Council services will be at risk if the government doesn’t step in to “fix the £4bn hole” in local authority finances, MPs have warned.

The Levelling Up, Housing and Communities Committee have released a report into financial distress in the organisations, saying there was “systemic underfunding of local councils in England”.

The cross-party group called on the next government to reform council tax and overhaul the wider funding system for local authorities “to ensure council finances are put on a sustainable footing”.

And the chair of the committee, Labour MP Clive Betts, said if the government “fails to plug this gap, well-run councils could face the very real prospect of effectively going bust”.

Explainer: Why are councils going bankrupt?

The state of council funding has increasingly been in the headlines after the likes of Birmingham City and Nottingham City were effectively declared bankrupt last year.

Last week, Levelling Up Secretary Michael Gove announced a £600m support package to help with the “unprecedented challenges that they have faced”, with the majority going towards social care budgets.

But some council leaders warned it wouldn’t be enough and difficult decisions would still need to be made to stretch their budgets.

In the committee’s report, the MPs highlighted the rising demand for children’s and adults’ social care, saying it was “contributing to unmanageable bills for some local authorities”, and extra funding must be provided “urgently”.

They also pointed to the cost of services for children and young people with special educational needs and disabilities too, calling for a review to ensure sustainable funding and proper access.

And they asked government to avoid re-freezing the local housing allowance (LHA) to stop even higher levels of homelessness.

But the big push from the committee was a full overhaul of the system.

Mr Betts added: “Long-term reform is vitally needed. The funding model for local councils is broken.

“The business rates system is overly complex and in need of reform. Council tax is outdated and increasingly regressive.

“Councils being forced to hike up council tax, in a forlorn attempt to plug increasingly large holes in their budgets, is unsustainable and unfair to local people who are, year on year, seeing less services while paying more.”

Responding to the report, a Department for Levelling Up, Housing and Communities spokesperson said: “We recognise councils are facing challenges and that is why we recently announced an additional £600m support package for councils across England, increasing their overall proposed funding for next year to £64.7bn – a 7.5% increase in cash terms.

“This additional funding has been welcomed by leading local government organisations, but we remain ready to talk to any concerned council about its financial position.”