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July 9, 2020 |
Human Rights Abusers (and those dealing with them) Beware: UK Introduces Its First “Magnitsky” Sanctions

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On 6 July 2020, the UK Government introduced into law the “Global Human Rights Sanctions Regulations 2020” (the “Regulations”), and designated the first individuals under the Regulations in connection with their involvement in gross human rights violations. The Regulations are made under powers in the Sanctions and Anti-Money Laundering Act 2018 (the “SAMLA”), which was enacted in order to empower the UK Government to introduce the UK’s own sanctions post-Brexit. EU sanctions will continue to apply in the UK until 11 pm on 31 December 2020, but the Regulations will apply alongside EU sanctions.

Secretary of State for Foreign Affairs, Dominic Raab, announcing the Regulations in Parliament, stated that the UK’s first autonomous human rights sanctions regime would impose travel bans and asset freezes against “those who have been involved in some of the gravest human rights violations and abuses around the world.” And that the new regime “means the UK has new powers to stop those involved in serious human rights abuses and violations from entering the country, channelling money through UK banks, or profiting from our economy.”

The Regulations came into force at 1 pm BST on 6 July 2020, with the Government simultaneously imposing sanctions against 49 individuals and organisations in Russia, Saudi Arabia, Myanmar and North Korea. These were described by the Government as the “first wave” of designations under the new regime, with further sanctions expected in the “coming months”.

Human rights-focussed sanctions are often referred to as “Magnitsky sanctions”, following the so-called “Magnitsky Act,” a U.S. law (the Sergei Magnitsky Rule of Law Accountability Act of 2012) (the “U.S. Magnitsky Act”) imposing sanctions on certain Russian officials alleged to be involved in the death of corruption whistleblower Sergei Magnitsky. In 2016, the U.S. Global Magnitsky Human Rights Accountability Act (“U.S. Global Magnitsky”) became effective, authorizing the U.S. Government to sanction foreign government officials implicated in human rights abuses anywhere in the world, including asset freezes and travel bans.

The Sanctions and Anti-Money Laundering Act 2018

SAMLA empowers the UK Government to make sanctions regulations as it considers appropriate, inter alia:

  • to comply with UN or any other international obligations;
  • to further the prevention of terrorism, domestically or abroad;
  • in the interests of international peace and security;
  • to further a foreign policy objective;
  • to promote the resolution of armed conflict or protect civilians in conflict zones;
  • to provide accountability for or deter gross violations of human rights;
  • to promote compliance with international human rights law;
  • to promote respect for human rights;
  • to promote compliance with international humanitarian law;
  • to contribute to multilateral efforts to prevent the spread and use of weapons and materials of mass destruction; or
  • to promote respect for democracy, the rule of law and good governance.[1]

Under SAMLA, the UK Government can impose a range of sanctions that have financial, immigration, and trade implications. Prior to the passing of SAMLA, the UK introduced sanctions predominantly by virtue of its membership as a member of the UN or EU; domestic sanctions powers were generally used in connection with matters such as terrorism, nuclear proliferation or military aggression. The Government has indicated its aspiration that SAMLA would allow the UK to regain “full control” over its own sanctions policy.

The Global Human Rights Sanctions Regulations 2020

The Regulations allow the Government to designate individuals and organisations who will be subject to asset freezes and/or travel bans, with such individuals being named in the “UK sanctions list”. The Regulations can be used to impose sanctions for serious human rights violations in three areas: the right to life; the right not to be subjected to torture or cruel, inhuman or degrading treatment or punishment, and the right to freedom from slavery, servitude or forced or compulsory labour.

In conjunction with the Regulations, and to assist in their implementation, the Government has published statutory guidance.

The Offences

The Regulations create a series of substantive offences, which can be committed by natural or legal persons, similar to those contained in UK Regulations implementing EU sanctions regimes containing asset-freezes, namely offences of:

  • dealing with funds or economic resources knowing, or with reasonable cause for suspicion, that they are owned, held or controlled by a designated person.[2]

This offence applies to funds or economic resources in which the designated person has a legal or equitable interest, whether solely or jointly with any other person, and to tangible property or bearer security in the person’s possession.

For these purposes, “dealing” with funds is construed widely to mean using, altering, moving, transferring or allowing access to the funds, dealing with them in any other way that would result in any change in volume, amount, location, ownership, possession, character or destination, or making any other change, including portfolio management that would enable use of the funds, “Dealing” with economic resources means exchanging for funds, goods or services or to use the economic resources in exchange for funds, goods or services, whether by pledging them for security or otherwise.

  • knowingly, or with reasonable cause for suspicion, directly or indirectly making funds or economic resources available to (or for the benefit of) a designated person.[3]

The offence of making resources available to a designated person requires knowledge or cause for suspicion that the designated person would be likely to exchange or use the economic resources for funds, goods or services.

Funds are available to a designated person’s benefit if the designated person thereby obtains, or is potentially able to obtain, a “significant financial benefit”, including the discharge of a financial obligation, as a result of the availability of the funds.

Economic resources are available to a designated person’s benefit if the designated person thereby obtains, or is potentially able to obtain, a “significant financial benefit”, including the discharge of a financial obligation, from the availability of the economic resource.

Owned, held or controlled?

The Offences extend to funds and economic resources that are “owned, held or controlled” by a designated person either “directly or indirectly”.[4]

A legal entity (e.g., a company) is under such ownership or control if the designated person owns or holds, directly or indirectly, (i) more than 50% of its shares, (ii) more than 50% of the voting rights in it, or (iii) the right to appoint or remove a majority of its board of directors.[5] Schedule 1 to the Regulations sets out detailed rules for interpreting this provision.

Alternately, if “having regard to all the circumstances” a person otherwise has de facto control of a legal entity, it is deemed to be owned, held or controlled by them.[6]

Circumvention, enablement and facilitation offences

The Regulations also include “anti-circumvention” provisions, which are common in sanctions regimes. It is an offence to intentionally participate in activities knowing that the object or effect, whether directly or indirectly, is to circumvent the prohibitions which are the subject of the Offences.[7] It is also an offence to intentionally participate in activities knowing that the object or effect, whether directly or indirectly, is to enable or facilitate contravention of the prohibitions which are the subject of the Offences.[8]

Exceptions

Regulation 18 sets out a list of exceptions from the prohibitions, which, for example, enable financial institutions to credit a frozen account with interest or other earnings.

Regulation 19 includes exceptions for certain agents acting on behalf of the Crown to take actions for the purposes or national security or the prevention of serious crime.

Licences

Under Regulation 20, the UK Treasury may issue general or specific licenses that exempt acts covered by the Offences at Regulations 11 to 15.

The Treasury may issue a licence where it deems it appropriate for one of the listed purposes,[9] which include providing basic needs; paying legal fees; maintaining assets; satisfying pre-existing judicial or arbitral decisions; satisfying prior obligations; enabling the functioning of a diplomatic mission; enabling humanitarian assistance; or dealing with “an extraordinary situation”.[10]

Provision is also made for local licensing in relation to Guernsey, Jersey, the Isle of Man and the British Overseas Territories.[11]

Application

Liability for the Offences under the Regulations may arise as a result of conduct (i) by any person in the UK,[12] or (ii) by a UK national or legal entity wholly or partly outside the UK.[13]

The Regulations apply to any “United Kingdom person”,[14] which includes citizens of Guernsey, Jersey, the Isle of Man and the British Overseas Territories, as well as nationals falling within historic categories of British nationality such as British National (Overseas) citizens from Hong Kong.[15]

Reporting obligations

The Regulations also set out strict reporting obligations for certain entities in the financial and other re, and carry potential criminal liability for non-compliance.

Under Regulation 25, “relevant firms”, which includes certain financial institutions, law firms, accountants, auditors and estate agents (amongst others) are required to notify the Treasury if, in the course of carrying on business, they know, or have reasonable cause to suspect, that a person is a designated person or that any person has committed one of the above offences.[16] Certain relevant details must also be provided.[17]

A relevant institution, namely a person that has permission under Part 4A of the Financial Services and Markets Act 2000, must inform the Treasury without delay if it (a) credits a frozen account in accordance with regulation 18(4) (finance: exceptions from prohibitions), or (b) transfers funds from a frozen account in accordance with Regulation 18(6).

Persons that fail to comply with these requirements commit an offence.[18]

Simultaneously with the promulgation of the Regulations, the Office of Financial Sanctions Implementation, which is part of HM Treasury and the UK’s primary sanctions authority, published a Financial Sanctions Notice (the “Notice”), which sets out details of the 49 individuals and organisations subject to asset freezes, and directs parties (in practice, those subject to information and records obligations under Part 6 of the Regulations) to:

  1. check whether they maintain any accounts or hold any funds or economic resources for the persons set out in the Notice;
  2. freeze such accounts, and other funds or economic resources and any funds which are owned or controlled by persons set out in the Notice;
  3. refrain from dealing with the funds or assets or making them available (directly or indirectly) to such persons unless licensed by OFSI;
  4. report any findings to OFSI, together with any additional information that would facilitate compliance with the Regulations; and
  5. provide any information concerning the frozen assets of designated persons that OFSI may request. Information reported to OFSI may be passed on to other regulatory authorities or law enforcement.

OFSI has also published new General guidance for financial sanctions under SAMLA.

Additional powers for the Treasury

Under Regulation 27, the Treasury is granted powers to request specified documents or documents of a specified description about funds or economic resources owned, held or controlled by or on behalf of the designated person, or any disposal of such funds or economic resources. Regulation 29 makes it an offence for a person to refuse or fail within the time and in the manner specified to comply with a request under Regulation 27.

What is not covered by the Regulations?

The Regulations are limited to sanctions in relation to involvement in violations of the right to life and the prohibitions on torture, slavery and inhuman or degrading treatment or punishment, and not, at this stage, for involvement in other human rights violations. The Government has also chosen at this stage not to impose sanctions in respect of involvement in corruption. However, the Foreign Secretary has indicated that the current regime may be expanded to cover such issues.

Who are the 49 individuals and organisations named?

The new designations apply to:

  • 20 nationals of Saudi Arabia said to be involved in the unlawful killing of journalist, Jamal Khashoggi – 17 of those Saudi nationals are subject to OFAC sanctions pursuant to the U.S. Global Magnitsky and the related Executive Order 13818, an authority separate from the U.S. Magnitsky Act that targets human rights abusers globally. However, the UK has also designated three further Saudi officials in connection with the killing of Khashoggi;
  • 25 Russian nationals said were involved in the mistreatment and death of lawyer Sergei Magnitsky. The individuals are already subject to OFAC sanctions pursuant to the U.S. Magnitsky Act;
  • 2 Myanmar nationals (both high ranking Myanmar military officials, both of whom are already designated under U.S. Global Magnitsky) said to be involved in atrocities and serious human rights violations committed against the Rohingya population in Rakhine state; and
  • 2 North Korean entities said to be involved in human rights violations in the country’s political prison camps, both of which are already subject to OFAC sanctions under the North Korea sanctions program.

What does this mean for the UK?

The Regulations mark a cautious departure for the UK in charting a path towards its own, distinct and independent sanctions policy. It is not the first time the UK has acted before other European countries in the field of sanctions, but it is nonetheless an assertion of intent to project the economic power of the UK internationally to pursue its diplomatic and macro-political agenda. As with asset-freezes generally, the regime effectively outsources its day-to-day heavy lifting to the financial sector, but in a manner that financial sector entities will likely be able to absorb without undue difficulty. If the Regulations can be criticised for their modesty of ambition, focussing as they do on only gross violations of human rights which are matters of global notoriety and (in the main) existing U.S. sanctions, this can perhaps be excused by reference to the Government’s explicit acknowledgment that it is starting cautiously with a view to ensuring that the regime is working before expanding it. The intention to expand is clear from the Government’s rhetoric, with likely future targets including officials who have participated in kleptocratic regimes, suppression of press freedoms and corruption.

The Regulations have been welcomed, including by U.S. Secretary of State Pompeo, as a further step towards the cross-border enforcement of international human rights standards, and the accountability on the international stage of those responsible for gross human rights abuses (although it should also be noted that Russia has indicated an intention to introduce countermeasures in response to the Regulations).

This development is another step forward in advancing cross-border enforcement of international human rights standards, with the UK Government harnessing the power of corporate sanctions compliance programs to exclude undesirable persons from taking advantage of the UK economy. The Regulations are also reflective of a broader trend, which sees growing expectations of, and interconnectedness between, the work of a corporation’s financial crime, onboarding, compliance, risk and due diligence teams on matters related to human rights. In addition to financial crime regulation, mandatory non-financial reporting and due diligence requirements in fields such as modern slavery, human trafficking, conflict minerals, biodiversity, environmental standards, and climate change are becoming increasing commonplace across Europe. With new European-wide legislation anticipated in 2021 which will require mandatory corporate human rights due diligence, these synergies are only set to increase.

