27th March 2020
No. 1 - March 2020
Customs Duties and VAT Post-Brexit
I’m David Southern QC. I hold a monthly Temple Tax Chambers Tax Workshop. The topic for our most recent workshop held on Wednesday, 18 March 2020 was International trade law and VAT post-Brexit. We discussed the prospects that face companies on 1st January 2021.
Until 31st December 2020 the UK forms part of a customs union with the other 27 EU Member States. On and from 1 January 2021, the UK will leave the Customs Union and be placed outside the single European market and Community Customs Code. The EU will become a third country. The UK’s new national customs code – the UK Global Tariff – is in process of preparation and will replace the Community Customs Code and all that goes with it.
In trade terms the change is fundamental.
Some believe that “at a stroke” the UK can leave the EU and sever its current arrangements, continuing automatically and seamlessly on an independent basis.
However, there are bound to be transitional adjustments. As J.M. Keynes said, it is not sufficient that the state of affairs which we seek to promote should be better than the state of affairs which preceded it. It must be sufficiently better to make up for the evils of transition.’
The slogan behind these changes has been ‘take back control’. However, national regulation of customs duties has to comply with international trade law.
International trade law is a branch of public international law. States solely and exclusively are the subjects of public international law.
The basis of international trade law is the law of the World Trade Organisation (WTO). WTO law largely derives from the General Agreement on Trade and Tariffs (GATT). The WTO has an enormous impact on what states can or cannot do and what those engaged in international trade can or cannot do.
Since 1973 the UK has had a shared membership of the WTO through the EU. What the UK has to do is to rejoin the WTO as an independent member.
At this point I want to digress and look at the experience of China. China joined the WTO in 2001. I worked in China between 1999 and 2001 in connection with this process.
Why did China want or need to join the WTO?
In the 1980s the Chinese communist party found itself faced with the problem of how to enable the great rural population to feed itself and lift itself out of abject poverty.
The solution adopted was to abandon the philosophy of Chairman Mao, and inaugurate a vast programme of economic restructuring and industrialisation through private enterprise.
Accession to the WTO in 2001 marked the culmination of a long process which began in 1986, and which required significant changes to the Chinese economy over a wide range of fields.
The World Trade Organisation (WTO) comprises 160 states, who are all parties to the General Agreement on Trade and Tariffs - GATT. They account for 98% of world trade in goods. GATT was concluded in 1947, and has been modified in subsequent Rounds The WTO lays down the rules on which international trade is conducted.
GATT was based on the principle that pre-2WW protectionism had led to an inefficient and destructive collective outcome of restrictive trade policies. GATT is based on the principles of reciprocity and non-discrimination. GATT was directed towards the dismantling of tariffs, subsidies, state monopolies and exchange controls and the promotion of free trade.
It was an essential part of the new internationalist order which was established under US leadership after the 2WW.
The necessity for China to join the WTO could be summed up in three letters: MFN – most favoured nation.
The key principle of GATT is MFN. That is laid down in Art I. MFN is a principle of non-discrimination. The principle of non-discrimination is the fundamental principle of the international trading system. The Most Favoured Nation means that if one state grants a trade preference to another state, that state must also grant the same most favoured nation treatment to all its other trading partners: : ‘favour one, favour all’
The Chinese leadership needed to ensure that other countries could not discriminate against Chinese goods. Through WTO membership Chinese goods could obtain the benefit of MFN. Once China became a member of WTO, another WTO member trading with China could not charge a higher rate of tariff on goods imported from China than the most favourable rate which it charged on similar goods of any other country, or impose any other form of import restriction.
In consequence the MFN principle restricts the scope for bilateral trade agreements. This is because the benefits obtained in a free trade agreement between State A and B will automatically be generalised through the MFN principle to all the other trade agreements into which those states have entered.
WTO is a multilateral, not a bilateral system.
The rule is, however, equal treatment unless an exception applies. The MFN principle is significantly qualified by the possibility of preferential trade agreements. Preferential trade Agreements (PTAs) are treaties between two or more countries, granting preferential access to each other’s markets, without triggering the MFN principle. PTAs may be bilateral, regional or cross-regional. Participation in a customs union or free trade area is only permitted if all the conditions in Article XXIV:4 of GATT are met.
Regional trade agreements are very popular because, if permitted by WTO rules, they enable a country to dispense with the MFN principle: Article XXIV:5. There are some 300 of them. The EU is such a regional grouping, which being a customs union with a Common External Tariff does not have to apply the MFN principle in relation to third country agreements.
When the UK leaves the community customs area, it will have to apply the MFN principle to all its trade agreements, unless it can agree a preferential trade agreement with the EU..
The UK government’s plan is that a free trade agreement with the EU will trump the MFN principle. This is evident from the title to the UK’s outline document ‘Approach to MFN Trade Policy: Designing the UK Global Tariff for 1st January 2021’. The UK government policy appears to be that of entering into a series of bilateral trade agreements, none of which will set off the MFN trip-wire.
The UK-EU trade negotiations are unique. All previous trade negotiations have been about doing away with existing trade restrictions. The UK-EU negotiations are about creating trade restrictions where none previously existed.
Whereas China wanted to join the WTO to benefit from the MFN principle, the UK wants to rejoin the WTO so as not to exclude the MFN principle.
The problem with tariffs is not their absolute level, which is in most cases low, but the customs formalities, inspections and procedures which they involve. Clearing customs can be costly, time-consuming and carry significant legal and tax risk. In particular, with a Free Trade Agreement, certificates of origin will be required for UK goods on export and third country goods on import.
As regards VAT, the PVD has already been implemented in the UK in the UK VAT legislation. So the removal of the PVD as a binding source of law does not remove VAT as such. However, there will be no law above the UK legislation.
The Withdrawal Act repeals the European Communities Act 1972 and directly effective Regulations, in particular the Community Customs Code.
The Withdrawal Act then reimports EU law of VAT as retained law. Retained law is a different beast to EU law. Enforcement mechanisms are not available against the UK, and the law as at 31.01.2020 is preserved in aspic.
Retained law can be altered by statutory instrument where it is ‘inoperable’, so it is likely to be built on shifting sands.
No invalidity challenges are possible, except where a SI is outside the terms of the enabling statute. The legal remedy is then judicial review in the High Court, not appeal to the Tax Tribunal. Delegated legislation and JR are going to become of fundamental importance to VAT.
Of all these changes, the eclipse of the general principles of EU law, in particular the effectiveness principle and proportionality, is perhaps the most important. These have been absolutely central with regard to the development and protection of substantive taxpayer rights. Take for example all the great raft of Fleming cases.
Our general conclusion was that, as matters stand, any business concerned in the cross-border movement of goods will face considerable difficulties on 1st January 2021, just at the point when those who have survived may be emerging from the financial disaster of coronoavirus.
Looking to the future our next Tax Workshop will be on Wednesday, 15 April 2020, when the great Murray Clayson of Freshfields Bruckhaus Derringer and I will be looking at another area of international co-operation, the subject being Double Taxation Agreements, Transfer Pricing and BEPS.
The likelihood is that this will have to be conducted by videolink, so look out for details.
At the moment, the international system, including the international tax system, is in paralysis or disarray or retreat. But we hope for broader lands and better days.