Brexit What next for Banks? A tax scenario analysis

Transcription

1 Brexit What next for Banks? A tax scenario analysis

2 2 BREXIT What next for the banks? A tax scenario analysis

3 What next for banks? It has been over three months since the initial period of shock and market volatility following the referendum vote in favour of the UK leaving the EU 1. Banks are now focusing on assessing their options, further refining plans and investigating the role they can play in supporting both Westminster and Brussels in negotiations to achieve a stable transition to a post-brexit business framework. At this stage, there seems to be little consensus between the UK, the other EU Member States (EU27) and the European Commission as to what any ongoing relationships might look like. A range of potential models for such settlement have been suggested but so far, no formal negotiations on the Brexit terms, or the post-brexit settlement, between the UK and the EU27 have begun. We do know however that the UK will serve notice to the European Council under Article 50 of the Treaty on European Union of its intention to leave before the end of March 2017, meaning the UK will leave the European Union no later than the summer of Although a swift conclusion to negotiations and certainty as to the post- Brexit framework would be helpful for business in general and the financial services sector in particular, a more protracted timetable should be seen by banks as an opportunity to integrate flexibility and optionality into existing in-flight programmes designed to accommodate broader global business and regulatory changes. It is of course not possible to predict with certainty what the post-brexit settlement will look like. Nonetheless, banks are beginning their scenario analysis. Some of the potential post-brexit regulatory scenarios would likely give rise to significant changes to the business models for any bank operating in the UK which has a cross-border business, and consequently a detailed analysis and decisionmaking framework will be required to maintain efficient and competitive operating models. One of the key considerations associated with the move to any new legal or operational environment will be the tax impacts for the bank with respect to the transition itself and the new business and operating model in the future state post-brexit. It will therefore be important that the potential tax consequences (taking on board the rapidly changing international tax environment) are considered and fully integrated into any strategic scenario analysis and modelling. 1 The European Union (EU) is an economic and political union of 28 countries. It operates an internal or single market which allows free movement of goods, capital, services and people between member states. BREXIT What next for the banks? A tax scenario analysis 3

4 Planning for the unknown The banking industry is highly regulated and the UK, as a member of the G20, has been at the forefront in responding to the post-financial crisis regulatory developments. Therefore, on the assumption that the majority of regulations governing banks will remain largely unchanged under any option, the key questions for banks revolve around the ease of future access to the EU Single Market and corresponding reciprocal arrangements for UK branches of European banks. Currently, banks operating in the UK benefit from rights grounded in EU law which facilitate their access to other EU countries as well as Norway, Iceland and Liechtenstein, which together constitute the European Economic Area 2, 3 (EEA). In particular, passporting allows banks authorised in any EEA country to carry out an activity covered by one of the EU s Single Market directives without needing separate authorisation in each country. Such banks can either (i) set up a branch in another EEA country (an establishment or branch passport), or (ii) provide cross-border services or advice (a services passport) from its EEA home country. Banks with entities situated in the UK and other EU jurisdictions have relied on passporting rights and the right of establishment to operate across borders. However, these rights are now in doubt in a post-brexit world if the UK leaves the EU and no equivalent arrangement is put in place. Recent figures published by the UK regulator the Prudential Regulatory Authority (PRA) show that 5,500 UK-registered companies rely on passports to do business in other European countries. In addition, over 8,000 EU/ EEA based financial service companies rely on singlemarket passports to conduct business in the UK. 4 Another key point is that many banks operating in the UK have the PRA as the lead regulator for the entirety of their EU business. If the UK leaves the EU and no equivalent arrangement is put in place, then it is likely that another regulator will need to become the lead regulator for any business located in the EU. At this stage, the nature of any post-brexit settlement is uncertain and a number of outcomes are possible: Maintained access to the Single Market for example something similar to the EEA. However, emerging thought is that this is more likely to be bespoke, with political negotiations centring on the four freedoms (especially free movement of people) and whether payments from the UK to the EU budget are required. It is becoming increasingly apparent that the UK Government views some level of restraint on free movement of people as a political necessity in delivering Brexit. A degree of access to the Single Market under equivalence concepts Bilateral trade agreements with the EU underpinned by membership of the World Trade Organisation which could include a so-called Swiss Plus negotiated arrangement A conscious re-orientation away from the European market and associated equivalence requirements towards deregulation and a global focus (the Singapore of Europe ) Although EEA arrangements (the so-called Norwegian model) should allow financial institutions the same cross-border market access they currently enjoy, there is a question as to whether this is politically achievable. The price for such access likely to be demanded by EU Member States is that the UK continues to allow unfettered free movement of EU persons to the UK. The UK Government may find it very difficult to agree to pay that price in light of the referendum outcome. Organisations have been preparing plans on the basis that this outcome will not be politically achievable and current political rhetoric at and around the recent Conservative Party conference seems to be confirming that the EEA arrangements (or similar) will not be acceptable. 2 The EEA Agreement provides for the inclusion of EU legislation covering the four freedoms the free movement of goods, services, persons and capital, amongst other areas throughout the 31 EEA States. The EEA Agreement guarantees equal rights and obligations within the Single Market for citizens and economic operators in the EEA. 3 Switzerland is neither an EU nor EEA member but has a bilateral agreement with the EU which allows it to be a part of the EU single market - this means Swiss nationals have the same rights to live and work in the UK as other EEA nationals. 4 From a Financial Times article dated 22 September 2016 quoting figures released on that day by the PRA. 4 BREXIT What next for the banks? A tax scenario analysis