Ultimately, however, the acid test of the UK’s commitment to establishing its own unique sanctions ‘identity’ will be its zeal in enforcing this and other new regimes. Promulgating legislation and designating targets is the easy part of sanctions regulation; effective enforcement is much more challenging. The UK has the enforcement tools and institutions to do the job. The future will tell whether commitment will be met with action.

______________________

   [1]   SAMLA, section 1(1), (2).

   [2]   Regulation 11, in conjunction with Regulation 32.

   [3]   Regulations 12 to 15, in conjunction with Regulation 32.

   [4]   Reg. 11(7), 12(4), 14(4).

   [5]   Reg. 7(1).

   [6]   Reg. 7(2).

   [7]   Reg. 16(1)(a), (2).

   [8]   Reg. 16(1)(b), (2).

   [9]   Reg. 20(3).

[10]   Sch. 2.

[11]   Reg. 21.

[12]   Reg. 3(7).

[13]   Reg. 3(1), (4), (5).

[14]   Reg. 3

[15]   Reg. 2; Act s. 22.

[16]   Reg. 25(1).

[17]   Reg. 25(2), (4).

[18]   Reg. 25(6).


The following Gibson Dunn lawyers assisted in preparing this client update: Patrick Doris, Susy Bullock, Steve Melrose, Matt Aleksic, Judith Alison Lee, Adam M. Smith, and R.L. Pratt.

Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding the above developments.  Please contact the Gibson Dunn lawyer with whom you usually work, the authors, or any of the following leaders and members of the firm’s International Trade practice group:

Europe: Peter Alexiadis – Brussels (+32 2 554 72 00, palexiadis@gibsondunn.com) Attila Borsos – Brussels (+32 2 554 72 10, aborsos@gibsondunn.com) Nicolas Autet – Paris (+33 1 56 43 13 00, nautet@gibsondunn.com) Susy Bullock – London (+44 (0)20 7071 4283, sbullock@gibsondunn.com) Patrick Doris – London (+44 (0)207 071 4276, pdoris@gibsondunn.com) Sacha Harber-Kelly – London (+44 20 7071 4205, sharber-kelly@gibsondunn.com) Penny Madden – London (+44 (0)20 7071 4226, pmadden@gibsondunn.com) Steve Melrose – London (+44 (0)20 7071 4219, smelrose@gibsondunn.com) Matt Aleksic - London (+44 (0)20 7071 4042, maleksic@gibsondunn.com) Benno Schwarz – Munich (+49 89 189 33 110, bschwarz@gibsondunn.com) Michael Walther – Munich (+49 89 189 33-180, mwalther@gibsondunn.com) Richard W. Roeder – Munich (+49 89 189 33-160, rroeder@gibsondunn.com)

United States: Judith Alison Lee – Co-Chair, International Trade Practice, Washington, D.C. (+1 202-887-3591, jalee@gibsondunn.com) Ronald Kirk – Co-Chair, International Trade Practice, Dallas (+1 214-698-3295, rkirk@gibsondunn.com) Jose W. Fernandez – New York (+1 212-351-2376, jfernandez@gibsondunn.com) Marcellus A. McRae – Los Angeles (+1 213-229-7675, mmcrae@gibsondunn.com) Adam M. Smith – Washington, D.C. (+1 202-887-3547, asmith@gibsondunn.com) Stephanie L. Connor – Washington, D.C. (+1 202-955-8586, sconnor@gibsondunn.com) Christopher T. Timura – Washington, D.C. (+1 202-887-3690, ctimura@gibsondunn.com) Ben K. Belair – Washington, D.C. (+1 202-887-3743, bbelair@gibsondunn.com) Courtney M. Brown – Washington, D.C. (+1 202-955-8685, cmbrown@gibsondunn.com) Laura R. Cole – Washington, D.C. (+1 202-887-3787, lcole@gibsondunn.com) R.L. Pratt – Washington, D.C. (+1 202-887-3785, rpratt@gibsondunn.com) Samantha Sewall – Washington, D.C. (+1 202-887-3509, ssewall@gibsondunn.com) Audi K. Syarief – Washington, D.C. (+1 202-955-8266, asyarief@gibsondunn.com) Scott R. Toussaint – Washington, D.C. (+1 202-887-3588, stoussaint@gibsondunn.com) Shuo (Josh) Zhang – Washington, D.C. (+1 202-955-8270, szhang@gibsondunn.com)

© 2020 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

June 24, 2020 |
European Commission Imposes Countervailing Duties on Imports from Egypt for Subsidies Provided by China

Click for PDF On 15 June 2020, the European Commission (the Commission) published Implementing Regulation 2020/776, which imposes definitive countervailing duties on imports of certain woven and/or stitched glass fibre fabrics originating in China and Egypt (the Regulation).[1] The Regulation was adopted two days before the publication of the Commission’s White Paper on tackling foreign subsidies, and appears to form part of a broader move to level the playing field with China. While a few years ago the Commission considered that imports from China cannot be subject to an anti-subsidy investigation because China was considered as a non-market economy, in recent years the Commission has conducted a number of anti-subsidy investigations concerning imports from China. The new countervailing duties against imports from Egypt extend the boundaries of the EU anti-subsidy regime, as this is the first time that the Commission has imposed countervailing duties on imports not only from the country that provided the subsidy (China), but also on imports from another country where the subsidies in question were put in place (Egypt).

Subsidies countervailed by the Regulation

In addition to countervailing subsidies that the Chinese Government granted to Chinese exporting producers and subsidies that the Egyptian Government granted to exporting producers located in Egypt, the Regulation also countervails subsidies provided by the Chinese Government to exporting producers located in Egypt. More specifically, the Regulation concerns the following types of subsidies:
  1. Subsidies of various forms (e.g., preferential financing) provided by the Chinese public authorities to Chinese exporters (e.g., companies belonging to the China National Building Materials Group);
  2. Subsidies granted directly by Egypt to companies carrying out activities in the China-Egypt Economic and Trade Cooperation zone (the SETC-Zone), located in Egypt,[2] in the form of supply of land and tax incentives; and
  3. Subsidies granted by Chinese public authorities in the form of preferential financing to the companies carrying out activities in the SETC-Zone.
The two main companies concerned by the Commission’s investigation, Jushi Egypt and Hengshi Egypt, are producers of Glass Fibre Fabrics (GFF), a light-weight construction material used in the production of various products such as medical devices, vehicle body panels and boats. They both have corporate links to Chinese mother companies, which are ultimately owned by the State-owned Assets Supervision and Administration Commission of the State Council (SASAC).

Attributing Chinese subsidies to Egypt

During the Commission’s anti-subsidy investigation, China took the position that the Commission could not legally investigate Chinese involvement in the financing of companies operating in the SETC-Zone, because the alleged financial contributions by Chinese authorities to the companies operating in Egypt did not fall under the definition of ‘subsidy’ pursuant to Article 1.1.(a) of the WTO Agreement on Subsidies and Countervailing Measures (the SCM Agreement).[3] The SCM Agreement provides that a subsidy exists only where there is a financial contribution by a government or a public body within the territory of the WTO member. According to Article 3.1.(a) of Regulation 2016/1037 on protection against subsidised imports from countries not members of the European Union (the Basic Regulation)[4] (which is the direct legal basis for the Commission to conduct anti-subsidy investigations and adopt countervailing duties), a subsidy exists if there is a financial contribution by the government in the country of origin or the country of export of the product concerned. While the Commission acknowledged that only subsidies granted by the government of the exporting country can be subject to countervailing duties, a position that it consistently held in the past,[5] it considered that the notion of contribution “by the government” should include not only measures that are directly emanating from the government of Egypt but also measures which can be attributed to that government. In order to attribute to the Egyptian Government the subsidies granted by the Chinese authorities to exporting producers in Egypt, the Commission relied on principles of public and customary international law, giving an expansive interpretation to both the SCM Agreement and the Basic Regulation, as well as to its own powers regarding the type of subsidies that it can investigate. The Commission argued that according to Article 3.2 of the Dispute Settlement Understanding (DSU)[6] and Article 31.3.(c) of the Vienna Convention on the Law of Treaties (VCLT)[7] “[a]ny relevant rules of international law applicable in the relations between the parties” must be taken into account in the assessment of the context of the terms of a treaty. This includes the rules on State responsibility which are part of customary international law and have been codified by the International Law Commission (the ILC Articles).[8] These rules provide guidance on when certain acts or omissions can be attributable to a State, even if those acts or omissions do not emanate from that State directly. Article 11 of the ILC Articles provides that even if a conduct is not attributable to a State per se, it can nevertheless be considered an act of that State if the State acknowledges and adopts the conduct as its own. To determine whether the Egyptian Government had acknowledged and adopted the conduct of the Chinese Government as its own, the Commission focused its analysis on the links of cooperation between the two countries. In particular, the Commission held that the Egyptian authorities had publically acknowledged that the Chinese financing of the SETC-Zone was to play a significant role in Egypt’s industry upgrade. Furthermore, the authorities were clearly aware that the Chinese ‘One Belt and One Road’ initiative involved State financing through different financial instruments. By jointly setting up the SETC-Zone, the Egyptian authorities clearly acknowledged and adopted the financing as their own conduct. In addition, the Commission held that Egypt explicitly accepted that China may apply its laws with respect to operators in the SETC-Zone and it can designate the zone as an “overseas investment area” for the purposes of its ‘One Belt and One Road’ initiative. Egypt has also expressed full endorsement of the preferential financing benefiting its GFF producers in the zone. For the above reasons, the Commission held that the preferential public financing from Chinese public bodies to the GFF producers Jushi and Hengshi Egypt was attributable to the government of Egypt as the government of the country of origin/export under Article 3.1.(a) of the Basic Regulation.

