The financial services industry and economists will doubtless debate the impact of the tax on behaviour – particularly following the Legal Services’ recent opinion that the current proposals may breach existing EU laws. My concern over the tax is whether it will have unintended consequences for businesses.
Directors may also be thinking whether to fix the interest on its euro borrowing or take a risk that rates change
First, if a tax is charged at a relatively low rate and the margin on affected transactions is not clearly visible to customers, it is more likely that a tax imposed on the supplier will end up being borne by the customer. That would not be so bad if the tax is imposed only once (although it would be contrary to the commission’s stated intentions), but if the tax is imposed at several stages in a transaction, the costs start to mount up.
For example, take a German manufacturer that exports goods from the eurozone (say to China) but purchases raw materials that are priced in dollars. It borrows, probably in euros, but wishes to swap the proceeds into dollars to pay for raw materials and may wish to repay its euro borrowings from renminbi sale proceeds.
The directors may also be thinking whether to fix the interest on its euro borrowing or take a risk that rates change. There are likely to be at least four transactions with financial institutions – loan, currency swaps or futures and an interest rate fix – and those institutions may choose in turn to hedge those exposures, whether with other group companies or third parties.
In principle, significant amounts of FTT may start being borne by customers of financial institutions. Meanwhile a relative lack of bargaining power may mean that the tax is passed on to our hypothetical manufacturer. So even though loans in isolation do not attract FTT, a lender hedging its exposure could attract FTT, passed on to the borrower.
Some readers may pose the question “how could you improve the FTT?” Legally, improvements could be quite difficult given that the design of the FTT, amended in one significant respect - namely the suggestion of an “issuance principle” to increase the scope of the tax - was taken into account when member states decided whether to participate and vote for the enhanced co-operation procedure.
Putting forward a radically redesigned tax might mean that all of the EU member states have to be consulted on the design. If – and only if - a significant number of member states still wanted to proceed, the enhanced co-operation procedure would start again.
There is also the issue whether, as some have suggested, a transaction tax based on UK stamp duty affecting only transactions in shares would be effective, if derivative instruments operated as proxy for trading in the underlying shares (e.g. Alternative dispute resolutions (ADRs) when the underlying shares remain held by nominees) could shift transactions outside participating member states.
So this suggests that, apart from other more focussed levies which are already in force in some other countries, a tax – as opposed to regulation or capital allocation rules – may not in fact be the most effective tool open to policy makers.
As with many EU issues, there is a paradox: one of the canards put about to justify an FTT is that the financial services sector is under-taxed as it does not pay VAT. In fact it does via irrecoverable input tax it pays on supplies to it which is attributable to exempt supplies made by such financial institutions. Consistent with another Commission initiative, maybe banks could be permitted, or required, to charge VAT on the (not always easy to determine) measure of their supplies to business customers.
After all, VAT is a tax where the policy is that the tax should be borne by the final consumer.
Gary Richards is corporate tax partner at Berwin Leighton Paisner