Ingbert Liebing, head of the German association of local utilities, VKU, said the level of support could reach double-digits billions of euros, adding to the government's huge bill after spending 29 billion euros bailing out energy trader Uniper this week.
"We are talking about an amount up to a double-digit billions number," Liebing said. "And whether that is 20, 30 or 50 billion is the secondary question for me. The most important thing is that the federal government recognises the need for action."
The discussions between the government and regional states are at an early stage and no rescue framework has been agreed, but one government source, asking not to be named, said it concerned "liquidity" to assist the municipal authorities in buying gas.
A spokesperson for Germany's economy ministry said it was in contact with the country's regional states concerning the municipal authorities, but declined to elaborate.
Germany has more than 900 companies, called Stadtwerke, that are engaged in distributing two-thirds of all gas with many also providing services like water, heat, waste disposal, broadband and public transport.
There is a growing sense of urgency to provide support as energy bills for German households and industry become increasingly unaffordable.
Liebing, who has previously warned about insolvencies in the sector, said the talks involved measures needed to shield municipal utilities from "acute" difficulties.
"We need liquidity support for the municipal utilities, which now have to buy (gas) at ten times the usual prices before they can sell," he told Reuters, predicting that one tenth of customers may not be able to pay the higher bills.
"This poses enormous difficulties," he said. "Also because the banks sometimes are no longer providing financing."
Unlike big energy sector leaders Uniper or VNG parent EnBW, the smaller state-run utilities have struggled to tap a 100 billion euro ($100 billion) fund offered by state bank KfW..
Stabilising the Stadtwerke financially will be a topic at a summit of the heads of states and the German government next week, a person familiar with the matter said.
Markus Lewe, president of the Association of German Cities, warned of a knock-on effect on public services should the local authorities run aground.
"Should municipal authorities be at risk of collapse, many other services such as water, bin collection and public transport could fall apart," he said.
Timm Fuchs, energy policy expert at the German Association of Towns and Municipalities, predicted that customer payment defaults could rise to 30% and that up to 200 municipal utilities could be particularly badly affected.
He said a combination of guarantees, loans or grants could help.
(Writing By John O'Donnell; Editing by Elaine Hardcastle)
By Riham Alkousaa, John O'Donnell and Tom Sims
