New Year's Resolution: Tackling Russian Sanctions Evasion

U.S. Sanctions Package

On December 22, OFAC issued a new executive order (“E.O.”) along with determinations, general licenses, frequently asked questions (“FAQs”), and a compliance advisory, focused primarily on preventing FFIs from indirectly supporting the war in Ukraine.  In effect, the measures threaten potential OFAC sanctions against FFIs for engaging in a broader range of activities in Russia. Additionally, OFAC introduced new import restrictions on Russian-origin fish and seafood, alcohol, diamonds, and gold.

Revisions to E.O. 14024 – Restrictions for FFIs

The new E.O. amends E.O. 14024 to authorize the U.S. Treasury Department to impose blocking sanctions on, and prohibit the opening or maintenance of correspondent accounts or payable-through accounts in the United States of, any FFI (as defined in the new subsection 11(f) of E.O. 14024, as amended, and at FAQ 1151) determined to be:

• conducting or facilitating significant transactions on behalf of persons designated for operating in certain sectors of the Russian economy, including the technology, defense and related materiel, construction, aerospace, or manufacturing sectors; or
• conducting or facilitating significant transactions or providing services involving Russia’s military-industrial complex, including activities related to the sale, supply, or transfer to Russia of certain specified items determined by the U.S. Government to be critical to Russia’s military-industrial complex. These items include certain machine tools and manufacturing equipment, materials for semiconductors and related electronics, electronic test equipment, propellants and explosives, lubricants, bearings, advanced optical systems, and navigation instruments, as further detailed in the Determination Pursuant to Section 11(a)(ii) of E.O. 14024.

In defining the term “significant,” OFAC states in FAQ 1151 that it may consider all of the facts and circumstances of a transaction to determine whether it is “significant,” including:

• the size, number, and frequency of the transaction(s);
• the nature of the transaction(s);
• management’s awareness of the transaction(s) and whether the transaction(s) are part of a pattern of conduct;
• whether and how the transaction(s) are connected to persons sanctioned under E.O. 14024;
• the use of deceptive practices;
• the impact of the transaction(s) on U.S. national security objectives; and
• any other relevant factors.

Given the multitude of Russian persons designated by OFAC in connection with the war in Ukraine, FFIs should conduct enhanced due diligence when considering transacting with or on behalf of Russian persons located anywhere in the world, given OFAC’s expansive jurisdictional reach.  FFIs should also conduct enhanced diligence on the nature of the transactions they are facilitating to ensure that they do not involve provision of the critical items specified above or otherwise support Russia’s military-industrial complex.

Guidance for Compliance

OFAC’s compliance advisory, issued alongside the new sanctions, provides examples of activity that could expose FFIs to sanctions risks and guidance for identifying and mitigating those risks.

FFIs already were at risk for maintaining accounts, transferring funds, or providing other financial services to persons on OFAC’s List of Specially Designated Nationals and Blocked Persons (“SDN List”).  Now, doing so for “any persons, either inside or outside Russia, that support Russia’s military-industrial base” could expose FFIs to sanctions risk under the new sanctions. So could facilitating the sale, supply, or transfer of the specified items referenced above or assisting companies in evading sanctions, including by hiding the ultimate purpose or parties involved in a transaction.

OFAC recommends that FFIs take the following enhanced due diligence steps:

• Update their sanctions risk assessments and customer risk rating criteria to take into account risks related to Russia’s military-industrial complex.  In our view, FFIs should consider whether they can implement appropriate controls to mitigate the risks identified as the sanctions risk assessment is updated, or whether they should cease business with Russian persons due to the increased risks.
  
