3.18 In September 2016, following requests for clarification from UK government officials and other member states, Eurostat published new detailed guidance on how new rules, which made off-balance classification more difficult, should be applied to PPP deals like PFI and PF2. During the reform of PFI, HM Treasury had decided that PF2, like PFI, should remain as an off-balance sheet finance option for the public sector. HM Treasury is planning changes to the PF2 structure to ensure that future projects are recorded as off-balance sheet and excluded from headline debt statistics under the new rules, even though these changes may reduce VfM. The two main subsequent changes to the PF2 model to keep it as an off-balance sheet option are:
• Reducing the refinancing gain-share
PF2 and PFI contracts include a gain-share mechanism, so that the public sector will share at least 50% of any gains made from refinancing debt and deals agreed since 2009 had a 70% share for gains above £3 million. However, under the new Eurostat rules, this increases the chance that the project debt will be recorded as government debt. HM Treasury subsequently changed the standard contract terms for PF2 projects to limit the amount that can be received under the gain-share mechanism to 33%. To mitigate the negative impact that this change could have on VfM, HM Treasury will remove provisions that allow poorly performing contracts to use refinancing to achieve the rate of return they expected at financial close.
• Removing the lifecycle gain-share mechanism
A concern with PFI is that investors overestimate asset maintenance and equipment replacement needs over the project's life, allowing surplus funds to build up, generating excessive profits (paragraph 1.23). The PF2 model planned to introduce a lifecycle gain-share mechanism so that any unused funds would be shared equally between the Special Purpose Vehicle (SPV) and the public sector. However, this would increase the chance that PF2 contracts would be classified as on-balance sheet. In response HM Treasury has now removed the lifecycle sharing provision from PF2 standard contracts.
HM Treasury acknowledges that these changes could have a moderate negative impact on VfM.