What this means for future EU anti-subsidy investigations

While the Commission’s decision to extend the application of countervailing duties to imports from Egypt against subsidies granted by China is based on the specific circumstances of this particular investigation, it clearly demonstrates the Commission’s willingness to broaden the scope of its existing toolbox when it comes to tackling the effects of Chinese subsidies in the European economy. China and Egypt as well as the Egyptian exporting producers will no doubt contest the validity of the Regulation both before the EU General Court (on the basis that it infringes the Basic Regulation) and before the WTO (because of the interpretation that it gives to the SCM Agreement). This is, however, unlikely to be the last regulation by which the Commission imposes countervailing duties on non-Chinese imports because they have benefitted from Chinese subsidies. Indeed, the SETC-Zone is far from being unique and forms part of a larger Chinese initiative. Producers exporting to the EU and located in similar economic and trade cooperation zones may need to reassess their EU export strategy. _____________________________         [1]    Implementing Regulation 2020/776 imposing definitive countervailing duties on imports of certain woven and/or stitched glass fibre fabrics originating in the Chinese mainland and Egypt, OJ L 189, 15.6.2020, p. 1–  170 . The Regulation was adopted on the basis of and amended Implementing Regulation 2020/492 imposing   definitive anti-dumping duties on such imports.         [2]   This cooperation concerns the pooling of resources between the two Countries in order to benefit their industries. This project is part of the Chinese ‘One Road One Belt’ initiative, a global development strategy adopted by the Chinese government in 2013. The initiative involves infrastructure development in nearly 70 countries. Companies ‘going abroad’ can receive various forms of preferential financing such as fiscal and    tax support, project financing, concessional loans, export credits and support through syndicated loans.         [3]    Agreement on Subsidies and Countervailing Measures, Apr. 15, 1994, Marrakesh Agreement Establishing the World Trade Organization, Annex 1A, 1869 U.N.T.S. 14.         [4]    OJ L 176, 30.6.2016, p. 55–91.         [5]    Commission Implementing Regulation (EU) 2017/969 of 8 June 2017 imposing definitive countervailing duties on imports of certain hot-rolled flat products of iron, non-alloy or other alloy steel originating in the People's Republic of China and amending Commission Implementing Regulation (EU) 2017/649 imposing a definitive anti-dumping duty on imports of certain hot-rolled flat products of iron, non-alloy or other alloy steel originating in the People's Republic of China (OJ L 146, 9.6.2017, p. 17) (the HRF case).         [6]    Dispute Settlement Rules: Understanding on Rules and Procedures Governing the Settlement of Disputes, Marrakesh Agreement Establishing the World Trade Organization, Annex 2, 1869 U.N.T.S. 401, 33 I.L.M. 1226 (1994).         [7]    Vienna Convention on the Law of Treaties, 23 May 1969, United Nations.         [8]    International Law Commission, Draft Articles on Responsibility of States for Internationally Wrongful Acts, November 2001, Supplement No. 10 (A/56/10), chp.IV.E.1.
Gibson Dunn’s lawyers are available to assist with any questions you may have regarding these developments. For additional information, please contact the Gibson Dunn lawyer with whom you usually work, any member of the firm’s International Trade Practice Group, or the following authors: Attila Borsos - Brussels (+32 2 554 72 11, aborsos@gibsondunn.com) Vasiliki Dolka - Brussels (+32 2 554 72 01, vdolka@gibsondunn.com) International Trade Group: Europe: Peter Alexiadis - Brussels (+32 2 554 72 00, palexiadis@gibsondunn.com) Nicolas Autet - Paris (+33 1 56 43 13 00, nautet@gibsondunn.com) Attila Borsos - Brussels (+32 2 554 72 10, aborsos@gibsondunn.com) Patrick Doris - London (+44 (0)207 071 4276, pdoris@gibsondunn.com) Sacha Harber-Kelly - London (+44 20 7071 4205, sharber-kelly@gibsondunn.com) Penny Madden - London (+44 (0)20 7071 4226, pmadden@gibsondunn.com) Steve Melrose - London (+44 (0)20 7071 4219, smelrose@gibsondunn.com) Benno Schwarz - Munich (+49 89 189 33 110, bschwarz@gibsondunn.com) Michael Walther - Munich (+49 89 189 33-180, mwalther@gibsondunn.com) Richard W. Roeder - Munich (+49 89 189 33-160, rroeder@gibsondunn.com) United States: Judith Alison Lee - Co-Chair, International Trade Practice, Washington, D.C. (+1 202-887-3591, jalee@gibsondunn.com) Ronald Kirk - Co-Chair, International Trade Practice, Dallas (+1 214-698-3295, rkirk@gibsondunn.com) Jose W. Fernandez - New York (+1 212-351-2376, jfernandez@gibsondunn.com) Marcellus A. McRae - Los Angeles (+1 213-229-7675, mmcrae@gibsondunn.com) Adam M. Smith - Washington, D.C. (+1 202-887-3547, asmith@gibsondunn.com) Stephanie L. Connor - Washington, D.C. (+1 202-955-8586, sconnor@gibsondunn.com) Christopher T. Timura - Washington, D.C. (+1 202-887-3690, ctimura@gibsondunn.com) Ben K. Belair - Washington, D.C. (+1 202-887-3743, bbelair@gibsondunn.com) Courtney M. Brown - Washington, D.C. (+1 202-955-8685, cmbrown@gibsondunn.com) Laura R. Cole - Washington, D.C. (+1 202-887-3787, lcole@gibsondunn.com) R.L. Pratt - Washington, D.C. (+1 202-887-3785, rpratt@gibsondunn.com) Samantha Sewall - Washington, D.C. (+1 202-887-3509, ssewall@gibsondunn.com) Audi K. Syarief - Washington, D.C. (+1 202-955-8266, asyarief@gibsondunn.com) Scott R. Toussaint - Washington, D.C. (+1 202-887-3588, stoussaint@gibsondunn.com) Shuo (Josh) Zhang - Washington, D.C. (+1 202-955-8270, szhang@gibsondunn.com) © 2020 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

May 21, 2020 |
Trump Administration Increases Pressure on Huawei with New Export Controls That Will Limit Its Access to Semiconductors Produced with U.S. Software and Technology

Click for PDF On May 15, 2020, the United States Department of Commerce, Bureau of Industry and Security (“BIS”) announced a new rule to further restrict Huawei’s access to U.S. technology. The rule amends the “Direct Product Rule” and the BIS Entity List to restrict Huawei’s ability to share its semiconductor designs or rely on foreign foundries to manufacture semiconductors using U.S. software and technology. In 2019, BIS designated Huawei and 114 of its affiliates to the Entity List, which effectively cut off Huawei’s access to exports of U.S.-origin products and technology. BIS has claimed that Huawei has responded to the designations by moving more of its supply chain outside the United States. Huawei and many of the foreign chip manufacturers that Huawei uses, however, still depend on U.S. equipment, software, and technology to design and produce Huawei chipsets. The rule announced last week has been long anticipated both in the U.S. and China, and comes after a period of interagency back-and-forth regarding the precise scope of the rule. In response to the news of a pending change, Chinese antitrust regulators warned U.S. semiconductor companies last month to expect unspecified retaliation by China if the rule went into effect. In response to last week’s announcement, the Chinese Ministry of Commerce said it will take all necessary measures to safeguard Chinese firms’ rights and interests. Reports in the Chinese media have suggested the Chinese government will put U.S. companies on an Unreliable Entity List, but exactly what Chinese response there will be is not yet clear. BIS’s action expands one of the bases on which the U.S. can claim jurisdiction over items produced outside of the United States. Generally, under the Export Administration Regulations (EAR), the U.S. claims jurisdiction over items that (1) are U.S. origin; (2) foreign-made items that are being exported from the U.S., (3) foreign-made items that incorporate more than a minimal amount of controlled U.S.-origin content, and (4) foreign-made “direct products” of certain controlled U.S.-origin software and technology. Under the fourth basis of jurisdiction, also known as the Direct Product Rule, foreign-made items are subject to EAR controls if they are the direct product of certain U.S.-origin technology or software or are the direct product of a plant or major component of a plant located outside the U.S., where the plant or major component of a plant itself is a direct product of certain U.S.-origin software and technology. Items that are subject to EAR controls may require BIS licensing depending on the export classification of the item and its destination, the end use to which the item is being put, and the end user receiving it. Depending on the licensing policy BIS applies to particular exports, BIS can effect an embargo on the export of items subject to the EAR to particular countries, end uses, and end users. BIS’s new rule allows for the application of a tailored version of the Direct Product Rule to parties identified on its Entity List, with a bespoke list of controlled software and technology commonly used by foreign manufacturers to design and manufacture telecommunications and other kinds of integrated circuits for Huawei. The rule imposes a control on foreign-produced items that are a direct product of an expanded subset of specific technology or software described by certain specified Export Control Classification Numbers (“ECCNs”) and foreign-produced items that are the direct product of a plant or major component of a plant located outside the U.S. where the plant or major component is a direct product of the same expanded subset of U.S.-origin technology or software. Specifically, the rule will make the following non-U.S.-origin items subject to the restrictions of U.S. export controls:

  • Items, such as chip designs, that Huawei and its affiliates on the Entity List produce by using certain software or technology that is subject to the EAR; and[1]
  • Items, such as chipsets made by manufacturers from Huawei-provided design specifications, if those manufacturers are using semiconductor manufacturing equipment that itself is a direct product of certain software or technology subject to the EAR.
Combined with Huawei’s Entity List designation, this new rule will significantly restrict Huawei’s ability to export its semiconductor designs as well as to receive semiconductors from its foreign manufacturers. It will also curtail the ability of Huawei to receive semiconductors from the non-U.S. subsidiaries of U.S. companies that may have previously been eligible for export to Huawei without a license because they were produced from software and technology that would not have triggered export licensing through the normal operation of the Direct Product Rule. Taken together, these changes mean that BIS can now block the sale of many semiconductors manufactured by a number of non-U.S.-based manufacturers that Huawei uses across its telecom equipment and smartphone business lines. (See the chart below for a description of the Huawei-related transactions now subject to BIS review.) The new rule grandfathers certain semiconductor production already occurring. Where production had already begun by May 15, 2020 on foreign-produced items based on Huawei design specifications in foreign factories utilizing U.S. semiconductor manufacturing equipment, these product will not be subject to the new licensing requirements if they are exported, reexported, or transferred by 120 days from the effective date. BIS is accepting comments to the interim final rule for 30 days, companies impacted by the new rule should consider providing comments to BIS. Gibson Dunn has extensive experience helping companies in this area, and can assist in drafting comments. ____________________ [1]   Interestingly, the new rule appears to restrict only the transfer of these items between Huawei entities. This appears to be inconsistent with the description of the restriction offered in the interim final rule and the Department of Commerce press release announcing the change, both of which suggest that the restriction is broader—limiting the provision of covered items to any person. The broader formulation of the rule would effectively prohibit Huawei from providing its semiconductor designs to any foundries—not just those that it owns, such as HiSilicon.
The following Gibson Dunn lawyers assisted in preparing this client update: Judith Alison Lee, Chris Timura, R.L. Pratt and Allison Lewis. Gibson Dunn's lawyers are available to assist in addressing any questions you may have regarding the above developments.  Please contact the Gibson Dunn lawyer with whom you usually work, the authors, or any of the following leaders and members of the firm's International Trade practice group: United States: Judith Alison Lee - Co-Chair, International Trade Practice, Washington, D.C. (+1 202-887-3591, jalee@gibsondunn.com) Ronald Kirk - Co-Chair, International Trade Practice, Dallas (+1 214-698-3295, rkirk@gibsondunn.com) Jose W. Fernandez - New York (+1 212-351-2376, jfernandez@gibsondunn.com) Marcellus A. McRae - Los Angeles (+1 213-229-7675, mmcrae@gibsondunn.com) Adam M. Smith - Washington, D.C. (+1 202-887-3547, asmith@gibsondunn.com) Stephanie L. Connor - Washington, D.C. (+1 202-955-8586, sconnor@gibsondunn.com) Christopher T. Timura - Washington, D.C. (+1 202-887-3690, ctimura@gibsondunn.com) Ben K. Belair - Washington, D.C. (+1 202-887-3743, bbelair@gibsondunn.com) Courtney M. Brown - Washington, D.C. (+1 202-955-8685, cmbrown@gibsondunn.com) Laura R. Cole - Washington, D.C. (+1 202-887-3787, lcole@gibsondunn.com) R.L. Pratt - Washington, D.C. (+1 202-887-3785, rpratt@gibsondunn.com) Samantha Sewall - Washington, D.C. (+1 202-887-3509, ssewall@gibsondunn.com) Audi K. Syarief - Washington, D.C. (+1 202-955-8266, asyarief@gibsondunn.com) Scott R. Toussaint - Washington, D.C. (+1 202-887-3588, stoussaint@gibsondunn.com) Shuo (Josh) Zhang - Washington, D.C. (+1 202-955-8270, szhang@gibsondunn.com) Europe: Peter Alexiadis - Brussels (+32 2 554 72 00, palexiadis@gibsondunn.com) Nicolas Autet - Paris (+33 1 56 43 13 00, nautet@gibsondunn.com) Attila Borsos - Brussels (+32 2 554 72 10, aborsos@gibsondunn.com) Patrick Doris - London (+44 (0)207 071 4276, pdoris@gibsondunn.com) Sacha Harber-Kelly - London (+44 20 7071 4205, sharber-kelly@gibsondunn.com) Penny Madden - London (+44 (0)20 7071 4226, pmadden@gibsondunn.com) Steve Melrose - London (+44 (0)20 7071 4219, smelrose@gibsondunn.com) Benno Schwarz - Munich (+49 89 189 33 110, bschwarz@gibsondunn.com) Michael Walther - Munich (+49 89 189 33-180, mwalther@gibsondunn.com) Richard W. Roeder - Munich (+49 89 189 33-160, rroeder@gibsondunn.com) © 2020 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

May 4, 2020 |
U.S. Moves to Tighten Export Controls on China and other Jurisdictions with Policies of Civil-Military Fusion

Click for PDF The U.S. Department of Commerce, Bureau of Industry and Security (“BIS”) is moving forward with long-anticipated efforts to further restrict trade in a large number of sensitive technologies. Though the rules ostensibly apply to a number of countries, they are particularly focused on China and, as such, will have a significant impact on global supply chains that link the United States and China for years to come. While aspects of the new rules reflect the United States’ longstanding restrictions on exports in support of the Chinese military, they also advance several more recent Trump Administration national security and foreign policy priorities. With broad Congressional support, the Trump Administration has significantly expanded restrictions on all facets of trade with China over the last several years. Using a wide array of tools, the U.S. Government has (1) increased its scrutiny of Chinese investment in the United States and associated technology transfers to China under the Committee on Foreign Investment in the United States’ (“CFIUS”) review process, (2) discouraged the import of Chinese goods through the imposition of new tariffs, (3) prohibited U.S. Government procurement of telecommunications and security technology from several major Chinese companies, and (4) engaged in efforts to dissuade U.S. allies from partnering with Huawei and other Chinese telecommunications providers in the development and deployment of 5G networks. The Departments of Justice and Commerce have also brought sweeping enforcement actions against some of China’s most significant companies, which combine criminal and civil enforcement with potent export controls, such as the BIS’s sweeping export restrictions on Huawei and many of its affiliates. BIS’s actions this past week further expand U.S. export controls in an effort to address the U.S. government's increasing concerns regarding overlap between China’s economic and military programs. Expanding Restrictions on Exports for Military End Uses or to Military End Users BIS’s announced rule changes are only the latest steps in a series of moves set in motion by the enactment of the Export Controls Reform Act of 2018 (“ECRA”). Through ECRA, Congress expressed concern about the strength of U.S. trade controls concerning China, and required an interagency review of the U.S. arms embargo and controls on exports of dual use items for military end uses and end users. The regulatory changes stemming from this review were due to be released in May 2019, but were likely delayed as BIS officials juggled other ECRA and Administration priorities, including the identification of new controls on emerging and foundational technologies and weighing how new rules focused on military end users would impact the broader U.S.-China trade dispute and the Trump administration’s on-again-off-again trade negotiations with China. The United States has had a decades-long embargo in place on the export of military items to China. The United States last expanded these restrictions in 2007 to prohibit the export to China of certain dual-use items—items with both civil and military applications—that are intended for a “military end use.” In the most substantial change announced this past week, BIS is imposing strict new licensing requirements, effective June 29, 2020, on the export of an expanded list of dual-use items when those items are exported for military end uses or end users in China, Russia, and Venezuela. Specifically, the new rule strengthens the controls on exports to these jurisdictions by:

