Brexit One Year On: Impact On The UK’s Overseas Territories

Under international and EU law, all of the UK’s 20 or more dependent territories are “objects” rather than “subjects” of international law and fall under UK sovereignty. Although each dependency is “autonomous” or self-governing, the UK bears ultimate international responsibility for ensuring their conformity with international law.[i]

My purpose here is to assess, almost one year after the UK’s complete[ii] withdrawal from the EU, the extent to which – as dependencies of the UK - these jurisdictions have been affected by the UK’s new status as a “third country” of the EU.

The Jury Is Still Out

After another year when international relations have been distorted by the COVID pandemic, it is premature to reach any firm conclusion. However, in my view, there has been little if any significant change in the political, economic or even legal situation[iii], at least of those UK territories which are recognised as “finance centres”.

This is most certainly not the case for the UK and the City of London in particular, taking into account the cumulative effect of:

a) The virtual exclusion of financial services from the EU-UK Trade and Cooperation Agreement (TCA), leaving the UK’s external relations in this field subject to the World Trade Organisation General Agreement in Trade on Services (WTO GATS);

b) The clear intention of the Johnson Government to adopt UK policy and law on financial services which diverge from the EU acquis[iv] to which (ironically) the UK has contributed extensively especially in the last 20 years;[v]

c) The EU’s determination to require establishment in the Union for all UK companies seeking to do services business in the EU, including clearance and settlement transactions currently handled in the City of London.

All UK territories are “autonomous” in the sense that they are not bound, as a matter of law, by legislation adopted in the UK[vi]. Territories such as Jersey, Bermuda or Gibraltar are therefore free to determine for themselves the extent to which they follow UK, EU or their own standards in areas such as insurance[vii] and asset management.[viii]

Key Factors Affecting The Future For UK IFCs

As far as the UK’s territories are concerned, my crystal ball is unclear for the future. However, much depends on the extent to which:

a) As a result of international pressure (especially from the OECD, but also the International Organisation of Securities Commissions (IOSCO), the International Association of Insurance Supervisors (IAIS), the Basel Committee, the Financial Action Task Force (FATF) and the EU), standards on direct tax, financial services, corporate transparency and economic crimes continue to converge;

b) The EU pursues the extra-territorial application and enforcement[ix] of its own rules in these areas, including by granting or withholding recognition of “equivalence” or “adequacy” on a sector-by-sector basis. As in the past[x], the EU’s approach on equivalence will be driven mainly by self-interest. In the case of UK dependencies seeking access to the EU market, for example in the field of asset management, any EU equivalence decision will take into account the extent to which the rules in force - for example in the Channel Islands – reflect EU standards on consumer or investor protection;

c) The UK decides to defend the interests of its dependencies when these are challenged by the EU or in other international organisations, notably the OECD or the EU[xi];

d) The UK seeks, politically or legally, to curtail the internal autonomy of the dependencies by requiring them to conform to international (or UK) standards.

The Status Of The UK’s Territories Under EU Law – Past And Present

In 1972, all the UK’s territories -  having been consulted by London  - decided that their interests were better-served outside the (then) “common market”. In simple terms, this meant that the Crown Dependencies were linked to the EC only for trade in goods[xii]. The Overseas Territories were covered (like their French, Dutch and Danish counterparts) under Part Four of the EEC Treaty, with preferential access for trade in goods and the granting of  EU financial assistance. Gibraltar, uniquely, fell outside the common market for trade in goods, but inside for trade in services[xiii].

The situation today is that:

a) The Overseas Territories have lost their right to preferential access to EU markets for trade in goods and EU financial assistance. They are, in practice if not in law[xiv], “third countries”, as far as the EU is concerned. At the same time however, any “soft law” obligation which may have existed when the UK was a Member State to align with the EU acquis[xv] has now disappeared;

b) The Crown Dependencies, when given the choice by the EU and the UK, have decided to continue to be legally linked to the EU under the trade and fisheries[xvi] provisions (and the related procedural provisions) of the TCA. Their “independent” status as regards financial services, direct tax, economic crime and corporate transparency remains unaffected, however;

c) The future status of Gibraltar in relations with the EU is still under negotiation. It is, however, unlikely that the EU will consider extending Gibraltar’s market access in the field of financial services[xvii];

d) Existing EU (Commission) equivalence decisions in favour of UK territories[xviii]remain in force, although since they are unilateral Commission decisions (following consultations with Member States, the European Parliament and the relevant European Supervisory Authority (ESA)[xix]) with political as well as technical considerations motivating these decisions, it is uncertain whether they would be renewed in current political circumstances;

e) To the extent that the UK’s territories relied on and benefitted from the presence of the UK in EU institutions, this has now been lost. In the current acrimonious political climate, it may well be that efforts made in the past by UK territories to establish their own “identity” or “personality” distinct from the UK[xx] are more important than ever. However, there is no doubt that the approach adopted by the EU and its institutions to relations with these territories will be to deal with them, at least formally, through London.