5 Therefore, as an alternative, the UK may seek to negotiate a settlement which establishes an equivalence agreement with the EU to rely on their supervision framework. Although this would provide some Single Market access, it would be limited in scope. The equivalence concept is used in different ways across different areas of EU financial services regulation and in many key areas there is simply no right for third country firms to have access to the Single Market regardless of the equivalency of their domestic regimes. Most importantly the rights of credit institutions under Capital Requirements Directive IV (CRD IV) to passport across the EU do not contain any rights for third country credit institutions. However many investment banking services are provided under the provisions of the Markets in Financial Instruments Directive (MiFID) and the second Markets in Financial Instruments Directive (MiFID II), planned to come into force in 2018, may provide some, but not full, access for banks located in the UK. For example securities trading together with ancillary services like margin loans may be covered under MiFID II, but normal corporate lending and other banking services will not. It should also be noted that the MIFID II provisions would be dependent upon an appropriate equivalency decision from ESMA. Although the UK will be technically equivalent at the point of Brexit, this decision could become politicised (and could be removed in due course if the UK and EU regulatory systems diverge). Generally however MIFID II will only allow an EU wide passport to UK based firms for wholesale business. Banks located in the UK providing services to retail clients would need to apply directly to the financial regulators in each EU country for permission to conduct business there (and may be required to establish branches in each country), or establish an authorised presence in an EU country from which they can then apply for passporting. Pending agreement on the eventual post-brexit settlement, banks will need to: Consider the location of major trading, booking, distribution and back office activities in light of a number of key business considerations (e.g., existing footprint, client proximity, tax, labour costs, consumer protection laws, operational challenges etc.); Review the configuration of branch, subsidiary and HQ presence within the UK, EU, and elsewhere; Explore the implications of creating a new corporate structure, for example by establishing a new business/ holding company within the EU, and optimising legal entity relationships; Bear in mind that creating new subsidiaries, transferring staff and activities between locations may be a lengthy process, given business, regulatory, people and operational challenges in particular. Banks should also consider whether there are any no-regret actions they can take in the interim. That is, are there any steps that they can sensibly undertake now to prepare for a worsecase scenario (where the post-brexit settlement does not result in single market access for financial services), but does not give rise to large costs or business disruption in the meantime? For example, to broaden regulatory permissions, take options on real estate and/or incrementally build out certain locations in line with the wider business strategy. BREXIT What next for the banks? A tax scenario analysis 5

6 Focusing on tax Passporting has made the UK a desirable location for establishing a platform to operate throughout the EEA, underpinned by a favourable time zone, language, stable legal system, infrastructure, access to supplies of professional services and quality of life. Furthermore, in recent years, the UK Government has been actively promoting the UK as open for business, and earlier this year confirmed its commitment to reinforcing the UK s position as a world leading financial centre, including the narrowing of the scope of the UK Bank levy from Notwithstanding the introduction of an additional 8% corporation tax surcharge on the banking sector and restriction on the utilisation of losses, the UK had continued to be considered an attractive location for banks. More generally, the UK has developed a sophisticated tax regime which acknowledges many of the complexities of the financial services industry. What further changes Philip Hammond (the new UK Chancellor of the Exchequer) will make to maintain the UK s competitive position is yet to be seen. However, what does appear beyond doubt is that the required changes to UK tax law, as a consequence of an exit, will be wide-reaching and likely to put significant demands on resources at HM Treasury and HM Revenue and Customs (HMRC), placing uncertainty on the timing of proposed law changes and existing consultations. Therefore, in this period of change, it will be important for the banking industry to maintain an active dialogue with the UK Government on issues specifically faced by the industry. As a Member State, the UK has adopted a number of EU-wide directives for tax purposes. The position in the UK on exit will depend on how the directives currently apply in the UK, and the actions the UK chooses to take on exit via the proposed Great Repeal Bill or otherwise. Even so, on exit the tax directives as applied by other EU Member States which are relied upon by groups operating within the EU will no longer apply to UK companies. For example, the Parent/Subsidiary Directive which generally provides that EU Member States cannot apply withholding tax on dividend payments from an EU subsidiary to an EU parent (subject to meeting the 10% shareholding threshold). Absent this relief, dividend payments to UK parents will need to rely on existing double tax treaties which in some cases allow for a higher rate of withholding tax to apply. For international groups, the EU Merger Directive provides certain reliefs on the transfer of business operations between Member States. Again, on the assumption these rules cease to apply, it will likely make cross-border group reorganisations more complex and could give rise to additional tax costs. More generally, the UK would also lose its influence over tax-related developments within the EU. This could be relevant, for example, in relation to the proposal to introduce an EU Financial Transaction Tax, which the UK has vociferously opposed. As a member of the EU, the UK has become a centre of excellence based on a diverse and international workforce. However, it is not certain that EU personnel residing in the UK for less than five years at the time of the UK s exit from the EU would be eligible for UK residency. This may require relocation of personnel from the UK to an alternative location, or corrective steps to adjust the UK immigration status. The process for relocating staff to and from the UK will become more complex, continuing the theme of increased monitoring of international staff travel from a tax and regulatory perspective. 6 BREXIT What next for the banks? A tax scenario analysis

