Brexit viewpoint: signals and development

10 February 2020 | EY Network of Law Firms

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31 January 2020 marks the final step of this stage in the Brexit process, with the UK leaving the EU at 11pm. From then, the UK will enter a transition or implementation period lasting until 31 December 2020.

The EU will now send a diplomatic note to more than 160 countries with which the EU has international agreements notifying them that the EU will treat the UK “as a Member State of the Union and of Euratom for the purposes of [their] international agreements” until the end of the transition period. It will effectively ask them also to treat the UK as a Member State until the end of the transition period.

Although, under the terms of the Withdrawal Agreement, the UK must comply with all obligations under EU agreements (including agreements on aviation and security as well as trade deals), the Withdrawal Agreement is only binding between the EU and the UK. Non-EU countries could decide not to treat the UK as part of the EU. Press comments have suggested that both EU and UK officials consider this unlikely, particularly as the transition period is so short.

Key messages for business planning

Areas for business to assess their current position and what might happen next largely fall into two broad categories:

  • ‘At the border’ issues, essentially customs and immigration.

    A customs border is coming but this will, by now, be familiar to many businesses, although easements that have previously been promised (e.g. temporary tariffs, transitional simplified procedures (TSPs) or light touch compliance) may not be available this time. Similarly, with a Free Trade Agreement (FTA), there is a clear framework in many sectors based on existing EU agreements, e.g. Canada and Japan.

  • ‘Behind the border’ issues including regulatory divergence.

    These issues are more fluid and less familiar for many. Nevertheless there is a clear opportunity to influence and extend previous no deal planning. Businesses may want to consider the merits of establishing a footprint in the EU, as has been done by many in the financial services sector.

    Some of the activity needed to prepare for the end of transition will have a significant lead time (e.g., implementing FTA agreement technology might take 6-9 months, engaging with supplier base and gathering documentation will also take time) so we are suggesting that businesses build out the timetables now. An example approach would be:

    • Within Q1: As an extension of previous no deal planning, assess readiness against no deal but with the expectation that previous easements will no longer apply and against a proxy FTA such as Canada or Japan.
    • In Q2: Pull together the plan, sign off with stakeholders and agree the budget. This will likely take a full quarter given the large numbers of stakeholders involved.
    • Q3-4: If no extension to transition period in July, then press proceed and begin plan implementation.

    In tandem with this activity, business should continue to engage with the Government – either directly or via trade bodies – so the Government is aware of the challenges.

Negotiations on future trading arrangements

The relationship that the EU and UK will have following the end of the transition period remains subject to negotiation. In early February, both the EU and the UK are expected to publish their negotiating positions for the future relationship, although it is suggested that negotiations will not commence until 3 March 2020, given the need for the EU to get agreement from all Member States on the negotiating mandate. There is some debate about whether 11 months (or in practice 8 or 9 months) is sufficient time to agree to a comprehensive free trade agreement.

There has been speculation that separate “bite size” agreements may be possible, which could leave some areas unaddressed on 31 December 2020. However, latest rumours suggest a deal modelled on the existing trade deal between the EU and Canada may be more likely.

It has been reported that the EU and 16 other World Trade Organization (WTO) members agreed to work together to develop an interim appeal arrangement that will allow WTO members to preserve a dispute settlement system. This is important for multinationals operating in countries with no bilateral dispute resolution mechanisms in place and may become relevant to UK businesses if a free trade agreement is not reached with the EU (and other countries) by the end of the year.

Immigration

With the transitional arrangements that maintain Freedom of Movement lasting only until 31 December 2020, the UK Government has a short period of time to outline a new post Brexit immigration system. The Migration Advisory Committee (MAC) has now published its report in response to the request from the Government to consider how a points-based immigration system could be introduced in the UK. The MAC recommended the use of a mixed system, consisting of a minimum salary threshold for skilled migrants coming to the UK with a job offer, and a points-based system for those migrants seeking to enter the UK without having a job arranged. Although the Government is not obliged to adopt the MAC’s recommendations, the report will be relevant to the Immigration Bill, which we may see in the next few weeks.

Reliance on EU tax directives

Article 127 of the Withdrawal Agreement says that, unless otherwise provided in this Agreement, EU law shall be applicable to, and in, the UK during the transition period and that any reference to Member States in EU law, including as implemented and applied by Member States, shall be understood as including the UK. This means that the EU tax directives, which apply between Member States, continue to apply to the UK and that the UK falls within the directives as it is treated as a Member State.

Once the transition period ends, UK companies, unless a specific agreement is reached with the EU, will no longer be able to benefit from the directives in respect of payments made from Member States to the UK. Instead, they will need to rely on the UK’s double taxation agreements (DTAs) with individual Member States to limit the domestic withholding taxes that can be levied by those Member States. HMRC is considering representations on the need to negotiate new arrangements for those cases (such as Italy) where the current DTAs do not provide for a complete exemption from withholding taxes.

However, in respect of interest and royalty payments made from the UK, HMRC has issued guidance which confirms its view that, although the EU directives will not be available, there will still be relief from UK withholding tax on interest and royalties under UK domestic law. This is due to the wording with which the EU interest and royalties directive (IRD) was implemented in UK law and the payments would still need to comply with the ownership conditions set out in the IRD. It would of course be open to the UK Government to amend the legislation post-Brexit. As the UK does not apply withholding tax on dividends, there was no need for specific UK legislation to implement the EU parent/subsidiary directive.

Key milestones to look out for

  • 25 February – EU to finalise mandate for trade negotiations
  • Early March – Trade talks due to begin
  • 30 June – Deadline to agree any one-time extension to the transition period
  • 31 December – End of the transition period, if not extended