The last decade has seen the European Union (the “EU”) turn increasingly to sanctions and trade controls as means of achieving its political goals. Today, the EU has more than 30 sanctions regimes in place, affecting countries ranging from Afghanistan to Zimbabwe, along with global export restrictions on goods deemed to have actual or potential military application.
Recent EU sanctions regimes, particularly those affecting Iran and Russia, have demonstrated the EU’s new-found readiness to implement trade restrictions targeting whole industries in designated countries (referred to as “sectoral sanctions”). Such sanctions undoubtedly bring greater pressure to bear on affected countries, but they can also have significant collateral effects on EU businesses. The EU’s sanctions on Russia, which are heavily based on such sectoral sanctions, as well as Russian “counter-sanctions”, are reported to have resulted in a 9% fall to the EU’s exports to Russia since December 2013. For EU countries with major trade links to Russia, such as Germany, the effects have been even greater: German exports to Russia fell by a staggering 26% between August 2013 and August 2014.1
The increased use of sanctions in general and sectoral sanctions in particular results in a substantial regulatory burden on EU companies. EU authorities have not yet taken as aggressive a stance on sanctions enforcement as their US counterparts, who have imposed fines amounting to billions of dollars (including on some prominent EU companies), but companies in breach of EU sanctions can still face substantial consequences: in Germany, penalties for sanctions breaches include administrative fines and prison sentences. It is therefore vital for EU companies to keep up to date on the ever-shifting EU sanctions landscape, not only to ensure full compliance but also to make certain that business opportunities are not unnecessarily lost in a highly competitive global market.
This article sets out an overview of the sanctions used by the EU, with a focus on sectoral sanctions and other restrictions likely to affect EU companies exporting goods and services to sanctioned countries. It also provides a case study of how such sanctions have been applied in relation to Russia. Finally, it covers how Germany’s anti-boycott legislation may, in some cases, protect German companies from being required to comply with sanctions regimes exceeding EU sanctions.
Overview of EU sanctions and trade controls
EU sanctions are proposed and implemented at an EU institutional level (usually through the Council of the European Union) but their enforcement is left to individual EU member states. What’s more, the EU’s measures represent only a minimum standard and member states can implement more onerous restrictive measures. EU business must therefore look at not only the EU legislation, but also at relevant national laws to ensure full compliance. In addition, the EU maintains controls on the export and brokering of both military and “dual-use” goods. The latter are goods which are deemed to have both a civilian and military application (such as certain types of explosives or communications equipment).
The EU sanctions can be divided into three categories: (i) asset freezes, (ii) sectoral sanctions, and (iii) fund transfer restrictions.
Asset freezes are the most frequently used restrictive measure. They apply to persons – individuals and companies - identified by the EU as meeting certain criteria. Their names are published by the EU, and their assets must immediately be frozen. This has two consequences: First, it is prohibited to transfer or deal with the “funds and economic resources” of a listed person (“economic resources” include any assets which can be exchanged for funds). Second, it is forbidden to make funds or economic resources available, directly or indirectly, to a listed person.
This type of restriction can affect businesses in multiple ways. EU companies that hold funds on account for listed persons will be required to freeze those accounts. Businesses may also not be able to accept funds from listed persons or fulfill their contractual obligations (for example, they may be prevented from delivering goods to a listed person or providing a refund). These restrictions can also have some unexpected effects: writing off a listed person’s debts may in itself constitute a prohibited act. In certain circumstances it may be possible to obtain a licence to allow limited dealings with a listed person, such as where a listed person needs to make a payment in relation to a contract entered into prior to that person being listed. However, such licences are usually granted at the discretion of a member state’s competent authorities, so there is no guaranteeing that any given licence application will succeed and, further, the process can take a considerable period of time.
Additional complexities arise when dealing with businesses owned by listed persons. The EU presumes that making funds or economic resources available to a non-listed person controlled or more than 50% owned by a listed person is the same as making funds available to a listed person, and thus a breach of sanctions. This presumption can be rebutted if you can show the funds or economic resources will not be used by or be for the benefit of the listed person. Therefore, providing funds to a real operating company that happens to be owned by a listed person is probably not a violation, but delivering a yacht to a listed person’s personal holding company may well be prohibited.
