If you do not buy the coffee I sell, I shall forbid you from buying coffee anywhere else…
Many years ago, a Superman flick had the bad guy delineating monopoly in a trade as coffee mafia. Today, sophisticated legal developments recognize these practices as unfair trade practices. But the watchdogs of global lawmaking agencies have refrained from commenting on the criticisms arising out of the concept of economic sanctions. Historically, sanctions have evolved from the times of Ancient Greeks. Sanctions came into existence when the state of Megara, a trade port, was subject to sanction from placing its goods on the Athenian marketplace and denied access to the harbor. Targeted sanction programs encourage isolation of recalcitrant countries by imposing strict compliance measures.
In 2006, the UN Security Council imposed the first sanctions on Iran which followed a series of sanctions against the nation. With the historic July 2015 accord between the P5+1 at Vienna and Resolution Number 2231 passed by the United Nations Security Council for suspension and ultimately uplifting of the sanctions against Iran in accordance with the Joint Comprehensive Plan of Action (JCPOA)- the global pundits now anticipate a sooner ‘implementation day’ which would lead to relaxation of major embargoes or trade sanctions against Iran- notably the world’s fourth-largest oil reserve which currently witnesses a crippled economy due to trade restrictions.
For US operations, the restrictions imposed on Iran are largely governed by the US Treasury Office of Foreign Security and Assets Control (OFAC). The nation faces EU sanctions on oil trade pursuant the United National Council’s Resolution Number 1696 and series of resolutions passed by the Council thereafter. Collectively, these trade sanctions on the Persian Gulf resulted in a global economic slowdown with rising oil prices which inevitably are linked to the reduced pumping of oil in the economy.
Sanctions are defined as the measures taken by a state to coerce another to conform to an international agreement or norms of conduct. While ‘sanction’ is a blanket term that can include diplomatic, economic, military and sport sanctions- ‘embargoes’ relate to ban on trade and commerce and imposed against specific state or group of nations. In that sense, embargoes are another name for economic sanctions.
This article provide limited overview on compliance with OFAC sanctions. United States is the world’s largest economy representing 17% of the World’s GDP. Inevitably, decisions by the US Treasury have a larger impact on the companies doing business with targeted nations.
US Sanctions applicability and scope
While suspension of sanctions against Iran will be welcome news, many trade sanctions remain in place against countries like Syria, Cuba and recently Russia which are regulated by the OFAC.
Businesses across Asian and Middle East countries have continued to express interest in dealing with restricted countries despite the sanctions. The notion behind continued dealings with these countries is an ingenious comprehension about the non applicability of the sanctions due to territorial restraints. In addition to this, economists around the world have often discussed the ineffectiveness of sanctions in achieving the envisaged goals.
That said, the scope of OFAC sanctions is exhaustive and does not negate by jurisdictional presence per se. OFAC administers and enforces economic and trade sanctions based on US foreign policy and national security goals against targeted foreign countries and regimes, terrorists, international narcotics traffickers, those engaged in activities related to the proliferation of weapons of mass destruction, and other threats to the national security, foreign policy or economy of the United States.1
All US Persons are required to comply with the compliance procedures set out by the OFAC. The definition of US Persons in accordance with the IRC Sec 7701 (a) (30) includes –
1. a citizen or resident of the United States,
2. a domestic partnership,
3. a domestic corporation,
4. any estate (other than a foreign estate, within the meaning of paragraph (31)), and
5. any trust if—
1. a court within the United States is able to exercise primary supervision over the administration of the trust, and
2. one or more United States persons have the authority to control all substantial decisions of the trust.
6. Holders of US residence visa “Green Card” (until canceled with the Internal Revenue Service)
In view of above, US Persons shall not indulge in direct or indirectly promoting dealings with sanctioned countries particularly with Special Designated Nationals and Blocked Person List (the SDN list) published by the OFAC. The SDN List includes more than 6000 individuals and firms connected with the sanctions program. OFAC guidelines as to determining whether or not an entity is an SDN by operation of law have been altered after the Russian sanctions came into existence, the last of such update relating to aggregate ownership published on August 13, 2014. Broadly, if an entity is owned in excess of 50 percent in aggregate by an SDN, such entity shall itself be considered an SDN whether or not it is in the SDN list.
OFAC sanctions against Iran, Syria, and Russia
The requirements for compliance with OFAC regulations are broad and their applicability is defined per transaction.
Broadly speaking Iranian sanctions extend to investment into energy sector, petroleum resources including import and exports, financial investments in the form of JVs, trade in coal, metals, software for ownership, control or insuring of vessels bearing Iranian flags and underwriting services to SDN list members in particular the National Iranian Oil Company and Iranian Tanker Company.
Article 219 of the Iran Threat Reduction and Syria Human Rights Act 2012 requires all companies whose stock (including American Depository Receipts) is traded on US stock exchanges to disclose whether they or their affiliates have ‘knowingly’ engaged in certain activities involving Iran, Syria or SDNs identified in connection with terrorism or the proliferation of weapons of mass destruction. Section 219 also mandates the public disclosure of any such information by the US Securities and Exchange Commission (SEC), such provisions being effective from 2013, meaning that all annual or quarterly reports filed with the SEC on or after that date are subject to Section 219’s reporting requirements.
