From behind a bank of computer monitors, performing day-to-day compliance operations, it is easy to see economic sanctions as a binary thing: sanctions targets are persona non grata, and everyone else is not. However, from a policy level, sanctions are a much more multifaceted tool of state-craft that provides great flexibility in both exerting pressure and minimizing the impact on one’s own economy.
Who is sanctioned?
The first area where regulators can show flexibility is in the designation process. Designations are generally very specific, although the Office of Foreign Assets Control (OFAC) 50 Percent Rule (and its equivalents elsewhere in the world) significantly expands the reach to parties related to those designated. On the other hand, the wording of regulation or government order (e.g., Executive Orders in the U.S.) make whole classes of people subject to sanctions as long as there is knowledge that a person or entity meets the definition of those subject to sanctions. Those documents typically cover specific ranges of actions taken in the past (e.g., participation in the assassination of Lebanese officials) or on an ongoing basis (e.g., contributing to the instability in a country). Typically, they also contain clauses that cover assistance to those participating in the specified activities, as well as provision of financial or technical support to them. In addition, a number of sanctions programs target specific exports or even entire industries in the sanctioned country.
Choosing to add listings to a sanctions program, or refraining from doing so, permits the sanctioning country to balance the relative amounts of “stick” (i.e., amount of pain in conducting financial affairs) and “carrot” (i.e., providing incentive to change behavior so that sanctions could be loosened at a future date). And this is not merely a theoretical bargaining chip. For example, the U.S. chose not to add names to the Myanmar sanctions program, despite recommendations from the State Department to do so, because it was conducting negotiations in secret with the ruling junta on democratization of that society.
What is sanctioned?
The next thing to determine is what sort of restrictions apply. There is more variation than one might expect.
The bulk of economic sanctions imposed on specific targets are “do not do business” type of prohibitions
The bulk of economic sanctions imposed on specific targets are “do not do business” type of prohibitions. However, even here there are two very different types of sanctions, each associated with a different goal of sanctions. The most common sanctions are asset freezing or blocking sanctions, where the assets associated with an account or transaction are made unavailable to all parties (i.e., both the account holder/transactor and any counterparty). Such sanctions are intended to prevent the use of assets by seizing them. In contrast, certain sanctions result in funds being returned to the party wishing to effect a transaction. In these cases, assets can be utilized for the intended purpose—just not in the sanctioning country’s financial systems or broader economy. As appropriate examples, the U.S. imposes a number of these sorts of sanctions, including the sectoral sanctions imposed on Russian energy, defense and financial services firms (as does the EU), and for example, the parties on OFAC’s Non-SDN Palestinian Leadership Council (NS-PLC) List (part of the Consolidated Sanctions List). While there is certainly inconvenience in such sanctions, the desired business can still be conducted elsewhere, perhaps at greater cost. If such restrictions are imposed unilaterally by a country rather than by a larger, more global coalition of nations, their effect is more of a slap on the wrist than an effort to inflict true economic hardship. Thus, while NS-PLC restrictions are largely symbolic, the sectoral sanctions, which were also adopted in the EU, have a significant impact on the designated sectors of the Russian economy.
Generally, a sanctions designation prevents all manner of transactions involving the targeted individual or company (or cargo vessel or aircraft, in OFAC’s case).
However, sanctions can be restricted to specific classes of transactions. This allows the impact of the restrictions to be more finely calibrated—both the impact on the sanctions target and the consequences of those sanctions on the customers, suppliers and business partners of the target. The sectoral sanctions imposed on elements of the Russian economy is an apt example. These sanctions only prohibit dealing in long-term capital market issues and specific types of energy exploration activities. By doing so, Russian energy firms can continue to perform their current business activities but—because the sanctions impede the raising of capital via the securities markets—they will face challenges trying to finance the expansion of their business. In addition, even if they could continue to perform, they would be unable to obtain outside technical or other assistance in the actual exploration activities due to the prohibitions of OFAC’s Executive Order 13662 Directive 4 and its EU equivalent. However, by not actually sanctioning all business with these firms, while these firms’ strategic planning for their business will be impacted, they will still be able to sell their current set of goods to Western Europe, which relies on their products. Had the sanctions been more comprehensive, Europeans might have struggled to meet their energy needs.