Sectoral sanctions allow the EU to target whole industries. They usually represent the escalation of a sanctions regime. Sectoral sanctions regimes generally fall into one of two categories: (i) sanctions intended to prevent the targeted country from receiving goods and services which assist its perceived misconduct, and (ii) sanctions intended to pressure a targeted country indirectly through cutting off access by key industries to EU funds, services and investment. An example of the first category includes restrictions on the export of goods to Iran which may contribute to Iran’s attempts to develop nuclear weaponry. An example of the second includes restrictions on certain state-owned Russian banks obtaining funding from EU capital markets.
Sectoral sanctions usually also include restrictions on the provision of related brokering, financial assistance and technical assistance. While the scope of the term “technical assistance” is normally defined in each sanctions regime, the term “financial assistance” has no settled meaning in EU law, which has led to a great deal of uncertainty about its scope. Recently, an EU guidance note regarding the Russia sanctions clarified that provision of payment services and issuance of letters of guarantee or credit would be considered “financial assistance”. This may substantially impact providers of services to Russia.
Sectoral sanctions can have a very substantial impact on EU businesses: whole industries may be barred from selling their products or services to a targeted country. This can not only result in lost business in the short term, but also cause long-term damage, as targeted countries may switch to new suppliers from other countries (as seen in Russia’s turn towards the East to replace barred EU imports).
Fund Transfer Restrictions
Fund transfer restrictions are a rare but powerful category of sanctions. These currently only apply to Iran. They require that transfers of funds to or from a country above a certain level require either notification to the authorities, or their permission. This type of restriction can clearly affect an EU company’s ability to trade with persons in a targeted country.
Export controls on dual-use and military items
EU dual-use controls require exports and brokering of certain listed types of dual-use goods to be licenced by competent EU member state authorities. EU sanctions regimes can restrict the circumstance in which an exporter or broker can receive the necessary licences, or extend the types of goods that are subject to these controls. For example, the EU’s sanctions on Russia prevent a competent EU member state authority from granting a licence for any dual-use exports to Russia where there are reasonable grounds to believe they might be for a military end-user or that the goods might have a military end-use.
The EU also maintains a common list of military goods. Exporting or brokering such goods is subject to even more stringent licencing requirements, which are enforced at member state level. EU sanctions regimes can include a full arms embargo against a targeted country, which prevents a member state from licencing the export of any military goods to that country.
Enforcement of EU Sanctions in Germany
The EU financial sanctions are enforced by the German central bank (Deutsche Bundesbank) in Frankfurt. The central bank can prohibit certain business transactions, grant individual exemptions from sanctions and release certain frozen funds or economic resources.
Compliance by German companies with EU export controls and sectoral sanctions is monitored by the Federal Agency for Economic Affairs and Export Control (Bundesamt für Wirtschaft und Ausfuhrkontrolle, “BAFA” in Eschborn, near Frankfurt), a body subordinated to the Federal Ministry for Economic Affairs and Energy (Bundesministerium für Wirtschaft und Energie). It is the central German export licensing authority. The Act on Foreign Trade (Außenwirtschaftsgesetz, “AWG”) and the implementing Foreign Trade and Payments Ordinance (Außenwirtschaftsverordnung, “AWV”) form the German legal basis for export control.
BAFA has jurisdiction as licensing authority in case the item to be delivered is located in Germany. The BAFA further issues licenses pursuant to the EU dual-use controls in cases where the exporter/transferor is domiciled in Germany.
The BAFA will issue a required licence if the legal transaction or action will not (or only to a small degree) expected to jeopardize the purpose of the relevant sanctions restrictions. The licence can also be issued if the national economic interest in the undertaking of the legal transaction or action outweighs the expected damage to the purpose cited in the relevant sanctions restrictions.
The licence can be made dependent on material and personal assurances, in particular relating to the reliability of the applicant. The licence may contain ancillary provisions like time limitations, conditions, reservation of cancellation, further requirements or requirement reservations. A refusal of a licence can be challenged in court but such action has no immediate effect unless an interim permission is granted by the court which is rarely the case.
A transaction without the necessary export licence is void, and consummation without licence can lead to criminal and administrative liability.
The main customs offices and customs investigation offices must prosecute violations of export controls. They can perform seizure and searches. In addition the public prosecutor’s office also conducts investigations.
Sectoral sanctions in Russia: a case study
The EU’s sanctions against Russia provide a textbook example of the EU’s sanctions approach in action: starting from narrowly targeted asset freezes, the sanctions regime has gradually escalated to include wide-ranging sectoral sanctions as a means of increasing pressure on the Russian government. This sanctions regime now broadly consists of five limbs:
First, the EU has introduced a set of asset freezes affecting individuals and entities which the EU has deemed are involved with actions which undermine or threaten the territorial integrity, sovereignty and independence of Ukraine. Currently this list covers individuals ranging from Russian politicians to rebel military leaders.
