Brexit divorce talks: What do we know so far?

The Brexit negotiations have begun, but what do we currently know about the financial Brexit divorce settlement? Charles Proctor of Fladgate LLP explores the situation so far.

The Brexit divorce talks got underway in Brussels on 19 June. They did not begin well for the UK – it dropped its insistence that trade talks should run in parallel with the negotiation of the UK’s financial contributions as a consequence of Brexit. This may have resulted from the weakened authority of the government following the election result and a general perception – justified or not – that the outcome of the vote argues for a softer form of Brexit.

Even so, there is still no guarantee as to the likely format of Brexit. The eventual deal has to be approved by all remaining member states, and each will have a different agenda. There must still be a possibility that the talks will founder, given that the level of the Brexit bill is likely to become apparent long before the development of a framework for a future trading relationship.

Amidst all the uncertainty, what do we actually know, as of now?

Sequencing

The EU has divided the talks into two stages. The initial stage comprises a number of items, including mutual residence rights for citizens currently living in the EU/UK, and the Irish border issue. Inevitably, however, the focus will be on another aspect – the need for an “orderly financial settlement”.

Stage two of the negotiations – including preliminary discussions of the future trade relationship—will begin only when the Council decides that “sufficient progress” has been made on the first stage. In other words, there must be an agreed methodology for the calculation of the Brexit cheque, before moving on to other matters. There is, however, a significant gap between the EU’s expectations and the UK’s legal obligations under the EU Treaties.

EU expectations

The EU has published a working paper on its financial position for Brexit. It states that the UK must meet its share of all commitments undertaken while it remained a member of the Union. This appears to mean all expenditure contemplated by the EU’s multiannual financial framework (MFF). The current MFF was negotiated in 2013 and expires on 31 December 2020. The EU’s stance therefore contemplates that the UK would continue to contribute to the EU’s finances for 21 months following its departure from the Union. Given the size of the UK’s net contributions, this could be a significant sticking point. The working paper also considers that the UK should pick up a share of ongoing pension obligations to EU staff, and other continuing liabilities. It is also stated that the UK should withdraw from the European Investment Bank but maintain its funding position.

All of these items will be contentious from a UK perspective. Especially in the case of the MFF, the relevant regulation contemplates that the numbers may be reworked in order to deal with unforeseen situations, so the EU should cut its coat according to its cloth.

The legal position

Faced with a no doubt substantial bill for Brexit, how will the UK respond?

As a starting point, the EU’s working paper appears to contemplate a level of payments that goes significantly beyond the UK’s base legal liability under the EU Treaties. The basic rule is that the Treaties will cease to apply to the UK from the effective date of withdrawal (29 March 2019, unless extended by mutual agreement). So, under current arrangements, the UK cannot be compelled to make any payments to the EU beyond that date.

Equally, if somewhat technically, the UK may argue that it does not pay “contributions” to the EU. Rather, it simply collects a portion of VAT, customs duties and other items as agent for the EU and hands over those amounts as a part of the EU’s own resources. Again, these collection agency arrangements would come to an end on 29 March 2019, and any EU entitlement to a share of those proceeds must lapse.

In summary, therefore, the UK may be expected to argue for a cut-off date of 29 March 2019 in relation to both liabilities and payments.

Withdrawal agreement

The object of the negotiation process contemplated by Article 50 of the Lisbon Treaty is to secure a withdrawal agreement that provides some certainty to both sides. If such an agreement can be concluded, then this will clearly resolve some of the ambiguities that have been noted. It should, however, be appreciated that the withdrawal document should also take account of the framework for the future relationship between the UK and the EU – it is difficult to see how that objective can be achieved if the nature of that relationship is not open for discussion during stage one of the talks.

At all events, if no such agreement is reached, the respective sides may have to fall back on the general rules noted above.

Conclusions

The first-day agreement to sequence the Brexit talks may have operated to the significant disadvantage of the UK, in the sense that the Brexit cheque might have been seen as one of its best negotiating strengths.

On the other hand, a failure to concede the point could well have led to the breakdown of the talks on day one. This would have made it much more difficult to reach an agreement of any kind and, most probably, would have put the sterling exchange rate under even greater pressure. It may perhaps be dawning on the UK government that it has fewer bargaining chips, and less room for manoeuvre, than it had originally thought.

Given that it has agreed to the EU’s timetable, the UK must now proceed to negotiate the divorce arrangements with all possible speed. This will enable it to pass the “sufficient progress” test, so that the EU Council will authorise preliminary negotiations about a trade deal. This may in turn help to build international confidence in the UK’s economic future. But all of this will be subject to many political contingencies, and the time available for negotiations is short. The fear must be that the UK will be writing a large cheque for very little return.

Charles Proctor is a partner at Fladgate LLP.