Information Bulletin from the International Economic Compliance Practice (Issue 3, 2019)
1. THE UNITED KINGDOM
U.K. INTRODUCES ITS OWN SANCTIONS REGIME WITH RESPECT TO RUSSIA
On 17 April 2019, the United Kingdom introduced its own sanctions regulations with respect to Russia. The (Russia) Sanctions (EU Exit) Regulations 2019 would come in force when the U.K. leaves the European Union. The full text of the Regulations is available at the British legal information hub www.legislation.gov.uk.
As was emphasized in Issue No. 2 of our International Economic Compliance Bulletin, U.K. sanctions would be milder than those of the E.U., but harsher than those of the United States.
Designated persons
The Regulations introduce “designated persons” provisions and set up criteria under which the person (whether an individual or an entity) may be designated. The sanctions include asset freezes, prohibitions against doing business and certain investment activities, as well as expulsion from, or entry prohibition to the United Kingdom for Russians immigrated into the United Kingdom. Some persons would face financial restrictions.
Under Annex 2 of the Regulations, entities to face financial restrictions will include: Sberbank; VTB bank; Gazprombank; Vnesheconombank (VEB); Rosselkhozbank; OPK Oboronprom; United Aircraft Corporation; Uralvagonzavod; Rosneft; Transneft; and Gazprom Neft.
The British sanctions cover bilateral trade in military goods, weapons, energy-related goods, and infrastructure-related goods, as well as services associated with those goods or services that facilitate trade in these goods. A full list of restricted goods with the HS Code is available in Annex 3 of the Regulations.
Financial and broker services can include services associated with trade in goods, whilst banking and insurance services can be considered as those that make trade possible.
Under Annex 4 of the Regulations, entities to face restrictions for trade in dual-use goods will include: JSC Sirius; OJSC Stankoinstrument; OAO JSC Chemcomposite; JSC Kalashnikov; JSC Tula Arms Plant; NPK Technologii Maschinostrojenija; OAO Wysokototschnye Kompleksi; OAO Almaz Antey; and OAO NPO Bazalt.
The Regulations also restrict investment and corporate activity.
It should be emphasized that persons and entities involved in a transfer of ownership and control contrary to the Ukrainian legal and corporate procedures would also face restrictions.
One of the key differences of U.K. regulations from those of the European Union would be an option for secret designation of certain individuals, should the national security or international relation concerns justify it.
Licensing
Activity that would otherwise be prohibited can be authorized with Trade or Treasury Licenses. H.M. Treasury (with OFSI being an administrator) is issuing licenses that cover asset freezes and investment activity, whilst the Secretary of State of the United Kingdom in charge of the Department of International Trade is authorized to issue licenses with respect to the trade in goods and services.
Licensing is governed by a number of criteria, such as reasonability and importance for the public order of the United Kingdom, as well matters of national security. There can be general and special licenses.
Crimea investments
Any investment activity in Crimea will be prohibited, except for healthcare, education, and related services and activities. The exceptions may include the supply of medicine, medical equipment, services with respect to the education of medical personnel, as well as other activities necessary to protect human health, safety, and the environment.
The Regulations will also permit actions crucial for the urgent prevention or mitigation of an event likely to have a serious and significant impact on human health or safety, infrastructure, or the environment.
Maritime issues
The Regulations will also cover maritime issues. Under certain circumstances, U.K. vessels may be prohibited from entering any port or harbor on the Crimea peninsula.
In order to enforce trade restrictions, U.K authorities will be authorized to stop, board, and search a vessel, and to demand required documentation, when there is a reasonable suspicion of a breach of the trade embargo.
Exceptions
The Regulations will cover a number of circumstances that will exempt one from liability for a sanctions violation. These include:
1. Honest mistake with respect to the origin of restricted goods and services;
2. Acts done for purposes of national security or the prevention of serious crime;
3. Investment activity in Crimea that started prior to 20 December 2014;
4. Actions crucial for urgent prevention or mitigation of an event likely to have a serious and significant impact on human health or safety, infrastructure, or the environment; and
5. A Ukrainian country-of-origin certificate issued for goods shipped from Crimea.
“Honest mistake” exceptions would be a determining factor in the compliance culture of the United Kingdom. Some of the procedures for due diligence, “Know Your Customer” (KYC) procedures, onboarding, as well as matters of trade compliance procedures, would be altered because of the new Regulations to come.