7 What does appear beyond doubt is that the required changes to UK tax law, as a consequence of an exit, will be wide-reaching BREXIT What next for the banks? A tax scenario analysis 7

8 Consequences of change Scenarios & associated tax issues in the UK and destination Member State It is inherently difficult to describe and model the implications of the numerous possible scenarios which may flow from a withdrawal from the EU. These will vary greatly depending on individual group s particular business model, governance and organisation structures, as well as to its degree of exposure to EU markets outside the UK. However, there are a number of broad themes which may be relevant to a range of banks currently operating throughout Europe from a UK platform, and these include the establishment of new entities and transfers of businesses. The following pages describe six scenarios which identify many of the tax considerations associated with various potential responses. In each scenario we have highlighted the key UK tax considerations in relation to the restructuring and, for illustrative purposes, commentary on a number of European jurisdictions in which new entities may be established. As with any transaction, it will be wholly facts-and-circumstances specific, and any cross border restructuring would require a detailed analysis of all the potential tax consequences and a full multi-jurisdictional review. Scenario 1: UK Germany UK Bank, parented in the UK or non- EEA, carrying on business throughout the EEA e.g., via branches in other EEA jurisdictions needs to move its operations to another Member State (e.g., Germany) to preserve access to the Single Market. With the exception of the Societas Europeae (SE) (see Scenario 2), a company cannot simply move its registered office from the UK. Therefore, if not already in existence, a new company (New Bank) would need to be established in the chosen Member State, with an appropriately resourced head office and a UK branch (to retain access to the UK). Depending on the size of the UK operations, the PRA may potentially require the UK branch to be incorporated (see Scenario 5 below). Assumptions: A trading PE (branch) remains in the UK and all other EEA branch jurisdictions. If relevant, any transaction would take place under the current EU Cross-border Merger Directive. Parent * (Non EEA) The entire business of UK Bank would be transferred across to New Bank using existing transfer of business rules and UK Bank may be dissolved. The specific mechanism for the transfer will depend on various commercial, legal and regulatory factors, and the consideration for the transfer may be in the form of cash, an issue of shares, or a combination of the two. UK bank EEA business New bank (Germany) UK and EEA *Parent May be in any non-eea country including the UK post-brexit. 8 BREXIT What next for the banks? A tax scenario analysis

9 Areas of tax Tax impact Comments UK tax considerations Capital gains Loan relationships/ Derivative contracts Intangibles (e.g., goodwill) Neutral for assets which stay within the charge to UK tax. Intra-group transfers of chargeable assets which remain within the charge to UK tax should not give rise to a gain or loss. Gains arising on the disposal of non-uk assets should be analysed in detail. Subject to the specific mechanism for the transfer of the business, the EU Merger Directive may apply to provide relief. Capital allowances Neutral for UK assets; to be evaluated for non-uk assets UK transfer of a trade rules are likely to apply and allowances may be transferred at their tax written down value in respect of UK assets. The position in respect of non-uk assets which have been used for a trade would broadly depend on whether or not these form part of non-uk branches to which a branch exemption has been applied. However to the extent that no branch exemption is in place and the non-uk assets leave the UK tax net pursuant to the transfer, there would be a reduction in the carrying value of the capital asset pool or a balancing allowance or a balancing charge, as the case may be, on the transfer. Restriction on UK trading losses Neutral UK transfer of a trade rules likely to apply and the UK losses may be preserved. To the extent that there are any current year losses in the UK Bank, there may be a possibility to group relieve them depending on the facts. It is also recommended to carefully understand the position of the non-uk losses in the individual branch jurisdictions. Stamp taxes To be evaluated on the basis of specific facts. UK stamp taxes arise on transfers of assets within the charge to UK stamp taxes. These include, inter alia, stock, marketable securities, chargeable securities, UK real estate and certain partnership interests. Where there is a transfer under the Merger Directive clearance from HMRC is recommended. VAT Potentially The transfer of the business may qualify as a transfer of a going concern (TOGC) or for a local business transfer relief in the jurisdiction to which it has been transferred. These provisions have set criteria and are often complex, particularly where the transfer is cross-border. Where the transfer does not qualify for relief, a charge to VAT is likely to arise in the transferee s jurisdiction. Elections The impact on any UK specific elections should be considered. For example, elections made for hedging purposes under the Disregard Regulations or where an election has been made to exempt the profits of non UK branches. BREXIT What next for the banks? A tax scenario analysis 9