International And EU Rules Affecting[xxi] The UK’s Dependent Territories As IFCs

The UK’s withdrawal from the EU does not affect the relevance of international or EU rules and procedures to UK dependent territories. These have had a significant impact on all IFCs, at least for the last 20 years, perhaps especially for the Crown Dependencies given their importance in areas such as asset management and their geographical proximity to the EU.

Historically, the term “off-shore” indicated that the jurisdiction in question was outside the regulatory purview of sovereign States. They were therefore able to offer fiscal and regulatory advantages (“arbitrage”) which were not available to “on-shore” enterprises. From around the mid-1990s, both in the OECD and in the EU, pressure increased to achieve greater transparency, especially in international tax policy. This pressure increased sharply after the global financial crisis in 2008, leading to voluminous new EU regulation (“European Rulebooks” on banking, insurance, securities and economic crime), in which the UK played a leading role.

The regulatory steps taken, notably in the OECD and in the EU to enhance disciplines, including for “off-shore” IFCs, can be summarised as follows:

a) The 1998 OECD Report on Harmful Tax Competition, which identified four key criteria to identify “tax havens” or “harmful preferential tax regimes”, no or low effective rates, “ring-fencing” of tax regimes, lack of transparency and lack of effective exchange of information;

b) The 1998 EU Code of Conduct for business taxation[xxii], based essentially on the same criteria as those adopted by the OECD and intended to ensure the roll-back of existing measures and the prevention of new measures, judged to be in breach of these criteria. The Code is implemented by the Code of Conduct Group in the EU Council and covers tax measures adopted by the associated and dependent territories of Member States;[xxiii]

c) The 2003 EU directive on the automatic exchange of information between Member States (and between individual Member States and each Crown Dependency) on private savings income, as amended by the 2014 EU directive on the mandatory automatic exchange of information between tax administrations;[xxiv]

d) The 2015 EU directive on money laundering and terrorist financing, which makes provision, inter alia, for the identification of beneficial owners of companies and trusts;

e) The 2015 OECD Base Erosion and Profit Shifting Inclusive Framework comprising 15 actions aimed at countering corporate tax avoidance practices and aggressive tax planning activities.

Now that the UK is no longer an EU Member State, the UK’s IFCs continue to be directly affected[xxv] as members of the OECD’s Global Forum and indirectly affected by EU and UK law and policy. Under pressure from the EU and its Member States (notably France) – with threats of blacklisting -  and from the UK itself, all the UK’s dependent territories have adopted measures to comply with these EU and OECD minimum standards. It is unlikely that this situation will change in the near future, at least for the dependent territories, if not for the UK itself.

Sanctions And The Enforcement Of International (And EU) Minimum Standards

Between 1995 and 2000 when the OECD and the EU initiated work on measures to ensure “tax good governance”, the initial response of IFCs (both sovereign and non-sovereign) around the world was that, under “classical” public international law, such measures did not apply to them. They wished at all costs to preserve their “off-shore” status. Over the last 20 years however, virtually all such jurisdictions have adopted laws and policies to conform to international  minimum standards, abandoning (at least overtly) fiscal and regulatory “arbitrage”. For the Crown Dependencies, it was clear from around 1992[xxvi] that measures adopted by the EU to complete a genuine internal market (especially on tax, financial services and economic crime) could not be ignored in practice by these off-shore islands, given the importance of access to EU markets.

For this reason, “transparency” and “cooperation”, especially on direct tax policy, have become hallmarks, not only for the Crown Dependencies but also for other financial centres such as Bermuda, the Cayman Islands, and the BVI. “Enlightened self-interest” has been the main motivation for these policies. However, the threat of sanctions whether by the EU or other partners is also important, given the damage caused by “blacklisting” to the reputation and economic prosperity of particular jurisdictions.

