The Brexit white paper: tax notes

The UK government’s white paper, The future relationship between the United Kingdom and the European Union, mentions the word ‘tax’ just three times. All three times come in section 1.6.1 (para 112), carving ‘tax discretion’ and tax rates out of the state aid concession that is given in the preceding paragraph. The parameters of ‘tax discretion’ within the context of state aid are undefined: given that state aid challenges in the area of direct tax are generally described as something else altogether (generally, as a challenge to one of the four freedoms of people, capital, goods and services), the term ‘tax discretion’ may not mean much given that the UK also proposes a ‘common rulebook’ with the EU on state aid. That said, the term does rather seem to be aimed at spiking any future transfer pricing ruling challenges.

Looking more generally at the document with an eye to direct tax in particular, there are no specific proposals in the white paper regarding corporate group structures, nor any particular discussion about free movement of capital. The implication must be that the UK expects that, on the day the UK ceases to be a member state, the relevant Directives will fall away completely and the UK’s tax treaties with the EU27 will operate unfettered by EU Directives. The UK does, unsurprisingly, have treaties with each of the EU27. Only one of those tax treaties mirrors the position under the Parent/Subsidiary Directive and the Interest and Royalties Directive, providing for a 0% withholding across each of interest, dividends and royalties – and that is the treaty with Finland.

All the other treaties call for some withholding taxes in certain circumstances. In some cases, the rate is reduced to 0% with a certain level of shareholding and, sometimes, where the shareholding has been held for a particular period of time. However, that isn’t always the case: for example, the treaties with Germany and Italy have non-zero withholding taxes on dividends; the treaties with Luxembourg and Italy have non-zero withholding taxes on royalties, and so on. The cost to the UK of these withholding taxes has been estimated to be substantial and, presumably, post-Brexit negotiations will include discussions with many of the EU27 on new tax treaties as the white paper does not, for example, suggest that the UK seeks a general agreement with the EU on withholding taxes within groups.

Accordingly, any company with EU group relationships should – if it has not already started to do so – examine its group arrangements, including intellectual property licensing and loans, to determine whether any withholding taxes are likely to start to bite, and whose cost/responsibility they will be. Any new licenses or loan documents should clearly set out how withholding taxes should be dealt with, to the extent that they become applicable.

Leading on from this, companies should also consider the extent to which it is possible that more restrictive measures may apply domestically to group members or other affiliates in EU countries once the UK ceases to be a member state, given that the white paper does not seek any reciprocal benefits in this area. Although the UK has tended to apply equal treatment in tax measures globally (certain anti-avoidance measures being the exception), some EU countries more routinely limit equal treatment to entities resident in other EU member states – so that, for example, a UK company may no longer be regarded as a qualifying group member for tax purposes in some EU member states, potentially breaking group structures. (For example, Ireland’s definition of a capital gains tax group requires that all members be resident in the EU or in an EEA country with a double tax agreement with Ireland. The UK is not proposing that it will obtain EEA status and so Irish subsidiaries of a UK company may find that they are no longer grouped for Irish tax purposes – possibly resulting in a clawback of group relief on transferred assets, to highlight one particular consequence.) The reducing corporate tax rate in the UK may also bring UK subsidiaries of EU companies into the scope of local controlled foreign companies rules (as is already the case with Japan) and, once the UK is no longer a member state, with fewer options for exemption from such rules.

Conversely, of course, the provisions in UK law allowing UK loss relief for losses of EU subsidiaries (in highly limited circumstances) are unlikely to remain on the statute books for any length of time after the UK ceases to be a member state.

From the corporate to the personal: for individuals, there is slightly better news in that the UK ‘will seek reciprocal arrangements’ on social security (section 1.4.2, para 89), including ensuring that workers only pay social security in one state at a time – in effect, seeking to remain within the EU social security agreement arrangements for NICs for those working on secondment to other EU countries. The paragraph seeks reciprocity in a number of other areas as well, so it remains to be seen whether this element survives negotiations.

Back to business: e-commerce is briefly mentioned (section 1.5.1, paras 95–96) but there is nothing to suggest that the UK is looking for any extension of the union scheme for VAT on digitally supplied services, so those businesses registered with HMRC under MOSS for sales of downloads of music, books, knitting patterns and so on should start thinking about which EU country they would look to register in following Brexit. This will, inevitably add a further layer of tax compliance and complexity to such businesses but – frankly – that seems to be the general result of many aspects of this white paper on VAT and customs. The proposed dual-tariff system (UK and EU tariffs – pick one on entry into the UK, get a repayment if it’s too high on a later export, and (unspoken) probably a penalty if it’s too low) seems likely to demand a substantial increase in record-keeping for smaller businesses in particular.