General

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This Blog is written by Kripa Jain from BN Faculty Of Law, Udaipur. Edited by Saumya Tripathi.

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INTRODUCTION

It is an abbreviation for the term “British exit”, similar to “Grexit” that was used for many years to refer to the possibility of Greece leaving the Eurozone. Brexit refers to the possibility of Britain withdrawing from the European Union (EU).

Following a UK-wide referendum in June 2016, in which 52% voted to leave and 48% voted to remain in the EU, the British government formally announced the country’s withdrawal in March 2017, beginning the Brexit process. The withdrawal was delayed by deadlock in the British parliament. This began a transition period that is set to end on 31 December 2020, during which the UK and EU are negotiating their future relationship. The UK remains subject to EU law and remains part of the EU customs union and single market during the transition, but is no longer part of the EU’s political bodies or institutions.

Withdrawal was advocated by hard Eurosceptic and opposed by pro-Europeanists and soft Eurosceptic, with both sides of the argument spanning the political spectrum. The UK joined the European Communities (EC) – principally the European Economic Community (EEC) – in 1973, and its continued membership was endorsed in a 1975 referendum.

On 29 March 2017, the UK government formally began the withdrawal process by invoking Article 50 of the Treaty on European Union with permission from Parliament. May called a snap general election in June 2017, which resulted in a Conservative minority government supported by the Democratic Unionist Party (DUP). UK–EU withdrawal negotiations began later that month. The UK negotiated to leave the EU customs union and single market. This resulted in the November 2018 withdrawal agreement, but the British parliament voted against ratifying it three times.

When David Cameron became the prime minister of Britain in 2010 as head of a Conservative Liberal Democrat coalition, he had to withstand pressure about a Europe vote from the pro-exit UK Independence Party and from restive eurosceptics in his own party. Finally, in 2013 he promised an in-out referendum on EU membership if the Conservatives won the 2015 election. He secured an absolute majority in 2015 and hence the referendum.

CONSEQUENCES OF BREXIT FOR THE U.K.

The U.K. has already suffered from Brexit. The economy has slowed, and many businesses have moved their headquarters to the EU. Here are some of the impacts on growth, trade, and jobs.

Growth

Brexit’s biggest disadvantage is its damage to the U.K.’s economic growth. Most of this has been due to the uncertainty surrounding the final outcome.

Uncertainty over Brexit slowed the U.K.’s growth from 2.4% in 2015 to 1.5% in 2018.The U.K. government estimated that Brexit would lower the U.K.’s growth by 6.7% over 15 years. That’s if there is a trade agreement but restrictions on immigration.

The British pound fell from $1.48 on the day of the referendum to $1.36 the next day. That helps exports but increases the prices of imports. The pound may strengthen once a deal is approved, depending on the trade terms.

Trade

Brexit would eliminate Britain’s tariff-free trade status with the other EU members. Tariffs would raise the cost of exports. That would hurt U.K. exporters as their goods become more expensive in Europe. Some of that pain would be offset by a weaker pound.

Tariffs would also increase the prices of imports into the U.K. More than one-third of its imports comes from the EU. Higher import prices would create inflation and lower the standard of living for U.K. residents. The U.K. is already vulnerable because heat waves and droughts caused by global warming have reduced local food production.

The U.K. would lose the advantages of the EU’s state-of-the-art technologies. The EU grants these to its members in environmental protection, research and development, and energy.

Also, U.K. companies could lose the ability to bid on public contracts in any EU country. These are open to bidders from any member country. The most significant loss to London is in services, especially banking. Practitioners would lose the ability to operate in all member countries. It could raise the cost of airfares, the internet, and even phone services.

Jobs

Brexit would hurt Britain’s younger workers. Germany is projected to have a labor shortage of 3 million skilled workers by 2030.Those jobs will no longer be as readily available to the U.K.’s workers after Brexit.

Employers are having a harder time finding applicants.One reason is that the number of EU-born workers fell by 95% in 2017. This has hit the low-skilled and medium-skilled occupations the most.

BREXIT IMPACT ON INDIAN ECONOMY

Former Reserve Bank of India Governor Raghuram Rajan had said that “We are in the midst of an age of competitive devaluation and beggar-thy-neighbor policy. When elephants fight, the grass suffers.”

