Europe warns UK to drop savings tax stand

THE GOVERNMENT faces a tough warning today that its stand against a Europe-wide tax on savings may jeopardise Britain's prospects of joining the European single currency.

Mounting anger at the Government's stance in blocking the "withholding tax" is expected to boil over today when the Chancellor, Gordon Brown, confronts his colleagues at a crucial meeting in Brussels.

In the clearest sign yet that other countries are raising the stakesItaly has warned that Mr Brown's obstinacy could hamper the pound's chances of joining the euro after the next election. The Finnish presidency of the EU argues that the UK is isolated and that its position will scupper a wider package designed to eliminate around 60 unfair tax breaks across the EU and the removal of taxes on cross-border interest and royalty payments.

With no real prospect of a breakthrough, Finland had not wanted to discuss the deadlocked issue in detail today but France, Germany, Italy and the Netherlands insisted in order to register their anger.

The Italian finance minister, Vincenzo Visco, has already complained bitterly that EU partners have "now discovered that we have been working for two years on the basis of a misunderstanding".

A source in Brussels said: "Most countries are sick to death of the British position. There is a very, very strong feeling of animosity".

Some are talking privately about making acceptance of the tax package a pre-condition of UK entry into the euro. Another danger is that the Commission may try to launch legal action against UK tax havens such as the Channel islands on the basis that they are benefiting from illegal breaks.

The Commission argues that, if the UK blocks the plan, the City will lose the prospect of further liberalisation in financial services.

The proposed legislation is designed to prevent EU citizens investing in neighbouring countries to escape paying tax on interest in their own. It would force member states either to levy a tax - probably 20 per cent - on interest paid to EU citizens who are non-resident, or to inform tax authorities in their native country about their earnings.

The UK has demanded an exemption for eurobonds and the City has claimed that thousands of jobs are at stake, mindful of the experience of New York, which at one time dominated trading before the imposition of a tax led to large-scale relocation to London.

But the proposed EU legislation is designed only to target 5 per cent of the London eurobond trade, with exemptions for financial institutions anholders of bonds already issued.

Only EU citizens not resident in the UK would be affected, but the Government argues that the administrative complications of identifying the 5 per cent affected would up costs.

Mr Brown could veto the proposals, although such a move would be embarrassing for a government which is trying to stress its European credentials. Ironically, earlier this year, the Chancellor claimed that the UK was winning the argument over eurobonds but so far only Luxembourg has joined the ranks of the objectors to the tax, for its own reasons. It is worried about the affect on investment funds, and argues a flat-rate withholding tax of 10 per cent should be applied.

Other nations have expressed concerns over the sharing of revenue raised from any withholding tax, although these are regarded as more easily soluble.