06 May 2008
Key Points:
Capital Works Funding Agreements raise a number of unique and often complex issues in addition to those traditionally associated with funding arrangements.
The Commonwealth uses Capital Works Funding Agreements ("CWFA") to provide funds to funding recipients to undertake capital works, most usually on the understanding that those capital works will subsequently be used for a particular purpose of benefit to the community as designated by the Commonwealth ("Designated Purpose").
CWFAs are becoming an increasingly used tool for the Commonwealth to implement its policy objectives, for example in the area of indigenous housing and health, but they raise a number of unique and often complex issues for the Commonwealth which do not ordinarily arise in the context of standard funding arrangements.
One key issue in CWFAs is securing the use of the capital works, once complete, for the Designated Purpose and for a period acceptable to the Commonwealth. This is not necessarily as simple as it may seem, particularly as the land on which capital works occur is not usually controlled or owned by the Commonwealth. Commonly, arrangements implemented do not successfully achieve the Commonwealth’s policy objectives, but rather focus on recovery of funding in the event of breach.
This article discusses some key aspects of, and options for, securing the use of Commonwealth funded capital works.
What is the Designated Purpose?
As a starting point, it is important to ensure the Designated Purpose and the designated use period are appropriately defined having regard to factors such as:
How can the Designated Purpose be achieved?
Once the Designated Purpose has been defined, the Commonwealth should turn its mind as to how that purpose should be achieved.
Legal undertakings
Where the funding recipient is the owner or long-term lessee of the land on which the capital works are to be constructed, legal undertakings may be sought in relation to the ongoing use of the land for the Designated Purpose. Consequences for a breach of that promise can also be specified, such as an entitlement to receive funds or liquidated damages. This in itself however can raise issues (we consider these below).
Where a funding recipient is neither the owner nor a long-term lessee of the relevant land, it will not be able to give such an undertaking. The Commonwealth may then need to look to third parties; in doing so, the Commonwealth will need to consider:
Further issues will arise if the grant recipient is not going to provide the relevant services (or may not provide the services for all of the designated use period). In such circumstances, the Commonwealth may consider entering into a tripartite agreement with the grant recipient and the service provider to obtain the legal assurances it requires.
In all cases the Commonwealth should consider the effect that any encumbrances which exist over the land concerned (such as mortgages, caveats, or other interests) will have on its ability to seek and enforce undertakings of the type required, and, if necessary, engage the relevant interest-holder in discussions or negotiations as may be appropriate.
Contractual undertakings can be an effective tool to incentivise funding recipients to continue to use capital works for the purposes required by the Commonwealth. If breached, however, such an arrangement may not necessarily allow the Commonwealth to achieve its ultimate objective, that is, the use of the capital works for its policy objectives. Rather, it would entitle the Commonwealth to potentially recover damages/funding.
Ownership or long-term lease of land
If the Commonwealth were to obtain ownership of the land on which the capital works were to be constructed (and hence obtain ownership of the completed capital works), or enter into a long-term lease over the land (specifying the Designated Purpose as part of the lease), the Commonwealth would be able to directly dictate the terms on which the land could be used and rights of usage over the property.
Generally speaking, however, it is the Commonwealth’s policy not to acquire ownership in land. The Australian Government Property Ownership Framework, for example, states that "the Government’s core business excludes property ownership unless particular circumstances apply", and goes on to provide that the case for ownership must be made on the basis of one of a number of specified, and quite limited, criteria. While the Framework only regulates land ownership, similar considerations are likely to apply in relation to the Commonwealth acquiring a long-term lease over land.
Further, the provisions of the Lands Acquisition Act 1989 would need to be taken into account if the Commonwealth intended to acquire ownership of land or sought to obtain a long-term lease over the land.
Charitable trusts
A charitable trust for purposes could be established by the Commonwealth and used to administer the funding. The Commonwealth, as settlor of the trust, could declare that the funding is held on trust by the funding recipient who is required to deal with it for the Designated Purpose. A possible advantage in using this type of funding model is that the charitable trust may be exempted from some forms of taxation, such as income tax or property tax. Specific taxation advice should, however, be sought in all instances where trust arrangements are adopted.
The charitable purposes funding model is legally complex. To be considered charitable, the trust must operate for the benefit of the public and its Designated Purpose must fall within one of the specific categories of charitable purposes, that is, the purpose must either be for the relief of poverty, the advancement of education, the advancement of religion, or some other purpose falling within the spirit of the preamble to the Statute of Charitable Uses Act 1601.
What happens if capital works are not used for the Designated Purpose?
Recovery of funding provisions
A consequence of breaching legal undertakings to use the land for the Designated Purpose may be that the promisor (whether it be the grant recipient or a third party) agrees to pay the Commonwealth a specified amount of money ("recoverable amount") if the land ceases to be used for the Designated Purpose for the designated use period.
Provisions of this type can present particular problems in a Commonwealth context. For these provisions to be enforceable, the recoverable amount needs to represent a genuine pre-estimate of the damages likely to be suffered by the Commonwealth in the event of a breach. If the recoverable amount is not a genuine pre-estimate, the provision may be construed as a penalty and therefore be unenforceable. It is often difficult however for the Commonwealth to make a genuine pre-estimate of loss, particularly where the services or outcomes required are delivered to the public rather than to the Commonwealth itself.
Depending on the circumstances, it may be more appropriate for the Commonwealth to consider structuring the funding as a form of contingent loan, or relying on its common law right to damages, rather than attempting to pre-estimate the quantum of damages.
Transfer of or mortgage over the relevant land
The Commonwealth may wish to consider requiring a transfer of the land concerned as a consequence of breaching a legal undertaking. Alternatively, the Commonwealth could consider taking a mortgage over the land in order to secure use for the Designated Purpose (and therefore obtain a mortgagee’s powers, such as the power of sale over the land, in the event of a breach of the mortgage terms).
Each of these options does however raise issues for the Commonwealth. In the case of a transfer of land, for example, the terms of the transfer will need to be considered, as will the question as to what will happen to any proceeds from a transfer. Structuring the transfer arrangements will be important as, in some cases, provisions requiring a transfer or forfeit of an interest in land will be unenforceable. In addition, in the case of a mortgage, the administrative and legal difficulties in exercising mortgagee’s powers can outweigh the benefit to be obtained from having such a security.
Step-in rights
If the Commonwealth wants to get the job done, simply seeking to recover its funding where there has been a breach of legal undertakings is unlikely to fulfil that objective. In such circumstances, the CWFA may need to give the Commonwealth the rights to step in and take over from either the service provider or grant recipient in the event of a breach.
Summary
To ensure that the Commonwealth’s Designated Purpose is achieved, CWFAs need to be specifically tailored to the individual circumstances of a given case.
For further information, please contact Alfonso del Rio and Holly McAdam.
