One of the many benefits of the introduction of the euro was the elimination of a string of legacy currency bank accounts across euro land. Before the euro, an entity operating in the Netherlands, France and Germany, for example, would have to convert existing in-country accounts (i.e. accounts in the country of the currency) from NLG, FRF and DEM into euro-denominated accounts. The accounts still needed to remain in the Netherlands, France and Germany to maintain the efficiencies of processing domestic payments and collections via the local net settlement and RTGS systems. Cross-border euro settlements, therefore, remained costly and slow in comparison.
A further suite of euro accounts were then opened to support various liquidity efficient account structures with account balances typically being swept across borders using a pan-European bank to minimise the costs and automate the transactions. While foreign exchange (FX) costs were eliminated, some corporates would have experienced an increase in the costs associated with bank account maintenance (e.g. bank charges and reconciliation) and sweep transactions (e.g. accounting and, again, bank charges).
The introduction of the single euro payments area (SEPA) and the New Legal Framework (NLF) from 2008 will continue the move to make cross-border electronic euro settlements as cheap and efficient as domestic settlements. As a result, many of the reasons for holding euro accounts in more than one location should disappear. However, will this be achievable by corporates at that stage?
Impact on Account Operation
Right now, the SEPA scheme and the NLF are compromises of existing clearing and direct debit schemes. Many ACH systems will offer more efficient operations and clearing cycles than SEPA. Any corporate already operating euro accounts within several member states may find that SEPA offers no immediate tangible benefits in the context of account operation. Indeed, there could be disadvantages if euro accounts are closed and transactions consolidated into another euro account.
A treasurer will, therefore, need to assess the usual criteria to decide whether to continue to operate a euro-denominated account. This is especially true during the interim period from 2008 until the planned phasing out of existing systems from 2010. For each country, a comparison of the costs and benefits will need to be undertaken covering each of the following topics:
- The clearing cycle and impact on working capital.
- Regulatory and tax considerations, including central bank reporting (CBR).
- The rules governing the local direct debit scheme versus the pan-European direct debit scheme (PEDD).
- Account and transaction charges associated with credit transfers and direct debits
- Ease of reconciliation
- Transaction types, e.g. cheques and cash.
- Volumes and values of transactions.
Clearing cycle
Under SEPA, the clearing cycle is defined so that the customer must receive value no later than D+3 (where D is the day the bank accepts the instruction from the remitter). There are existing clearing systems that work on faster cycles so a switch to SEPA-based clearing will affect working capital.
Central bank reporting and tax
Despite the moves to ‘level the playing field’ some countries continue to require central bank reporting in respect of non-resident accounts and cross-border transactions with different reporting limits. Banks may apply charges where they perform the reporting, while customers may find it more difficult and expensive to pay suppliers. In addition, despite ongoing harmonisation, tax considerations may impact the location of an account.
Direct debit
Direct debit schemes across the EU can vary considerably in terms of mandate set-up, operating cycles and finality of payment. The pan-European direct debit (PEDD) is necessarily another compromise with more legislation and scheme changes still to come (e.g. a business-to-business model). For corporates making significant use of direct debits across different member states, the switch to PEDD will involve considerable work to implement new mandate agreements and interfaces to generate the various files in the required formats. Early adoption of PEDD may not be sufficiently beneficial for existing direct debit users, especially if rules continue to evolve.
Transaction charges
While domestic pricing will apply to cross-border transfers, a corporate may find some countries offer lower charges than others both for holding an account and the transactions themselves. Obviously, the dynamics of pricing will change. Countries with historically lower transaction charges for domestic clearing may use the opportunity to recoup lost income by increasing charges. It is more likely, however, that there will be downward pressure on prices as banks fight to maintain their share of the market. Also, remember that under the NLF (which applies beyond euro-denominated transactions) banks cannot take float. As a result, banks that previously did not charge transaction fees will change their method of recompense.