Area of coverage
The sanctions will be extraterritorial. Compliance will be a duty for both U.K. persons and entities, as well as those with tight connections to the United Kingdom. Similar coverage already exists in the U.K. Anti-Bribery Act.
To that end, Regulations may cover the following areas:
1. Restrictions to be followed by any person in the United Kingdom;
2. Restrictions to be followed by any U.K. person wherever located (e.g. British Overseas citizens, British subjects, and British Protected Persons);
3. Restrictions to be followed by any corporate entity operating in the United Kingdom; and
4. Restrictions to be followed by any corporate entity incorporated or constituted under the laws of any part of the U.K., wherever located, including overseas branches of U.K. companies.
The Regulations often use the term “third country.” As elaborated, the term applies to countries other than United Kingdom, Russia, or the Isle of Man. It should be noted, that The Isle of Man is popular jurisdiction for entities with tight connections to Russia.
Penalties
A monetary fine or, under some circumstances, imprisonment for up to ten years is the penalty for a breach of sanctions.
2. THE UNITED STATES
1. SANCTIONS IN TIME FOR THE FIFTH ANNIVERSARY OF CRIMEA EVENTS.
With the impending arrival of the fifth anniversary of the Crimea-related events that led to sanctions, on 15 March 2019, the U.S. Department of the Treasury, along with regulators of Canada and the European Union, announced sanctions against eight entities and six individuals.
Entities designated to an SDN list by the U.S. Treasury Department include a few companies of the shipbuilding industry, one development and construction company, and one oil and gas company. Of the companies sanctioned, three (JSC Fiolent Plant, GUP RK KTB Sudkompozit, and LLC SK Consol-stroy LTD) are based in Crimea. The sanctioned individuals include Russian officials and individuals of self-proclaimed Donetsk Peoples Republic.
According to the Treasury Department press-release, the sanctions were introduced due to the situation in Kerch Straight, the purported annexation of Crimea, and Russian support to the self-proclaimed Donetsk and Lugansk Peoples Republics.
Many expected the Treasury to sanction companies in the shipbuilding and oil and gas industries. For example, the sanctioned entity Novye Proekty LLC is permitted to work on the Black Sea shelf, off the coast of Crimea, under an official license. However, few expected a construction and development company to be sanctioned. Sanctions against LLC SK Consol-stroy LTD, which has commercial and residential construction as the bulk of its operations, were therefore a surprise.
It is worth emphasizing that the latest version of the proposed “Defending American Security from Kremlin Aggression Act” (DASKAA) would impose sanctions against the entire shipbuilding industry of Russia.
The latest actions of the U.S. Treasury Department ramp up the risks for construction and development companies, shipbuilding industry companies, and suppliers of machinery and equipment, as well as the banking and insurance companies that make these operations possible.
2. OLEG DERIPASKA VERSUS STEVEN T. MNUCHIN, ET AL.
The recently-filed lawsuit by Oleg Deripaska against the U.S. Secretary of the Treasury is an interesting and well-grounded attempt to use the U.S. judicial process to obtain delisting from the sanctions lists. Nevertheless, Deripaska’s chances in court are quite modest due to several factors. The Deferential Standard Doctrine, which was enunciated in 2005, demonstrates a judicial preference to defer to the executive branch of the U.S. government and its actions on foreign policy issues. Sanctions are viewed as means to promote the foreign policy goals of the United States, and not as law enforcement actions. There also appears to be little judicial precedent to support Deripaska’s position.
Case report
On 6 April 2018 Oleg Valdimirovich Deripaska was designated onto the SDN list. Prior to his designation, Deripaska was among individuals on the so-called “Kremlin list of oligarchs.”
On 15 April 2019, Deripaska filed a civil action in the U.S. Federal District Court for the District of Columbia against Steven T. Mnuchin, in his capacity as Secretary of the Treasury, and others. Deripaska claims that, as a result of his improper designation, he and his assets suffered tremendous losses and reputational damage.