10 Consequences of change continued.. Other comments The scope of chargeability of the UK Bank Levy and profits subject to bank surcharge should be reduced to the activities of the UK branch only. The rules on attribution of profits to a foreign banking permanent establishment in the UK would apply, and special attention should be given to the attribution of capital and any possible capital attribution tax adjustment that may be required. Post-Brexit, the ability to group relieve losses of UK permanent establishment (PE) going forward may be restricted where the head office jurisdiction also claims relief. Germany tax considerations German companies having their corporate seat or place of management in Germany are subject to corporate income tax on worldwide income and trade tax on German business income. Upon setting up a banking corporation in Germany, the bank will become a German tax resident. The transfer of the operations of branches in other EEA-countries from the UK Bank to the New Bank in Germany may need to be done at fair market value. Therefore, local tax implications at the branch level would need to be carefully analysed. Corporation tax rate (including solidarity tax) %; Local trade tax rate 7% through 17%; Frankfurt as banking hub applies a 16.1%-trade tax rate. Dividends received from non-portfolio-shareholdings (shareholding of at least 10%) are 95% exempt. Capital gains on the disposal of shares are 95% exempt. Branch profits are exempt when originating from treaty countries and chargeable to corporate income tax in the overseas branch jurisdiction. Further, branch profits are exempt from trade tax irrespective of the location of the branch. Germany applies the authorised OECD approach for branch profit determination and this requires to maintain appropriate documentation demonstrating the determination of the Key Entrepreneurial Risk-Takers (KERT)- functions and the attribution of assets between the German head office and the EEA branches. Interest expenses are generally tax deductible. However interest expense is limited to 30% of EBITDA on interest above 3 million (interest capping rule). In addition, interest deduction is limited for trade tax purposes (to the extent the interest deduction is not limited by the interest capping rule), i.e. 25% is to be added back. Certain exceptions from this add-back apply to banks. Further, interest payments on certain AT1-instruments are tax deductible and also exempt from German withholding tax if paid to nonresidents. Any tax consequences arising to the Parent on the transfer and the ongoing position should be carefully considered (e.g., profit repatriation and withholding tax). The transfer of the activities associated with the non-uk branches should be carefully managed. The Merger Directive may provide relief in certain jurisdictions and in some cases tax attributes may be preserved that would otherwise potentially have expired. Clearance from the relevant tax authorities may be recommended. German companies may set-up tax groups in order to consolidate the income and losses of such group. Germany applies a domestic withholding tax on dividend at the rate of % which is reduced to % where paid to non-resident corporates and if German anti-treaty shopping rules do not apply. Rates may be reduced further under relevant tax treaties or under the Parent Subsidiary Directive. There is an extensive network on double tax treaties (more than 100) which may help to mitigate the double taxation of income. Other taxes There is no German bank levy which presently applies to banks. However, the EU-wide harmonised Single Resolution Fund levy does apply. There is currently no Financial Transaction Tax or Stamp Duty in Germany. VAT rate 7%/19% (EU VAT Directive implemented into German law) A transfer of business operations needs to be carefully managed in order to achieve a VAT-efficient structure. Personal taxes Personal income tax rate: up to 47.5% (including solidarity tax) In addition, church tax of 8%-9% applied if individual is member of a church Employer social security rate: approximately 19.3% 10 BREXIT What next for the banks? A tax scenario analysis

11 BREXIT What next for the banks? A tax scenario analysis 11

12 Consequences of change continued.. Scenario 2: UK Ireland A UK incorporated and tax resident bank (UK Bank Plc) which has at least one subsidiary in a Member State and is also carrying on business throughout the EEA, converts to an SE and moves its registered office to another Member State to maintain access to the Single Market. Parent (Non EEA) UK bank Plc* As an alternative to Scenario 1, for Plcs incorporated in the UK, with a subsidiary in the EU for the last two years, migration can potentially be achieved by re-registering the existing UK Plc as an SE and then moving its head office and place of registration to another Member State. Furthermore, subject to the regulatory parameters, certain operations may potentially be maintained by a UK branch which provides services to clients in the EU on behalf of SE head office. Assumptions: A trading PE (branch) remains in the UK. If relevant, any transaction would take place under the current EU Cross-border Merger Directive. EU member state subsidiary Parent (Non EEA) SE registered in Ireland EEA businesses (Ex UK) EU member state subsidiary EEA/UK businesses * A UK company may be converted from a limited company to a publically limited company (Plc) if required. 12 BREXIT What next for the banks? A tax scenario analysis

