Financial transaction taxes (FTTs) have been proposed in a number of different circumstances; and many countries across Europe already have stamp duty regimes applied to various categories of financial and property transactions. FTTs can have a number of different objectives, but the proposals currently being advanced in the European Union (EU) are perhaps unique in the range – and potential inconsistency – of their targets. As we have outlined previously,1 the explanatory memorandum to the European Commission’s original proposal suggested that such a tax would:
- avoid fragmentation of the internal market by coordinating national FTTs
- ensure a fair contribution by the financial sector to the costs of the recent crisis
- ensure a level playing field between the financial sector and other sectors
- remove certain distortions from the financial markets
- provide a source of own revenue for the EU.
In its current form, the tax would be levied on financial institutions carrying out transactions in securities and derivatives, in general at a rate of 0.1 percent for shares and bonds and 0.01 percent for derivatives. Estimates of the potential yield vary, but a figure of Euro (€) 30-35 billion is frequently quoted.
The Commission’s proposals have divided member states. A core group of 11 states (the FTT-11), including Germany and France and accounting for more than 90 percent of eurozone GDP, are pressing ahead under a special procedure known as ‘enhanced cooperation’– but in the face of opposition from other member states, most notably the United Kingdom, from financial institutions and from large multinationals. Some alternative proposals would:
- exempt pension funds and sovereign bonds
- limit the FTT’s application so that it operates more like a stamp duty (on shares only)
- introduce the FTT in phases.
In July 2013, the European Parliament (EP) approved the Commission’s proposals, but also put forward a number of amendments. Among these are measures to:
- extend the FTT’s scope to cover currency spots on foreign exchange markets
- introduce a legal title principle (i.e. no transfer of legal title without payment of FTT due)
- permanently reduce rates on repurchase agreements and temporarily reduce rates on trades in sovereign bonds and trades of pension funds
- provide an exemption for market makers.
In the meantime, the UK launched a legal challenge to the proposals in April at the European Court of Justice. The core of the case may appear narrowly technical: it disputes the validity of the use of the enhanced cooperation procedure to allow the FTT-11 to go ahead without the agreement of the remaining member states as to its final form. In fact, this goes to the heart of the current design of the proposals, which would impose a tax on both financial institutions which are party to a trade even if only one was within the FTT-11; this is referred to as the counter-party principle. The UK explicitly attacked the legality of what it claims is the ‘extra-territoriality’ this implies.
Supporting this challenge, the EU Council’s legal service delivered a major blow to the proposals in September. The lawyers concluded that the tax would indeed:
- exceed member states’ jurisdiction
- infringe the taxing competences of non-participating member states
- be discriminatory and lead to distortion of competition.
On the other hand, Algirdas Šemeta, EU Commissioner for Taxation and Customs Union, Šemeta commented on this challenge that the lawyers of his department confirmed that the procedure and the proposal are in line with the EU treaty.
The political context remains uncertain. It has been argued that the result of the recent German elections will strengthen support for an FTT. Conversely, Christian Noyer, the governor of France’s central bank, has said that the current proposals pose “an enormous risk in terms of the reduction of output in the FTT jurisdiction; increased cost of capital for governments and corporates; a significant relocation of trading activities and decreased liquidity in the markets”.2
Algirdas Šemeta, continues to maintain that the measures proposed are legally sound and fully compliant with EU treaties. But it is increasingly likely that the proposals will be abandoned or seriously modified. A number of scenarios can be envisaged:
Neither the UK’s court challenge nor the Council’s legal advice can formally stop or delay the enhanced cooperation process. But in practice, the FTT-11 member states will be increasingly cautious about pressing ahead with the tax in its current form. The Financial Times has reported that German officials have privately raised substantial concerns.3 More Machiavellian commentators have speculated that the recent legal opinion was actually intended to provide some cover to those states which are now looking to water down the proposals. Nevertheless complete abandonment, and the loss of face which it would entail, seems unlikely.
One alternative which has been put forward is a (low) flat rate tax imposed on financial institutions rather than on transactions – a financial activities tax (FAT). This could be applied to ‘excessive’ remuneration or ‘excessive’ profits. This approach was originally rejected by the Commission. But it could be argued that it would better achieve at least some of the economic objectives. However, like most taxes, it would in the end, be passed on to consumers; and it could still be avoided by judicious relocation of companies.
Removal of the counter-party principle
As we have seen, as currently conceived the FTT would apply to both legs of a transaction even if only one party was within the FTT-11. For example, if a bank in Frankfurt traded a listed stock with a UK-based insurance company, each party would be liable to the tax, yielding 2 x 0.1 percent of the value of the deal to the German treasury. If the counter-party principle were dropped, only one party to the transaction would be caught, delivering 1 x 0.1 percent. Such a change would draw some of the sting from the current argument of extra-territoriality, but not entirely, as tax would still be levied on parties based outside the FTT-11 member states under the ‘issuance principle’ if they were party to a transaction involving securities issued in an FTT-11 member state, such as shares in a German company. Ironically this issuance principle is embedded in the UK’s stamp duty system, so any arguments that the FTT would still be discriminatory and hence anti-competitive could raise issues as to the compatibility of the UK’s own system with EU law.
National FTTs and/or stamp duties
A further alternative would see a formal FTT within the 11 supporting states give way to a patchwork of more limited unilateral measures, perhaps along the lines of the new French arrangements, perhaps more like enhanced stamp duty regimes. Even the UK has said it is not opposed to such taxes in principle, acknowledging its own very long-standing stamp duty on share transactions. Since a formal FTT-11 tax would itself have to be implemented by national legislation in participating states, it may be that the end result would be not very different, especially if the rates and structures of such taxes were harmonized.
It is clear that the Commission’s original target date for FTT implementation, 1 January 2014, is now unachievable. More likely is the formulation and negotiation of various compromise proposals during 2014, leading to a more limited regime coming into force after 2015.
Whatever the final outcome, the biggest impact on financial services firms is likely to be on systems, products and processes. For example, the FTT could affect processes such as securities settlement, intermediation functions or access to market liquidity. At best, FTT may require changes to business models. At worst, it could make them no longer viable. Compliance and reporting and payment obligations raise some of the biggest concerns. Companies need to keep up with developments and prepare for the potential impacts.
However, whether any of these measures contribute to enhancing the stability of the global financial system – the original context in which the G20 first proposed an FTT – remains debatable.
1 Euro-FTT: Politics over principle? frontiers in tax, July 2012
2 France central bank chief says Robin Hood tax is ‘enormous risk', Financial Times, 27 October 2013
3 Europe financial transaction tax hits legal wall, Financial Times, 10 September 2013