Grounds for the designation were allegations and assumptions made by the U.S. Government. In the view of the U.S. Government, Deripaska was involved in racketeering, contract killings, connections with the Russian establishment, abuse of the use of a diplomatic passport, and interference in the 2016 U.S. Presidential election. The lawsuit cites the negative rhetoric expressed by members of Congress, which Deripaska contends demonstrates political resentment towards Deripaska as the motivating force for the unfounded systematic imposition of oligarch status upon him.
Deripaska contends that, due to the unlawful actions of the U.S. Government, he and his assets suffered tremendous material and reputational loss. Moreover, Deripaska claims that those actions resulted in consequences for many thousands of employees, as well as corporations, which Deripaska has helped to develop for thirty years of his life.
Deripaska further notes that the improper interpretation and application of E.O 16661 and E.O. 16662 violated the Fifth Amendment of the U.S. Constitution by the Treasury Department and the Congress, by denying him his right to due process of law.
He was denied access to the procedural documents that were essential for the determination of the grounds for his designation in the sanctions list. He alleges improper procedures in documents disclosures (in particular, access to the classified Kremlin dossier annexes and other classified acts), as well as the improper and untimely coverage of issues that motivated his designation.
Moreover, Deripaska contends that the consequences of the U.S. Government’s actions left him without proper legal representation. OFAC recommendations and official comments not only bar Deripaska from paying for legal services, but effectively block him from receiving them from counsel of his choice. On top of it, restrictions imposed on Deripaska during his trial in the United Kingdom concerning World Freezing Order issues, left him without proper independent legal representation, as legal services were, in effect, rendered by the U.S. entities. He claims that these and some other procedural flaws are further evidence of his right to due process, as noted above.
Deripaska also claims that overwhelming pressure from the shareholders, counterparties, and business companions, forced Deripaska to let go of some of his assets. Moreover, Deripaska notes, the Government of the Russian Federation threatened him with nationalization and expropriation of his assets, should he refuse to meet demands of the U.S. Treasury Department and the shareholders demands crucial for removal from the sanctions list.
Deripaska argues that a challenge of an act of a Federal executive body, as well administrative actions and extra-judicial proceeding, is impossible. He cites Section 241 of the Countering America’s Adversaries Through Sanctions Act (CAATSA) and the case Gapontsev v. U.S. Department of the Treasury, in support of his contention that there is simply no administrative procedure by which one can be excluded from a Section 241 CAATSA report. He believes that his status as an “oligarch” was the principal contributing factor in his designation in the Section 241 report.
In his complaint, Deripaska alleges nine violations of the Administrative Procedure Act, 5 U.S.C. § 701, and calls on the court to take nine actions that would result in: (1) delisting of Deripaska from the sanctions lists; (2) publication of the confidential version of Section 241 report and all of the circumstances that contributed to his designation; (3) compensation for the losses he suffered due to the unlawful actions of the United States Government; and (4) other actions in the interests of justice.
Case comment
In order successfully to challenge Federal agency actions on sanctions issues and enforcements, one must meet the criteria established in Zevallos v. Obama case (U.S. Court of Appeals, 2nd circuit, 10 July 2015), which concerned an alleged invalidity of the evidence that resulted in designation; and one must also provide evidence sufficient to state a prima facie case. Deripaska presented prima facie evidence, but not in a manner that satisfied all the requirements of the Administrative Procedure Act. Moreover, the evidence that was presented on some issues (such as a threat of expropriation by the Russian Government) were insufficient to meet the plaintiff’s burden of proof.
In the United States, under the Deferential Standard Doctrine, the Federal judiciary usually respects and defers to the Executive Branch with respect to the executive decisions and actions in foreign policy matters. Deripaska must therefore persuade the court that the lack of uniformity in the application of the sanctions laws poses a threat to public order and equal justice under the law. Should his lawsuit be upheld, OFAC’s administrative procedures would come into question.
One of the most powerful arguments of Deripaska’s lawsuit is section 6 of his complaint, in which the he notes his non-involvement in Russia’s energy sector (which is currently under sectorial sanctions). After EuroSibEnergo was delisted and Deripaska’s corporate participation in it was restricted, the Court might agree with this specific point, regardless of the ultimate ruling in the case. If Deripaska’s arguments on this point are accepted, this might have the practical effect of signaling to the business that a productive settlement with the Treasury Department is possible.
3. THE EVROFINANCE CASE
On 11 March 2019, the U.S. Department of the Treasury added Evrofinance Mosnarbank to an SDN list.