  • Expanding the definition of “military end uses” for which exports must be authorized;
  • Adding a new license requirement for exports to Chinese “military end users”;
  • Expanding the list of products to which these license requirements apply; and
  • Broadening the reporting requirement for exports to China, Russia, and Venezuela.
Expanding Military End Uses Subject to Control Exporters of certain goods, software, or technology that are subject to the Export Administration Regulations (“EAR”)[1] currently require a license from BIS to provide those items to China, Russia, or Venezuela if the exporters know or have reason to know that the items are intended, entirely or in part, for a “military end use” in those countries. Under this license requirement, “military end use” is defined to include the “use,” “development,” or “production” of certain military items. An export is considered to be for the “use” of a military item if the export is for the operation, installation, maintenance, repair, overhaul and refurbishing of the military item. The exported item must perform all six functions in order to be considered a “use” item subject to the military end use restriction. The new rule expands the definition of “military end use” in two important ways. Where the current formulation only captures items exported for the purpose of using, developing, or producing military items, the revised rule also captures items that merely “support or contribute to” those functions. The revised rule also effectively broadens the definition of “use.” Rather than requiring that an item perform all six previously listed functions, an item that supports or contributes to any one of those functions will now be subject to the military end use license requirement. For example, a repair part for a military item that might not have required a license under the previous formulation (perhaps because it was not also required for the military item’s installation) would be subject to the updated license requirement. Restricting Exports to Chinese Military End Users Under the current regulations, exports to military end users in Russia and Venezuela are subject to a specific license requirement. The revised rule will also require licenses for exports of covered items to Chinese military end users. Military end users covered by this license requirement not only include national armed services, police, and intelligence services, but also include “any person or entity whose actions or functions are intended to support ‘military end uses.’” Taken together with the newly broadened definition of “military end uses,” this restriction could apply to a significant number of private entities in China, even those that are engaged largely in civilian activities. For example, a manufacturing company that has a single, unrelated contract with a military entity could be considered a “military end user” subject to these strict licensing requirements. Given that applications for BIS licenses to export covered items for military end uses or end users face a presumption of denial, this restriction could have a significant impact on large swaths of the Chinese economy, where the U.S. government has indicated its concerns about military-civilian collaboration in Chinese industry. Expanding the List of Covered Items The updated rule also expands the category of goods, software, or technology that require a license for military end use or end user exports. The current license requirement applies to a relatively limited set of items specifically described in a supplement to the rule. The revised rule will expand the scope of the item categories already listed and add many new categories of covered items—including goods, technology, and software relating to materials processing, electronics, telecommunications, information security, sensors and lasers, and propulsion. Many of the new items are currently subject to some of the EAR’s most permissive controls and, at this time, do not generally require a license for export to China, Russia, or Venezuela. For example, mass market encryption items—a category which includes many types of software that incorporate or call on common encryption functionality—are not currently subject to the military end use restrictions but will be added pursuant to this week’s revision. Broadening the Reporting Requirement BIS will also be requiring exporters to report more often and to provide more data on items provided to China, Russia, or Venezuela. Under the current rules, exporters are not required to provide Electronic Export Information (“EEI”) for shipments valued under $2,500. Exporters also are not required to provide the Export Control Classification Number (“ECCN”) for shipments of items that are only controlled for export because of antiterrorism concerns—the most permissive and most frequently applied category of control on the EAR’s list of items controlled for export. Under the new rules, there will be no value threshold. EEI will generally be required for all shipments to China, Russia, or Venezuela, regardless of value. Moreover, exporters will be required to provide the ECCNs for all items exported to China, Russia, or Venezuela, regardless of the reason for control. In announcing this change, Commerce Secretary Wilbur Ross noted that “[c]ertain entities in China, Russia, and Venezuela have sought to circumvent America’s export controls, and undermine American interests in general.” Secretary Ross vowed that the United States would “remain vigilant to ensure U.S. technology does not get into the wrong hands.” This amendment to the EEI reporting requirements is designed to ensure that BIS and other U.S. Government trade enforcement agencies have increased visibility into shipments to jurisdictions of significant concern. Removing the License Exception for Civilian End Uses BIS also announced that it will remove License Exception Civil End Users (“CIV”) from Part 740 of the EAR. This exception currently allows eligible items controlled only for National Security (NS) reasons to be exported or reexported without a license for civil end users and civil end uses in countries included in Country Group D:1, excluding North Korea. NS controls are BIS’s second most frequently applied type of control, applying to a wide range of items listed in all categories of the Commerce Control List (“CCL”). Country Group D:1 identifies countries of national security concern for which the Commerce Department will review proposed exports for potential contribution to the destination country’s military capability. D:1 countries include China, Russia, Ukraine, and Venezuela, among others. By removing License Exception CIV, the Commerce Department will now require a license for the export of items subject to the EAR and controlled for NS reasons to D:1 countries. As with the expansion of the military end use/end user license requirements described above, the Commerce Department has stated that the reason for the removal of License Exception CIV is the increasing integration of civilian and military technological development pursued by countries identified in Country Group D:1, making it difficult for exporters or the U.S. government to be sufficiently assured that U.S.-origin items exported for apparent civil end uses will not actually also be used to enhance the military capacity contrary to U.S. national security interests. Proposing the Expansion of License Requirements for Reexports The third change is a proposed amendment to the EAR’s License Exception Additional Permissive Reexports (“APR”). License Exception APR currently allows the unlicensed reexport (the export of a U.S.-origin item from one non-U.S. country to another non-U.S. country) of an item subject to the EAR from trusted allies with similar export control regimes (i.e., listed in Country Group A:1, and Hong Kong) to countries presenting national security concerns (i.e., Country Group D:1, except North Korea). To be eligible for the exception, the reexport must also be consistent with the export licensing policy of the reexporting country and the item must be subject to only a subset of other controls (i.e., controlled only for antiterrorism, national security, or regional security reasons), among other limitations. The reexporting countries identified in Country Group A:1 include those countries that are participants with the United States in the Wassenaar Arrangement, a multilateral consortium that develops export controls on conventional weapons and dual-use items and underlies much of the U.S. export control regime. BIS’s proposed amendment would remove this portion of the license exception. The Commerce Department explained that it has proposed this amendment because of concerns regarding variations in how the United States and its international partners, including those in Country Group A:1, perceive the threat caused by the policy of civil-military technological integration pursued by D:1 countries. Due to these disparities, reexports under License Exception APR have occurred that would not have been licensed by BIS if the export had taken place directly from the United States. This proposed rule change echoes recent changes affecting the scope of investment reviews by CFIUS, by which the United States has similarly sought to incentivize foreign allies to harmonize their national security-related measures with those of the United States. In the new CFIUS rules implemented in February and previously described here, the Committee will require “excepted foreign states” to ensure their national security-based foreign investment review process meets requirements established by CFIUS in order to retain their excepted status. How Will the New Rules Impact U.S.-China Trade and Global Supply Chains? The removal of the CIV license exception, the imposition of new controls on military end uses and military end users in China, and the proposed modification of the APR license exception, taken together, will have significant and far-reaching impacts on U.S.-China trade and global supply chains that include many kinds of U.S. origin commodities, software and technology. Upstream Suppliers to Chinese Companies For upstream suppliers to Chinese companies (and their Russian and Venezuelan counterparts), enhanced due diligence to determine whether items to be supplied are destined to military end users or will be put to military end uses will become the norm. Not only will exporters, reexporters, and those transferring items subject to export controls need to better know their proposed customers and how their customers intend to use their products through front-end diligence, if possible military end use and end user concerns are identified, exporters can expect BIS to ask probing follow-up questions regarding customers and end users identified in license applications. The diligence required to monitor for military end use will not end with the sale of many items. Especially for products that are provided with aftermarket service or warranties, companies will need to consider how to train those business personnel with continued contacts with Chinese, Russian and Venezuelan counterparties to monitor for potential diversion to military end use. Moreover, diligence will not necessarily be limited to the supply of items to subject to the EAR to China, Russia and Venezuela. For example, to the extent China-owned companies or joint ventures in Europe or elsewhere place orders for items subject to the EAR, BIS’s new diligence and licensing requirements will apply to those transactions as well. License Application Processing and Delay The removal of License Exception CIV and proposed changes to License Exception APR will also introduce new trade compliance resource burdens on companies that continue to do business with China and delays and uncertainty into supplier transactions and relationships. Companies that have made significant use of CIV in the past will now need to allocate additional labor to the preparation of license applications, and many non-U.S. companies that source items from U.S. suppliers will need to devote resources to learning how to prepare and file re-export and transfer license requests with BIS. Even if BIS has developed a plan to increase the staffing available to process these license applications, the interagency review of license applications can easily introduce months of delay to planned transactions. Especially for companies that have shifted to just-in-time production models, delays of even a few days can scuttle proposed business. Global suppliers may be faced with the hard choice of continuing to source commodities, technology and software from the U.S. for products destined for China and D:1 country markets, or switching out U.S. for non-U.S. content in order to avoid this type of supply chain disruption. Downstream Customers of Chinese Companies At least in the short term, BIS’s rule changes are also likely to have an impact on companies that source products from Chinese suppliers. To the extent the Chinese suppliers might be identified as military end users, or may not provide the kinds of information that will be required to continue receiving items subject to the EAR under a license requirement, these suppliers may lose access to key commodities, software and technology that they require for their own products. Until Chinese suppliers design-out U.S.-origin content or provide their U.S. suppliers with the additional information required to obtain licenses for their supply transactions, their own customers are likely to experience delay and disruption in their receipt of items with U.S.-controlled content. Fragmentation of Non-U.S. Export Control Regimes and Trade Relationships Although BIS’s proposed changes to the APR license exception are still only proposed, the frequent use by the Trump Administration of other trade tools to leverage changes by U.S. trade partners in other areas of trade policy provides a glimpse of the potentially divergent paths that responses to this sort of selective leveraging might take. In essence, the changes to the APR rules will force other Wassenaar Arrangement countries to decide whether to impose more stringent licensing requirements on proposed reexports to China, or impose new transaction costs on their own companies associated with supply transactions that could now require transaction-by-transaction licensing. Depending on the strength (and dependence) of their own trade ties with China or other D:1 countries, these countries may be more or less willing to follow the United States’ lead toward stricter trade controls. Over time, this could lead to greater fragmentation in the international trade system and a realignment of global trade in the sensitive technologies current licensed by APR both toward and away from the United States and China. Especially given the longer-term impacts that APR may have on U.S., EU, UK, and other Wassenaar Arrangement participants’ trade arrangements with the U.S., companies straddling the trade controls regimes of these countries should consider providing comments to BIS’ proposed rule, which are due by June 29, 2020. ___________________ [1]   Including all items located in the United States, all U.S. origin items wherever located, foreign-made items incorporating, bundled with, or comingled with any amount of certain controlled content or more than a minimal amount of other controlled U.S.-origin content, and certain foreign-made items that are direct products of U.S. technology or software.
The following Gibson Dunn lawyers assisted in preparing this client update: Judith Alison Lee, Chris Timura, R.L. Pratt, Samantha Sewall, Laura Cole and Josh Suo Zhang. Gibson Dunn's lawyers are available to assist in addressing any questions you may have regarding the above developments.  Please contact the Gibson Dunn lawyer with whom you usually work, the authors, or any of the following leaders and members of the firm's International Trade practice group: United States: Judith Alison Lee - Co-Chair, International Trade Practice, Washington, D.C. (+1 202-887-3591, jalee@gibsondunn.com) Ronald Kirk - Co-Chair, International Trade Practice, Dallas (+1 214-698-3295, rkirk@gibsondunn.com) Jose W. Fernandez - New York (+1 212-351-2376, jfernandez@gibsondunn.com) Marcellus A. McRae - Los Angeles (+1 213-229-7675, mmcrae@gibsondunn.com) Adam M. Smith - Washington, D.C. (+1 202-887-3547, asmith@gibsondunn.com) Stephanie L. Connor - Washington, D.C. (+1 202-955-8586, sconnor@gibsondunn.com) Christopher T. Timura - Washington, D.C. (+1 202-887-3690, ctimura@gibsondunn.com) Ben K. Belair - Washington, D.C. (+1 202-887-3743, bbelair@gibsondunn.com) Courtney M. Brown - Washington, D.C. (+1 202-955-8685, cmbrown@gibsondunn.com) Laura R. Cole - Washington, D.C. (+1 202-887-3787, lcole@gibsondunn.com) R.L. Pratt - Washington, D.C. (+1 202-887-3785, rpratt@gibsondunn.com) Samantha Sewall - Washington, D.C. (+1 202-887-3509, ssewall@gibsondunn.com) Audi K. Syarief - Washington, D.C. (+1 202-955-8266, asyarief@gibsondunn.com) Scott R. Toussaint - Washington, D.C. (+1 202-887-3588, stoussaint@gibsondunn.com) Shuo (Josh) Zhang - Washington, D.C. (+1 202-955-8270, szhang@gibsondunn.com) Europe: Peter Alexiadis - Brussels (+32 2 554 72 00, palexiadis@gibsondunn.com) Nicolas Autet - Paris (+33 1 56 43 13 00, nautet@gibsondunn.com) Attila Borsos - Brussels (+32 2 554 72 10, aborsos@gibsondunn.com) Patrick Doris - London (+44 (0)207 071 4276, pdoris@gibsondunn.com) Sacha Harber-Kelly - London (+44 20 7071 4205, sharber-kelly@gibsondunn.com) Penny Madden - London (+44 (0)20 7071 4226, pmadden@gibsondunn.com) Steve Melrose - London (+44 (0)20 7071 4219, smelrose@gibsondunn.com) Benno Schwarz - Munich (+49 89 189 33 110, bschwarz@gibsondunn.com) Michael Walther - Munich (+49 89 189 33-180, mwalther@gibsondunn.com) Richard W. Roeder - Munich (+49 89 189 33-160, rroeder@gibsondunn.com) © 2020 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

