Ways for UK businesses and foreign investors to mitigate uncertainty around Brexit

It now seems very likely that both parties will implement the “Transition Deal” negotiated between Boris Johnson’s government and the EU. As a result, the UK will leave the EU on 31 January 2020.

The first day of February 2020 will be the start of the “Transition Period”, during which EU rules continue to apply, while the UK and the EU negotiate a future trade deal. The transition period ends on 31 December 2020. The UK government has indicated that there will be no extension of the transition period beyond 31 December 2020, although there remains the possibility of a one or two-year extension. Whether or not the UK extends the transition period will be known by 30 June 2020.

Expansion outside the UK

UK businesses that are likely to require “borderless” access to EU markets should already be thinking about incorporating at least one subsidiary company within the EU, to ensure full access to EU markets in the event of a hard Brexit. Provided that any such subsidiary is incorporated under the laws of a Member State and conducts a genuine economic activity in a Member State, it will be capable of engaging the fundamental freedoms of the European Treaty. Such a measure will not only provide immediate access to the economy of the incorporation state but a guarantee from the EU Treaty that the company can freely establish in any other member state, i.e. receive equal treatment with locally incorporated companies. In practice, UK companies will be likely to incorporate in the EU countries where they wish to trade. However, following the European Court’s judgement in the Cadbury Schweppes case, a company located in the EU could incorporate a subsidiary in an EU member state chosen because it levies low tax rates (e.g. Ireland, Bulgaria, Cyprus, Hungary, Malta). Provided that such a low-taxed company conducts a genuine economic activity in the low-tax host state, Cadbury Schweppes is an authority that this is not an abuse of the EU Treaty.

Another important point relating to dividends, interest, or royalty payments received by UK companies from companies registered in an EU Member State is that such UK companies will continue to be protected from foreign withholding taxes via the UK’s comprehensive double tax treaty network. In the case of foreign dividends, the UK’s tax treaties with the EU Member States provide in most cases equivalent protection from foreign withholding taxes to the protection provided by the EU Parent / Subsidiary Directive. In the case of interest and royalty payments arising from EU sources, even if the relevant UK tax treaty does not eliminate source withholding taxes altogether ( as is provided by the EU Interest and Royalties Directive), then UK double tax treaty relief will reduce the level of withholding tax from the domestic rate, and there will be UK credit relief on any withholding tax payable against UK corporation tax liability on the interest or royalty income. Needless to say, the reliefs provided by EU Directives and UK double tax treaties are not unconditional, and specialist professional advice should be taken before placing reliance on these reliefs, especially since the OECD BEPS project is now affecting double tax treaty networks. The Vistra International Tax team in the UK can provide advice to UK corporates in this regard.

A UK parent company receiving profit repatriation by way of dividend from any EU subsidiary company will typically earn such income free of UK corporation tax, and therefore without economic double taxation. This exemption is not something that falls away after Brexit, as it is enshrined in UK tax legislation. Moreover, recent reforms to the UK’s “substantial shareholder” exemption will widen the circumstances that enable UK parent companies to sell EU subsidiary trading companies free of UK corporation tax on resulting capital gains in the UK, if certain reasonable conditions are met. This exemption also applies if the UK company’s subsidiary is a holding company of a trading group or sub-group.

Foreign Investment

For foreign investors, the UK now offers significant opportunities:

• Greater clarity concerning Brexit issues.
• Renewed political stability and an avowedly pro-business government.
• The opportunity to trade in a large economy that has held up well to external pressures such as Brexit, and the global banking crisis of 2008.
• A safe and secure trading environment, provided by a world-class legal system, and independent judiciary, that gives confidence to non-UK investors acquiring substantial UK assets, or entering into legal agreements written under UK law.
• The opportunity to trade in a low-tax environment. The UK corporation tax rate is now only 19%. Furthermore, overseas investors can repatriate profits from UK companies very tax-efficiently - there is no UK withholding tax on outward-bound dividends, for example.
• Employer on-costs (e.g. national insurance) are also much lower in the UK when compared with many other EU countries’ equivalent regimes.

Conclusion

The long-standing tax advantages of the UK corporate tax regime continues to apply post – Brexit, i.e. the largest double tax treaty network in the world, low corporate tax rate, and no or limited application of withholding taxes on outward bound profit distributions.
For foreign investors, the UK is open for business as a low tax corporate domicile. The ease and economy of UK company formation and administration is a famous hallmark, as are the UK’s liberal rules for foreign investment in UK businesses and real estate. After the Transition Period, all these pro-business characteristics are likely to be further accentuated.

Contact Martin Palmer

Author: Martin Palmer, Consultant, Vistra UK