Restoring financial discipline and returning to financial sustainability

The 10YHP claims that the NHS has become “addicted to deficits” and commits to introducing a new, more transparent financial regime that restores rigorous financial discipline. At the centre of this commitment are two reforms: phasing out deficit support funding; and replacing block contracts with activity-based payment models. 

Phasing out deficit support funding

Removing deficit support funding is widely acknowledged as an important and necessary step towards returning the NHS to financial sustainability. Trust leaders, from all sectors, recognised that the continued use of non-recurrent deficit support funding masks their underlying performance and creates perverse incentives by unintentionally rewarding poor financial management. The 2026/27 revenue and contracting guidance takes the first step in introducing the gradual withdrawal of deficit support funding (NHS England, 2025).

While there is near unanimous support for scrapping deficit support funding, there are valid concerns that the phasing of this withdrawal needs to support long-term financial sustainability. Removing deficit support funding too quickly risks destabilising finances further and widening the gap between the strongest performing organisations and the most challenged. While some organisations will be able to adjust reasonably quickly, many face deep-rooted structural financial challenges that are not entirely within their gift to immediately resolve, for example, significant estate problems, high NHS continuing healthcare (CHC) spend, persistent workforce shortages or a lack of local social care capacity. In confidence, some leaders shared that the scale of the challenge facing their respective organisations was too great to shake their reliance on deficit support funding over the short term. 

Recommendation: It will be important for NHS England and the government to carry out further work to identify and understand the various underlying structural issues that are affecting the most challenged organisations. Understanding why a significant proportion of trusts and ICBs are currently reliant on deficit support funding will be essential to the success of strengthening the financial sustainability of the health service over the medium term. Without serious moves to address some of these structural challenges, withdrawing deficit support funding too quickly may prove to be counterproductive and place the most challenged organisations under even more pressure.

Replacing block contracts with activity-based payment models

NHS leaders agree that a closer link between activity, quality of care and funding can help incentivise productivity and improve accountability. However, some trust leaders told us that shifting towards an activity-based payment model should not simply mean a return to the previous Payment by Results (PbR) payment model (the default payment model in use for episodic care between 2003 and 2020). Critics of PbR argue that it tended to reward high-volume, low-risk activity at the expense of more complex or preventative care, and did little to encourage a population health management approach – both of which form key parts of the 10YHP’s vision for a neighbourhood health service (NHS Confederation, 2025a). 

It will be important that future payment models do not focus simply on incentivising a higher volume of activity, but on the quality and appropriateness of that activity too. Any shift towards activity-based payment models must ensure that the incentives are aligned with improving health outcomes and patient experience and enabling integration, rather than focusing solely on throughput.

As with year of care payments, the success of shifting to activity-based payment models also relies on accurate tariff-setting that reflects the true cost of delivering care. Current prices are based on cost and activity data from 2018/19, and setting tariffs below cost would risk embedding financial instability across the sector. The government must therefore commit to updating cost and activity data before expanding the use of activity-based payments. Trust leaders also cautioned that such payment models are less suited to mental health and community services, where models of care are continuous and more difficult to segment into discrete units of activity. If activity-based payment models are to support, rather than hinder, the shift towards community-based care, then they must be carefully designed to ensure they are appropriate for mental health and community services. 

Finally, trust leaders also emphasised that they had serious concerns over the affordability of shifting back to activity-based payment models, drawing heavily on recent experience with activity-based funding for elective recovery. While the elective recovery fund (ERF) initially provided a strong incentive for trusts to increase activity beyond baseline levels, the model quickly became financially unsustainable at a national level. As activity increased, the cost of meeting the incentive payments rose sharply, outstripping the available funding envelope. This ultimately led to HM Treasury capping ERF payments over the 2024/25 financial year. 

For many trust leaders, this experience serves as a clear warning: even when activity-based incentives are well designed, the system may simply not be able to afford the amount of activity that these incentives generate. A return to a broader activity-based payment regime risks repeating this pattern at a much larger scale. 

Recommendation: Any expansion of activity-based payment must be phased, affordable and grounded in up-to-date cost data. Incentives should reward value and outcomes – not simply volume – and be tailored to support mental health, community and preventative services, if they are to deliver the ambitions of the 10 Year Health Plan. 

Transitioning to a new community-based model of care

NHS leaders emphasised that delivering a meaningful shift from hospital to community-based care will require a period of “double-running”, during which trusts and the wider NHS will incur the cost of maintaining existing acute capacity while simultaneously investing in new community, primary care and preventative services. Without sustained upfront investment in these out-of-hospital services, the ambition to deliver the vision set out in the 10YHP cannot be realised. It will take both time and resources before we can see a genuine return on investment from delivering more services outside of hospital that are focused on early intervention and prevention. 

At the same time, trust leaders are clear that it would be counter-productive to destabilise acute providers (many of which are already in deficit) by withdrawing resources before demand has been sufficiently reduced. Furthermore, there is a risk that increased investment in community-based services may not lead to a permanent reduction in demand, for example, greater community-based care may uncover a previously hidden level of unmet demand. 

However, even if demand for acute services is successfully reduced, acute providers will inevitably be left with significant stranded costs (such as underused estate and associated overheads). Therefore, there needs to be a clear and credible mechanism for managing these “double-running” costs, ensuring that acute services remain financially sustainable, while investment can also be channelled into primary and community care to deliver the intended shift towards prevention and community-based care. NHS leaders are keen to press ahead with delivering the vision of the 10YHP, but are continually frustrated by the challenge of identifying sufficient resources to pump-prime funding into organisations that will be delivering care closer to patients.   

NHS leaders also cautioned that the wider reform agenda risks being undermined by the volume of national priorities currently being placed on providers. Organisations are simultaneously being asked to deliver key operational priorities, such as improving urgent and emergency care performance; significantly reducing care backlogs; improving productivity; delivering a new neighbourhood health model; and maintaining financial sustainability. 

NHS leaders have frequently raised that there is a growing tension between what is being asked of them and the resources – both in terms of financial and managerial headroom – available to deliver them. Indeed, many organisations have had to scale back investment in service transformation and preventative services as a result of financial pressures (NHS Alliance, 2026). There is a risk that priorities begin to compete with one another, stretching already constrained capacity and diluting the focus from engaging with delivering the transformation that the 10YHP envisions. 

NHS leaders also noted that recent payment reform discussions for 2026/27 have largely focused on refining mechanisms within the acute sector – particularly around elective recovery and urgent and emergency care – rather than on establishing the financial flows required to enable a meaningful shift towards greater community-based care. While improving performance in these areas remains essential, continued emphasis on acute activity risks reinforcing existing patterns of resource allocation. If the 10 Year Health Plan is to deliver a sustained shift towards prevention, neighbourhood services and community-based care, payment reform must go beyond short-term adjustments to acute incentives and instead create durable financial mechanisms that actively support investment outside hospital settings.

Recommendation: The government and NHS England should set out a clear approach for sequencing national priorities and provide dedicated support for managing transition costs, alongside developing new financial mechanisms that will enable the shift in resources from hospital to community. This will ensure organisations have the time, capacity and financial headroom to sustainably transition to community-based models of care without destabilising existing acute services.