April 29, 2020 |
Economic and Trade Sanctions Developments in Response to COVID-19

Click for PDF Despite pressure from U.S. and non-U.S. officials to ease sanctions on Iran in response to COVID-19, the U.S. Treasury Department’s Office of Foreign Assets Control (“OFAC”) to date has not made substantial changes to the longstanding legal authorizations for humanitarian trade.  Nonetheless, OFAC has in recent weeks published unprecedented guidance for those who may find themselves facing challenges to comply with OFAC’s reporting requirements in light of the pandemic, acknowledging that some businesses may be forced to reallocate sanctions compliance resources to other functions.  While this is far from the substantial changes called for by some, it nonetheless indicates OFAC’s willingness to respond to the crisis with some measure of understanding for the new realities faced by many businesses affected by the pandemic. Analysis of Recent Economic and Trade Sanctions Developments in Response to COVID-19 The COVID-19 crisis has intensified longstanding controversy over the role of economic and trade sanctions in the context of international humanitarian efforts.  OFAC has in recent weeks taken unprecedented actions in this area—including offering a unique position concerning the possible reallocation of compliance resources away from sanctions matters.  We provide below a summary of recent actions and public statements by senior U.S. and non-U.S. officials related to sanctions in the context of the response to COVID-19 and our reflections on what to expect in the short term. Both before and after the United States’ participation in the Iran Nuclear Deal, the scope of activities related to Iran undertaken by non-U.S. persons that could result in U.S. secondary sanctions was and remains broad.  As a result, many foreign financial institutions, manufacturers, and others have simply decided to restrict business related to Iran, regardless of whether the business would otherwise be authorized under the U.S. Iran sanctions.  This widespread over-compliance with OFAC’s rules both within and outside of the United States has placed a significant practical restrain on humanitarian trade with Iran. In response to the COVID-19 pandemic, the United Nations High Commissioner for Human Rights and the High Representative of the European Union for Foreign Affairs intensified calls on the United States to ease sanctions on Iran in response to that country’s particularly severe outbreak of the novel coronavirus. OFAC initially responded with the addition of a new Frequently Asked Question directing attention to existing authorizations and exemptions for humanitarian trade with Iran.  The FAQ described the general scope of the existing authorizations for trade in agricultural commodities, medicine, and medical devices with Iran, subject to limitations related to restricted parties and payment mechanisms. Political pressure continued to mount, as current and former senior U.S. officials and diplomats, including former Secretary of State Madeleine Albright and Vice President Joe Biden, issued public statements urging OFAC to expand existing authorizations.  Proposals for action included expanding the list of items eligible for the general authorization for trade in medicine and medical devices with Iran; issuing “comfort letters” to non-U.S. banks asked to facilitate humanitarian trade; adding staffing and resources to OFAC to accelerate the licensing process for medical items subject to a licensing requirement; offering updates on the operationalization of the Swiss Humanitarian Trade Arrangement; and expressing support for humanitarian trade facilitated by Europe’s INSTEX arrangement. In apparent response to these public requests, OFAC has taken several steps that, while novel in certain respects, fall short of the changes that others have called for. First, on April 16, OFAC issued a “Fact Sheet” summarizing the existing authorizations and exemptions for humanitarian trade and other assistance provided in response to COVID-19 with respect to all of the comprehensively sanctioned jurisdictions, namely Iran, Venezuela, North Korea, Syria, Cuba, and the Crimea region of Ukraine.  Although no new authorizations were included in this document, the Fact Sheet is a helpful resource for industry, as it is the most complete collection published by OFAC to date of the various legal provisions applicable to humanitarian trade. On the other hand, the length and detail of the Fact Sheet itself demonstrate the significant complexity and compliance resources needed to effectively use the existing authorizations for humanitarian trade.  Particularly with respect to Iran, the number of restricted parties, including Iranian financial institutions and medical facilities that may be connected to restricted entities such as the Islamic Revolutionary Guard Corp-Qods Force, can make sales or donations of medical supplies to Iran complicated and risky.  In addition, U.S. banks are not permitted to maintain direct correspondent relationships with banks in Iran, requiring all payments even for authorized trade to be routed through third-country banks in order to reach the United States. Further, the Fact Sheet does not cover licensing requirements that apply to some exports of medical supplies from the United States to comprehensively sanctioned jurisdictions administered by the U.S. Department of Commerce. Second, on April 20, OFAC issued an unusual public statement in which it appeared to provide limited leniency for persons subject to reporting requirements or who have received requests for information under an administrative subpoena with respect to challenges arising from the COVID-19 emergency.  OFAC acknowledged that the pandemic crisis has caused “technical and resource challenges” for organizations.  OFAC stated:

Accordingly, if a business facing technical and resource challenges caused by the COVID-19 pandemic chooses, as part of its risk-based approach to sanctions compliance, to account for such challenges by temporarily reallocating sanctions compliance resources consistent with that approach, OFAC will evaluate this as a factor in determining the appropriate administrative response to an apparent violation that occurs during this period.  OFAC will address these issues on a case-by-case basis.

OFAC has not previously made any similar statement appearing to accommodate the choice by a regulated organization to reassign resources away from sanctions compliance. We note that this public statement by OFAC does not authorize any apparent violation of the existing sanctions rules.  It merely refers to OFAC’s assessment of an organization’s risk-based compliance procedures in the context of an administrative enforcement action.  Therefore, rather than indicate any departure by OFAC from the existing requirements with respect to sanctions compliance, this rather unprecedented statement may indicate the unusual amount of pressure that OFAC finds itself under to justify its maintenance of the status quo. In the short term, we expect that OFAC will continue to resist calls to dramatically change the scope of existing authorizations for humanitarian trade.  Press releases by the U.S. Department of State and the U.S. Department of the Treasury have offered public justification for OFAC’s position.  OFAC has also indicated in recent calls and panel discussions that it does not anticipate issuing new general licenses.  That said, we will continue to monitor this ongoing controversy as the unusual present circumstances may yet lead to unpredictable results.
Gibson Dunn’s lawyers are available to assist with any questions you may have regarding developments related to the COVID-19 pandemic.  For additional information, please contact the Gibson Dunn lawyer with whom you usually work, any member of the firm’s Coronavirus (COVID-19) Response Team or its International Trade Practice Group, or the authors: Judith Alison Lee – Co-Chair, International Trade Practice, Washington, D.C. (+1 202-887-3591, jalee@gibsondunn.com) Adam M. Smith – Washington, D.C. (+1 202-887-3547, asmith@gibsondunn.com) Stephanie Brooker – Washington, D.C. (+1 202-887-3502, sbrooker@gibsondunn.com) Christopher T. Timura – Washington, D.C. (+1 202-887-3690, ctimura@gibsondunn.com) Samantha Sewall – Washington, D.C. (+1 202-887-3509, ssewall@gibsondunn.com) © 2020 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.  

April 21, 2020 |
Final CFIUS regulations come into effect: mandatory filing requirements

Washington, D.C. partner Judith Alison Lee is the author of "Final CFIUS regulations come into effect: mandatory filing requirements," [PDF] published in the Financier Worldwide magazine's April 2020 issue.

April 1, 2020 |
COVID-19 & International Trade – Nation-State Responses to a Global Pandemic

Click for PDF The COVID-19 pandemic has already had a catastrophic impact on international markets, with far reaching impacts on international trade that will be felt for years to come.  In the short term, government authorities responsible for the regulation of global trade have been hobbled by the rapidly spreading pandemic and its resulting restrictions on their ability to work.  Nevertheless, several early initiatives may serve as a harbinger of things to come, as regulators around the globe act to mitigate the impact of the pandemic on global supply chains and national security.  This client alert provides information on the first visible impacts on and changes to export controls, tariffs, foreign direct investment regulations, and sanctions and respective enforcement.

1.      The Immediate Impact: Export Restrictions on Medicine, Medical Devices and Personal Protective Equipment

On March 26, the G-20 Leaders issued a statement promising to work together to “facilitate international trade and coordinate responses in ways that avoid unnecessary interference with international traffic and trade,” although many countries around the world have already taken steps to protect their supply of medicines and personal protective equipment (“PPE”).  In the first week of March, France, Germany, Russia and the Ukraine prohibited the export of certain PPE.  By mid-March, the French and German restrictions were replaced by broader European Union regulations prohibiting the export of PPE—regardless of origin—outside of the EU for six weeks.  By late March, India—a nation that is central to the global production of hydroxychloroquine (a medicine under study as a potential COVID-19 treatment)—had prohibited exports of hydroxychloroquine as well as the export of ventilators, sanitizers and surgical masks due to domestic shortages. The COVID-19 pandemic is the first major crisis to sweep the world since the United Kingdom announced its withdrawal from the European Union on January 31, 2020.  While EU law is still in application in the UK during the transition period, late last year regulators in the United Kingdom limited the export of critical drugs to prevent shortages in the event of a no-deal Brexit.  The UK prohibited the parallel export—here, the practice of buying medicines already on the market in the UK in order to sell them in the European Economic Area (“EEA”)—of certain critical medicines currently being tested for efficacy in treating COVID-19.[1]  On March 20, 2020, over 80 additional medicines used to treat patients in intensive care units were banned from parallel export from the UK in order to seek to ensure uninterrupted supply to NHS hospitals treating coronavirus patients.  Included in this latest list of restrictions are medicines such as insulin, paracetamol, and morphine.  The full list of medicines that cannot be parallel exported from the UK can be found here.  The UK has guidance in place on parallel export and hoarding of restricted medicines.  Parallel export of a restricted medicine risks violation of regulation 43(2) of the Human Medicines Regulations 2012 and potential enforcement action by the Medicines and Healthcare products Regulatory Agency (“MHRA”). China—which faced an early and devastating outbreak of COVID-19 and is also the primary source of most surgical masks globally—has not prohibited the export of PPE.  Instead, in mid-March China exported medical supplies to assist Italy and Thailand, and in late March sent the first shipment of such supplies to the United States.  Beijing has also been sending teams of medical experts to hotspots around the world to help combat the disease. The United States has not imposed any immediate restrictions on the export of PPE, medicine or medical devices used to treat COVID-19, despite its own severe shortages nationwide and reports of large quantities of PPE being purchased by foreign buyers.  Indeed, the United States has long depended upon imports of such materials, and efforts to obtain emergency supplies of face masks and other PPE from manufacturers in China were hobbled by the U.S. administration’s efforts to label COVID-19 as the “Chinese” or “Wuhan” virus.  Moving forward, the U.S. Department of Commerce’s Bureau of Industry and Security (“BIS”) has the authority to use the Export Administration Regulation (“EAR”) Short Supply Controls (15 C.F.R. Part 754) to curtail the export of items that may become scarce as the COVID-19 crisis continues.  For example, certain PPE controlled under ECCN 2B352 could be subjected to short supply controls that impose more stringent licensing requirements, prohibit the use of license exceptions that would otherwise apply, or restrict the availability of export licenses.  BIS even has the flexibility to apply the short supply controls to certain PPE or other items that may be designated EAR99 and therefore currently subject to the least restrictive export controls.  BIS can list those EAR99 items on which it wants to impose short supply controls, along with their Harmonized System-based Schedule B commodity numbers, as BIS has done for certain crude oil and petroleum products.  These controls currently only apply to a handful of items unrelated to COVID-19—petroleum products, unprocessed western red cedar, and horses exported by sea for slaughter—but BIS could expand the category of short supply items relatively quickly.