• Review their customer base to determine direct and indirect involvement with designated persons or persons that may be involved in providing the specified items to Russia, or to jurisdictions previously identified as posing a high risk of Russian sanctions evasion. Jurisdictions that have been mentioned as posing a high risk of Russian sanctions evasion include Belarus, China, Turkey, Armenia, and Uzbekistan.
• Communicate their compliance expectations to customers, in particular those engaged in relevant business lines.
• Send questionnaires to relevant customers to better understand their counterparties.
• Take mitigating measures for high-risk customers and counterparties, from restricting types of account activity to exiting relationships.
• Request attestations from higher-risk customers that they do not operate in the specified sectors, provide specified items to Russia, or conduct activities in Russia’s military-industrial complex.
• Put into place enhanced trade finance controls for specified items.
• Conduct proactive investigations into possible sanctions and export control evasion using open-source information and previous transactional activity.

The advisory also includes a list of compliance best practices and references past guidance issued by OFAC on both Russia-specific and broader compliance measures. 

Revisions to E.O. 14068 – Import Restrictions

In addition to amending E.O. 14024, the new E.O. amends E.O. 14068, which prohibits, among other things, certain imports of Russian origin goods into the United States.  Russian origin diamonds, alcohol, and seafood still are prohibited from being imported into the United States under the new E.O., as is Russian-origin gold that was not located outside of Russia before June 28, 2022 under an amended Determination. The new E.O. slightly expands the scope of the restrictions regarding import of these items and products containing them to the United States, including by adding additional seafood items to the import ban and extending the prohibitions to Russian origin products that have been processed or substantially transformed in a third country (which previously were outside the scope of restrictions).

Tightening the Oil Price Cap Policy

On December 20, OFAC also took steps to tighten the price cap policy on Russian-origin oil (which we first wrote about here), including by publishing an updated guidance. It did so alongside its partners in the Price Cap Coalition, which includes the Group of 7 (“G7”) countries, the EU, and Australia.  Implemented in late 2022 and early 2023, the price cap policy prohibits a wide range of services related to the maritime transport of Russian crude oil and petroleum products unless such products are purchased at or below a set price cap.

In tightening the price cap, OFAC designated a Government of Russia-owned ship manager as well as several “obscure” oil traders who have been providing services in connection with the seaborne transportation of Russian-origin oil following the imposition of the price cap. 

The updated guidance on the price cap policy sets out new expectations for service providers working with Russian oil to:

• receive attestations from their counterparties within a specified timeframe for each lifting or loading of Russian oil or Russian petroleum products; and
• retain, provide, or receive itemized ancillary cost information as required.

These recordkeeping requirements are intended to create a “safe harbor” from strict liability for violations where service providers inadvertently provide covered services to Russian oil purchased above the price cap due to fake or incorrect records from illicit actors.  OFAC expects U.S. service providers to comply with these new requirements by February 19, 2024. 

EU 12^th Sanctions Package against Russia

New Prohibition on Provision of Business Software and Tightening of Professional Services Restrictions

On December 18, the European Union enacted its 12^th sanctions package against Russia.  Several amendments to Article 5n of the Council Regulation (EU) No 833/2014 (“Regulation 833/2014”) will have a material impact on the Russian operations of EU and international companies. By way of reminder, Article 5n already restricts provision of, among others, the following professional services to Russian entities:

• business and management consulting or public relations services;
• accounting, auditing, including statutory audit, bookkeeping or tax consulting services;
• legal advisory services;
• IT consultancy services; and 
• technical testing and analysis services (the “Restricted Services”).

The European Union has now amended Article 5n to prohibit EU operators from directly or indirectly providing to Russian entities certain “software for the management of enterprises and software for industrial design and manufacture” as listed in Annex XXXIX (the “Restricted Software”).  The Restricted Software includes a broad range of software ordinarily used in the business context, including:

• “Software for the management of enterprises, i.e., systems that digitally represent and steer all processes happening in an enterprise” including (among others) “enterprise resource planning,” “customer relationship management,” “supply chain management” and “project management software;” and
• “Design and Manufacturing Software used in the areas of architecture, engineering, construction, manufacturing, media, education and entertainment” including “computer aided design” software.

