Although the UK left the EU at 11pm on 31 January 2020, most people would not have noticed any change because the effect of the transitional arrangements under the UK-EU Withdrawal Agreement deferred many of the legal effects of Brexit in UK law. The UK was required to continue adhering to EU law, and was treated as continuing to be an EU member state for tax purposes, until 11pm on 31 December 2020 (IP completion day). The legal position after IP completion day is much more complex.

The EU/UK Trade and Co-operation Agreement (TCA)

There is very little tax content in the TCA generally, but it is significant that the parties have committed to good tax governance and OECD/BEPS standards, rather than EU standards. This is consistent with the general approach taken in the TCA for both parties to commit to following global standards rather than the UK having to follow EU rules. The main area of interest, therefore, is how the UK’s tax rules may now begin to deviate from EU tax rules, which often go above and beyond OECD standards.

Already, the TCA has enabled the UK to narrow significantly the scope of DAC6 (the EU’s mandatory disclosure rules in respect of reportable cross border arrangement) as the UK is now free to follow the OECD’s global transparency standards instead of the EU’s DAC6 rules (see further our earlier blog post). In practice, this meant that by the time the DAC6 reporting obligations became effective in the UK on 1 January 2021, only hallmarks D1 (arrangements to conceal income or assets) and D2 (arrangements to obscure beneficial ownership) were caught. In time, the remaining DAC6 implementing legislation will be replaced with the UK’s own model disclosure rules that will be in line with the OECD’s version of hallmarks D1 and D2. This was a welcome surprise for UK businesses and their advisers, even though it came after much preparation had been done for compliance with the full DAC6 rules.

VAT recovery for financial and insurance services supplied to the EU

The Chancellor made it clear in November that the ability to recover input VAT on costs associated with specified supplies of financial services and insurance will be extended to the situation where such supplies are exported to EU customers. Paragraph 2.6 of HMRC's guidance confirms this applies from 1 January 2021 and legislation to effect this change is expected to be made in due course.

Withholding tax implications

Payments from the EU to the UK: the Interest and Royalties directive (which provides that intra-group payments of interest and royalties are to be exempted from domestic withholding tax) and the Parent Subsidiary directive (which provides that intra-group dividend payments are to be exempted from domestic withholding tax) no longer apply to the UK. Relief may be available, however, under double tax treaties. HMRC has published very brief guidance reminding taxpayers of the need to make double taxation relief claims where applicable because from 1 January 2021, some EU countries may start to deduct tax from interest, royalty and dividend payments made to the UK. An applicable tax treaty may provide a full or partial exemption if a claim is made. The German and Italian treaties, for example, provide for only a partial exemption in respect of dividend withholding tax (reducing any applicable German or Italian withholding tax to 5%, rather than eliminating it).

Payments from the UK to the EU: the UK does not impose a withholding tax on dividends so there will be no change there. In principle, interest and royalties from the UK to the EU could be subject to 20% withholding tax. However, there are currently no plans to amend or repeal the UK legislation implementing either directive. So, relevant payments from the UK may, in effect, continue to benefit from the directives. If the legislation is amended or repealed, the withholding tax rate may be reduced under the applicable double tax treaty.

UK courts which are not bound by pre-IP completion day EU judgments

The European Union (Withdrawal) Act 2018 provided that the Supreme Court is not bound by retained EU case law (broadly, judgments of the Court of Justice made before IP completion day that relate to retained EU law).

Regulations made last year specify further UK courts that will not be bound by retained EU case law which include the Court of Appeal in England and Wales, the Inner House of the Court of Session in Scotland, the Court of Appeal in Northern Ireland and in some circumstances the High Court of Justiciary in Scotland. These courts are not bound by retained EU case law unless there is a post-transition UK case which modifies or applies that retained EU case law and which is binding on the relevant court.

In deciding whether to depart from any retained EU case law, these courts must apply the same test as the Supreme Court would apply in deciding whether to depart from its own case law: namely, whether it appears right to do so. It will be interesting to see how and when the courts will depart from retained EU case law and how they will use retained EU principles.

Potential for change

Although the aim of most of the UK’s recent legislative activity was, in most respects, to preserve the status quo after the IP completion day, the ground is now prepared for the UK to exercise sovereignty and for UK rules to deviate from EU rules, subject to the commitments made in the TCA. In the current economic climate, however, the UK cannot afford to lose tax revenue so it is likely, at least in the short term, that any change will be revenue-neutral. But if, like the trimming of the UK’s DAC6 rules, changes can be made to ease the compliance burden for business, they would certainly be welcome.