Tax

Brexit: CFOs Should ‘Keep Calm and Carry On’

Since nothing has changed yet as a result of Brexit, no major operational or tax-process changes should be made right now.
Scott McFarlaneAugust 5, 2016

The United Kingdom’s surprise vote to exit the European Union has put the world into a state of agitation.

What should CFO’s of businesses operating in the United Kingdom and the European Union do to mitigate the trading and tax change risks of Brexit?

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Scott McFarlane

Scott McFarlane

The vote on 23 June was stunning and seemingly abrupt. But actually leaving the European Union is a protracted process, since the United Kingdom will have to negotiate and replace the myriad regulations, terms, and treaties pertaining to tax, trading, employment, environment, and more, with over 100 countries. The United Kingdom will likely remain in the European Union until at least 2019. Meanwhile, it’s still bound by EU rules of membership and trade.

The tax compliance take-away for CFOs? Since nothing has changed, no major operational or tax process changes should be made right now. Only once the United Kingdom and European Union make significant progress on negotiating a new trading model will it become fully clear how taxes may alter.

Today, as a full EU member, the United Kingdom has free access to sell goods and services to over 25 million companies and 500 million consumers. For companies selling into EU countries, EU membership benefits include:

  • No obligations to form local, in-country offices.
  • No foreign customs duties or corporate income taxes to pay on sales and profits earned.
  • The freedom to hire foreign EU employees without visas or similar restrictions.

On this last item, the United Kingdom will seek restrictions on the movement of foreign EU nationals into the country. Indeed the ability to do so was possibly the key factor behind the Brexit vote. Meanwhile, the European Union will also likely curtail the other two benefits for U.K. companies selling into EU countries, and vice-versa. Opinion_Bug7

Once new trading models are determined, it will become clear how taxes will be transformed. Indirect taxes might be changed most, since the United Kingdom will depart the European Union’s indirect tax regime. There will be limited changes to direct taxes, although the United Kingdom may seize the opportunity to reset its fiscal strategy as a business-friendly, low-tax regime.

Departing Indirect Taxes

The EU sets and controls a range of indirect taxes on behalf of member countries, including the Value Added Tax (VAT) and customs duties. Upon departing the European Union, the United Kingdom will retake control of these taxes. For example, in shedding the EU VAT sales tax system, the United Kingdom will be free to set its own rules on this consumption tax and ignore rulings from the EU tax court.

But Brexit will bring with it new compliance complexities. For example, companies selling business-to-business goods or services between the United Kingdom and the European Union will have to impose VAT for the first time. U.S. companies selling electronic goods to EU consumers will have to register for VAT in the United Kingdom and one other EU member state in order to report and remit EU VAT (at present, they can register in just one EU member country). Many EU VAT simplifications, including VAT registration thresholds in the EU, will be lost to U.K. companies selling goods to EU consumers.

The United Kingdom will also leave the EU Customs Union, which charges and collects duties on goods imported into the European Union from the United States and the rest of world. Since the European Union negotiates all trade deals on behalf of its members, the United Kingdom will be forced to negotiate new deals and tariffs with over 100 countries. Politicians and economists are hotly disputing the outcome of these negotiations, but it’s probable that North American importers, including drop-shippers, will face higher import tariffs on selling goods into the United Kingdom.

At the same, there will be no changes to the U.K. excise duty regime, which covers levies on cigarettes, alcohol, and similar goods. That’s because the regime isn’t within the European Union’s scope of control.

Will there, then, be an opportunity for the United Kingdom to improve the tax situation of corporations?

The EU has no direct control over member states’ corporate or personal income tax rules. So there may be only limited changes to the U.K. company tax regime, such as to rules on withholding taxes on dividends, interest, and royalties among companies within a group. CFOs should therefore be cautious about restructuring corporate entities before the results of next year’s EU negotiations.

The United Kingdom already has one of the most competitive and attractive corporate tax regimes, including a headline tax rate of just 20%. Irrespective of Brexit, this tax is due to drop to 17% over the next two years.

The United Kingdom may look to further improve company tax incentives, partly to prevent the loss of U.K.-located international headquarters post-Brexit. One example: it may reintroduce its more favorable research an development tax scheme that the European Union had curtailed in 2015. Back to the future, indeed.

One benefit of Brexit for remaining EU countries is that they will have shed the most powerful anti-tax-harmonization member. Without the United Kingdom, EU countries such as France and Germany would enjoy less resistance to introducing standardized tax treatments and disclosures to reduce aggressive tax avoidance schemes. There may also be increased scrutiny on non-EU multinationals, with many digital firms coming under close tax examination. Reforms such as the Anti Tax Avoidance Directive may also be tightened.

So what to do right now? In the words of the celebrated British World War II poster, the best policy for CFOs is to “Keep Calm and Carry On.” The status quo remains firmly in place, and 2017 is the earliest that a potential exit model and timetable will emerge.

As the U.K. government formulates its post-Brexit plans, it will likely include changes to its trading status and tax regimes. Even then, nothing can change until 2019 – although that timeline will also likely expand because of the sheer volume and complexity of the changes needed.

CFOs should remain alert to these developments, especially starting in 2017. Until then, it’s perfectly appropriate to behave like the British.

Scott McFarlane is co-founder of Avalara, a cloud-based, tax-compliance-software provider.

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