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Legal Considerations for the U.K.’s Investment and Trade Treaties After Brexit

September 28, 2016

The result of the United Kingdom referendum on membership of the European Union could potentially open up new possibilities and challenges for the country’s external trade and investment position. Further, the prospect of disassociation with the EU has led to some discussion with regard to dispute resolution mechanisms. We have already published various bulletins on these subjects. See:

In this alert, we provide further updates on:

  • The status of the U.K.’s existing bilateral investment treaty (BIT) network, both with (at least for now) fellow EU member states and elsewhere.
  • The trade treaty network in the EU which the U.K. is set to leave, and how it could retain those relationships.
  • Some reflections on the legal mechanisms involved and some implications of the U.K. pursuing new investment and trade treaties from without the EU.

The Status of the U.K.’s BIT Network

The U.K. currently maintains one of the largest BIT networks in the world. Britain has a dozen intra-EU BITs (those between two member states), mostly with former Warsaw Pact territories entered into in the years following the break-up of that system. They are listed in Annex 1 to this alert.

The U.K. also has over 80 extra-EU BITs (those with a third country outside the EU), including with Albania, Serbia, and Turkey among the EU candidate states. They are listed in Annex 2 to this alert. Such treaties provide investors from one state party to the BIT protections for transgressions of international law against their investment by the counterparty host state. Typically, the investor has a right to arbitrate disputes with the host state before international tribunals constituted under the arbitration rules of at least one of the following: International Centre for Settlement of Investment Disputes (ICSID) Convention, the UN Commission on International Trade Law (UNCITRAL), the International Chamber of Commerce (ICC), or the Arbitration Institute of the Stockholm Chamber of Commerce.

However, owing to the EU’s competency in the field of investment policy, in recent years the European Commission has taken an active role in reviewing and interacting with EU member states’ BITs and the process and execution of investment treaty arbitration.

The Commission’s scrutiny of BITs led to the introduction of Regulation 1219/2012, under which existing extra-EU BITs are currently accepted under EU law. The regulation also allows member states to renegotiate their extra-EU BITs in order to address any incompatibilities with EU law. However, the EU’s intent to dismantle the existing BIT network of member states, and replace it with a series of new BITs entered into by the EU as a whole, is enshrined by Article 6 of the regulation, which requires member states to take “appropriate measures to ensure that the provisions of [existing EU member state BITs] do not constitute a serious obstacle to the negotiation or conclusion by the Union of bilateral investment agreements with third countries, with a view to the progressive replacement of [those BITs].”

As for intra-EU BITs, the Commission considers them likely to create scenarios of illegal state aid under EU law, given the special bilateral protections enjoyed by the citizens and companies of the signatory states. Having taken that view, in 2015 the Commission brought formal infringement proceedings against five member states to compel them to terminate their existing intra-EU BITs, although the U.K was not included. Further to these moves by the Commission, in March 2016 the German Federal Supreme Court submitted a reference to the Court of Justice of the European Union seeking clarification regarding the legality of intra-EU BITs under EU law.

The Commission has participated as amicus in several investment arbitrations, but perhaps its most famous intervention was with respect to Ioan Micula, Viorel Micula, SC European Food SA, SC Starmill SRI, SC Multipack SRL v Romania, ICSID Case No. ARB/05/20. After an award of damages in favor of the investors was issued on 11 December 2013, the Commission ordered Romania not to pay the award on March 30, 2015, having decided that the award constituted illegal state aid under EU law, as the investors were domiciled in another member state.

Ultimately, the position of EU BITs remains uncertain, but the referendum result should afford the U.K. the opportunity to sustain its BIT network if it wishes to do so (and there is little reason to believe the U.K. would act to the contrary). However, if the U.K. and EU agree to their own BIT or free trade agreement with an investment chapter (see further below), this would ultimately replace the U.K.’s existing network of BITs with its current fellow member states.

The breadth of the U.K. BIT network, allied to its large number of double-tax treaties and the impending likelihood that the Commission will no longer have a role in interrogating British BITs, has the potential to set the U.K. apart from continental Europe for investors as they structure their investments. The likelihood of continuing vitality of international law protections for U.K.-based investors should be considered as planning and structuring for new ventures takes place.

The U.K. and Current EU Trade Agreements

Although the focus of the U.K.’s future trade dealings is naturally dependent on its potential relationship with the European Single Market, there are several other trade agreements entered into by the EU which need to be considered.

These agreements are of three general types:

  • Customs unions, which remove customs tariff duties between the EU and the third party State and provide for common tariffs with the remainder of the world market (such as with Turkey).
  • Association and stabilization agreements, like the one with Israel, free trade agreements (FTAs), such as with Korea, and economic partnership agreements, which all remove or reduce tariffs to bilateral trade between the EU and the third party state, and especially among the free trade agreements may provide for further regulation of bilateral trade arrangements.
  • Partnership and cooperation agreements, which do not affect tariffs but provide a framework for future trade discussions and relations (for example with Mexico).

Full lists of these various types of trade agreements entered into by the EU appear at Annex 3 to this alert.