13 Areas of tax Tax impact Comments UK tax considerations Capital gains Possible Conversion of a Plc to an SE is anticipated to be UK tax neutral. However, where the management and control of the SE is moved from the UK to another EU Member State for regulatory purposes, Loan relationships/ Derivative contracts Intangibles the tax residence may follow. The loss of UK tax residence can give rise to possible exit charges, which broadly deems a disposal and reacquisition at market value of the assets immediately prior to the loss of UK tax residence. However, these rules should not apply to assets situated in the UK branch which remain within the charge of UK corporation tax. Capital allowances Neutral Conversion of a Plc to an SE is not anticipated to give rise to a balancing allowance or balancing charge. On re-registering the SE in a Member State the capital allowances attributable to the UK branch should be maintained. The position in respect of non-uk assets which have been used for a trade would broadly depend on whether or not these form part of non-uk branches to which a branch exemption has been applied. To the extent that no such branch exemption is in place and the non-uk assets leave the UK tax net pursuant to the conversion into a SE, there would be a reduction in the carrying value of the capital asset pool or a balancing allowance or a balancing charge, as the case may be. Restriction on trading losses Neutral On the assumption that there is no cessation of trade, brought forward losses likely to remain available. Attribution of profits to branches To the extent activities are performed by the UK branch on behalf of the SE in a Member State, the profit attribution rules must now be followed including an attribution of capital and undertaking a capital attribution tax adjustment calculation to review whether a tax adjustment may be required. Post-Brexit, the ability to group relieve losses of the UK PE going forward may be restricted where the head office jurisdiction also claims relief. Stamp taxes Neutral On the assumption that a conversion from Plc to SE should not result in the winding up of the company, nor the creation of a new legal person, stamp taxes may not arise. The re-registration of the SE is unlikely to give rise to UK stamp taxes. Furthermore, once the registered office has moved (and remains) outside the UK the shares in SE Bank Plc should no longer be chargeable securities (assuming that the share register is kept outside the UK and the shares and the shares are not paired with UK shares). For the purposes of stamp duty the position is more complicated and we consider that, for the purposes of the 1.5% stamp duty charge, the SE Bank Plc shares would remain within the charge to stamp duty. VAT Neutral The simple conversion of a Plc to an SE should not give rise to VAT on the basis there is no disposal or transfer. However, there remains uncertainty given SE s relative novelty. In the event of a deemed transfer, TOGC/business relief provisions may apply. Elections See Scenario 1 BREXIT What next for the banks? A tax scenario analysis 13

14 Consequences of change continued.. Other comments The scope of chargeability of the UK Bank levy and profits subject to bank surcharge should be reduced to the activities of the UK branch only. Any tax consequences arising to the Parent on the transfer and the ongoing position should be carefully considered (e.g., profit repatriation and withholding tax). Irish tax considerations A company resident in Ireland is subject to corporation tax on its worldwide profits. On moving the registered seat to Ireland, the SE will become Irish tax resident. However, should the SE also remain tax resident of the UK, the terms of the Ireland/UK double tax treaty provides that the SE can only be a tax resident of one country. This will be the country where the effective management of the SE is situated. Corporate tax rate 12.5% (25%/33% applies to certain income and gains). Exemption for foreign dividends received only applies to dividends received where the SE owns less than 5% of the share capital and voting rights of the paying entity. Other foreign dividends received are taxable in Ireland (either at 12.5% or 25%). Certain dividends from trading subsidiaries are subject to the 12.5% tax rate. However, a credit mechanism is used with pooling available for unrelieved foreign tax credits which can be carried forward indefinitely. Ireland does not have an exemption system for relieving profits of a foreign branch. Branch profits must be computed according to Irish tax rules and are taxable at 12.5% in Ireland with a credit for non-irish tax suffered. Excess credits can be pooled with other branch profits and carried forward. Capital gains on the disposal of subsidiaries are generally exempt, subject to conditions. Interest expenses are generally tax deductible, including interest on additional Tier 1 instruments. This may include interest used to finance or acquire subsidiaries subject to conditions. A domestic exemption applies to withholding on interest payments made by a domestic bank in the ordinary course of its business. The transfer of the activities associated with the non-uk branches should be carefully managed. The Merger Directive may provide relief in certain jurisdictions and in some cases tax attributes may be preserved that would otherwise potentially have expired. Clearance from the relevant tax authorities is recommended. Availability of capital allowances for fixed assets transferred into Ireland and used for the purposes of the trade. No restriction on carry forward and use of Irish tax losses against future trading profits. Transfer pricing rules only apply to trading transactions. There are no specific thin capitalisation rules in Ireland. Dividend withholding tax applies at 20%. However, dividends may be exempt from withholding tax when paid to non-resident companies in an EU Member State or a country with which Ireland has a tax treaty. Other taxes Special Irish rules for Deposit Interest Retention Tax. May require Irish on-boarding process. Unlikely to apply to customers, but may require reporting. The Irish bank taxation levy does not currently apply to international banks. This is currently under consultation and may change in the future. There are also non-tax levies, principally the Single Resolution Fund Levy. VAT rate in Ireland - 23%. Personal taxes Personal income tax rate up to 40%. In addition, Universal Social Charge rate of up to 8% and Employee Pay Related Social Insurance of 4%. Employer social security rate of 10.75%. Special tax relief regime for international assignees to Ireland. 14 BREXIT What next for the banks? A tax scenario analysis