2.      International Trade Regulator Responses

United States In the United States, most federal agencies with export control or sanctions enforcement authority are continuing to operate, albeit under an expectation of delay in light of widespread teleworking arrangements in force throughout the U.S. federal government. The U.S. Trade Representative (“USTR”) plays a key role in the trade regulatory process, having already exempted Chinese PPE from duties, including tariffs recently imposed on Chinese imports under Section 301 of the Trade Act of 1974.  Additionally, USTR announced on March 20, 2020 that it would open a new comment period for the public to suggest additional items that should be exempt from the Section 301 tariffs on Chinese imports due to the spread of the coronavirus.  Last week a bipartisan group of senators on the Senate Finance Committee warned the Trump administration against trying to implement a new trade deal with Canada and Mexico too quickly in light of the novel coronavirus outbreak’s impact on U.S. business.  The senators issued a letter to U.S. Trade Representative Robert Lighthizer to back off the White House’s apparent plan to bring the U.S.-Mexico-Canada Agreement into force by June 1, 2020. BIS is also active with respect to the export controls that apply to vaccine development.  BIS currently controls the export of certain pathogens, viruses, vaccines, medical products, diagnostic kits, personal protective equipment, and equipment for handling biological materials under Categories 1 and 2 of the Commerce Control List (“CCL”).  Notably, certain viruses (including the SARS-related coronavirus associated with the 2002-2003 SARS outbreak) typically are classified as bio-agents and toxins on the CCL, imposing certain restrictions on the manner in which samples and vaccines may be exported as well as certain types of foreign direct investment.  However, BIS has issued guidance clarifying that SARS-CoV-2, the virus that causes COVID-19, is not currently subject to the controls of these categories, removing a potential impediment to international collaboration on the development of a vaccine and treatments.  To further facilitate the provision of important medical equipment to countries or end-users facing shortages during the pandemic, BIS could relax the broad licensing requirements for items classified under Categories 1 and 2 or implement additional favorable licensing policies.  Alternatively, BIS could impose new, more strict licensing requirements on exports of these items or impose less favorable licensing policies—helping to ensure those items remain available for domestic use. Additionally, BIS can use the 0Y521 series Export Control Classification Numbers (“ECCNs”) to quickly impose unilateral export controls on previously uncontrolled items (e.g., SARS-CoV-2) if BIS determines the item a “significant military or intelligence advantage” or determined there are “foreign policy reasons” supporting restrictions on its export.  A license would be required to export items controlled under the 0Y521 series to any destination, except Canada, and exporters would be prohibited from relying on exceptions to this license requirement that might otherwise be available.  Although these controls would only last one year—which may be sufficient to manage response to COVID-19—they could be moved to a more permanent ECCN before their expiration.  Interestingly, this rarely used export controls tool may be top-of-mind for U.S. regulators.  The Trump administration recently used the 0Y521 series to control AI-enabled geospatial imagery analysis software in response to an imminent national security concern. The U.S. Department of the Treasury’s Office of Foreign Assets Control (“OFAC”), which administers United States sanctions programs, provided new guidance clarifying the scope of general licenses (regulatory exemptions) which authorize the supply of medicine, medical devices, and other humanitarian goods to assist Iran in coping with its severe outbreak of COVID-19.  OFAC also maintains relatively broad general licenses permitting the export of medicine and medical devices to other sanctioned jurisdictions, including the Crimea Region of Ukraine and Venezuela, as well as general licenses permitting nongovernmental organizations to provide medical aid to North Korea and Syria and to allow certain humanitarian aid and medical research collaborations with Cuba.  These licenses and licensing policies may be relied upon to provide medicine and medical devices as the pandemic spreads.  We are also aware that OFAC is currently reviewing on an expedited basis several COVID-19 related Specific License requests for shipment of goods and services that are not otherwise covered by the general exemptions.  Senior OFAC leadership have indicated that the agency continues to operate at full pace.  Despite broad work-at-home mandates, certain OFAC personnel responsible for enforcing sanctions must operate from secure office locations, limiting their ability to function remotely for the duration of the crisis.   This may explain the agency’s recent spate of designations since the coronavirus crisis began, suggesting that at least the targeting unit at the agency—charged with identifying sanctions targets and compiling dossiers to designate them—has continued its mission at a similar intensity as before the crisis hit.  In fact, on March 31, against the backdrop of both recently increased sanctions and legal pressure against the Maduro regime and a likely significant expansion of COVID-19 cases in Venezuela, the Trump Administration offered the Maduro regime a significant reduction in sanctions in exchange for moving towards a transition government with the opposition. On March 26, the U.S. Customs and Border Protection (“CBP”) revoked a proposal to allow companies more time to pay import duties during the coronavirus outbreak.  Less than a week after CBP told importers that it would consider delaying tariff payments on a case-by-case basis, the agency issued a new bulletin indicating that no further requests for delayed payment would be accepted.  The CBP’s earlier announcement regarding potential tariff payment delays drew criticism from the U.S. steel industry, which has been among the most forceful advocates for aggressive enforcement of U.S. trade laws.   President Donald Trump has publicly dismissed the idea of tariff reduction as part of his coronavirus strategy, while White House trade adviser Peter Navarro has floated an executive order that will strengthen “Buy American” government procurement rules for drugs and medical devices as a means of reducing the government's reliance on imports. Europe In the EU, at the EU Commission level, offices are broadly closed and all employees in non-critical functions have been ordered to work from home as of March 16, 2020.  So far, this has not had a substantial impact on pending license applications, as EU sanctions and specifically EU (member state) export controls are administered and enforced on a member state level. At the member state level, the impact of the virus on operations has differed from country to country as—despite alignment efforts—each member state has been impacted by COVID-19 in different ways (with the devastation in Italy and Spain at the extreme end) and states have been reacting to the pandemic on their own schedules and pursuing their own policies (ranging from severe lock-downs in some countries to more limited approaches taken by others, such as Sweden and the Netherlands).  Generally, working from home is not common in many EU member states and thus a certain adjustment period, including related delays on any types of license applications, should be expected. United Kingdom On March 20, 2020, the UK Joint Export Control Unit issued a Notice regarding export license handling during the pandemic.  The British government will continue to process export control licenses, but applications for strategic export licenses have been identified as business-critical operations for the Department for International Trade.  The compliance/inspection program will continue, but site audits will be now conducted remotely.

3.      Foreign Direct Investment Regulations:  Protecting National Security in a Pandemic

Numerous countries have strengthened their foreign direct investment (“FDI”) controls in an effort to better protect against national security risks—most recently with respect to the use and development of sensitive technologies and data.  In the coming weeks and months—especially if depressed asset prices spur increased interest in cross-border transactions—we expect regulators around the globe to turn to these restrictions in an effort to protect domestic companies necessary to combat the spread of the virus.  Foreign direct investment regulations—already robust in many major recipients of foreign direct investments, and nascent in many other states—may be used to fend off acquisitions from foreign firms.  Critically, as much of the western world imposes strict lockdown measures, China has made moves to restart economic activity, raising concerns that distressed foreign assets could be acquired by Chinese companies without appropriate checks and balances.  For example, the Australian government indicated last week that all proposed foreign investments into Australia will be reviewed as the government seeks to protect distressed Australian assets from the economic aftermath of the pandemic. United States The national security risks associated with the coronavirus pandemic may implicate the U.S. Committee on Foreign Investment in the United States (“CFIUS” or the “Committee”), an interagency group that is empowered to block or condition foreign acquisitions of U.S. companies involved in manufacturing necessary treatments or supplies.  Proposed foreign acquisitions of U.S. drug manufacturers may require CFIUS review, and CFIUS review requirements may impact bankruptcy proceedings with respect to the sale of distressed U.S. assets.  Furthermore, CFIUS is authorized to review national security risks associated with the foreign acquisition of U.S. companies involved in the production of high-priority goods.  Depending on the extent and duration of the pandemic in the United States, CFIUS may use its authority to prevent the sale of key U.S. suppliers to foreign buyers. The United States recently expanded the scope of transactions subject to CFIUS review, imposing mandatory filing requirements in certain narrow circumstances.  As we described here, in February 2020 the Committee implemented new regulations formally expanding its authority pursuant to the 2018 Foreign Investment Risk Review and Modernization Act (“FIRRMA”).   Notably, the expanded CFIUS regulations impose a mandatory filing requirement for certain non-controlling investments in life sciences companies that produce, design, test, manufacture, fabricate or develop “critical technologies” used in connection with the biotechnology industry.  Critical technologies include items on the CCL that are controlled agents and toxins covered by 7 CFR part 331, 9 CFR part 121, or 42 CFR part 73, including the earlier strain of SARS-CoV.  As such, foreign investments in U.S. companies working with the novel coronavirus may trigger a mandatory CFIUS filing requirement if the U.S. company manufactures, tests, develops or produces other bio agents classified on the CCL.  CFIUS has taken action against several life sciences and biotechnology firms in recent years, including a proposed transfer of the U.S. operations of a German pharmaceutical company as a part of the German parent company’s sale to a Chinese investor in 2018.  As a result of the Committee’s refusal to clear the originally proposed transaction, the German parent company divested its U.S. operations to an undisclosed U.S. buyer in order to continue with the acquisition. EU Foreign Investment Screening Process The president of the EU Commission, Ursula von der Leyen, noted that if Europe is to be as strong after the crisis as it was before, it “must take preventive measures now … to protect [its] security and…economic sovereignty.”  She appealed to EU member states to “make full use of the necessary instruments.” So far only half of EU member states have comprehensive screening processes for takeovers of strategically important companies.  The EU Commission has called on the remaining EU member states to establish similar regulations as permitted by the Regulation on Establishing a Framework for Screening of Foreign Direct Investments  into the European Union—which we have discussed in detail here. Below, we elaborate on recent developments in Germany, the EU’s leading exporter and likely bellwether for bloc-wide developments with respect to such restrictions and controls—which we assess will likely be catalyzed by the COVID-19 crisis.

3.1.   German Foreign Investment Control

Like many other companies around the world, the German-based biopharmaceutical company CureVac is currently in the process of researching and developing a vaccine against the novel coronavirus.  In mid-March, it was reported that U.S. President Trump attempted to secure the exclusive rights to CureVac’s work and use the possible vaccine only for the United States.  The company immediately rejected allegations about offers of an acquisition or an exclusive contract with the United States.  However, the fact that the company’s CEO Daniel Menichella was replaced on March 11, 2020 shortly after he had met with Trump and other members of the U.S. administration’s coronavirus taskforce at the White House fueled speculation that an acquisition could in fact be imminent. This incident sparked a heated debate in Germany, leading CureVac’s majority shareholder Dietmar Hopp (the co-founder of software firm SAP) to state: “Once we … succeed in developing an effective vaccine against the coronavirus, it should reach, protect and help people not only regionally but in the spirit of solidarity around the world.” Germany’s Federal Secretary of Economic Affairs, Peter Altmaier, praised CureVac’s decision and emphasized, “Germany is not for sale.”  In this context, various German politicians have referred to Germany’s foreign trade law, under which the federal government can examine takeover bids from non-EU “third countries” if national or European security interests are deemed to be at stake.  After company valuations in Europe’s largest economy have been markedly reduced by the coronavirus pandemic, political leaders have made clear that Germany will protect domestic firms from foreign takeovers.  As the state premier of Bavaria, Markus Söder, put it: “If most of Bavaria’s and Germany’s economy ends up in foreign hands once this crisis is over … then it’s not only a health crisis but a profound alteration of the global economic order.” Judging from the strong reactions by political leadership, COVID-19 will certainly have a profound impact on Germany’s rules on foreign direct investment which the German government was already in the process of tightening.

