Introduction
If a subsidy is deemed to arise, then the public authority giving the subsidy has to show that its decision to do so is reasonable. So for example if a local authority gives a business a grant of public funds and it is acknowledged that a subsidy arises to that business, it is the local authority who has to show that it arrived at the decision to give the subsidy because it was a reasonable thing to do.
The public authority will be subject to judicial review law meaning that any decision it makes needs to be shown as reasonable in a general sense, for instance that it is well reasoned and not arbitrary or biased. Reasonableness of a decision to make a subsidy is assessed against a set of parameters set out in Schedule I of the Subsidy Control Act called the Subsidy Control Principles.
The authority should self-assess its application of the Principles and the Statutory Guidance provides that the intensity of the assessment should depend on how large the subsidy is and how distortive it could be of the market in which the recipient operates. In certain cases where the subsidy is large or particularly distortive the authority’s self-assessment of the Principles would be audited by the Competition and Markets Authority meaning that it should be particularly detailed.
While the ultimate responsibility in addressing the Principles is that of the public authority, the recipient (s) of the subsidy may be called upon to contribute to evidence towards this analysis, and often worked through together during internal appraisal stage.
Summary of the Principles
The Principles require the public authority to:
- engage in a project that addresses at least one of two over-arching objectives, market failure or regeneration of a deprived area (equity rationale); and then
- show that the subsidy is the only or best way to bring that project to fruition
Explaining (a) further, the fund from which the subsidy is sourced may have broad objectives which would be given practical application in more focused local or regional plans (spatial plans, masterplans and so on). These would then form the parameters within which the specific objectives of the project being subsidised can be developed.
For example Central Government may set up a fund to rejuvenate high streets and town centres which have suffered particularly from on-line retail. A local authority may obtain some of that funding in order to implement a local or spatial plan of its own which covers its own high street, for instance by encouraging re-employment of vacant retail outlets. A developer business approaches the local authority for a grant to implement a project converting a now vacant flagship retail outlet into high specification offices.
If giving the grant is a subsidy to the developer, the local authority would assess the particular project brought to it by the business, what its deliverables would be, how those deliverables were arrived at, and how they would be met. The deliverables would thus form the specific objectives of the project for the purposes of addressing the Principles.
The more the deliverables involve free and open public benefit, they more they are likely to fall within market failure objectives. In our example above, if a substantial part of the project cost is to deliver public realm or community or cultural facility, the easier it is to use the market failure objective. This is important as this is likely to make it easier to answer the Principles in response to (b) above.
Otherwise the project must have a regeneration objective. This may be shown by highlighting how the high street is deprived in terms of footfall and employment. The local authority then has to explain how the project would increase footfall and jobs.
Explaining (b) above, once the project is identified as a sound one to engage in, the next question is whether it can be delivered at all without the subsidy, or even if it can, whether the subsidy achieves the deliverables more effectively. The Principles require examination of alternate methods of financing and delivery, additionality (creating something new or improved), need for subsidy and its possible effect on the existing market. In applying the Principles therefore, the subsidy must be shown to be the only or best way to achieve the specific objectives of the project it seeks to subsidise. The Statutory Guidance provides that this is shown by explanations backed up by suitable evidence.
Useful evidence in applying the Principles
The evidence supporting the arguments applying the Principles can vary from project to project, and its production is often a joint effort between the public authority giving the subsidy and the business recipient. There are three key pieces of evidence a public authority may find useful in this exercise:
Market Demand surveys, consultations – the best way to set a specific objective is to check what the public want and why it is not adequately provided by the private sector in the area. Such consultations can be ad hoc public engagement or part of a planning process for instance. They could also involve stakeholder discussions on why the private sector would not engage in the project absent subsidy. Establishing unsettled demand is also evidence that negative effect on competition is minimised, since meeting latent demand strongly suggests little or no displacement of custom or supply chain from surrounding areas.
Viability Gap forecast – numbers speak a thousand words. In simple terms such a forecast shows that net earnings from a project do not meet its initial set up costs (for instance capital costs of construction) leaving a resource need for a subsidy. Further information on such forecasts can be found in our paper Use of Viability Gap in Subsidy Control [insert hyperlink]. Viability Gap forecasts provide evidence of need, change of behaviour and the subsidy being the best resourcing solution (as opposed to commercial loans etc). They also provide supporting evidence of market failure if used as an objective.
