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What is a 'Private Finance Initiative - PFI'

A private finance initiative (PFI) is a method of providing funds for major capital investments, where private firms are contracted to complete and manage public projects. Under a private finance initiative, the private company, instead of the government, handles the up-front costs. The project is then leased to the public, and the government authority makes annual payments to the private company. These contracts are typically given to construction firms and can last 30 years or longer.

In the United States, PFIs are also called public-private partnerships.

BREAKING DOWN 'Private Finance Initiative - PFI'

Private finance initiatives were first implemented in Great Britain in 1992 and become more popular after 1997. They were used to fund major public works projects such as schools, prisons, hospitals and infrastructure. Instead of funding these projects up front from tax receipts, private firms construct them and then make their money back through long-term (25+ years) repayments, plus interest, from the government. Thus, the government does not have to lay out a large sum of money at once to fund a large project.

PFI contracts typically last 25 to 30 years, depending on the type of project, although contracts less than 20 years or more than 40 years also exist. During the period of the contract, the consortium will provide certain services, which were previously provided by the public sector. The consortium is paid for the work over the course of the contract on a "no service no fee" performance basis.

PFIs are intended to improve on-time project completion and also transfer some of the risks associated with constructing and maintaining these projects from the public sector to the private sector. Financial advisers such as investment banks help manage the bidding, negotiating and financing processes.

A key drawback is that interest and payments associated with PFIs burden future taxpayers. In addition, the arrangements sometimes include not only construction, but ongoing maintenance once the projects are complete, as well, which further increases a project's future cost and tax burden.

Termination procedures are highly complex, as most projects are not able to secure private financing without assurances that the debt financing of the project will be repaid in the case of termination. In most termination cases, the public sector is required to repay the debt and take ownership of the project. In practice, termination is considered a last resort only.

In the United Kingdom in the 2000s, a scandal surrounding PFIs revealed the government was spending significantly more on these projects than they were worth, to the benefit of the private firms running them and to the taxpayers' detriment. In addition, PFIs have been criticized as an accounting gimmick to reduce the appearance of public-sector borrowing.

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