Scottish Public Finance Manual

The Scottish Public Finance Manual (SPFM) is issued by the Scottish Ministers to provide guidance on the proper handling and reporting of public funds.


Annex 1: charge/clawback condition

Charge / Clawback condition over publicly funded assets

Introduction

1. Public bodies should take suitable and proportionate steps to safeguard their financial interests when giving funds to others to acquire or develop assets. In addition, sponsoring units within the Scottish Government should satisfy themselves that their sponsored bodies handle grants to beneficiaries appropriately.

2. Bodies providing such funding should carefully consider setting conditions on their grants that are realistic and proportionate to the value of the grant, the use of the asset being publicly funded and the potential future value, thus safe-guarding the funder's financial interest over the asset.

Introducing a charge or clawback condition

3. The most common way of safeguarding financial interests is to set a condition on the grant that gives the funding body a charge over the asset, ie the right to be consulted about the asset being sold or put to an alternative use. On occasions, such a condition could be expressed as the funded body agreeing to refund the grant or, more usually to return the proceeds from the sale of the asset to the funder, (ie for the funder to clawback the proceeds). When setting a clawback condition, the funder should also consider setting out the circumstances in which it would consider the proceeds being retained or recycled back to the recipient.

4. There is no single correct model for clawback. There are a number of different types of public sector funders, and considerable diversity in the population of funded bodies, including various types of bodies outside the public sector such as "third sector" bodies. The terms of grants need to be adjusted to suit the circumstances of the case, allowing as much flexibility as seems sensible, particularly where public funding can enhance recipients' capacity to develop and provide services over the longer term or to become independent of public funding. Terms on grants need to be set in ways that enhance funded bodies' ability to work with public bodies to deliver services: over-rigorous terms may militate against this and therefore not achieve overall value for money. This is particularly so in the case of funding assets acquired by third sector bodies. The third sector includes the voluntary and community sector, social enterprises and charities and community interest companies.

5. In setting these terms, funders need to consider the different circumstances in which assets may be disposed of, and the purpose of the support underlying the original grant. The terms of clawback should therefore reflect the extent of public funding, the nature and expected life of the asset being developed, and how to assess when the agreed objectives for the funding have been delivered. The objectives should be agreed at the outset as part of the process of assessing the application for grant. For example, a funded body may agree to ensure that the asset delivers community benefits for a certain period: once the benefits have been delivered and the agreed period has expired, it would make sense for the funding body's charge / right to clawback, to expire, even though the asset remains in use and has a value.

When does a funder have a reasonable claim?

6. When introducing a charge / clawback condition over an asset, funders need to consider how far it could reasonably and proportionately lay claim to all, or part, of the proceeds of a sale and for how long any such claim should last. It is reasonable to lay claim to an asset where the funder wants to:

  • be satisfied that the grant for acquisition or development of the asset would not be diverted without its endorsement;
  • be satisfied that the agreed objectives for the funding have been achieved before the asset is sold; or
  • avoid giving the recipient an uncovenanted benefit by using public funds to acquire or maintain an asset that was sold shortly thereafter.

7. Charge / clawback terms, and their duration, need to take account of:

  • the nature and purpose of the payments to the body in question;
  • the type of assets, if any, acquired or created by the funded body;
  • the use to which these assets are put;
  • the objectives for the funding and the relation of the asset to securing these objectives;
  • the proportion of the funded body's total expenditure covered by grants from public bodies;
  • how long it is reasonable for the donor to maintain an interest in the asset;
  • whether the recipient is an asset-locked body, eg a charity or community interest company;
  • possible legal implications, including any implications for subsidy control.

Nature of funding and whether to introduce a charge / clawback condition

8. Funding by public bodies can take place in several different ways, and introducing a charge / clawback condition would not always be appropriate. For example, it would be reasonable to introduce a charge / clawback condition in relation to the following:

  • tangible or intangible assets financed directly, whether wholly or partly by grants or grants in aid; or
  • tangible or intangible assets developed by the funded body itself, financed indirectly by a grant for a related purpose or by grant in aid.

9. Laying claim to the full value of assets after sale is not appropriate if the original funding only financed part of the full value of the asset when acquired.

10. Charge / clawback terms are not applicable in certain circumstances, for example:

  • procurement of goods and services - any liability would have been adequately discharged once the goods and services have been provided. This is likely to be true even where the service provider had purchased assets to deliver the goods and services;
  • similarly, if a funder provided grants for research and not specifically for the creation of physical assets, the undertaking of the research might, depending on the circumstances, be regarded as an adequate return.

What to include in conditions

11. Funders should consider whether conditions of grant should deal with the circumstances in which assets may be disposed of, the potential for change in value and the method of disposal, as well as the treatment of receipts, for example:

  • whether property may be sold;
  • when it may be sold;
  • how it may be sold;
  • how to get the best price;
  • to whom it may be sold;
  • whether the property may be disposed of by way of gift and/or to whom;
  • whether the property may be sold to another body at a price less than the best price reasonably obtainable;
  • whether there is a "lock" over the asset, eg because it is owned by a charity or community interest company.

12. Funders should also consider whether conditions of grant should deal with the circumstances in which the use of assets may change and hence whether the funded body would need to consult the funder. The funder and grant recipient should agree at the outset the nature of the charge / clawback condition. Any such condition should be consistent with the agreed objectives being delivered. The condition may also include taking into account the range and the potential value of assets that the recipient might create, particularly intellectual properties, which may be of considerable value to potential purchasers.