Beyond these financial sanctions—which largely (with the exception of the aforementioned energy exploration restrictions) revolve around restricting the flow of financial assets—once a sanctions program expands to encompass a country’s economy and not merely specific citizens, an even broader spectrum of economic sanctions can also be applied.
Perhaps the most notable of these restrictions are sector-specific or blanket restrictions on international trade, as well as transactions using the sanctioned country’s cargo vessels. An adjunct to these prohibitions is the one usually imposed on actions that facilitate third-party transactions. These include provision of approvals or guarantees, financial transactions such as financing or insurance related to the transactions, as well as any services that help advance the transaction, such as providing advisory services. In addition, investments in a country’s economy are also typically prohibited.
Broad prohibitions, of course, permit an almost infinite level of discretion when it comes to the actual breadth of those restrictions. For example, when Myanmar had broad sanctions imposed on them, the import restrictions were limited to Burmese jade, jadeite and other precious stones. Similarly, U.S. Iranian import prohibitions currently have a carve-out for carpets and foodstuffs—although that exception was terminated for a period of time when maximum pressure was being applied to Tehran. In addition, there was a significant liberalization of a number of OFAC Cuba sanctions prohibitions during the latter stages of the Obama presidency. Such measured adjustments to sanctions programs provide shows of goodwill, while providing some modicum of economic relief as an incentive for continued good faith dealings.
Secondary Sanctions: The Long Arm of Sanctions Law
Secondary sanctions provide a mechanism by which regulators can exert pressure on foreign persons and companies whose actions make the domestic sanctions less effective in achieving their goals.
Secondary sanctions provide a mechanism by which regulators can exert pressure on foreign persons and companies whose actions make the domestic sanctions less effective in achieving their goals. These sanctions are used when the regulator does not have jurisdiction to impose the types of consequences (such as civil monetary penalties) that can be levied on domestic persons and firms. While relatively new as a compliance term, secondary sanctions are not really all that new as a policy tool. One can consider the use of the Entity List by the Commerce Department’s Bureau of Industry and Security, as well as the Section 311 sanctions imposed by the Financial Crimes Enforcement Network as the imposition of secondary sanctions, as two prominent examples that fit the functional definition, but with which one may not associate the term “secondary sanctions.”
While being placed on the Entity List is pretty cut and dried (exports to firms on the list require licenses), the other programs all present a range of options. The Section 311 sanctions options (called Special Measures) include:
- Enhanced reporting and record keeping requirements for correspondent accounts
- Required acquisition of beneficial ownership information for the account subject to the Special Measure
- Required identification of and information gathering for each customer using correspondent or payable through accounts (PTAs)
- Outright bans on opening or maintaining correspondent accounts
In contrast, the Part 561 secondary sanctions options (part of OFAC’s Iranian sanctions program) can result in one or more of the following restrictions being imposed, in lieu of outright denial of correspondent relationships:
- Restrictions or prohibitions on trade finance transactions
- Restrictions or prohibitions on foreign exchange transactions
- Restrictions on transaction types
- Limits on the number of and/or monetary value of transactions
- Requiring pre-approval of each transaction
And while the Non-SDN Iran Sanctions Act List (NS-ISA) is currently empty, due to the changes wrought by the Joint Comprehensive Plan of Action (JCPOA), the Act provides for the imposition of five or more of the following restrictions:
- Prohibition on assistance from the Export-Import Bank for exports to the sanctioned subject
- Restrictions on loans from U.S. banks
- Prohibition on being a primary dealer in U.S. government securities
- Prohibition on holding U.S. government funds on deposit
- Prohibition on procurement from the sanctioned party
- Prohibition on foreign exchange transactions
- Prohibition on all banking transactions
- Prohibition on ownership of any U.S. property
- A requirement to obtain export licenses for all controlled goods exports to the sanctions target
- Prohibition on investing in securities issued by the sanctioned party
- Travel restrictions on the firm’s officers
Each of these possible regulatory actions imposes a commercial penalty on the target of that action. While, to date, those designated under these programs have largely been given the maximum possible penalty, the way regulations are written provides a significant amount of flexibility to regulators. As behavior changes, the level of ongoing restriction on business dealings can be adjusted up or down to provide incentives for continued compliance with regulatory expectations or disincentives for continued non-compliance.