3.1.1.      Status Quo of the German Foreign Investment Control Process

Under the German rules governing the foreign investment control process[2], the German Federal Ministry for Economic Affairs and Energy (“BMWi” or the “Ministry”) may, among other things, review, restrict or prohibit the acquisition of a direct or indirect interest of 25 percent or more of the voting rights of a domestic company by a foreign investor if the transaction poses a threat to the public order or security in the Federal Republic of Germany.  The law expressly identifies domestic companies such as operators of critical infrastructures (including energy, IT, telecommunications, transport, health, water, food, finance and insurance sectors to the extent they are critical to  the proper functioning of the community), operators of telecommunication systems and providers of surveillance technology and equipment, cloud computing services, providers of telematics services and components as well as media companies as businesses the acquisition of which may be deemed a threat to the public order or security. The German foreign investment control process provides for even stricter rules if the domestic company develops and modifies software that is sector-specifically used for operating any of the above-mentioned critical infrastructures.[3]  In those cases, the acquisition is already subject to the German foreign investment control process if the foreign investor acquires ownership of 10 percent or more of the voting rights of such German company and the transaction must be reported to the Ministry.

3.1.2.      Current Proposals to Further Tighten the Rules on German Foreign Investment Control

Even before the COVID-19 crisis arose, similar to initiatives underway in the United States, Japan, UK, France and other European states, Germany had been contemplating enhanced scrutiny on foreign investors targeting domestic companies.  On January 30, 2020, the BMWi published a draft bill to reform and tighten the rules governing the German foreign investment control process.  This marks the third major reform of the German FDI rules in less than three years.  Below are the most relevant amendments currently contemplated, and we expect that those amendments will be enacted quickly and potentially sharpened in light of COVID-19: First, as noted above, the current test is whether the contemplated acquisition constitutes an actual threat to the public order or security of the Federal Republic of Germany.  The draft bill proposes to enhance such scrutiny by lowering the requirements for the test and broadening the Ministry’s scope of discretion by only asking whether the acquisition is likely to affect the public order or security of Germany. Second, in accordance with Regulation (EU) 2019/452, which we have discussed in detail here, the draft bill also extends the scope of screening to include the public order or security of another EU Member State or of projects or programs of EU interest. Third, so far the validity of most acquisitions subject to the current German FDI rules (except for acquisitions in the military or IT security sectors, for which stricter rules already apply) is subject only to the condition subsequent that the acquisition will not be prohibited by the Ministry.  Under the newly proposed rules, any acquisition of voting rights in a domestic company that is required to be reported to the Ministry will be rendered invalid as long as it has not received written approval by the Ministry or the review deadline following the proper reporting of the transaction has not expired.  This change will have a major impact on both the certainty of deals and the timing of transactions going forward. Fourth, the Ministry is planning to define a catalog of critical technologies, for which the reporting requirement as well as the lower 10 percent threshold will apply. Those critical technologies are reported to include artificial intelligence, robotics, semiconductors, biotechnology and quantum technology.  This is part of the German government’s attempt to retain Germany’s technological preeminence.

4.      Conclusion

Despite calls by some in the United Nations—specifically the UN High Commissioner for Human Rights, Michelle Bachelet—to re-evaluate trade restrictions in force against countries dealing with the COVID-19 pandemic, states have by and large not heeded these calls.  Instead, they have responded to the crisis by not only closing their borders to visitors, but also by restricting exports of pharmaceuticals and medical equipment, and in some cases even expanding upon sanctions and other restrictions in place against states dealing with COVID-19.  Further, measures have been undertaken or announced to support and protect their respective economies from damage due to COVID-19 or from foreign takeovers. Heartening examples of German hospitals accepting COVID-19 patients from France appear to be the exceptions to what threatens to become the rule—unilateralism at all costs, every country for itself.  Once the initial panic regarding the virus fades, we hope to see a return of cooperation, multilateral approaches, and solidarity to fight COVID-19 and its already devastating economic effects.  For the time being, companies, specifically in the health care sector, should expect severe—and likely mounting—challenges to their international trade operations. *** [1]              This restriction has been applied to chloroquine phosphate and lopinavir + ritonavir in all dosages, as well as to hydroxychloroquine in all dosages—medicines that are among the many which are currently under review as potential treatments for COVID-19.  There are exceptions regarding the export of restricted medicines by UK distributors and drug companies if they were initially manufactured to be exported to non-domestic markets. [2]             For English translations of the German Foreign Trade and Payments Act and Foreign Trade and Payments Ordinance see: https://www.gesetze-im-internet.de/englisch_awg/ and http://www.gesetze-im-internet.de/englisch_awv/. [3]             For an English convenience translation of the Act on the Federal Office for Information Security defining the “critical infrastructures” see: https://www.bsi.bund.de/SharedDocs/Downloads/EN/BSI/BSI/BSI_Act_BSIG.pdf
Gibson Dunn, its International Trade Practice Group and its dedicated COVID-19 support team, stand ready to support you in dealing with such challenges. AuthorsRon Kirk, Judith Alison Lee, Adam M. Smith, Jose Fernandez, Stephanie Connor, Chris Timura, Samantha Sewall and R.L. Pratt (United States); Fang Xue (China); Michael Walther, Markus Nauheim, Richard Roeder (Germany); Patrick Doris and Steve Melrose (United Kingdom); and Nicolas Autet (France); with contributions from Anna Helmer, Karthik Ashwin Thiagarajan, and Prachi Jhunjhunwala (India, Russia, and the Ukraine). © 2020 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.  

March 27, 2020 |
Coronavirus: EU Economic and Fiscal Measures

Click for PDF The coronavirus (“COVID-19”) pandemic is having a deep impact on businesses across all sectors. While the primary focus of many businesses will be on ensuring the health and wellbeing of staff, businesses are facing an increasing number of challenges that need to be addressed and mitigated. Governments of many EU Member States – as well as the European Commission - have announced special measures to support businesses affected by the COVID-19 pandemic.  This client alert identifies some of the key fiscal measures being put in place by the governments of the UK, France and Germany to help companies manage their cash flows during these times. Of course, the tax implications for businesses will go much further than the measures currently being put in place.  In these exceptional times, people will be stuck not just in their home jurisdiction but literally at home when they would otherwise be conducting activity in another jurisdiction.  The physical location of people is a critical factor in determining where tax should be paid for cross-border businesses and affects transfer pricing, corporate residence, individual residence and more.  If you have specific concerns in this regard, please contact the Gibson Dunn contacts at the end of this alert. For measures being put in place in the United States, please click here. For a discussion of UK government measures to provide financial support for businesses through purchases of commercial paper and lending to SMEs, please click here. For a discussion on the European Commission’s initiatives to support the economy amid the COVID-19 pandemic (including a discussion on State Aid), please click here. If the COVID-19 related tax measures of another jurisdiction are relevant to your business and you require further information, please reach out to the Gibson Dunn contacts at the end of this alert, or your usual Gibson Dunn contact, and we will be delighted to assist. This client alert is correct as at 27 March 2020. UNITED KINGDOM

  1. VAT PAYMENT DEFERRAL
    • VAT payments (other than VAT MOSS payments) due to HMRC in the period from 20 March 2020 until 30 June 2020 are eligible for deferral. If a UK VAT registered business chooses to defer payment of VAT to HMRC for this period, the VAT due will have to be accounted for on or before 31 March 2021.
    • The deferral does not need to be notified to HMRC, but taxpayers that have a direct debit mandate in place to pay their VAT (and still wish to defer payment) will need to contact their bank to cancel that mandate.
    • UK VAT refunds and reclaims will be paid by HMRC as normal.
    • UK VAT registered businesses should continue to file their UK VAT returns by the normal due date.
  1. INCOME TAX PAYMENT DEFERRAL
    • The next payment date for self-assessed income tax on account may be deferred from 31 July 2020 to 31 January 2021.
    • After some initial confusion, HMRC has confirmed this applies to all taxpayers.
    • This measure applies automatically, without a requirement to apply to HMRC, but the deferment is optional (i.e. taxpayers may still elect to make payment on 31 July 2020).
    • Self-assessment income tax returns should still be filed by the normal due date, and can be filed online.
  1. UK TAX RESIDENCE OF INDIVIDUALS
    • One of the factors the UK’s statutory residence test considers is the number of days an individual spends in the UK. It is possible to exclude a maximum of 60 days spent in the UK in any tax year as a result of “exceptional circumstances”. HMRC has issued guidance indicating that presence in the UK owing to COVID-19 may constitute “exceptional circumstances” for these purposes.
    • However, whether days spent in the UK can be disregarded due to “exceptional circumstances” will depend on the facts and circumstances of each individual case.
  1. TIME TO PAY ARRANGEMENTS
    • HMRC sometimes agrees specific tax payment arrangements with taxpayers on a case-by-case basis (ordinarily for those in significant financial distress). HMRC has expanded its Time to Pay offer to all taxpayers in temporary financial distress as a result of COVID-19.
    • HMRC has not indicated the extent to which a business would need to be affected by COVID-19 to qualify for a Time to Pay arrangement.
  1. BUSINESS RATES RELIEF
    • Businesses based in England in the retail, hospitality and leisure sectors will pay no business rates for the 2020/2021 tax year. This has also been extended to estate agents, lettings agencies and bingo halls that have closed as a result of COVID-19 measures.
  1. OTHER MEASURES AND DEVELOPMENTS
    • Coronavirus Job Retention Scheme Any employer (small or large) will be eligible for a grant equaling 80% of wages of employees who are unable to work but are kept on payroll.  This measure is capped at £2,500 per month per employee, plus the associated Employer National Insurance contributions and minimum automatic enrolment employer pension contributions on that wage. It is not clear yet whether the £2,500 limit is net or gross of PAYE and NICs.
    • Coronavirus Self-Employment Income Support Scheme Self-employed individuals will be able to claim a taxable grant worth 80% of average monthly income taken over the last three years, capped at £2,500 per month. The scheme is only open to anyone with trading profits less than £50,000 and to those who earn the majority of their income from self-employment.
    • Statutory Sick Pay Employers with less than 250 employees (as of 28 February 2020) may be reimbursed for up to two weeks’ statutory sick pay for each employee absent due to self-isolation as a result of COVID-19.   Details as to whether employee headcount applies on a group or company basis are yet to be confirmed.
    • Conduct of tax tribunals and courts All proceedings in the Tax Chamber of the First Tier Tribunal are stayed for a period of 28 days from 24 March 2020 and all time limits in any current proceedings will be extended by the same period.  The Court of Appeal will only be covering urgent work as of 27 March 2020.
    • Stamp Duty on share transfers New procedures have been put in place so that the process for stamping stock transfer forms following share transfers is carried out by email (and not by post). Company secretaries will be able to update company shareholder registers upon receipt of an electronic verification letter from HMRC (rather than on receipt of duly stamped stock transfer forms). Stamp duty relief applications must be sent by email.
    • Off-payroll working rules (IR35) New rules designed to mitigate tax avoidance by workers, and the companies hiring them, who supply their services via intermediary companies (but who would be employees if the intermediary was not used) have been deferred for 12 months until April 2021.
FRANCE 1.          SOCIAL SECURITY PROVISIONS ([1])

The French government has introduced a series of measures to amend the social security regime in light of COVID-19.  They come in addition to measures taken more broadly by the French government in respect of employment (in particular the “partial unemployment” scheme funded by the French government).

1.1          3-month payment extension for social security contributions
  • Employers, whose due date for social security contributions falls on the 15th of each month, may postpone (without penalty) all or part of the payment of both their employee and employer contributions which are due on 15 March 2020 .
  • Employers, whose due date for social security contributions falls on the 5th of each month, may postpone (without penalty) all or part of the payment of both their employee and employer contributions which are due on 5 April 2020. It is nevertheless imperative for employers to declare and file their social security “DSN” notification before Monday, 6 April 2020 at 12:00 noon.
  • A similar 3-month extension applies for certain other taxes (see section 2.1 below).
1.2          Potential reduction in social security contributions
  • Instead of postponing the due date of social security contributions, employers may choose to reduce the amount in order to adapt their monthly contributions depending on their commercial needs.
  • For employers with a due date on the 15th of the month, the reduction depends on the date on which their February “DSN” notification has been filed. Employers with a due date of the 5th of the month, and in particular, employers who pay their contributions via the “DSN” portal, must transmit the March 2020 notification by Monday 6 April 2020 at 12:00 noon, and may adapt their SEPA payment with this “DSN” filing.
  • Employers that do not pay their contributions through the “DSN” portal, but do so by wire transfer, may adapt their monthly contribution depending on their commercial needs.
1.3          Payment extension for supplementary pension contributions

An extension to the normal payment period is available for supplementary pension contributions. Employers are invited to contact their supplementary pension institution in this respect.