There is an exemption permitting the wind-down, by March 20, 2024, of pre-existing contracts for the provision of the Restricted Software.  

The current Article 5n exemption permitting the provision of the Restricted Services for the exclusive use of subsidiaries of EU companies, and companies established in certain allied countries (listed in Annex VIII of Regulation 833/2014, including the United States), will end on June 20, 2024. 

This means that any EU operators wishing to provide—after June 20, 2024—any Restricted Services or Restricted Software will need to obtain a prior authorisation from their competent authority.  The amended Article 5n includes a licensing ground to this effect. 

Finally, the amended Article 5n also prohibits EU operators from directly or indirectly providing to Russian entities financing or financial assistance, technical assistance, brokering services or other services relating to the Restricted Services or Restricted Software.  These restrictions are not subject to any wind-down exemption.  However, EU operators can apply for a licence to provide such ancillary services where the recipient is a Russian subsidiary of a company incorporated in the European Union or an allied country. Given the likely volume of applications for such licenses, we encourage companies to begin the application process as soon as possible.

Requirement to Contractually Prohibit Re-exports to Russia of Battlefield and Certain Sensitive Items

Closing down avenues for restricted goods being diverted to Russia via third countries remains a top priority for the European Union.  From March 20, 2024, when supplying or transferring certain listed goods to a counterparty in a third country other than an allied country, EU operators must include a clause prohibiting the counterparty from re-exporting the relevant goods to Russia.  The restrictions apply to items listed on the List of Common High Priority Items (Annex XL of Regulation 833/2014) as well as certain aviation or space goods (Annex XI), jet fuel goods (Annex XX) and firearms (Annex XXXV of Regulation 833/2014 and Annex I to Regulation (EU) No 258/2012).  These contractual assurances must be supported by “adequate remedies.”  However, neither Regulation 833/2014 nor the EU Commission’s guidance defines what such remedies must entail.  EU operators must also inform their competent authority should they become aware of a breach of the clause.

EU operators must also include such a clause (supported by “adequate remedies”) in any pre-existing contracts (i.e., entered into before December 19, 2023) if they do not expire by December 20, 2024. Accordingly, operators that trade in the restricted items should undertake a review of their existing contracts and their template contractual language to assess what changes need to be made.

Reporting Requirements on EU Transfers Over EUR 100,000

From May 1, 2024, EU entities that are more than 40% (directly or indirectly) owned by a Russian entity or a Russian national or resident must report to their competent authority any transfers of funds outside the European Union exceeding EUR 100,000 (directly or indirectly, in one or several operations).  From July 1, 2024, EU credit and financial institutions will need to report to their competent authorities semi-annually transfers by such EU entities. Unlike some of the existing provisions in Regulation 833/2014, there are no carve outs for cases where the Russian national or resident is also a national or resident of an EU Member State or an allied country.

EU Commission’s Position on Divestment From Russia

In its updated Consolidated FAQs published on December 22, 2023, the European Commission clarified its guidance on whether the sale of shares of a Russian subsidiary, which holds goods and technologies listed in specified annexes to Regulation (EU) 2021/821 and Regulation 833/2014, to a Russian buyer constitutes an indirect sale, supply, or transfer of prohibited goods and technologies. The percentage of shares sold or the location of the goods within Russia does not affect this interpretation.  Despite potential Russian government restrictions on re-exportation, the sale is still considered a transfer to a “natural or legal person, entity or body in Russia or for use in Russia.”  As such, EU operators may seek a derogation under Article 12b(1) of Regulation 833/2014. Whilst this is the Commission’s view of the relevant legislation, competent authorities in some Member States have adopted a different view in practice. It remains to be seen whether those competent authorities will now change their perspective, but it seems unlikely in circumstances where the Commission’s view has been well-known for some time.  We would note that the Commission’s guidance in the Consolidated FAQs is non-binding.