Options Appraisal – this essentially compares other ways of attaining the deliverables sought, including the baseline “do nothing” scenario, or deliverables obtainable by adjusting the scale, timing or other parameters. These options are evaluated against each other based on measurement techniques and value for money criteria as a benefit : cost ratio. The cost here would include the public funding needed, but also should ideally list the negative effects on competition. While such appraisals are typically applied to UK Treasury spending, all public authorities are encouraged to use them to justify their spending as they evaluate a wide range of deliverables, whether monetary or not.
Where there are subsidies from more than one public authority, each needs to consider the Principles based on its own objectives, but again could support each other with information and evidence. There is no set presentation for a Principles analysis, but Central Government Guidance is that this is done in the form of a table and maintained by the public authority for its own purposes (there is no need to publish it).
Energy and Environmental Principles
Where the subsidy’s specific policy objective (or one of its objectives) relates to energy or the environment, an additional set of principles set out in Schedule 2 of the Subsidy Control Act need to be considered. These are referred to as “Schedule 2 considerations” so as to avoid confusion.
This is an oddity of the regime, since one would be justified in assuming that emissions reducing projects would have an easier ride in being justified as reasonable, in comparison with (say) a “normal” project offering only ancillary environmental benefits. However this is not the case and emissions reduction projects must therefore follow an additional set of principles for them to be considered reasonable.
Many Schedule 2 considerations are specific to energy generators and distributors, while some have a wider application to users of low emissions technology. So for instance a grant to a bus operator to cover the incremental cost of replacing a diesel battery with a hydrogen, electric or bio-methane one may additionally need to demonstrate how it would improve air quality by reducing air pollution.
By way of another example, a land remediation project involving decontamination from historic pollutants may need to additionally show that the original polluter cannot be traced and made liable to cover the cost. That said, one would expect the Schedule 2 considerations also being relevant to assessment of the Principles and hence not involving a significant extra resource to demonstrate.
Services of Public Economic Interest (SPEI)
These are subsidies towards activities which ultimately benefit individuals such as social housing, rehabilitation of disadvantaged people into social and working life, necessary transport for residents and so on. It is for a public authority to designate a project as an SPEI and once it does so, it has to follow certain processes (assessing viability gap forecasts, monitoring and so on) when implementing an SPEI.
Like the Schedule 2 considerations above, SPEI is another oddity of the regime. Again one would be justified in expecting the application of the Principles to be less onerous than an “ordinary” project like a commercial property development, given the significant public benefit involved. However apart from providing an exemption from considering the Principles (see below) for small subsidies, the Principles appear to be applicable in the same way as any other project.
There is a “carve out” in the Statutory Guidance suggesting that the Principles need not be considered if doing so would prevent the SPEI being implemented. There is no further indication of when such a situation may arise and further guidance on this is anticipated. Until then a possible situation where SPEI “trumps” the Principles could be where its implementation causes a significant market distortion (say in a transport or skills training programme) while delivering the public benefit.
Exemptions from considering the Principles
Assessing compliance with the Principles can be resource intensive, costly and time consuming, particularly where they are of sufficient size or risk to require Competition and Market Authority review. There are a series of limited exemptions from applying the Principles such as Minimal Financial Assistance and SPEI Assistance which cover small subsidies. These exemptions are relatively simple to apply and demand very little administrative input.
Another set of exemptions called Streamlined Subsidy Schemes cover larger subsidies but consequently are more complex to apply, requiring assessment of specific requirements relating to eligibility, maximum amounts and proportion of costs the subsidy can cover and incentive effect.
If these exemptions are applied then all that can be challenged is whether the terms of the exemption are met, rather than a broader consideration of the reasonableness of the subsidy under Subsidy Control (there may still be wider judicial review considerations of reasonableness however).
Finally if the subsidy is given within the framework of a scheme or non-discretionary award under legislation then the Principles need not be considered as they would have been considered when the scheme or legislation was being implemented. In that case the precise terms of the scheme or legislation must be applied to an individual subsidy rather than an overall consideration of its reasonableness for Subsidy Control purposes.
Conclusion
The Principles, and in some case the Schedule 2 considerations as well, need to be assessed where a subsidy arises and is not exempt from their consideration. Each public authority giving a subsidy must do so but are most likely in practice to seek assistance from the beneficiary. Doing so enables the public authority to self-assess the reasonableness of the proposed subsidy under Subsidy Control.
The Principles apply in equal force to all subsidies, even though in some cases like SPEIs or low value or less distortive subsidies, one would expect a “light touch” approach in their assessment. While this is mentioned in the Statutory Guidance, at this point there appears no specific description of what “light touch” would entail and as a result we would always recommend the Principles are analysed in as much detail with as much evidential backing as feasible.
For further information, please contact:
Jay Mehta, Hill Dickinson
jay.mehta@hilldickinson.com
