Brexit negotiations are underway. Politicians are considering the possible exit routes from the EU the country will take. In the face of the surrounding uncertainty, business has to take a long, hard look at the likely outcomes from the Brexit deal in making some serious long-term decisions.
In this series of four articles, KPMG focuses on the impact of Brexit on the four freedoms: of movement of people, services, capital and goods. These articles look at what the future might hold with constraints around – or even the absence of – each of these freedoms, offering Tax Directors insight and action for top-level discussions and decisions. You can read the first article here.
In this second article, Sian Hill and Albane Mackin bring fresh insight into the problems facing financial services providers. They discuss what financial services groups need to think about in deciding where to locate their business and consider some of the upsides to Brexit for financial services.
The Government made it clear in its white paper that it will not seek membership of the Single Market. The fundamental questions over the future of continued market access and equivalence post-Brexit will need to be negotiated with the EU. The uncertainty and risks arising from a “hard” Brexit make it significantly more likely that passporting will not be available post-Brexit, and hence that some kind of restructuring will be required. If restructuring and/ or new entities are required then the timescales for regulatory approvals, combined with that for any restructuring needed, will mean that there is no further time to adopt a “wait and see” approach.
Detailed and thorough contingency plans are essential to ensure a successful reorganisation. Discussions on Brexit have often been presented in terms of “staying” or “going” – raising the unattractive prospect of either risking unnecessary restructuring costs and disruption if Brexit turns out to be softer than expected, or alternatively not doing enough to be ready for the reality of Brexit. However, we think this decision does not have to be quite as binary as this narrative suggests. Financial institutions need to take a much more granular approach – breaking decisions down on a service-by-service level. In some cases these services will rely on continued market access and equivalence, neither of which may materialise, in others not. Only by considering the impact on individual business lines can financial institutions arrive at a flexible and workable strategy that can be adapted as the situation unfolds.
In practice a number of financial services groups do already have a base in the EEA. This may be leveraged in a post-Brexit scenario, and we are seeing many groups take a renewed interest in previously neglected European entities and operating hubs. Financial institutions need to determine where they are currently operating and how they might be able to use such bases in the future. Other groups may need to consider which location to choose for a new entity.
When considering where to establish new entities or places of business, choices to date have generally rested on a combination of rational factors and the gut feel of the individuals making decisions. We have seen substantial interest in Germany and Ireland in particular from a banking perspective, with some other jurisdictions also being considered and Luxembourg being favoured by investment management businesses in particular. Considerations are likely to include the perceived stability (or otherwise) of legal and tax systems in the countries concerned. Germany may also be attractive because of its proximity to the European Central Bank. For the insurance sector, Luxembourg and Ireland are appearing regularly on the location shortlist. On the personal side, considerations may include where senior management would like their children to go to school, what the real estate is like, and flight connections with global financial centres, as well as the personal tax rate and social security costs that apply.
The fact is that many financial institutions have been looking at moving significant activity out of London for years, mainly for cost reasons. While support functions and some back office functions have been moved to less expensive countries such as Portugal, Poland or Spain, the core functions of many financial institutions have been maintained in the UK because of a lack of credible alternatives. Ironically, the rapid fall in the value of sterling has shifted the cost equation in Europe, for the time being at least.
Despite the uncertainty, we believe that there are several reasons for optimism in the post-Brexit financial services environment.
First, the UK will potentially no longer be bound by some of the restrictions faced by those operating in the EU. With the re-launch of the Common Consolidated Corporate Tax Base and the anti-tax avoidance package, the UK will not have to implement much of this after Brexit, offering the UK the opportunity to be a less highly taxed financial centre. The Government’s broader approach to tax competitiveness remains to be seen.
Finally, in its strategy post Brexit, the UK government aims at maintaining the UK as a pre-eminent global financial centre and ensuring that financial institutions remain able to sell financial services across borders. While selling services in Europe remain significant for financial institutions, leaving the Single Market may also offer new business opportunities in other part of the world such as Asia and Africa.
Financial services companies need to move fast, if they have not already done so. They must work out which parts of their business are most likely to be affected by different scenarios and quickly come up with an alternative location strategy for those segments.
The significant risk of a hard Brexit makes it crucial that financial institutions plan ahead. Consideration should include the situation where we get to the end of the two-year period without any agreement on the future and the financial services lose market access without any replacement.
Decisions taken now may have to be lived with for decades, so it is important to analyse them as thoroughly as time constraints and uncertainty permit.