to one in which the money available is expected to shrink after inflation.
The obvious question is whether some of this year's additional money can be saved and carried forward.
The SFC says that is possible, but the Scottish Government cannot simply bank the whole £859 million. The Scotland Reserve has limits, so the additional money can only provide part of the answer.
The £720 million problem
The biggest immediate pressure is a £720 million negative Income Tax reconciliation which will hit the 2027-28 Budget.
This needs some explanation because it is easy to misunderstand.
Scottish Income Tax revenues in 2024-25 were actually only £209 million below forecast. The £720 million adjustment arises from the complicated way Scotland's tax revenues are reconciled with the UK Government's Block Grant.
In practical terms, however, the result is simple: £720 million less will be available to the Scottish Government in 2027-28.
The Government cannot simply borrow the whole amount either. The SFC says the reconciliation is likely to exceed the available borrowing capacity for dealing with it.
This doesn't mean Scotland has suddenly "lost" £720 million. It is largely a correction for previous forecasts. But it does mean that the 2027-28 Budget has to absorb a £720 million reduction.
The bigger worry may be the NHS
The £720 million figure attracts the headlines, but the more serious long-term issue may be whether the Scottish Government can deliver the savings already built into its spending plans.
The Government expects to make £563 million of efficiency savings in 2026-27, with around 44% of those savings expected to come from NHS boards.
That is a very ambitious target.
The SFC points out that Audit Scotland found that only 15% of territorial NHS boards achieved similar planned savings in 2024-25.
If those savings don't materialise, the Government has to find the money elsewhere or provide additional funding to the NHS.
That is why the SFC is calling for greater transparency about whether the promised savings are actually being delivered.
This is potentially more important than the £720 million reconciliation. A one-off financial adjustment can be managed. Repeatedly budgeting for savings that don't materialise creates a structural problem.
Pay and the public-sector workforce
There is another difficulty.
The Government has planned to reduce the devolved public-sector workforce by an average of 0.5% a year between 2025-26 and 2029-30.
But the workforce actually increased during 2025-26.
If the Government still wants to achieve its original target, larger reductions will therefore be required in the years ahead.
At the same time, higher inflation is increasing pressure for higher public-sector pay settlements.
That creates a difficult combination: the Government needs to reduce employment costs while also facing pressure to pay existing employees more.
So how big is the hole?
This is where some caution is needed.
The SFC does not say that Scotland has a £1 billion deficit in 2027-28. There is no single number in the report that can properly be called "the hole".
What we do know is that the Government faces a £720 million tax reconciliation, a 1.2% real-terms reduction in day-to-day funding, pressure on capital spending and considerable uncertainty over whether hundreds of millions of pounds of planned savings can be achieved.
Once rising pay costs, NHS pressures and workforce costs are taken into account, it is reasonable to describe this as a £1 billion-plus fiscal squeeze.
But that should not be confused with a £1 billion deficit.
Where can the money come from?
The Government has several options, but none is painless.
It can use some of the additional funding available in 2026-27 and carry it into 2027-28. It can use the Scotland Reserve and draw on Crown Estate revenues. The SFC estimates that the Crown Estate balance entering 2026-27 is around £723 million, although much of this is already earmarked for future spending.
These measures can smooth the problem, but they cannot solve it permanently because reserves and asset revenues are finite.
The Government can also raise taxes. That would provide recurring revenue and could make a significant contribution, although there are limits to how much can realistically be raised without affecting economic behaviour. Scotland's relatively weak earnings growth compared with the UK also means that economic growth, rather than tax increases alone, remains crucial.
The other major option is to deliver genuine efficiency savings. If the Government can reform services, improve productivity and reduce unnecessary costs, it can reduce spending without simply cutting frontline provision.
That is easier to say than to do, particularly in the NHS.
Finally, the Government can reduce spending directly through workforce reductions, pay restraint, postponing programmes or reducing services. These are the choices which are likely to become increasingly difficult politically if the other measures do not produce enough money.
Borrowing can help smooth the problem, but it cannot provide the answer. Scotland's borrowing powers are limited and are not sufficient to absorb the entire £720 million reconciliation.
What happens next?
The picture is not yet completely fixed.
The UK Budget on 28 October 2026 could change Scotland's funding position, either positively or negatively. Until then, it is impossible to put a precise figure on the eventual 2027-28 funding gap.
But the direction of travel is already clear.
Scotland has some breathing space in 2026-27, with around £859 million more funding than previously expected. The real test is whether the Government uses that breathing space to prepare for the much tighter year ahead.
The underlying problem is bigger than the £720 million tax adjustment.
Scotland needs stronger economic growth to generate more tax revenue, while the Scottish Government also needs to demonstrate that it can deliver public services more efficiently.
The bottom line
Scotland is not bankrupt, and the SFC is not predicting an imminent fiscal crisis.
But the Scottish Government has very little room for manoeuvre.
The Government is moving from a year of relatively strong funding growth to one in which funding is expected to fall in real terms. At the same time it faces a £720 million tax reconciliation, difficult NHS savings, pressure for higher public-sector pay and the need to reduce the size of the public-sector workforce.
The immediate problem can probably be managed through a combination of reserves, Crown Estate revenues, efficiency savings, taxation and spending restraint. But each of these options has limits, and several simply postpone rather than remove the underlying pressure.
The real question is whether Scotland can achieve faster economic growth and whether the Scottish public sector can deliver existing services more efficiently.
The £720 million reconciliation is the immediate problem. The much bigger issue is whether the current trajectory of Scottish Government spending is sustainable.
The answer will begin to emerge with the UK Budget in October and the Scottish Budget later in the year. If the UK settlement is better than expected, some of the pressure will ease. If it isn't, the Scottish Government will have to make some difficult choices.
And those choices are likely to go well beyond finding £720 million.
They will be about what the Scottish Government can afford to provide, what taxpayers are prepared to pay, and whether public services can be delivered differently and more efficiently.
That makes the 2027-28 Budget potentially one of the most important tests of the Scottish Government's finances in years.
ScottishFiscal Commission Update
Pdf 65 Pages 25 August 2026