15 Scenario 3: UK Ireland UK Bank, parented in the UK or non-eea, carrying on business throughout the EEA via branches in other EEA jurisdictions needs to move its non-uk operations only to another EU country to preserve access to the Single Market. UK Bank incorporates a new subsidiary (New Bank) in appropriate EU/EEA jurisdiction (for example the incorporation of an existing branch in Ireland or transfer of trade of the Irish branch to a newly incorporated Irish subsidiary). The non-uk business of UK Bank would be transferred across to New Bank using existing transfer of business rules. UK Bank would pass relevant non-uk business to New Bank. The specific mechanism for the transfer will depend on various commercial, legal and regulatory factors, and the consideration for the transfer may be in the form of cash, an issue of shares, or a combination. Assumptions: If relevant, any transaction would take place under the current EU Cross-border Merger Directive. Parent (Non EEA) UK bank EEA businesses Parent (Non EEA) UK bank New bank (Ireland) EEA/UK businesses * Parent May be in any non-eea country including the UK post exit. BREXIT What next for the banks? A tax scenario analysis 15

16 Consequences of change continued.. Areas of tax Tax impact Comments UK tax considerations Capital gains Potential deferral The incorporation of an overseas branch should constitute a disposal of the chargeable assets of the branch at their market value. Any gain arising would be subject to corporation tax. Loan relationships/ Derivative contracts Intangibles (e.g., goodwill) Relief may apply to defer the chargeable gain that would otherwise arise where part or all of a non-uk trade is transferred to an overseas company in exchange for shares. The transfer of the remaining EEA business to New Bank may give rise to gains locally and a detailed analysis across all relevant jurisdictions would be required. Capital allowances Neutral On the basis that there is no cessation of trade, UK capital allowances in respect of UK asset remain at their tax written down value. The position in respect of non-uk assets which have been used for a trade would broadly depend on whether or not these form part of non-uk branches to which a branch exemption has been applied. To the extent that no such branch exemption is in place and the non-uk assets leave the UK tax net pursuant to the transfer, there would be a reduction in the carrying value of the capital asset pool or a balancing allowance or a balancing charge, as the case may be, on the transfer. Restriction on UK trading losses Neutral On the basis that there is no cessation of trade, UK losses should be preserved. To the extent that there are any current year losses in the UK Bank, there may be a possibility to group relieve them depending on the facts. It is also recommended to carefully understand the position of the non-uk losses in the individual branch jurisdictions. Stamp taxes To be evaluated on the basis of specific facts. Provided that there are no assets within the UK stamp taxes (inter alia, stock, marketable securities, chargeable securities, UK real estate and certain partnership interests) no charge should arise. To the extent that there are any such assets, provided that the UK Bank and the New Bank are within the same effective 75% group (and the requisite conditions are met) group relief may be available. VAT Potentially Any local (e.g., Ireland to Ireland) transfer should be qualify as a TOGC or equivalent. VAT grouping may also be available. The position for any cross-border transfer is less clear and there is a risk that VAT would fall due. Elections See Scenario 1 16 BREXIT What next for the banks? A tax scenario analysis

17 Other comments The scope of chargeability of the UK Bank levy would not be expected to reduce immediately, pending the proposed changes to make the regime more territorial announced for Profits subject to bank surcharge should be reduced to the activities of the UK branch only. The transfer of the activities associated with the non UK branches should be carefully managed. The EU Cross-border Merger Directive may provide relief in certain jurisdictions and in some cases tax attributes may be preserved that would otherwise potentially have expired. Clearance from the relevant tax authorities is recommended. Irish tax comments New Bank (Ireland) should be considered to be Irish tax resident and subject to corporate tax on its profits at 12.5% rate (25%/33% applies to certain income and gains). The transfer of the trade of the Irish branch to the New Bank (Ireland) should qualify for an exemption from Irish capital gains tax. The relief on transfer of the trades of the other EEA branches to New Bank (Ireland) in the respective branch jurisdictions should be available subject to satisfying the conditions of the Merger Directive. Relief should be available for any Irish stamp duty arising on the transfer of the trade of the Irish branch by UK Bank to New Bank (Ireland). Similarly, in the event the transfer of the trades of the other EEA branches was deemed to come within the charge to Irish stamp duty, relief should be available. See scenario 2 for additional comments. BREXIT What next for the banks? A tax scenario analysis 17