BREXIT is creating fear amongst investors and businesses around the globe. The implication of the BREXIT will directly impact not only the Indian stock market but the global market in totality, including the emerging markets in the world. This is because of the high volatility in the pound. This is not only making the stock market in India jittery but is also increasing the risk for the businesses in the country.

The exit of Britain from the EU will have a significant effect as it is the largest export market for India. The investors are concerned around the nation that it is going to have a negative effect as India invests more in the United Kingdom than the rest of Europe combined.

Both UK and EU account for 23.7 percent of Rupee’s effective exchange rate. With BREXIT, foreign portfolio investments will outflow and will lead to the weakening of the rupee. UK’s third-largest Foreign Direct Investment (FDI) investor in India. There are more than 800 Indian companies in Britain.

The Indian companies and sectors that have invested in Britain are having sleepless nights while worrying about BREXIT. They believe that if Britain leaves the EU it will adversely affect the movement of investors into the UK and will directly impact the investment.

Britain is considered as a gateway to the EU for India, with it opting out, the advantage by India is lost. Therefore, there is a need to get border-free access. BREXIT will hamper India’s businesses based in the UK as till now they had border-free access to the rest of Europe. This was the main reason why Indian companies go to the UK. BREXIT may have an impact on the decisions of Indian companies to invest in the future.

UK accounts for 17 percent of India’s Information Technology (IT) exports. If Britain chooses to opt-out the overhead costs are also going to increase. As per one of the reports by NASSCOM: “Indian IT industry is going to experience a negative influence in the short term due to BREXIT.” The return of these companies is going to be affected because of the depreciation of the pound.

In totality, the sectors which will be affected because of BREXIT will be auto, auto components, metals, oil, pharmaceuticals, IT, etc. However, RBI is trying to recalibrate the monetary policy in order to reduce market volatility.

EFFECT

Capital Markets

The financial markets will likely continue to be volatile, particularly during the Brexit negotiations. This may affect the timing of transactions or their ability to be consummated.

The EU Prospectus Directive, which has been transposed into UK law, governs the content, format, approval and publication of prospectuses throughout the EU. Following eventual Brexit, the UK may no longer be bound by the Prospectus Directive and, thus, may seek to amend its prospectus legislation.

During the Brexit negotiations, transaction documents may need to include specific Brexit provisions.

M&A

As a result of ongoing uncertainty around the future of the UK’s relationship with the EU, a number of transactions with a UK nexus may be affected pending the Brexit negotiations.

Share sale transactions generally are not subject to much EU law or regulation. Asset and business sales, however, may be more affected by Brexit.

Contractual Disputes and Enforcement

As a member of the EU, the UK is part of a framework for deciding jurisdiction in disputes, recognizing judgments of other member states and deciding the governing law of contracts. Following Brexit, the UK may no longer be part of this framework which may affect jurisdiction and governing law choices in transaction documents.

Anti-trust

Currently, mergers that fall within the scope of the EU Merger Regulation can receive EU-wide clearance, which means that they are not also required to be cleared by individual member states. Following Brexit, mergers with a UK nexus may need to be reviewed by the UK’s Competition and Markets Authority separately.

More generally, UK anti-trust legislation is currently based on, and interpreted in line with, EU law, including decisions of the European Commission and the European Court of Justice. Given that UK courts may no longer be required to interpret national law consistently with EU law once the UK withdraws from the EU, businesses face the prospect of having to comply with divergent systems.

Financial Services

Much of the UK’s financial services regulation is based on EU law. This includes legislation such as the Markets in Financial Instruments Directive (MiFID), which regulates investment services and trading venues, the European Market Infrastructure Regulation, which regulates the derivatives market, the Alternative Investment Fund Managers Directive, which regulates hedge funds and private equity, and the Capital Requirements Directive and the Capital Requirements Regulation, which together represent the EU’s implementation of the international Basel III accords for the prudential regulation of banks. The Bank Recovery and Resolution Directive (“BRRD”) has been implemented into UK law via the Banking Act 2009, so the fundamental bank resolution regime should initially survive Brexit. That said, substantial further EU legislative work is expected in this area to modify BRRD (e.g., in relation to the implementation of the TLAC standard), so it is possible that the regimes could diverge rapidly after Brexit. In general with financial services legislation, an assessment will need to be made whether to align with EU legislation or diverge; the greater the divergence, the more the dual burdens on cross-border firms.