Equivalence

Commission decisions on equivalence are taken after consultation with Member States and the European Parliament, with technical assessments being carried out by the relevant ESA.[xxvii] Equivalence decisions are discretionary, with a political dimension (as has already become clear in the case of the UK post-Brexit) and, although legally subject to judicial review (like all Commission decisions) are unlikely to be “second-guessed” by the European Courts. To date, the UK’s dependencies have been the beneficiaries of equivalence decisions on insurance (Bermuda), audits and (partially) credit institutions (Guernsey, Isle of Man, and Jersey). These are unilateral Commission decisions, subject to change or revocation at any time and have not (so far) been affected by Brexit. The situation regarding asset management is more complex (especially as regards market access for third countries through national placement regimes) but no equivalence decisions for the UK or its territories appear likely in the near future, especially in the current climate.

Sanctions

The EU has established a list of non-cooperative jurisdictions for tax purposes. The latest list, published on 5 October 2021, contains nine jurisdictions. None are UK dependent territories. Screenings to assess compliance with criteria related to tax “good governance” include a jurisdiction’s legislation and administrative action on tax fraud or evasion, tax avoidance and money laundering. Experience tends to indicate that “blacklisting”, whether by the EU itself or by an individual Member State,[xxviii] not only damages the reputation of the jurisdiction concerned but may actually lead to the relocation of business.

Conclusion

The UK is unique in the international system in having legal responsibility for more than 20 diverse territories located in every part of the world. Those territories which are also IFCs are also sui generis in the sense that they play an important part in global capital and financial services markets.[xxix] At the same time, the UK’s territories (perhaps especially the Crown Dependencies) have close ties with, but also compete with the City of London. The fact that the UK appears to be set on significant divergence from the EU in financial regulation does not automatically mean that the UK’s dependencies must follow suit. Making use of their autonomy, they must now - more than ever - decide what is in their best interests.

It is not (yet) clear that Brexit has adversely affected the economic interests of any of the UK’s territories, (except Gibraltar), at least in the field of financial and related services.[xxx] On the other hand, the current acrimony in the UK’s relations with the EU (especially France) cannot be in the best interests of the dependencies. During the UK’s EU membership, it was not immediately obvious that the islands’ interests in the field of direct tax were always defended by the UK in the Council of Ministers.[xxxi] Now, one year after the UK’s withdrawal from the EU, there is no doubt that:

a) The EU, its Member States and other third countries will continue to deal formally with the UK’s territories through the UK Government; and consequently,

b) The onus on individual jurisdictions to promote and defend their identity and reputation in their external relations will be greater than ever.

 

 

Footnotes:

[i] This raises a potentially difficult legal situation as regards the Crown Dependencies (though not the Overseas Territories), given the generally accepted UK constitutional convention that the UK may not impose legislative or executive measures in Jersey, Guernsey or the Isle of Man.

[ii] By “complete” I mean after the end of the transitional period on 31 December 2020. Note, however, that the UK remains subject to EU law, notably as regards citizens’ rights, administrative procedures (e.g. competition, state aid and infringement procedures) started before the end of the transition period) and Northern Ireland, under the terms of the Withdrawal Agreement and its Protocol on Ireland/Northern Ireland.

[iii] An exception, as far as financial services are concerned, is Gibraltar which lost its foothold in the EU’s internal market for services as a result of the UK’s withdrawal from the EU.

[iv] See, on prospective UK divergence from the EU financial services acquis the recent UK White Paper, Financial Services Future, Regulatory Framework Review, Proposals for Reform (November 2021), CP 548, HM Treasury.

[v] I take here 1989 and the adoption of the first Action Plan by the Commission as a key turning point in the EU’s regulatory framework for financial services. The adoption by the UK of a White Paper on the future regulation of financial services in November 2021 confirms the UK’s intention (in  principle if not in detail) to adopt its own legislation in many sectors currently covered by the EU acquis and applied in the UK as “retained EU law”  under the Withdrawal Act 2018.

[vi] Note that under UK constitutional law, the UK may intervene by executive or legislative action in the Overseas Territories (as it did recently in the case of the Turks and Caicos Islands) but not in the Crown Dependencies. Such intervention would normally only be justified however in cases where a lack of “good governance” had been established (e.g. corruption of Government Ministers). It is not clear in my view that a failure to follow precisely (non-binding) international or EU standards would constitute a lack of “good governance”.

