The Court of Justice of the European Union (CJEU) recently issued a decision rejecting the UK government’s initial legal challenge against the proposed introduction of a financial transactions tax (FTT) in Europe. The following week, 10 of the 11 EU Member States that have been supporting the FTT issued a joint declaration (Declaration) re-stating their determination to “finalize viable solutions” for the FTT by the end of 2014 and to commence the “progressive implementation” of the tax by 1 January 2016.
As background, towards the beginning of last year, the EU Economic and Financial Affairs Council (ECOFIN) adopted a decision (ECOFIN Decision) authorising 11 EU Member States (Participating States)1 to proceed with the introduction of the FTT. Since that time, the Participating States have been acting through “enhanced cooperation”2 due to a failure to reach EU-wide support. The European Commission adopted a proposal for a Directive implementing enhanced cooperation in relation to the introduction of the FTT on 14 February 2013.
The FTT is a tax to be levied at fixed low rates on certain transactions involving financial instruments – such as shares, bonds and derivative contracts. Initial rationales for the FTT were to: ensure that financial institutions make a fair contribution to the costs of the recent financial crisis; avoid fragmentation of the EU’s internal market due to individual Member States adopting their own national FTTs; and discourage certain types of “economically inefficient” transactions. For further information on the FTT and the proposed directive, please refer to The European Financial Transactions Tax.
The UK’s Application
On 18 April 2013, the UK government filed a legal challenge seeking annulment of the ECOFIN Decision. The challenge focused on two principal themes – namely, extraterritorial effect and costs to be borne by non-participating Member States.
The UK’s first plea related mainly to the so-called “counterparty” and “issuance” principles laid down in the EU’s initial FTT proposals in 2011 and 2013:
- The Issuance Principle
Financial institutions located outside a Participating State would be obliged to pay the FTT if they trade securities that were originally issued within the Participating State. The aim of this principle is to afford protection against the risk of financial institutions relocating outside of the Participating States once the FTT is implemented.
- The Counterparty Principle
Financial institutions located outside a Participating State would be obliged to pay the FTT if they enter into a relevant financial transaction with a financial institution established within the territory of a Participating State.
The UK maintained that, through these two principles, the FTT would apply to institutions, persons and/or transactions situated or taking place in the territory of non-participating Member States, with a consequent adverse impact on the competences and rights of the non-participating Member States. The UK argued that this was not in accordance with the provisions of the Treaty on the Functioning of the European Union (TFEU), which states that any “enhanced cooperation shall respect the competences, rights and obligations of those Member States which do not participate in it”.3
The UK also claimed that customary international law permits legislation that produces extraterritorial effects only if the state enacting the law has a sufficiently close connection with the states outside its territory that are affected by such law, to justify an encroachment on the sovereign competences of those other states. The UK submitted that the extraterritorial effects of the FTT were not justifiable in this context.
Costs Borne by Non-Participating Member States
The UK again referred to the TFEU in its second plea, noting the requirement that expenditure resulting from implementation of enhanced cooperation should be borne only by the Participating States.4 The UK submitted that, despite this fundamental principle of EU law, the implementation of the FTT would, in reality, be a source of costs for non-Participating States as well as Participating States.5
Judgment of the Court of Justice
On 30 April 2014, the CJEU rejected the UK's application, on the grounds that the UK’s arguments were based on proposed, not yet definitive, legislation. The CJEU noted that the “issuance” and “counterparty” principles were “purely hypothetical components” of the FTT.
The UK’s challenge was therefore deemed premature and speculative, and the CJEU indicated that it would not be in a position to rule on the claims made until such time as the nature and scope of the FTT are finally agreed. Importantly, the CJEU did not rule on the validity of the UK government’s arguments – a further challenge once the extent of the FTT is more concrete therefore remains possible.
Declaration of the Participating States
In the wake of the CJEU’s rejection of the UK’s application, on 6 May 2014, 10 of the 11 Participating States issued a Declaration reiterating their support for the FTT and confirming their intention to finalise agreement on the tax by the end of 2014.6 The Declaration did not offer much additional detail on the FTT, but did clarify that the tax would be introduced on a step-by-step basis and the progressive implementation would focus first on the taxation of equities and “some derivatives”. The Declaration indicated that the initial phase of the FTT should be implemented no later than 1 January 2016. The Declaration further noted that if individual Member States wanted to impose the FTT on additional products not included from the beginning of the progressive implementation (in order to maintain existing taxes), such states would be permitted to do so.
The UK was highly critical of the Declaration. Chancellor of the Exchequer George Osbourne condemned the way in which the other Participating States had drawn up their proposals “largely in secret”. He criticised the lack of detail presented in the Declaration in relation to: (i) the types of dealings that would or would not fall within the FTT’s scope; and (ii) the potential extraterritorial impact of the levy. Mr. Osbourne’s criticisms were echoed by Sweden’s Minister for Finance, Anders Borg.
The Participating States’ Declaration suggests that 10 Member States remain committed to the implementation of the FTT. However, there is every indication that the UK government, likely backed by Sweden and others, will raise further challenges to the implementation of the FTT.
If the FTT does become part of the European tax landscape, it may be in a form somewhat reined-in from the sweeping levy initially envisaged. Various means of softening the blow of the FTT have been considered, such as exemptions for intra-group transactions or transactions within a network of decentralised banks when they fulfil a liquidity requirement, as well as lower tax rates for certain products such as government bonds.7 Regardless of form, an FTT will likely have wide-ranging consequences for all businesses – most notably, of course, for those operating in the financial services sector. Particular consideration should be given by those financial institutions that engage in the relevant types of transactions, as to how such a tax might be absorbed or mitigated, if implemented. Close monitoring of the issue remains crucial in order to ensure that businesses are well placed to react effectively as matters progress.