Reconciliation
In terms of reconciliation, a number of changes will greatly assist the automation of this task. The full amount of the transaction must be remitted since charges cannot be deducted from the payment itself. All customer remittance information up to a maximum of 140 characters must be transmitted with the payment. BICs and IBANs must be used for cross-border euro transactions and IBANs will take precedence over beneficiary name if there is a discrepancy. Since banks will be permitted to reject payments with invalid BICs and IBANs – and can process based on IBANs only – many banks now offer IBAN validation within the electronic banking systems. Alternately, software providers offer comprehensive BIC and IBAN validation tools, which can be incorporated into the ERP system to check data at source before transmission to the bank. This will reduce the number of credits due to unapplied funds. All these changes should therefore reduce the need to have, for example, accounts receivable and accounts payable accounts.
Types of transaction
The types of transaction to be operated through the account will also determine its location. Cash is the most obvious example so local bank accounts may remain the most efficient.
Volumes and value of transactions
Volumes and value of transactions going through an account will continue to be a key factor in conjunction with the considerations above. There remains, however, some uncertainty under the NLF about the application of the €50,000 limit. Currently only cross-border transactions below €50,000 are required to be classified as domestic in terms of the charges that a bank can apply. Corporates are campaigning through organisations, such as the ACT and EACT, to have this removed. If it remains, it means that the provisions under the NLF will not apply to large payments in any currency made within the EU. In the context of account location, this may affect decisions in terms of charges and value dating.
What are the Benefits of SEPA?
There are benefits to SEPA despite the challenges and potential difficulties described above. For the corporate that does not operate a local account because it has a small volume of euro payments, or is starting to trade in a new member state, there will undoubtedly be benefits. The corporate will be able to make cross-border debits and credits under a standard set of rules via a single SEPA-compliant bank interface using an account located in any member state in a cost effective manner.
The clearing cycle will be standardised and there will be certainty surrounding the receipt of funds. Therefore, working capital can be more effectively managed based on this certainty.
Regulatory and tax considerations (including central bank reporting) will continue to be considerations but for low volumes these could have lesser significance.
Corporates that have not used direct debits due to the cost of operating local accounts and the complexities of varying rules and settlement formats will have the opportunity to gain benefits. Under PEDD, setting up direct debits will be much simpler and cheaper as one set of rules will apply across the EU. Consolidated requirements for direct debits across a number of states is more likely to establish sufficient volumes to justify the costs associated with PEDD set-up. Additionally, since PEDD will become the standard, existing local direct debits arrangements can be migrated across to PEDD when required.
Domestic pricing will apply to all euro cross-border transactions without loss of float, deductions from the payment itself or correspondent bank charges. Reconciliation should be straight forward given up to 140 characters of customer remittance information will be attached to the transaction. If settlements are likely to be anything other than electronic, e.g. cheques, then this will require due consideration. In addition, transactions for amounts exceeding €50,000 may operate under different rules and this will also need to be taken into consideration.
It is also important to note that the changes under the NLF go beyond the euro to apply to other currency transfers within Europe. This means that banks can no longer take float or deduct charges from the payment. This may offer the opportunity to close some currency accounts.
Finally, a full review of the liquidity structure will be necessary. Many structures incorporate mirror accounts in pooling/cash concentration locations in addition to the local account(s). With the drive to rationalise the number of accounts, it will be desirable to have one euro account per entity, located in the pooling/cash concentration centre. It may be that the pooling/cash concentration arrangements will need to be re-structured or indeed re-located within the EU to accommodate all the requirements associated with account location.
Conclusion
From 2010 onwards, the intention is to replace local clearing systems with SEPA. This will need to meet at least the best of the existing systems if corporates are to invest in full migration to SEPA. At this point, the reasons for maintaining local accounts should diminish further. However, for an entity with a significant volume and/or value of cross-border euro flows, a treasurer may rightly determine that local accounts remain essential for the efficient operation of the business.
In summary, treasurers should stay abreast of SEPA developments and continually assess account requirements to ensure corporates take advantage of this one aspect of the many benefits that can be derived from SEPA and the NLF.
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