EUROPEAN leaders have warned Theresa May of significant challenges ahead after giving the green light to talks on the future relationship between the EU and UK.

The EU 27 also set down its conditions for a two year transition arrangement which would be in place as negotiations proceed on a trade deal.

Under the guidelines the UK will be required to remain in the single market during that period and comply with the full membership rules.

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The decision was announced by European Council president Donald Tusk after a meeting lasting less than half an hour in Brussels. May was excluded from the discussions, but welcomed the announcement later.

“Today is an important step on the road to delivering a smooth and orderly Brexit and forging our deep and special future partnership,” she said on Twitter, thanking European Commission President Jean-Claude Juncker and Tusk.

But EU leaders struck a caution note insisting talks cannot proceed until March after the exit deal is ratified in the European Parliament.

“I have extraordinary faith in the British Prime Minister. She has agreed with me ... that the withdrawal agreement will first be formalized and will be voted on and then we will see.

“The second phase will be significantly harder than the first and the first was very difficult”, he told reporters on arriving for the second day of the EU summit.

German Chancellor Angela Merkel also struck a note of caution, saying there were still a lot of problems to solve and time was of the essence.

“Phase two may now be ushered in, but obviously that is an even tougher piece of negotiation than we have had up to now,” she said.

“The good news is that all 27 member states so far have put in tremendous efforts, have stood together, and I am very optimistic that we will continue to go forward in quite the same spirit.”

The development came a week after an agreement over the key issues of the UK’s exit bill, the rights of citizens and the Irish border and the guidelines make clear that any transition period agreed by Brussels “must be in the interest of the Union, clearly defined and precisely limited in time”.

Under the rules, the UK will be required to follow the EU rulebook in its entirety — including laws adopted during the transition period — while playing no part in the decision-making processes of the European institutions.

Abiding by single market membership will mean the UK will have to allow freedom of movement of goods, services, people and capital and also comply with the European Court of Justice.

The guidelines state “all existing Union regulatory, budgetary, supervisory, judiciary and enforcement instruments and structures will ... apply, including the competence of the Court of Justice of the European Union.

“As the United Kingdom will continue to participate in the Customs Union and the Single Market (with all four freedoms) during the transition, it will have to continue to comply with EU trade policy, to apply EU customs tariff and collect EU customs duties, and to ensure all EU checks are being performed on the border vis-a-vis other third countries.”

The four-page guidelines dismiss Brexiteers’ hopes of a swift movement to detailed negotiations on a free trade agreement with the EU and confirm agreement on a future trade relationship can only be finalised once the UK has formally left the EU.

They also make clear the EU is currently ready only to engage in “preliminary and preparatory discussions with the aim of identifying an overall understanding of the framework for the future relationship” after additional guidelines have been adopted at a future summit in March.

In a passage hinting at trade deal obstacles, the document notes the UK has expressed its desire to leave the single market and customs union, and the EU will therefore have to “calibrate” its approach on trade and economic co-operation to “ensure a balance of rights and obligations, preserve a level playing field, avoid upsetting existing relations with other third countries, and ... preserve the integrity and proper functioning of the Single Market.”

The European Council confirmed its readiness to maintain co-operation with the post-Brexit UK in the fight against terrorism and international crime, as well as security, defence and foreign policy.

Scottish Brexit Minister Michael Russell welcomed the development.

“Businesses and people need urgent clarity on the UK’s future relationship with the EU and the details of a transition period,” he said. “Remaining a member of the Single Market and Customs Union is the only way to minimise the economic damage Brexit will cause. We have also made clear that if it is possible to create a special arrangement between Northern Ireland and the European Union, it would be unfair for Scotland not to have the same right and it would be unacceptable for Scotland to be placed at an economic disadvantage.” He said the Scottish Government must be fully involved in the talks which “would be critical for their impact on jobs and the economy”.