The Bank functions under the intergovernmental Agreement between the Government of the Russian Federation and the Government of the Republic of Venezuela on the functioning of Russian-Venezuelan Bank (amended on 2 April 2 2010).
According to the statement of the Treasury Department, the Bank used to be the main financial institution for Venezuela’s Petro cryptocurrency and the best place to circumvent financial sanctions against Venezuela.
According to SPARK-Interfax, the Bank has, among its shareholders: Venezuela’s development fund “Fondo de Desarrollo Nacional Fonden S.A.” (49.99%); Gazprom Gazoraspredeleniye JSC (20%); ITC Consultants (Cyprus) Limited (9,04%); Bank VTB (7.98%); VTB France (7.96%); and Novfintech (5%). Recent disclosure information for Russia’s Central Bank states that ITC Consultants (Cyprus) Limited is controlled by VTB, whilist Novfintech is under control of Gazprombank, making state-owned Russian banks the controlling shareholders (50%+).
The Bank is functioning due to the intergovernmental Agreement between the Government of the Russian Federation and the Government of the Republic of Venezuela on the Functioning of Russian-Venezuelan Bank (amended on April 2,2010).
According to the statement of the Treasury Department, the Bank used to be the main financial institution for Venezuela’s Petro cryptocurrency and the best place to circumvent financial sanctions against Venezuela. Bloomberg states that with financial sanctions imposed, since 2018 the Bank became the best option for payments processing and payment services, and a safe haven for deposits of Venezuela’s regime. As a result, the Bank’s assets in 2018 increased by 52% and reached 66 billion rubles (Aproxim. USD 1Bn). For a while, the Bank enjoyed modest attention and was clean of sanctions or other restrictions. In the past year, VTB Bank stated that it is ready to sell the Bank; but due to the number of issues (obligatory participation of VTB Bank imbedded into intergovernmental agreement included), the asset would remain in VTB possession.
4. RAMPED-UP TRADE EMBARGO AGAINST IRAN AND SYRIA INCREASE RISKS OF MARITIME, INSURANCE, AND FINANCIAL COMPANIES.
On 25 March 2019, the U.S. Department of the Treasury, in coordination with the U.S. Department of State and U.S. Coast Guard. presented an OFAC Advisory to the Maritime Petroleum Shipping Community.
The Advisory emphasizes U.S. determination to enforcement the embargo with respect to Iran and Syria and warns members of maritime, finance, and insurance markets about the heightened risks with respect to operations related to those jurisdictions.
On top of that, the Advisory is clear about the risks for non-U.S. persons involved in the insurance of maritime transportation,
specifically non-U.S. persons that knowingly own, operate, control, or insure a vessel that transports crude oil from Iran to Syria or other countries that have not received a significant reduction exception pursuant to section 1245 of the National Defense Authorization Act for Fiscal Year 2012. They could be subject to secondary sanctions under the Iran Sanctions Act.
The documents concluded by stating that there is sanctions risk related to the provision of underwriting services, insurance, or reinsurance to certain Syrian and Iranian maritime-related persons or activities.
When planning and conducting such operations, it would be wise to address ask U.S. regulatory authorities for clarifications and possible licensing.
5. THE STANDARD CHARTERED BANK CASES
On 9 April 2019, the U.S. Department of the Treasury announced a $639,023,750 settlement agreement with Standard Chartered Bank (headquartered in the United Kingdom). The Bank undertook to pay a monetary penalty for thousands of counts of violations of U.S. sanctions against Burma, Cuba, Iran, Sudan, and Syria.
The Treasury Department found out that from June 2009 to June 2014, SCB processed 9,335 transactions totaling $437,553,380 to or through the United States. Each of transactions included persons or countries under the complex sanctions regimes administered by the U.S. Most of transactions covered accounts and operations with Iran conducted via the Dubai office of SCB and through SCB subsidiaries in the United Arab Emirates.
Operations were conducted through the Bank’s business relations with a number of petrochemical and trade companies. SCB Dubai (Dubai branch) processed transaction in U.S. dollars to or through the SCB Branch in New York, or other U.S. financial institutions, on behalf of customers that sent payment instructions to SCB Dubai, while physically located or ordinarily resident in Iran. It is the view of the Treasury Department that the circumstances that led to the disclosure of this activity were not conducted voluntarily and thus constitute an egregious case.