EU Restrictions on Russian Diamonds

In line with the G7’s agreement on December 6, the EU, from January 1, 2024, has implemented a phased ban on diamond products originating from and exported from Russia, as detailed in Annex XXXVIIIA to Regulation 833/2014.  Restrictions apply to certain diamond products from Russia or transited via Russia, as per Annex XXXVIIIA, with phased restrictions from March 1, 2024, on unsorted and non-industrial diamonds processed in third countries weighing 1.0 carats or more, and finally, on all products processed in third countries containing diamonds from Russia weighing 0.5 carats or 0.1 grams or more from September 1, 2024.  The ban extends to related services and requires EU exporters to provide traceability evidence for diamonds processed in third countries, particularly those under specific CN codes.

EU Designates PJSC Alrosa

In the wake of its recent restrictions on Russia diamonds, the EU designated state-owned PJSC Alrosa, the world’s largest diamond-mining company, and its CEO, Pavel Alekseevich Marinychev, on December 21.  This action aligns with similar designations made by the UK and U.S. on March 24, 2022, and April 7, 2022, respectively.

UK Sanctions Package

On December 14, the UK enacted the Russia (Sanctions) (EU Exit) (Amendment) (No. 4) Regulations 2023 (“No. 4 Regulations”) and the Russia (Sanctions) (EU Exit) (Amendment) (No. 5) Regulations 2023 (“No. 5 Regulations”). The No. 4 Regulations and the No. 5 Regulations amend the Russia (Sanctions) (EU Exit) Regulations 2019 (the “Russia Regulations”).

UK Restrictions on Russian Diamonds

In lockstep with similar EU restrictions, the UK has imposed restrictions on non-industrial Russian diamonds and diamond jewelry (as per Schedule 3GA of the Russia Regulations) and related services.  These regulations limit the import, acquisition, supply, and delivery of these items to the UK and third countries, with certain exceptions such as personal effects and lawful importation into the UK and the Isle of Man.  The enforcement powers set out in the Customs and Excise Management Act 1979 have also been extended to diamond imports.

Expanded Prohibition on Correspondent Banking

The No. 4 Regulations broaden existing restrictions in Regulation 17A of the Russia Regulations on correspondent banking relationships and payment processing to prohibit UK credit or financial institutions from processing all payments in any currency (not just Sterling) for persons specifically designated for the purposes of Regulation 17A.  Previously, only Sberbank had been designated for the purposes of Regulation 17A (which is separate to the asset freezing sanctions under the Russia Regulations).  However, contemporaneously with the enactment of the No. 5 Regulations, the UK government designated 26 additional Russian banks for the purposes of Regulation 17A (such banks being already subject to asset freezing measures).  OFSI anticipates, as stated in a December 21 blog post, that the transactions most affected by these expanded restrictions will be those “which have used correspondent banking earlier in the chain of transactions, and where the correspondent bank is designated for the purposes of regulation 17A.”

Strengthening the Oil Price Cap

On December 20, OFSI updated the UK’s oil price cap implementation guidance, effective from February 19, 2024.  Changes include a revised attestation tier system, splitting Tier 3 into 3A and 3B, a requirement for attestations to be passed per-voyage between Tier 1, 2, and 3A contractual parties, and a mandate for Tier 1 and, if they have access to relevant information, Tier 2 entities to record and provide, upon request to other Tier 2 or Tier 3A counterparties, itemized ancillary costs (including, packaging, taxes, insurance, freight) involved in carrying Russian-origin oil and petroleum products.  Tier 3B, which includes financial institutions providing general financing facilities, will not be required to comply with the new attestation requirements.

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The business landscape in and involving Russia continues to change rapidly. Companies should continue to keep abreast of legal developments and take necessary steps to obtain authorizations and licenses where needed.   As always, Dechert, including our Russia desk, is available to advise on any measures imposed on or by Russia, in addition to sanctions and export controls more broadly.