Risk & Economy » Brexit » Brexit and Fiscal Representation

Well, at least the Conservative Party is happy.

The ‘Malthouse Compromise’ (named after Kit Malthouse, Minister of State for Housing and Planning, who is credited with having brokered it), is the plan hatched on Tuesday that allowed the party to get behind Graham Brady’s amendment instructing the government to remove or radically change the Irish backstop arrangements presented in the EU-UK Withdrawal Agreement.

Not intended (as one might expect) to be a compromise between the UK and the EU, nor as it sounds a forgotten thriller by Robert Ludlum, the Malthouse Compromise is primarily a device for Conservative Party self-healing. Theresa May will now tell the EU that either the backstop in its current form goes (and the UK signs the Withdrawal Agreement with a transition period up to the end of 2020); or the UK uses a special transition period up to the end of 2021 to prepare for life under WTO rules, thereby avoiding a regulatory cliff-edge at the end of March.

The EU has been quick to dismiss the proposal: as far as it is concerned, the ‘compromise’ has exactly the defect of UK suggestions it rejected while negotiating the Withdrawal Agreement: it risks the creation of a hard border in Ireland once the transition periods end. To do a deal with the UK on the basis of the Malthouse Compromise would be for the EU to renege on unequivocal commitments made to the Irish Government – and would also reward aggressive behaviour on the part of a soon-to-be third country, thereby encouraging remaining member states to strike out for their own a la carte arrangements.

Nevertheless, the EU has a dilemma: according to its own arguments, if no deal is done by the end of March, a hard border in Ireland – the very thing it has pledged to avoid – is the inevitable immediate consequence.

If no-deal is to be avoided, someone has to blink, and quickly. The EU is currently relying on the UK to, in the end, act in accordance with its apparently overwhelming economic interest and swerve away from the potential emergency of a crash-out. The problem with this strategy is that it relies on the UK displaying exactly the instrumental economic rationalism against which the Brexit vote was such a formidable rebellion.

Time to act

As no-deal looms, UK businesses trading in the EU should start considering the need to appoint Fiscal Representatives (FR). This is because many EU Member States insist that when a non-EU business registers for VAT, it must do so via a FR, not directly itself.

The rationale for needing a FR is that for the tax authority it is much harder to ‘manage’ a business located abroad in comparison to one in its own country or within the EU.  The tax authorities of EU Member states cooperate with and help each other through the Mutual Assistance Recovery Directive (MARD). By contrast, if a non-established American business owed VAT to an EU tax authority it is difficult to pursue the debt, because, unlike a local business, the tax authority cannot easily visit premises or the owners or call on the assistance of local colleagues.

The use of a FR helps to mitigate this situation.  It is a local entity, often authorised by the local tax authority, that acts on behalf of the non-EU supplier. In some Member States, it takes on joint and several liability for any VAT debts due, which the local tax authority requests in order to protect its tax revenues.  In other countries, it doesn’t have this liability but instead provides a registered address for the tax authority to visit or correspond with as required.

When a FR is required there is normally an associated need to put in place guarantees.  These can take several forms.  One is providing a cash deposit to the FR, to provide them with credit should they have to settle any liabilities due.  Another is to put in place an insurance or bank guarantee arrangement with the FR, to provide the same reassurance.

The final version involves the tax authority itself asking for and managing a cash guarantee.  In all instances the values involved will reflect the likely tax due across a set time period, with this differing between EU Member States.  The guarantees will also often stay in place for some time after de-registration.

The UK, with its historically progressive light-touch approach to tax management, doesn’t currently insist on FR; but this might change, and hence the position should be monitored by overseas businesses who are registered for VAT in the UK now, or who create an obligation to do so in the future.  Any UK businesses which currently hold EU VAT registrations should start considering now the necessity to convert these to FR in the event of a hard Brexit.

Fiscal representation in the EU may be a potential new burden for UK businesses, but the FR issue is not just about Brexit; and nor is it simple evidence of old fashioned anti-competitive EU protectionism. Indeed, FR, with its emphasis on protecting local tax bases from elusive global operators, may be a key part of the future of cross-border trade. Even Singapore, the Brexiteers’ paradise, has a version of the obligation.

The issue for tax authorities is to keep pace with technology enabled global commerce; without new collection frameworks, light-touch may become no touch, with a corresponding collapse in public services. And the modernisation process may go further than simple FR. There are now proposals, for example, to make online marketplaces directly liable for the VAT charged by their hundreds of thousands of cross-border sellers, thus eliminating the need for tax authorities to carry out the impossible task of global collection and penalty enforcement: the state and business would merge ever closer, with Amazon in close partnership with HMRC.

The debate about sovereignty and taxation that EU-fixated Brexiteers hope to have ended may be only just beginning.

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