By Huw Jones
LONDON (Reuters) - Most banking, insurance and other financial firms in Britain would be cut off from the European Union if there is a no-deal Brexit, the bloc's executive body said on Wednesday.
Financial services are Britain's most important tax-earning sector, with the EU its biggest customer.
The European Commission set out its contingency plans in the event of Britain crashing out of the bloc next March without securing a divorce settlement and transition period.
"If the Withdrawal Agreement is not ratified, financial operators established in the United Kingdom will lose, as of the withdrawal date, the right to provide their services in the EU27 member states under the EU financial services passports," it said in a statement.
Brussels said it was only taking preventive action to ensure EU customers could continue clearing derivatives transactions at UK operators like LCH (L:LSE) for a year from March, and use central securities depositories in Britain for two years.
"The commission has concluded that EU27 companies need this time to have in place fully viable alternatives to UK operators."
It also gave EU market participants time to shift derivatives contracts from Britain to the EU without being caught up with margining requirements.
"For their part, clients in the European Union of UK firms need to prepare for a scenario in which their provider is no longer subject to EU law," the commission said.
This contrasts with Britain's decision to offer broad access for banking, insurance and other financial services from EU firms in the event of a no-deal Brexit.
The Bank of England said it welcomed the move by Brussels to allow clearing to continue, but that practical arrangements to implement the decision still needed to be put in place.
"This includes agreeing the necessary cooperation and information-sharing arrangements between the Bank and the European Securities and Markets Authority," the BoE said.
The BoE had also wanted EU contingency plans to include legal "continuity" of cross-border insurance contracts.
"While the action on derivatives is welcome it is extraordinary that the EU authorities will act to help major financial institutions, but not millions of ordinary people living in Europe whose insurance and pension contracts happen to be held in the UK," said Hugh Savill, director of regulation at the Association of British Insurers.
Catherine McGuinness, leader of the City of London financial district, said the commission also needed to address significant "cliff edge" risks for data transfers and contract continuity for uncleared derivatives.
Markus Ferber, a senior member of the European Parliament's economic affairs committee, said actions on derivatives will not be enough as the question of legal liability remains unanswered.
"The European Commission has to disclose the underlying cooperation agreements with UK supervisors. Furthermore it has to answer the question if and up to what level the European Central Bank will have to provide emergency liquidity assistance in a crisis scenario," Ferber said.
Many financial firms in Britain are pushing ahead to open new hubs in the bloc before March to ensure continuity of services for EU customers, irrespective of what form Brexit takes.