PPPs have several financial disadvantages when compared to traditional public sector financing. Specifically, PPPs have a higher cost of capital than traditional public financing, and they incur certain tax obligations that do not exist for public entities. PPPs experience higher costs of capital because interest on PPP debt is taxable while interest on municipal bonds, used by public agencies to pay for infrastructure projects, is tax exempt. Consequently, bond purchasers will accept lower returns on municipal debt in exchange for the advantages they gain from the tax exemptions. PPPs also face higher costs of capital because, unlike public financing, they involve equity investors who own stakes in the projects, share in the profits, and expect to earn higher rates of return for the risk they undertake. The private sector also must pay Federal, state and local taxes on certain assets and net revenues that the public sector generally does not. Our analysis found that the impact of these taxes on the relative value of a PPP can be as significant as the higher cost of capital.
Certain private sector efficiencies can meaningfully offset PPPs' cost disadvantages. Principal among these efficiencies are those which lower new facility2 design and construction costs, and efficiencies in revenue generation such as toll rate increases, decreases in toll evasions, and more profitable rest stop concessions. Innovative financing mechanisms may also improve PPPs' financial attractiveness. Two Federal programs provide access to these mechanisms-a program established under the Transportation Infrastructure Finance and Innovation Act (TIFIA), and the Department of Transportation's (DOT) Private Activity Bonds (PABs). The TIFIA program offers secured direct loans, loan guarantees and lines of credit. PABs are tax-exempt bonds issued by public entities to provide low-cost financing for private projects that serve a public purpose. Both programs can significantly lower PPPs' costs of capital, making them more competitive with traditional financing. In contrast, another means for improving the attractiveness of PPP's efficiency in operations and maintenance (O&M) activities-generally does not produce savings of sufficient magnitude to overcome PPPs' cost disadvantages. Overall, the difference in the relative values that PPP financing and conventional public financing can provide must be determined on a project-by-project basis after careful consideration of all factors.
We found that PPPs are not likely to significantly decrease the infrastructure funding gap because private sector investment in transportation through PPPs generally does not entail new or incremental funds. Rather, the funds paid upfront to the public sector under a PPP are paid in exchange for future revenues, often in the form of tolls. In other words, a PPP primarily changes the timing with which funds become available, not the amount of the funds. A PPP only provides additional funds to the extent that the private sector is willing to pay more for a project-a roadway, for example-than the public sector expects to earn from the project over time. According to our analysis, only two of the seven example PPP projects we examined would provide incremental funds directly. Our analysis also showed how another project could provide incremental funds through the use of innovative financing mechanisms.
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2 In this report, the term "facility" refers to all types of transportation infrastructure (e.g. a bridge or road).