Under the provisions of the Iranian Transactions and Sanctions Regulations (ITSR), OFAC prohibitions become applicable to non-US entities that are owned or controlled by a US entity by virtue of Section 218 of ITRSHRA and Executive Order 13628. Among the new provisions added to the ITSR are (1) expanded blocking provisions on the government of Iran and Iranian financial institutions that were previously in place only by executive order and statute, as well as (2) a new general license that authorize the export or re-export of “medicine” and “basic medical supplies”.
E.O. 13582 relating to sanctions against Syria prohibits the following:
1. any new investment in Syria by a US person, wherever located;
2. The direct or indirect exportation, reexportation, sale, or supply of any services to Syria from the United States or by a US person, wherever located;
3. The importation into the United States of petroleum or petroleum products of Syrian origin;
4. Any transaction or dealing by a US person, wherever located, in or related to petroleum or petroleum products of Syrian origin;
5. Any approval, financing, facilitation, or guarantee from a U.S. person, wherever located, of a transaction by a foreign person where the transaction by that foreign person would be prohibited if performed by a US person or within the United States.
Executive Order 13660 authorizes sanctions on individuals and entities responsible for violating the sovereignty and territorial integrity of Ukraine or for stealing assets of the Ukrainian people. Subsequently, the scope was extended by E.O 13661 for Blocking Property of Additional Persons Contributing to Situation in Ukraine on 17 March 2014. As part of subsequent developments, OFAC has published the Sectoral Sanctions Identification List (SSI) for identifying persons operating in Russian Economy that are subject to OFAC sanctions. Companies are required to carefully screen their Russian and Ukrainian business partners and not conduct any transactions against applicable directives.
Directive 1, issued on July 16, 2014, prohibits transacting in, providing financing for, or otherwise dealing in debt with a maturity of longer than 90 days or equity if that debt or equity is issued on or after the sanctions effective date (“new debt” or “new equity”) by, on behalf of, or for the benefit of the persons operating in Russia’s financial sector named under Directive 1, their property, or their interests in property. On September 12, 2014, OFAC amended Directive 1, reducing the tenor of prohibited debt from longer than 90 days to longer than 30 days.
Directive 2 separately prohibits transacting in, providing financing for, or otherwise dealing in new debt of greater than 90 days maturity if that debt is issued on or after the sanctions effective date by, on behalf of, or for the benefit of the persons operating in Russia’s energy sector named under the Directive 2, their property, or their interests in property.
Directive 3 prohibits US persons from transacting in, providing financing for, or otherwise dealing in new debt of longer than 30 days maturity of persons listed on the SSI List under Directive 3 (such as Rostec State Corporation).
Directive 4 prohibits the provision, exportation, or re-exportation, directly or indirectly, of goods, services (except for financial services), or technology in support of exploration or production for deep-water, Arctic offshore, or shale projects that have the potential to produce oil in Russia, or in maritime areas claimed by Russia and extending from its territory, and that involve any person listed on the SSI List under Directive 4 (such as Gazprom, Lukoil).
On July 30, 2015, US updated the Russian and Ukranian Sanctions list. Among the newly included firms are affiliate companies of Russian oil giant Rosneft, as well as several organizations linked to one of the country’s major banks – Vnesheconombank, which were already subject to sectoral sanctions under the 50% rule.
Compliance and Due Diligence
OFAC compliance programs are required to be carefully designed and implemented. A list of activities prohibited under the sanctions program has been set out by OFAC vide several guidelines and executive orders. OFAC also publishes FAQs on its sanctions regime.
OFAC permits ‘General Licenses’ in specific cases for authorization of certain transactions which may otherwise be prohibited by virtue of the SDN list of the SSI list. In view of the updates and developments for regulation of sanctions and frequently updates SDN, SSI and Foreign Sanctions Evaders (FSE) List, companies are required to implement a due diligence procedure to circumvent the risk of being in non-compliance with the US Sanctions.
While EU sanctions will be completing uplifted against Iran following the reports from the IAEA, primary sanctions by OFAC will continue to operate until such time as the State confirms. In particular, US will maintain sanctions on Iran for terrorism, human rights abuses, missile proliferation and the destabilization of countries such as Syria and other reasons.
This means that companies who choose to open business doors with Iran need to undertake stringent compliance measures. Secondary sanctions will continue to operate against major Iranian entities, those linked to the Iranian Revolutionary Guards Corps directly or indirectly. The burden of compliance including ‘know your client’ policies will be a major challenge for corporates entering the Iranian markets.
Furthermore, following the JCPOA, not all financial institutions will be exempted from US sanctions. While most banks will be removed from SDN list in case of successful implementation, the sanctions will remain in place under the ITSR regime. Payment transfers to by US depository institutions may be authorized in cases where approvals or license have been issued by OFAC pursuant to ITSR and does not involve debiting or crediting an Iranian account. Previously compliant companies may have to update their internal audits relating to sanctions and implement sophisticated screening measures.
On November 4 2015, the Deutsche Bank has been asked to pay USD 258 M by the New York Department of Financial Services2 for violation of OFAC sanction regime and processing payments against sanctioned countries. Although recent, this is not a standalone incident where a bank has been fined for violations of sanctions regime.
In wake of the new developments in diplomatic corridors, the changes in business practices relating to transactions transcending national boundaries will be an interesting monitor. In all cases, such transactions will remain a source of careful compliance and due diligence until the final report from the International Atomic Energy Agency with as far as dealing relating to Iran are concerned.
STA attorneys offer compliance advisory on matters related to sanctions. For more information you may get in touch with Zisha@stalawfirm.com