On 16 December 2014, President Obama announced that he will sign the Ukraine Freedom Support Act of 2014 (hereinafter the “Act”) into law. As discussed in our update dated 12 December 2014, the Act represents a potentially significant expansion of the scope of US sanctions against Russia as a result of the Ukrainian crisis. Most significantly, the Act extends applicability of certain US sanctions involving Russia and Ukraine to non-US persons.
Notwithstanding the broader applicability of the new sanctions contained in the Act, the law is less restrictive than prior drafts of the legislation, reflecting months of discussions between Congress, the business community, and the Obama Administration. For example, the Act would terminate when President Obama certifies to Congress that Russia has, among other actions, “ceased . . . undermin[ing] the peace, security, stability, sovereignty, or territorial integrity of Ukraine[.]” Previous drafts of the legislation required the President to make such a certification with respect to Ukraine, Georgia, and Moldova.
Approval of the Act by the Obama Administration reflects the view that while the sanctions introduced by the Act are significant, the Act nonetheless generally preserves the President’s flexibility to continue to coordinate Russian sanctions strategy with the European Union. Accordingly, most of the sanctions provisions described below are authorized, but not mandated, and include national security waiver provisions.
The Obama Administration has stressed that it is willing to roll back these (and other) sanctions if Russia takes steps to de-escalate the situation in the Ukraine. In this regard, Secretary Kerry told reporters in London on 16 December that Russia has made “constructive choices” and added “[t]hese sanctions could be lifted in a matter of weeks or days, depending on the choices that President Putin takes.”
New Sanctions Apply to Non-US Persons
Current US economic sanctions involving Russia/Ukraine only apply to “US persons,” which includes: (i) entities organized under US laws and their non-US branches; (ii) individuals or entities located in the United States; and (iii) US citizens or permanent residents, wherever located or employed. This is distinct from US sanctions against Iran, for example, which apply to non-US subsidiaries of US companies and also can result in penalties against non-US companies who engage in certain prohibited activities involving Iran (such as transactions involving Iran’s energy sector), even if such activities have no connection to the United States.
The sanctions described below now reach any “foreign person” (hereinafter “non-US persons”), defined as any individual or entity that is not a US Person.
Sanctions Relating to the Russian Energy Sector
Under the Act, the President is authorized, but not mandated, to impose penalties on any non-US person who enters into significant investment in a special Russian crude oil project. A “special Russian crude oil project” is defined as a “project intended to extract crude oil from (a) the exclusive economic zone of the Russian Federation in waters more than 500 feet deep, (b) Russian Arctic offshore locations, or (c) shale formations located in the Russian Federation.” “Significant investment” is not defined, but based on similar language in other US sanctions, would likely be determined by the US Government on a case-by-case basis.
These provisions target non-US companies investing in unconventional energy in Russia and are largely similar to restrictions applicable to U.S. persons under Directive 4 of the Sectoral Sanctions Identifications List.
The Act also provides for contingent sanctions on Gazprom if the President determines that Gazprom is withholding significant natural gas supplies from member countries of the North Atlantic Treaty Organization or Ukraine, Georgia, or Moldova.
These energy-related provisions may be enforced by the President on or after 45 days after the enactment of the law (likely commencing in late January 2015). Potential penalties that may be imposed for violating these restrictions are described below.
Sanctions Relating to the Russian Defense Sector
Under the Act, the President is mandated to impose penalties on Russian defense conglomerate Rosoboronexport, and the President is authorized to impose penalties on additional Russian and Russian-owned defense firms that contribute to instability in Ukraine or certain other specified countries. The Act specifies that any non-US person that the President determines to knowingly manufacture, sell, broker or otherwise assist with the transfer of defense articles into certain countries will be subject to at least three of the sanctions described below. The Act defines “defense article” in keeping with Section 47 of the Arms Export Control Act (22 USC 2794).
The countries specified in the Act include Ukraine, Syria, Georgia, Moldova, and any other country the President designates as a country of significant concern. The President is required to notify Congress if additional countries of significant concern are identified. Significantly, the Act does not explicitly define whether Crimea is included in Ukraine for purposes of these provisions. These defense-related provisions may be enforced by the President on or after 45 days after the enactment of the law (except that penalties must be imposed on Rosoboronexport within 30 days).
Menu of Potential Penalties Available to President Under the Act
Penalties available to be imposed against non-US persons who make prohibited investments in covered Russian oil projects and/or are designated pursuant to the defense-related provisions described above could include: US federal procurement prohibitions, blocking of property, denial of access to the US banking system, prohibitions on investment in new debt or equity, travel restrictions/visa bans, and other sanctions on principal officers. Under the Act, some of these penalties also could be imposed against specific Russian defense and energy companies – including Gazprom, among others – regardless of their involvement in covered oil projects.
Sanctions Relating to Foreign Financial Institutions
The new law also authorizes, but does not mandate, the President to sanction “foreign financial institutions” that facilitate the activities described above related to Russia’s defense and energy sectors.
In addition, after 180 days, the President may sanction any “foreign financial institution” that engages in a “significant financial transaction” with any Russian person named on the Specially Designated Nationals and Blocked Persons List maintained by the U.S. Department of Treasury’s Office of Foreign Assets Control (“OFAC”).
“Significant financial transaction” is not defined, but based on similar language in other US sanctions programs, would likely be determined by the US Government on a case-by-case basis. The term “foreign financial institution” mirrors the same term in OFAC’s Iranian Financial Sanctions Regulations (“IFSR”). Under the IFSR, foreign financial institutions include foreign depository institutions, banks, savings banks, money service businesses, trust companies, securities brokers and dealers, commodities exchanges, clearing corporations, investment companies, employee benefit plans, and holding companies, affiliates, or subsidiaries of any of these entities.
The sanctions available to the President for a foreign financial institution include a prohibition on the opening, and a prohibition or the imposition of strict conditions on the maintaining, in the United States of a correspondent account or a payable-through account by the foreign financial institution.
The Act permits the President to waive the application of penalties described above to any non-US person, including foreign financial institutions, if the President determines that a waiver is in the national security of the United States. Such a waiver is available to the President on a transaction-specific basis as well as on a more general basis. The President is required to report to Congress when such determinations are made.
The Act comes at a time of significant weakness for the Russian economy. On 16 December 2014, the Russian ruble fell to historic lows as a result of a five-year low in oil prices and significant capital flight. It is unclear how the Russian Government will respond to the new bill given its current preoccupation with the Ruble collapse and the economic consequences for Russia. Although Russian deputy foreign minister Sergei Ryabkov told the Interfax news agency on December 13 that Russia “will not able to leave this [the Act] without a response”, he did not clarify what action the Russian government was planning or willing to make. Moreover, Ryabkov has consistently reacted very negatively to each ratcheting up of sanctions but the Russian Government has been far more cautious about responding to sanctions overall than some members of the government had originally suggested. Russian Foreign Minister Sergey Lavrov expressed irritation with the new sanctions, describing a “Russophobia” in the American Congress. At the same time, it is expected that Russia will wait to see how the new sanctions are implemented by the Obama Administration before reacting with any countermeasures.
In addition to the sanctions described above, the Act provides $350 million in military assistance to Ukraine. The Act also authorizes over $120 million in energy, defense sector, and civil society assistance to Ukraine.
The President is expected to sign the Act into law by Tuesday 23 December 2014. It is likely that the U.S. Department of Treasury’s Office of Foreign Assets Control (“OFAC”) will issue regulations regarding the sanctions shortly thereafter.