13. In setting terms and conditions for grants, funders should consider the feasibility of enforcement, with due regard to the legal powers available. Funders should also consider whether conditions should be imposed to cover the position if the funded body were wound up or went into liquidation, so that the funder would have priority over unsecured creditors.

14. In some cases, the grant may have been paid to improve the asset rather than to acquire it. In such cases, funders should consider whether it would be prudent for the asset to be valued before and after the improvements have been made to provide a basis for calculating any repayments to the funder.

Making a claim on the asset enforceable

15. In order for the charge / clawback condition to be enforceable when the funded body disposes of an asset or changes the terms of its use, the funder should ensure that the terms of the grants include appropriate requirements. Examples of these are:

  • imposing suitable conditions at the time when the grant is paid in, for example, offer letters; or
  • introducing such conditions in a sponsored body's framework document;
  • introducing a formal legal charge on the asset - see paragraph 16 below.

16. Funders may, if they think it necessary and appropriate, secure a formal legal charge on the asset, in particular where giving funds to enable others to acquire land and/or buildings. This is particularly suitable for high-risk projects or where funders want to minimise the risk of third party creditors deriving a benefit which otherwise would have been returned to the funding body. In addition, where a grant recipient is a company under the Companies Act, a funder might wish to consider securing a sum as a charge on the book debts of the company, ie a registered charge under the Companies Act.

17. Funders should satisfy themselves that terms and conditions of grant are effective and proportionate to the risks and the funding and within the terms of any statutory powers, including EU law. Legal advice should be sought with regard to the imposition of formal legal charges.

Duration of charge / clawback conditions

18. The terms and conditions of funders' grants should reflect the likely change in value of the assets over time to ensure that there is no uncovenanted benefit from the use of public funds. The terms might specify that if a given asset were sold, the proceeds, or a specified part of them, would be paid to the donor

19. However, such terms can create a disincentive for the recipient to take on an asset. This can apply where the asset is dilapidated or in need of significant expenditure or both but where it is likely to appreciate in value. In particular, grant recipients in the third sector may find such terms a deterrent.

Options for determining charge / clawback periods

20. There is no one preferred approach. Options can include:

Option I: to set the terms of charge / clawback relative to the period over which community services are expected to be delivered rather than relative to the life of the asset;

Option II: as for option I, but also to agree that if the asset's market value increases (and assuming grant was no more than original market value at acquisition), a recipient might use the difference between the original grant - taking account of inflation if considered appropriate - and latest market value to support its borrowing. Where this approach is used, the funder's interest in the asset is relative to the market value of the asset thereby enabling the grant recipient to lever in funding from other sources over time;

Option III: to agree that any amounts to be clawed back would decrease by an agreed proportion each year until they vanish to zero - for example, 10 years and reducing any potential amount of clawback by 10% each year, or for 5 years and by 20% each year;

Option IV: as Option III but to base it on the estimated time of delivery of the agreed objectives of the grant rather than the life of the asset;

Option V: to base the charge period on the life of the asset - this option is particularly appropriate when working with profit-making bodies and where the asset is assessed as being able to be used for a considerable length of time.

21. Funders may need to assess the risk of third party creditors gaining an uncovenanted benefit at their expense, and so set charge / clawback periods proportionate to that risk. They might also consider it appropriate to withhold agreement to the asset being used as collateral if the risks of uncovenanted benefits are too great. In addition, funders should consider:

  • reaching agreement with the funded body that there should be a break clause that would allow the funder and recipient to agree that the objectives of the funding have been achieved and that therefore the funder can relinquish its interest over the asset;
  • allowing for scope to retain the charge and review the clawback period if the project has not met the agreed objectives;
  • enabling the funded body to use the assets as security for lending, once the charge or clawback period is agreed to have ended;
  • the possibility of recycling any proceeds from sale in their budgets.

Recording any charge / clawback condition

22. It is advisable that public bodies giving grants to others to acquire or develop assets should keep records of the agreed charge / clawback condition, irrespective of any usual document disposal rules. Similarly the body owning the asset should also keep a record of any charge / clawback condition.

Agreeing not to claw proceeds back once an asset is to be sold

23. There may be occasions where a grant funded asset is to be sold but the funder considers that the proceeds should not be clawed back. In such cases the funder should make a deliberate and considered decision about how to proceed rather than letting the disposal go by default. The onus of proof in justifying a proposal to allow a funded body to retain proceeds will be on the funder concerned. In such cases, funders should ensure that sums to be reinvested are subject to the same controls (e.g. in terms of investment appraisal and costs) as investments requiring new grants. An alternative approach may be for the funder to agree not to recover the grant but to deduct a similar amount from other future grants it may make.

24. If a funder decides to waive a charge / clawback condition, it should consider whether it needs to report that waiver in its annual accounts.

Sale of body as a going concern and recovery

25. Where the body owning the assets is being sold as a going concern, funders should take legal advice on whether they can recover the proceeds. They may also take into account whether the potential purchaser is one that has its assets locked and whether its objectives are in line with the original owner's. Funders should consider carefully whether any other steps could be taken. For example, if a funder is in a position to influence the decision to sell, its endorsement of the sale should be taken consciously in the light of all the facts.

 

Page reviewed: March 2019

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