The Bank also undertakes to pay $18,016,283 to rectify violations of the sanctions regime against Zimbabwe. The fine is due because of transactions conducted on behalf of the persons designated on an SDN list, or transactions on behalf of organizations that were 50% owned or controlled by SDN persons. The Treasury Department found 1,795 prohibited transactions with a total worth of $76,795,414 processed by the SCB subsidiary in New-York. The violations of Zimbabwe sanctions were self-disclosed and therefore do not constitute an egregious case.
The SCB cases emphasize the additional sanctions risks for doing business in U.S. dollars and confirms U.S. jurisdiction over branches and subsidiaries of foreign entities incorporated in the United States.
6. THE UNICREDIT CASE
On 15 April 2019, the U.S. Treasury Department announced settlement agreements with UniCredit Bank AG, UniCredit Bank Austria AG, and UniCredit S.p.A. as part of the case involving on systematic and intentional breaches of the sanctions against Iran. The total sum to be paid under the settlement is US$ 1.3 billion.
The Treasury Department noted the processing of payments through the U.S. financial system, and a breach the Weapons of Mass Destruction Proliferators Sanctions Regulations, 31 C.F.R. part 544 (WMDPSR). The settlement information contains details about many years of sanctions circumventions conducted by the bank group. These circumventions involved third-parties banks, falsification of bank documents, and the use of counterparts to evade the sanctions regime. As was stated in UniCredit Bank Austria AG settlement, the “amount of revenue generated by the top client” was a motive behind the prohibited operations.
Disclosed case material states that for several years UniCredit rendered banking services, provided trade finance, and made other operations of IRISL (Islamic Republic of Iran Shipping Lines) possible. IRISL was sanctioned by the U.S. due to its contribution to development of the Iranian nuclear program. Operations that were prohibited by the sanctions regime were easy to conceal and were conducted very discretely.
In particular, some operations used the SWIFT MT202 type of messages that enabled concealment of the involvement of the parties under sanctions. Some transactions contained falsified bank documents, using SWIFT MT103 type of messages with false details of the participants in the transactions. It is assumed that when these events were taking place, efficient SWIFT automatic sanctions compliance had not yet been introduced, and the operations described in the settlement used a loophole in sanctions regulation.
For some IRISL subsidiaries, such as Ashtead Shipping Company Limited (“Ashtead”) and Byfleet Shipping Company Limited (“Byfleet”), the Bank used the mechanism of Auto-Dispo Service (ADS), that could allow the transfer of funds of Asthead and Byfleet on a U.S. dollar UniCredit account without the involvement or knowledge of the U.S. financial institutions.
The Bank delivered services to the subsidiaries knowing their corporate link to IRISL. Legal and compliance associates of the Bank repeatedly and directly expressed their concerns with respect to this operation; but despite their protests, the prohibited operations continued and their amounts grew by the day. For one of the projects, that involved service to the Fairway company (another IRISL-connected entity), the Bank issued a warning not to mention the names of the IRISL vessel, line, or voyage in payments. ("Please don't mention name of IRISL vessel/line/voyage in your payment.")
Beginning in 2002, the Bank secretly conducted sanctions operations prohibited by the sanctions regimes. These operations were covered by a special project, known among bank associates and management as “Project Embargo.”
As part of this project, it was suggested: (1) to use a buffer bank to process prohibited payments and exclude any involvement of the U.S. financial institution, using U-Turn tools (which, up to 2008, allowed U.S. dollar payments with Iran if one could prove la ack of affiliation with a U.S. person); (2) to falsify banking documents to the degree that would allow them to comply with the U.S. sanctions regulations; and (3) to suggest that the client “to think” over possible alternative descriptions of the purpose of the payments.
The case contains information about several contacts between and among the Bank and its counterparties in the United States (including the corresponding bank) on the matter of Iranian operations. In its replies to the U.S. counterparties, the Bank stated that it had and no operations with Iran, or anything connected with Iran, and therefore misled its U.S. counterparties.
In addition to paying the monetary penalty, the Bank has undertaken to: (1) promote a “compliance culture” in all organizations under it; (2) improve internal controls procedures, necessary for compliance with OFAC risk assessments; and (3) training and education of its staff in the compliance field.