18 Consequences of change continued.. Scenario 4: UK Luxembourg A UK or non-eea parented group operating through a single UK bank establishes two new separate banks to carry on UK-sourced business and Single Market operations respectively. The EEA business is transferred to New Bank 2 and UK Bank may be dissolved. The specific mechanism for the transfers will depend on various commercial, legal and regulatory factors, and the consideration for the transfer may be in the form of cash, an issue of shares, or a combination. Step 1 transfer UK only banking business to a new UK bank (New Bank 1) Parent (Non EEA) UK bank New bank 1 (UK) Assumptions: If relevant, any transaction would take place under the current EU Cross-border Merger Directive. EEA business UK business UK business Step 2 transfer EEA business to a new EU company (New Bank 2) in a chosen Member State (e.g., Luxembourg) Parent (Non EEA) New bank 2 (Luxembourg) UK bank New bank 1 (UK) EEA business EEA business UK business 18 BREXIT What next for the banks? A tax scenario analysis

19 Areas of tax Tax impact Comments Key UK tax considerations Capital gains Loan relationships/ Derivative contracts Intangibles Neutral for assets remaining within the charge to UK tax The transfer of the business under Step 1 is likely to fall within the UK-UK group continuity rules on a no-gain no-loss basis. The transfer under Step 2 would require a detailed analysis across all relevant jurisdictions. Subject to the specific mechanism for the transfer of the business, the EU Cross-border Merger Directive may provide relief. Capital allowances Neutral Step 1 is likely to fall within the UK transfer of a trade rules and allowances transferred at their tax written down value. Step 2 The position on transfer of the non-uk assets which have been used for a trade would broadly depend on whether or not these form part of non-uk branches to which a branch exemption has been applied. To the extent that no such branch exemption is in place and the non- UK assets leave the UK tax charge pursuant to the transfer, there would be a reduction in the carrying value of the capital asset pool or a balancing allowance or a balancing charge, as the case may be, on the transfer. Restriction on UK trading losses Neutral Step 1 is likely to fall within the UK transfer of a trade rules and UK losses should be transferred to New Bank 1. In respect of non-uk trade losses, any carried forward losses would be trapped in the UK Bank and would expire on the subsequent liquidation. To the extent that there are any current year losses in the UK Bank, there may be a possibility to group relieve them depending on the facts. It is also recommended to carefully understand the position of the non-uk losses in the individual branch jurisdictions. Stamp taxes Neutral UK group relief provisions may be available to mitigate the UK stamp tax charge which may arise under Step 1 and Step 2 provided that these steps occur before the liquidation of the UK Bank. VAT Step 1 Neutral, Step 2 To be evaluated on the basis of specific facts Elections See Scenario 1. The initial transfer should qualify as a TOGC. Where the entities are VAT grouped, any transfer should also be disregarded. The second transfer may qualify as a TOGC or similar business relief. Where it does not, the transferee is likely to incur VAT. BREXIT What next for the banks? A tax scenario analysis 19

20 Consequences of change continued.. Other comments The scope of chargeability of the UK Bank levy and profits subject to bank surcharge should be reduced to the activities of the New Bank 1 only. Any tax consequences arising to the Parent on the transfer and the ongoing position should be carefully considered (e.g., profit repatriation and withholding tax). The transfer of the activities associated with the non-uk branches should be carefully managed. The EU Cross-border Merger Directive may provide relief in certain jurisdictions and in some cases tax attributes may be preserved that would otherwise potentially have expired. Clearance from the relevant tax authorities is recommended. UK transfer pricing rules should now apply as transactions between separate enterprises (UK New Bank 1 Lux New Bank 2) rather than dealings under profit attribution rules between UK HO and EEA branches. Luxembourg tax comments Companies whose registered office or central administration is in Luxembourg are considered to be resident and are subject to tax on their worldwide income. Aggregate corporate income tax and municipal business tax rate is 29.22% (for the city of Luxembourg) which is proposed to be reduced to 26.01% as from Capital duty should not apply on transfer of activities to New Bank 2 (i.e. in respect of contribution for issuance of shares). Dividends and capital gains from shares may benefit from 100% participation exemption (subject to certain conditions). It should be possible to claim an exemption from Luxembourg CIT on the profit earned by foreign branches of New Bank 2 under a majority of Luxembourg double tax treaties. Investment income is usually taxed based on Luxembourg GAAP accounts (This usually means there is no requirement to disclose unrealized gains except where an option to the contrary is exercised.). Luxembourg applies a 15% domestic withholding tax on dividends. It should be possible to either reduce or eliminate this under a relevant tax treaty or under the Luxembourg participation exemption regime. Luxembourg does not levy domestic withholding tax on payment of arm s length interest. Luxembourg has a large double tax treaty network, including some of them allowing a specific low interest withholding tax rate/ exemption on interest paid to a Luxembourg Bank and/or notional tax credit. Other taxes Luxembourg does not presently charge Bank Levy. However, the EU wide harmonised Single Resolution Fund levy does apply. Main VAT rate in Luxembourg is 17% Personal taxes Personal income tax rate: up to 43.6%. Beneficial Special Income Tax regime for expats assigned to Luxembourg. Employer social security rate: around 14.5% up to a salary of EUR 115,000 (nil above). 20 BREXIT What next for the banks? A tax scenario analysis

