While Britain voted to leave the EU in 2016 and companies had about four years to prepare for the change, there was not much clarity on what Brexit would mean for companies until Dec. 24, 2020, when the post-Brexit trade deal—the UK-EU Trade and Cooperation Agreement—was finalized. Plenty of questions remain about what the specific impacts of the deal will be, but some aspects—such as value-added tax and customs implications—have come into clearer focus in 2021.
Industrial companies will need to pay particular attention to the impact of Brexit, as more than 60% of trade between the UK and EU pertains to industrials. This will also be important for U.S. manufacturers, as the United States is the largest investor in the UK; American firms—across all economic sectors—have investments of nearly $758 billion in the British market, according to the U.S. Chamber of Commerce. That’s nearly a quarter of American companies’ total investment in Europe, and more than 12% of all U.S. foreign direct investment worldwide, according to the Chamber. We expect this to further increase given the Biden administration’s push for a multilateral approach to China and the UK realigning itself away from the EU.
Britain has traditionally operated as a distribution hub for many U.S. companies selling into Europe, as trade between Britain and mainland Europe has benefitted from the free movement of people, goods and services—with no intervals for customs or regulatory clearances. Industrial products such as machinery and equipment, chemicals and electronics form a significant portion of the goods traded between the two regions. Auto components cross the English Channel multiple times before finally making their way into a finished automobile.
In response to Brexit, many companies have moved their pan-EU distribution hubs to mainland Europe. However, many companies still need to evaluate what changes they may need to make to their business operations or tax structures as a result. The 2020 trade deal continues the preferential treatment of tariff-free trade between the UK and Europe for goods originated in the UK. However, which goods qualify as originating in the UK under the rules of origin outlined in the deal involves a mind-boggling level of detail. There are also tolerance limits, whereby goods can qualify as originating in the region if the weight of the non-originating material is below a certain percentage threshold.
Given the level of intricacy involved in the rules of origin, and the evolving rules and regulations, U.S. companies continuing to distribute into the EU through the UK should consult trade and tariff experts to ensure they can avoid tariffs when possible or reduce their tariff burden. Although companies may not have to pay duties, there are nevertheless customs and VAT filing obligations and port clearances which add to logistics costs, time and efforts.
Industrial companies, especially automotive companies, following just-in-time principles may need to evaluate and adjust inventory levels, given potential delays due to customs clearances and checks. U.S. manufacturers exporting to Europe have had to certify compliance with EU regulatory requirements, referred to as the CE marking. Now that the UK is no longer part of the EU, U.S. manufacturers will need to consider two certifications—one for exporting to Europe and one for exporting to the UK.
In the aerospace sector, companies making parts in the UK will now need to get separate UK design and production certifications; until now, companies would have followed common EU safety standards, irrespective of where in Europe their parts were made. Given that the UK has previously relied on EU regulatory bodies and has yet to develop its own strong aero-certification capabilities, British-made aero parts will be particularly scrutinized by EU authorities, likely disrupting the flow of parts and leading companies to rethink their supply chains.
The key to managing these supply chain changes is to plan according to the long-term business model and to assess whether that model entails any movement of roles and functions out of the UK. Any supply chain reorganization where the location of functions and assets change will need a review of capital gains, exit taxes and the appropriate transfer pricing approach for the new arrangement. Interest or royalty payments between the regions or dividends from the EU may be subject to withholding taxes affecting UK holding company structures. While there may be relief available through tax treaties, determining as much is not straightforward.
There are various aspects of business that companies need to address in the wake of Brexit, such as updating their systems for tax and operational changes, continued availability and movement of talent, revising contractual terms and also monitoring evolving regulations such as those regarding data privacy and cross-border data flows. All of these factors will affect U.S. companies operating in the UK or mainland Europe, requiring companies to review their long-term pan-European business operation strategies.