Second, the EU has implemented restrictions on exporting military and dual-use goods to Russia, and on providing financial or technical assistance in relation to such goods.
Third, the EU has implemented licensing requirements for the provision of certain oil-industry related goods for use in Russia, and, with limited exceptions, has entirely prohibited the provision of such goods where they are intended for deep water oil exploration and production, Arctic oil exploration and production, or shale oil projects. The provision of financial assistance and technical assistance in relation to such goods is also prohibited, as well as the provision of specified services, such as drilling or well-testing. This has a real effect on certain companies in the oil industry working with Russia, as at the very least they are required to check what types of projects their goods may be used for and have to potentially go through the time consuming process of applying for licences.
Fourth, EU persons are prohibited from dealing in shares or bonds of certain designated state-owned Russian banks and oil industry companies and from granting such designated entities loans or credit with a maturity of greater than 30 days. These restrictions are subject to an important exemption: EU persons can grant the designated entities loans to finance non-prohibited imports or exports of goods and non-financial services, if the financed imports or exports take place between the EU and any third state (including Russia). However, these restrictions clearly severely restrict most other business with these designated entities.
Fifth, the EU has introduced a range of measures which severely restrict trade with Crimea. While this limb of sanctions consists of multiple, industry specific restrictions, its overall effect is to cut off Crimea almost completely from EU business. This includes a prohibition on importing goods from Crimea into the EU, on making investments in Crimea’s key industries and even on EU cruise ships stopping off in Crimean ports.
German Anti-Boycott Legislation
Contract counterparties may, on occasion, ask German exporters to state that they act in compliance with sanctions regimes or trade restrictions exceeding EU sanctions. For example, a US counterparty may ask a German exporter to represent that it will act in accordance with US sanctions, which include trade restrictions not otherwise applicable to EU companies. However the AWV includes a blocking provision which may prohibit a German exporter from complying with such a request.
Section 7 of the AWV prohibits German residents from declaring their participation in a boycott against another state in the context of foreign trade or payment transaction, where such a boycott goes beyond trade restrictions or sanction applicable under EU or German law. From the law, it is not entirely clear what constitutes a “boycott”. There are also no precedents clarifying what German courts would consider as “boycott”. In the opinion of some German legal commentators, sanctions or black-list clauses, or representations that a party will not maintain any business relationship with a certain country, may constitute a boycott declaration within the meaning of this section.
This provision may raise issues when a German exporter deals with US counterparties, due to the US trade embargo on Cuba (the US otherwise maintains sanctions regimes similar to those of the EU in respect of Iran and Russia): a German exporter may be prohibited from representing that it will act in compliance with US sanctions, as this may constitute a declaration that it will participate in the US boycott on trade with Cuba.
The AWV does not specifically provide that a contractual clause deemed to be a “boycott” declaration is unenforceable. Applying general principles of German contract law, however, it cannot be ruled out that a German court will declare such a covenant void.
Breach of Section 7 of the AWV can lead to an administrative fine of up to EUR 500,000. There has not yet been any published case law relating to the enforcement of this provision, so it is currently unclear as to how actively the German authorities will enforce this law. However, the existence of this provision may be a useful negotiating tool for German exporters faced with counterparties requesting compliance with third country sanctions regimes.
German exporters should also be aware that the EU has a blocking statute prohibiting compliance with certain US sanctions regimes; at present, this applies solely to the US sanctions against Cuba. Since the US sanctions against Cuba are currently under reconsideration, exporters wishing to deal with Cuba should stay alert to developments.
Despite the potential for causing real economic harm to EU businesses, recent political successes partially attributed to sanctions, such as the breakthrough in nuclear non-proliferation negotiations between Iran and the P5+1, and even the gradual implementation of the Minsk cease-fire agreement in Eastern Ukraine, suggest that the EU will only increase its reliance on sanctions, especially sectoral sanctions, in the future.
While it is difficult to predict the impact that sanctions will have in relation to any specific regime, the EU sanctions on Russia have shown the extent to which these types of sanctions can affect EU businesses. It is therefore becoming ever more important for EU businesses to remain fully advised on sanctions developments and maintain robust best-practice compliance policies.