21 BREXIT What next for the banks? A tax scenario analysis 21

22 Consequences of change continued.. Scenario 5: Maintain the existing bank (UK Bank) for UK sourced business, but establish authorised branches in each Member State in which UK Bank wishes to do business. Parent (Non EEA) The establishment of authorised branches needs careful consideration and interaction with the local regulator to understand the optimum level of substance and activities (in terms of personnel, infrastructure, capital, governance, etc.) which may need to be maintained locally. Also some regulators may, depending on specifics of a case, insist on the incorporation of the branch into a subsidiary. France UK bank Germany Ireland Accordingly, this option may only be feasible for banks that only carry out business in a limited number of Member States. Further, this may give rise to supervision by multiple regulators together with a need to meet and maintain regulatory capital in the branches to satisfy the individual local regulatory requirements. Areas of tax Tax impact Comments UK tax considerations Losses Relief for branch losses should be available in the UK to the extent that UK Bank has not elected for the profits of the branch to be exempt from taxation in the UK (see below). Branch profit attribution Transactions between branches and head office should take place on an arm s-length basis for a deemed separate enterprise under the profit attribution rules in respect of the branches, and should be adequately documented for transfer pricing purposes. To the extent that there is a taxable presence (PE) in the other EU Member States, the focus for profit attribution purposes should centre on the KERT functions. This determination of the KERT functions will be based on the actual people functions particularly with regard to the assumption of risk rather than simply following any requirements imposed on each of the branches for regulatory purposes. Similarly, a calculation of capital attribution to the branches should be undertaken; this will not necessarily be the same as the actual capital held or the amount determined by the local regulator. 22 BREXIT What next for the banks? A tax scenario analysis

23 Areas of tax Tax impact Comments Stamp taxes Generally would not anticipate there to be stamp duty on the establishment of new branches. VAT Any transaction undertaken between branches of the same legal entity should be outside the scope of VAT. However, this is subject to the implementation of the Skandia decision which may impact transactions where one or both branches are VAT grouped. Branch exemption UK Bank may elect to exempt from taxation the profits of the non- UK branches. Alternatively, subject to the profile, it may be more efficient to tax the profits in the UK, and claim relief for overseas taxes suffered in the branch jurisdiction. Other comments Establishing a branch generally requires notification to the local tax office together with the introduction of the necessary processes to meet any new compliance and reporting requirements in the local jurisdiction. The funding of the branches together any potential restrictions for interest deductions should be modelled. On the assumption that UK Bank continues to be resident in the UK, the branches will not benefit from tax treaties negotiated by the jurisdiction of their location. BREXIT What next for the banks? A tax scenario analysis 23

24 Consequences of change continued.. Scenario 6: Incorporate UK banking branch of EEA Parent Parent (EEA) Where considered to give rise to systemic risk, the PRA may potentially require UK branches of EEA parents to incorporate. UK banking business EEA businesses (Ex UK) Parent (EEA) UK bank EEA businesses (Ex UK) 24 BREXIT What next for the banks? A tax scenario analysis

25 Areas of tax Tax impact Comments Key UK tax considerations Capital gains Neutral for assets remaining within the charge to UK tax Intra-group transfers of chargeable assets which remain within the charge to UK tax should not give rise to gains or losses. Loan relationships/derivative contracts Intangibles Capital allowances Neutral Likely to fall within the UK transfer of a trade rules and allowances transferred at their tax written down value. Restriction on UK trading losses Neutral Likely to fall within the UK transfer of a trade rules and losses should be transferred to UK Co. Transfer pricing Formal service arrangements and associated transfer pricing documentation should be established, if not already in place. UK transfer pricing rules now applicable as transactions between separate enterprises (UK Bank to EEA parent and its branches) rather than dealings under profit attribution rules between Parent EEA heah office and UK branch. Stamp taxes Neutral UK stamp taxes arise on transfers of assets within the charge to UK stamp taxes. However, provided that the Parent and the UK company are within the same effective 75% group (and the requisite conditions are met) group relief may be available. VAT Neutral Where EEA Parent establishes a branch, the VAT treatment of its services would need to be determined. Any supplies between UK entities and branches would also need to be considered. VAT grouping should also be available to minimise VAT leakage. Profit repatriation Neutral The UK does not subject dividends to UK withholding tax. UK Bank levy Potentially The UK Bank Levy position may differ depending on the liability profile of the Parent compared to the liability profile of the new UK Bank. Other comments Any tax consequences arising to Parent on the transfer and the ongoing position should be carefully considered (e.g., profit repatriation and withholding tax). Profits subject to bank surcharge would be in respect of the activities of the UK branch only, depending on the profit attribution. BREXIT What next for the banks? A tax scenario analysis 25

26 Contacts Neil Harrison UK Banking Tax Leader Richard Milnes Banking Tax Partner Mark Persoff Banking Tax Partner James Gee Legal Banking Director Andy Martyn Banking Transfer Pricing Leader Andrew Bailey Banking Indirect Tax Leader 26 BREXIT What next for the banks? A tax scenario analysis

27 BREXIT What next for the banks? A tax scenario analysis 27