As mentioned above, the UK will likely not be part of the European Supervisory Authorities framework and will have no influence in the development of primary or secondary EU legislation and guidance. The UK has been a significant force in the area of financial services legislation and has driven the introduction of, for instance, the BRRD. The UK’s withdrawal may impact the legislative agenda and ultimately the quality of the legislation produced.

Financial institutions established in EEA member states can obtain a “passport” that allows them to access the markets of other EEA member states without being required to set up a subsidiary and obtain a separate license to operate as a financial services institution in those member states. Following Brexit, UK financial services institutions, including subsidiaries of US and other non-EU parent companies, would no longer be able to benefit from passporting (unless the UK were to join the EEA pursuant to the Norway option described above).

Although the UK will likely remain a member of the EU for a substantial period while negotiations are ongoing, there are pressing questions as to how the UK will engage with the ongoing legislative processes that affect the UK financial services industry. There are a number of areas where framework legislation has been passed already, but key secondary legislation is being developed or revised. These areas include the complete overhaul of MiFID and the Payment Services Directive. Even before the UK leaves the EU, we can expect to see a diminished role for the UK Government, UK regulators and UK market participants in shaping the detailed policies and procedures in those areas.

We expect larger financial institutions in the UK, or those based outside the UK that have significant operations in the UK, will wish to contribute to the negotiation process between the EU and UK. In particular, to the extent a unique model for trading relationships is proposed, these institutions may wish to engage with policymakers to minimize disruption and damage to their EU business model.

Tax

The EU has influenced many areas of the UK’s tax system. In some cases, this has been through EU legislation which applies directly in the UK; in other cases, EU rules have been adopted through UK legislation (for example, the UK’s VAT legislation is based on principles which apply across the EU); and, in still other cases, decisions of the European Court of Justice have either influenced the development of UK tax rules, or have prevented the UK’s tax authority from enforcing aspects of the UK’s domestic tax code. This complicated backdrop means that the tax impact of Brexit will be varied and difficult to predict.

Areas to watch include the following:

Direct tax: although the UK has an extensive double tax treaty network, not all treaties provide for zero withholding tax on interest and royalty payments. Accordingly, corporate groups should consider the extent to which existing structures rely on EU rules such as the Parent-Subsidiary Directive or the Interest and Royalties Directive to secure tax efficient payment flows. Similarly, corporate groups proposing to undertake cross border reorganisations would need to consider the extent to which existing cross-EU border merger tax reliefs will survive intact. It should also be borne in mind that, even if Brexit occurs, the UK is likely to continue vigorously supporting the OECD’s BEPS initiative such that there may well be considerable constraints and complexities associated with locating businesses outside the UK.

VAT: Although VAT is an EU-wide tax regime, it seems inconceivable that VAT will be abolished. However, it is likely that, over time, there will be a divergence between UK VAT rules and EU VAT rules, including as to input VAT recovery on supplies made to non-UK customers. Additionally, UK companies may lose the administrative benefit of the “one stop shop” for businesses operating in Europe.

Customs duty: If the UK left the customs union, exports to and imports from EU countries may become subject to tariffs or other import duties (as well as additional compliance requirements).

Transfer taxes: It seems that the UK would, at least in principle, be able to (re)impose the 1.5% stamp duty/stamp duty reserve tax charge in respect of UK shares issued or transferred into a clearance or depositary receipt system. Accordingly, the position for UK-headed corporate groups seeking to list on the NYSE or Nasdaq may become less certain.

CONCLUSION

The decision for one of the “great” member states to abandon the European Union is unprecedented. Therefore, negotiations for the detachment, to some degree like a divorce, must be carried out with all the guarantees necessary so as not to add more uncertainty to the already uncertain current position of European integration.

As has already been said by the presidents of the European Council and the Commission, as well as by leaders of the most important countries in the EU, is that without formal notification from the United Kingdom, there will be no negotiations, nor even exploratory talks. This is fundamental, since something so transcendental must be addressed by scrupulously respecting that established in Article 50 of the Treaty on European Union, which establishes that the first thing a member state deciding to leave must do is “notify its intention to the European Council.”

After 43 years of the incorporation of European legislation into the United Kingdom’s legal system, it will produce a separation of such size that it will not be easy, in principle, to successfully and fully complete it within the 2-year timeframe originally envisaged in the aforementioned Article 50.