[vii] Including reinsurance which, for many years, has been the life-blood of the Bermuda economy.               

[viii] Note, however, that, like the UK itself, all the UK’s territories are bound by the multilateral standards adopted in bodies such as the OECD, FATF, IOSCO, IAIS and the Basel Committee. Note also, however, that such multilateral standards do not have binding legal effect and are often less precise than the legal measures adopted by the EU and in the legislation of individual States such as the UK. The enforcement of these multilateral standards is more a matter of economic diplomacy or comity than of strict law.

[ix] For example, by “blacklisting” those non-EU jurisdictions which do not meet EU standards. This could include the UK itself in the future.                          

[x] As in the case of the equivalence decision on insurance for Bermuda, where the EU’s positive decision was motivated exclusively by the fact that EU insurers valued the reinsurance services provided, over many decades, by Bermuda-based reinsurers.

[xi] Of course, for the UK to seek to defend the interests of its territories (for example, following blacklisting) as a third country will be more difficult than as a Member State, particularly in the current bilateral climate.

[xii] Under Protocol 3 of the UK’s Act of Accession to the EC in 1973.

[xiii] For an analysis of the unique and complex relationship between Gibraltar and the EC, see my paper in Westlake (ed.), Outside the EU – Options for Britain, 2020.

[xiv] For the EU, now as in the past, formal relations with the UK’s dependent territories are conducted through the UK authorities in London. This does not exclude informal contacts, to the extent that the EU determines that this is in the Union’s interests.

[xv] For example, under Council Decision 2013/755/EU of 25.11/2013 implementing Part Four of the TFEU.

[xvi] The involvement of Jersey and Guernsey in the recent fisheries dispute between the UK and France raises the question of the wisdom of extending the scope of the CD’s relationship under Protocol 3 to cover fisheries.

[xvii] The current negotiations between the EU, Spain and the UK (with the informal involvement of the Gibraltar authorities) appears to focus principally on the conditions under which Spanish workers may continue to cross into Gibraltar to work and the modalities for the control of this external EU border. The effective control of smuggling (of goods and people) will be a crucial element of these negotiations for the EU, especially in the current climate as regards refugees, asylum and migration into the EU more generally.

[xviii] list

[xix] EBA, ESMA or EIOPA.

[xx] For example, through the establishment of their own representative offices in Brussels  -  the Channel Islands Brussels Office (CIBO) and the Isle of Man Brussels Office in 2011.

[xxi] It is crucial to keep in mind that ultimate international responsibility for ensuring respect for international and EU law and minimum standards in non-sovereign jurisdictions lies with the relevant State, in the case of the CDs and OTs, the UK.

[xxii] See Council Conclusions of 1 December 1997 concerning taxation policy – OJ C2/1 of 6.1.98.

[xxiii] Note that, in strict law, the Code is an inter-governmental agreement adopted by Member State Finance Ministers but is implemented  in practice as an instrument of EU “soft law”, with a full role for the Commission.

[xxiv] Council directives 2003/48/EC and 2014/107/EC. The latter directive implements the July 2014 OECD Global Standard on the automatic exchange of information.

[xxv] Though not legally bound, since the minimum standards adopted by the OECD on harmful tax and BEPS are “soft law” requiring transposition into the national (and EU) law of OECE Member States.

[xxvi] The abolition of physical, technical and fiscal frontiers in the EU occurred, with the entry into force of the Maastricht Treaty on 1 January 1993 (now Article 26(2) TFEU).

[xxvii] EBA, ESMA or EIOPA

[xxviii] France, for example, blacklisted both Bermuda and Jersey in 2013, both in connection with (alleged) inadequate cooperation in providing information under bilateral tax agreements. In the case of Bermuda, blacklisting with France (which was removed after a few months) caused a number of reinsurers to reconsider locating their operations in Bermuda.

[xxix] To take only two examples, Jersey is a leading centre for asset management and Bermuda remains a global player in the field of reinsurance.

[xxx] There is no doubt however that, unless settled, the recent dispute on fisheries involving Jersey and Guernsey could result in damage to their economies as a whole if trade sanctions were to be imposed by the EU.

[xxxi] On the contrary, the UK sometimes shared the view taken by other Member States that, for example, tax policies adopted in the Crown Dependencies were incompatible with the EU Code of Conduct.