Exceptions to the Rules
It is generally easier to prohibit a wide swath of behavior and to determine the exceptions, than it is to be more granular in specifying what is banned, unless the sanctioned activities are very narrow in scope. Recent history has shown that, sometimes, the seemingly narrowest of prohibitions today can lead to the realization that exceptions are still warranted tomorrow. Consider that one of the first General Licenses imposed under the Ukraine-related OFAC sanctions was to permit business with the Turkish bank DenizBank, which was wholly-owned by Sberbank and thus subject (due to the “50 Percent Rule”) to the same sanctions as its parent. Recently, after the Russian Federal Security Service (known in the West as the FSB) was designated under OFAC’s cyber sanctions. A General License was quickly issued to permit payment of fees to the FSB for forms processing that they perform on a routine basis.
Even General Licenses are not uniform in their operation. Some are time-limited (and often get extended); licenses for dealings with companies in Belarus and firms associated with Panamanian firms owned or controlled by Specially Designated Narcotics Trafficking Kingpins are the most prominent of this type. Others have reporting requirements, which increase the burden (and, therefore, the desirability) of maintaining those business ties. Most notably, the ability as part of the Trade Sanctions Reform and Export Enhancement Act to export certain foodstuffs, medicine and medical supplies to certain sanctioned countries is not a blanket authorization, but requires an exporter to obtain a one-year specific license for these activities. In fact, in 2016, multiple divisions of Alcon received a civil monetary penalty from OFAC for not obtaining that license on a consistent basis.
These additional sanctions program elements serve a number of useful purposes. Reporting and explicit licensing requirements permits a level of control and transparency regarding the limited flow of assets under these programs. They help curtail abuse of the exceptions (which is why these licensing elements are largely only imposed on countries that are comprehensively sanctioned), and raise the stakes for those looking to skirt the sanctions regulations in that way.
One more way that regulators can show flexibility is through guidance documents, such as statements of licensing policy
One more way that regulators can show flexibility is through guidance documents, such as statements of licensing policy. These provide guidance as to what exceptions to sanctions prohibitions will generally be approved for a specific license.
For example, the Statement of Licensing Policy for export or re-export of commercial passenger planes, and related parts and services states, in part that “the following Statement of Licensing Policy establishes a favorable licensing policy under which U.S. and non-U.S. persons may request specific authorization from OFAC to engage in transactions for the sale of commercial passenger aircraft and related parts and services to Iran.” It then notes that the aircraft being sold must be used exclusively for civil aviation, and that authorized services would include “warranty, maintenance, and repair services and safety-related inspections” for the aircraft used exclusively for commercial passenger flights. Such statements are intended to make companies less wary in engaging in specific transactions by clearly stating which applications are likely to be approved. The availability and breadth of such guidance is an additional tool to provide incentives or disincentives for continued compliance with sanctions program objectives.
A Thick Rule Book
Having to deal with the granular nature of sanctions regulations and the exceptions to those somewhat general rules adds considerable time and effort to sanctions compliance efforts. In earlier days, when the U.S. only had blanket sanctions on North Korea, Cuba and North Vietnam, compliance processing was easier to complete in less time with fewer people needed for a proper review of potential violations. However, it came with regulators’ inability to offer intermediate steps between a blanket set of prohibitions and none at all.
In contrast, now is an emergent golden age for finely tuned regulatory carrots and sticks to more optimally achieve foreign policy goals. The only downside is that someone has to pay the bill for the shiny new toys. And, once again, it is the private sector that is stuck with the check, paid every day in extra staff, more involved policies and procedures, more extensive and complex training, and more rigorous program testing.
For more information on crucial sanctions compliance principles that all compliance staff should understand, please visit: http://www.acams.org/sanctions-compliance-training/.