EU member states are usually parties to agreements as well as the EU itself, for example the Korea-EU FTA mentioned above. In that case, this is achieved by an umbrella function of the "EU Party" defined at Article 1.2 as "the European Union or its member states or the European Union and its member states within their respective areas of competence as derived from" the EU Treaties. Thereafter, the substantive obligations of the FTA are drafted to apply between the parties; for example, at Article 2.5 “each party shall eliminate its customs duties on originating goods of the other party in accordance with its schedule included in Annex 2-A.”

The significant point is that the U.K., having been bound by such treaties under the EU system, ought to be able to sustain them by the exchange of notes with the counterparty state should it wish to do so and the counterparty agree. There is analogous precedent for such conduct in the international law of state succession: for example, the Czech Republic and Slovakia agreed to assume the treaty obligations of the former State of Czechoslovakia when it split in 1992.

Thus, the U.K. could exit the EU with a series of trade agreements already in place with a variety of countries. While there are provisions in the Korea FTA and others which involve bilateral joint committees or bilateral disputes and arbitration procedures between the parties, the exchange of notes could supplant the EU’s role therein for the U.K. independently, just as the substantive provisions would transition. Those trading with the U.K. in the present environment would be well advised to monitor the output of their own and the U.K.’s foreign and trade ministries regarding their intentions as to the future bilateral status of the EU’s agreements should the U.K. exit the EU.

Considerations on Trade and Investment Treaty Negotiations with the EU and Other States

It must be remembered that, since the introduction of the Lisbon Treaty in 2009, the EU has taken responsibility and supremacy over its members for the negotiation of trade and investment instruments with third states (see Treaty on the Functioning of the European Union (TFEU) Article 207(1) and (3)). Further, such treaties are only approved through the unanimous action of the European Council and Member ratification (see TFEU Articles 207(4) and 218).

In departing the EU, the U.K. would recover its autonomy in such matters, leading to the current debates over the future trade deals which may be available, as discussed in our previous alert, U.K. Faces Arduous Trade Negotiations Post-Brexit. However, with that autonomy not shared with its present fellow member states, there is no possibility within the current EU framework for the U.K. to see bilateral trade and investment arrangements with the other 27 members. The U.K. will have to reach a universally-agreed deal with the Union as a whole, once and if the presiding government invokes TFEU Article 50 and begins the formal withdrawal process from the EU system.

The U.K. is currently left in an uncertain scenario for the ongoing trade and investment agreements which the EU is negotiating with third party states, including finalized but unratified agreements with Canada (the Comprehensive Economic and Trade Agreement or CETA), Singapore and Vietnam, as well as the on-going negotiations with the U.S. regarding the Transatlantic Trade and Investment Partnership or TTIP. The Commission’s view, as stated in a July 5, 2016 press release, is that CETA would be provisionally applicable upon a Council decision, before ratification takes place. On the other hand, the Commission has recently sought an opinion from the European Court of Justice regarding exact scope of the EU’s supremacy regarding third party treaty negotiations under TFEU as part of the finalization of the Singapore FTA. The Court of Justice heard argument in September and its opinion is pending. There is no mechanism within TFEU to consider the possibility that the Council and remaining member states could ratify an instrument while leaving one member state “out of the loop”.

If Article 50 is triggered, it could be an immediate sticking point what process, if any, in which the U.K. should be involved to be a party to these instruments. The practical implications of this scenario for various trade matters are discussed in our bulletin International Trade Implications of Brexit – What Companies Should Do Now. However, as discussed above with regard to subsisting FTA and other trade agreements, it is possible the U.K. could join any EU agreements finalized and ratified before its exit from the EU, and make an exchange of notes with the third- party state to continue their bilateral application. Meanwhile, it is well known that the U.K. has been a principal driver of many of these treaties, and their terms could give a nod to the kind of comprehensive trade and investment instruments the U.K. could pursue outside the EU.

One area of potential difference for the U.K. from the remaining EU member states is the proposal in TTIP, and as already agreed in CETA, regarding dispute settlement mechanisms for future BITs or other treaties containing investment protection. CETA and the EU TTIP proposal involve a new Investment Court System (ICS) which would replace the traditional arbitration model with a panel of publicly-appointed judges from among the parties and third country appointees, as well as an appellate mechanism. ICS would also involve transparency measures which are finding currency elsewhere in the investment arbitration sphere, such as the Mauritius Convention on Transparency (of which the U.K. is a founding signatory, although it is not yet in force). The proposed appeals procedure under ICS would allow appeals based on both contended errors of law and fact (unlike the more limited grounds for annulment under the ICSID Convention), thus bringing dispute resolution more in line with traditional arbitration appeals procedures, but perhaps reducing its attractiveness to investors.

The European Commission has indicated that it intends to pursue ICS with all its future investment treaty negotiations. It remains to be seen if a U.K. independent of the EU will follow a similar model. This could present another opportunity for the U.K. to differentiate itself from its fellow EU member states upon departure.

For more information, please contact the professional(s) listed below, or your regular Crowell & Moring contact.

Ian A. Laird
Partner – Washington, D.C.
Phone: +1.202.624.2879
John Laird
Counsel – London
Phone: +44.20.7413.1324