2.          TAX PROVISIONS 2.1          3-month payment extension for certain other taxes
  • Relevant taxes include corporate income tax, payroll tax and business tax (“CFE” and “CVAE”).
  • A 3-month payment extension is available for all advance payments on request by companies or their accountant on presentation of a valid tax form available here.
  • In respect of payments already made in March 2020:
  • companies may refuse the SEPA direct withholding payment with their online bank if they still have the possibility to do so; and
  • where this is not possible, companies may request a reimbursement from their tax office.
  • Notably, VAT, withholding tax on salary (“PAS”), special tax on insurance contracts and income tax are, in principle, excluded from the deferral. However, VAT may be deferred within the context of the Commission of Chief Financial Officers (“CCSF”) – (or Interministerial Committee for Industrial Restructuring, “CIRI”) cases (see section 3 below).
2.2          Potential tax rebate in the event of "material difficulties which a payment extension is not sufficient to overcome"
  • A potential tax rebate may be available in respect of relevant taxes under section 2.1 above. Eligibility however is not automatic and any tax rebate will need to be applied for.  The following factors will be relevant to the tax authorities according to the tax form provided:
    • a significant drop in turnover;
    • the existence of other outstanding debts; and
    • the cash flow situation or any other element likely to justify the rebate.
  • Failing rebate, payment extension of more than 3 months may be granted by tax authorities on a case-by-case basis.
2.3          Accelerated payment of outstanding State bills
  • Any request referred to under sections 2.1 or 2.2 above must be supplemented by the amount of bills awaiting payment by the French State (or equivalent) in order to facilitate payment by way of set-off.
3.          OTHER EXISTING TOOLS REGARDING TAX AND SOCIAL CHARGES (REMINDER) 3.1          In case of financial difficulties: referral to the CCSF
  • The CCSF may, in complete confidentiality, grant companies in financial difficulties extensions to payment deadlines in respect of their tax and social security debts (employer's part).
  • The CCSF may be approached by the debtors themselves or by their ad hoc representatives.
  • To be admissible, the company must be up to date with the filing of its tax and social security returns, the payment of employee contributions and withholding tax on salary and must not have been convicted of concealed work.
  • The debts referred to above are, in particular, taxes and social security contributions but exclude employee parts and withholding tax on salary.
  • The referral should be made by mail sent to the permanent secretariat of the competent CCSF with a standard form to be filled in which can be accessed here.
3.2          Carryback of net operating loss (reminder)
  • Carryback of net operating loss (“NOL”) makes it possible, as an option, to post the NOL result of a fiscal year to the profits of the previous fiscal year.
  • Although of limited interest under the current rules, it is possible for the legislator to render once again the applicable rules more flexible as it did during the 2008 economic crisis. For this reason, we summarize below the main features of the applicable rules.
  • Currently, the carryback mechanism is limited in time and amount:
    • In time: carryback is possible only with respect to the previous fiscal year;
    • In amount: carryback is limited to €1million of tax losses (or to the amount of the profit of the previous fiscal year if it is lower), i.e. a refundable tax credit of c. €310,000 maximum.
  • Where losses are carried back, the company recognizes a non-taxable tax credit from the tax authorities. This receivable is used to pay the corporate income tax due during the five fiscal years following the fiscal year in which the loss is incurred.  It can also be used to pay VAT, payroll tax, etc. or reimbursed in advance in the event of insolvency proceedings.
  • The receivable may also be refinanced by a bank at any time.
  • To date, this mechanism will therefore only be useful for companies that incur a tax loss of up to €1 million during their fiscal year ending in 2020 and which were profit-making during the previous financial year.
GERMANY The Federal Ministry of Finance (Bundesfinanzministerium) has unveiled a tax relief programme for companies that have run into liquidity problems due to COVID-19.  In a decree issued on 19 March 2020, the Federal Ministry of Finance announced the following measures in order to provide liquidity aid for companies: 1.          Facilitated Tax Deferrals:
  • For taxes that are or will be due by 31 December 2020, the German tax authorities will allow deferral of taxes upon application if their collection would constitute a "considerable hardship" for the company.
    • In this respect, the German tax authorities have been instructed not to impose strict requirements on the existence of considerable hardship necessary for the deferral. Companies applying for a deferral may still be considered even if the damage they incurred cannot be explicitly quantified or detailed.
  • Interest on deferred taxes may be waived until 31 December 2020.
2.          Adjustment of Tax Prepayments:

For the tax period ending 31 December 2020, tax prepayments are to be reduced as soon as it becomes apparent that a company´s income in the current year will decline in relation to the previous year.  This applies to income, corporate and trade taxes.  As with the deferral, the losses incurred need not to be proven in explicit detail.

3.          Waiver of Enforcement Measures and Late Payment Surcharges:
  •  If a company is unable to pay income or corporate tax on time, a late payment surcharge of 1% for each month or part thereof is payable. For companies directly affected by COVID-19, such late payment surcharges and other enforcement measures (e.g. account seizures) are suspended from 19 March 2020 until 31 December 2020.
From a tax perspective, further assistance measures are also currently being discussed at all levels.  These include, for example, adjustments to tax filing deadlines (in particular with regard to advance VAT returns), the expansion of depreciation options, the early abolition of the solidarity surcharge and a more extensive crediting of trade tax.  Whether, and to what extent, the legislator will take up corresponding measures is still open.  In any case, the Federal Government in Germany has made it clear that it is ready and willing to provide companies with any kind of support. --------------------    [1]              https://www.urssaf.fr

***

Gibson Dunn’s lawyers are available to assist with any questions you may have regarding developments related to the COVID-19 pandemic. For additional information, please contact any member of the firm’s Coronavirus (COVID-19) Response Team. Gibson Dunn lawyers regularly counsel clients on the issues raised by this pandemic, and we are working with many of our clients on their response to COVID-19.  Please also feel free to contact the Gibson Dunn lawyer with whom you usually work, any member of the firm’s Tax Practice, or the authors: Sandy Bhogal – London (+44 (0) 20 7071 4266, sbhogal@gibsondunn.com) Ben Fryer – London (+44 (0)20 7071 4232, bfryer@gibsondunn.com) Jérôme Delaurière – Paris (+33 (0) 1 56 43 13 00, jdelauriere@gibsondunn.com) Hans Martin Schmid – Munich (+49 89 189 33-110, mschmid@gibsondunn.com) Panayiota Burquier – London (+44 (0)20 7071 4259, pburquier@gibsondunn.com) Fareed Muhammed – London (+44(0)20 7071 4230, fmuhammed@gibsondunn.com) © 2020 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

March 27, 2020 |
“… whatever it takes” – German Parliament Passes Far-Reaching Legal Measures in Response to the COVID-19 Pandemic

Click for PDF On March 25, 2020, the German Parliament (Bundestag) passed a far reaching rescue package to respond to the COVID-19 pandemic and its dramatic economic effects. The full text of the package can be found here.[1] The package is a combination of significant changes on different levels: (i) Temporary changes in the German civil code to protect individual tenants, debtors, and obligors under continuous obligations; (ii) the relaxation of provisions for businesses that are otherwise threatened by insolvency, (iii) practical solutions for companies to handle their corporate affairs in a virtual or remote setting, and – a bit out of step with the other context - (iv) extending strict court deadlines in a criminal proceedings to ensure criminal hearings keep pending during the COVID-19 crisis. Below are the specific elements of the comprehensive package that are each discussed in more detail below:

I. Protect Individual Consumers, Micro-Businesses and Tenants Affected by COVID-19

For cases in which consumers or micro-enterprises are no longer able to meet their obligations under continuing obligations due to the COVID-19 pandemic, the temporary (non-waivable) moratorium should enable them to cover liquidity losses due to their loss of income through June 2020. With the "Act on Mitigation of the Consequences of the COVID-19 Pandemic in Civil, Insolvency and Criminal Procedure Law" (the “Act”), the German legislator has adopted a new temporary right to refuse performance under these contracts (See Article 240 of the Introductory Act to the German Civil Code). The new regulation not only raises substantial questions of economic policy and constitutional law, but will also lead to substantial legal uncertainties due to the large number of legal “blanket terms” used and the required weighing of interests.

1. Temporal scope of application

The moratorium is initially limited to June 30, 2020, but can subsequently be extended by directive - if the Bundestag does not object - through September 30, 2020. The short period reflects that the moratorium is intended to bridge short-term liquidity constraints of those affected until the start of government aid measures (ultima ratio function).

2. Personal scope of application

Consumers and micro-enterprises are supposed to be the beneficiaries of the moratorium. Section 13 of the German Civil Code (BGB) defines the term “consumer” as an individual that concludes a transaction for primarily private purposes. The definition of a micro-enterprise can be found in the EU Commission’ Recommendation 2003/361/EC of May 6, 2003 concerning the definition of micro, small and medium-sized enterprises (OJ L 124, 20.5.2003, p. 36). Therein, a micro-enterprise is defined in particular as an enterprise which employs fewer than ten employees.

3. Substantive scope of application

Specifically, the legislator provides that the beneficiaries of the moratorium can refuse to fulfill obligations arising from “substantial continuing obligations”. Rental and property lease agreements are specifically regulated in Section 2, and loan relationships specifically in Section 3 (for more details, see below). Employment contracts are exempted from the scope of application. With regard to the term ”continuing obligation”, the legislator apparently uses the long-established definition from civil law. For consumers, substantial continuing obligations are those which serve to provide goods/services of general interest (e.g. the supply of electricity and water), and for micro-entrepreneurs those which are “necessary for the appropriate continuation of their business”. Thus, the scope of application for micro-entrepreneurs appears to be wider and includes regular supplies of goods to the micro-entrepreneur based on agreements with continuing obligations, and services that the micro-entrepreneur has to provide himself under such agreements. With regard to insurance contracts, for example, it will be necessary to differentiate based on their relevance.

4. Standards to be met to refuse performance

In order to be entitled to refuse performance, it is necessary that, due to circumstances caused by the COVID-19 pandemic, the beneficiary is not able to provide the service without risking its “reasonable standard of living” (consumers) or the “economic basis of its business” (micro-enterprises). What this means will have to be clarified on a case-by-case basis. In particular, the legislator has not clarified, to what extent the use of one's own assets - in the case of micro-entrepreneurs also of private assets - can be demanded. It is also open to what extent the use of state aid, if available, will be required first. It is also unclear from the wording of the law who will bear the burden of proof. For property lease agreements, the legislator allows an affidavit to prove a connection between the COVID-19 pandemic and the difficulty of performance. In view of the fact that this is found in the provisions dealing with property lease agreements, it is doubtful whether this applies accordingly to other continuing obligations.

5. Legal consequence

The moratorium postpones the obligation to fulfil the primary performance obligations. Once the moratorium ends, these obligations must be fulfilled if the other prerequisites are met. In addition, the moratorium prevents damage claims caused by default, in particular default interest, coming into existence for a period of three months.

6. Exclusion

The right to rely on the moratorium is excluded if the moratorium puts an unreasonable burden on the creditor because failure to perform “would threaten his [own] reasonable standard of living or the reasonable standard of living of his dependent relatives or the economic basis of his business”. In this case, the debtor has the unilateral right to terminate the contract. Obviously, questions similar to those regarding reasonableness naturally arise on the debtor side.

7. The moratorium's objection character

If the affected person decides to claim the moratorium, he or she must raise the objection (it is not recognized ex officio). This bears substantial risks when applying the law. In particular, it will be up to the courts to interpret the legal “blanket terms”, and to clarify the relevant questions of fact. Considering the current delays in the courts, this could take years in some cases.

8. Recommendations

Going forward, companies should scrutinize their contractual portfolio to identify which contracts vis-a-vis consumer and micro-enterprises qualify as governing “substantial continuing obligations”. In this context, it will be particularly important to distinguish contracts on „continuing obligations“ from such which only stipulate subsequent delivery instalments (Sukzessivlieferverträge). Once such contractual relationships which are subject to the new law are identified, the accounting department should be notified where the relevant collection processes need to be amended. In this context, a standard letter should be prepared confirming receipt of a notice by the respective consumers or micro-enterprises claiming rights under the moratorium. The standard letter should not go beyond acknowledging the difficult economic situation in general, but also include language reserving the right to scrutinize whether the legal requirements under the law are in fact met, and reminding the consumer or micro-enterprise that the payment obligation becomes due after the moratorium has expired.

II. Protect Debtors under Consumer Loans and Relax Filing Requirements for Insolvency

The Bundestag has furthermore made significant changes in the laws of consumer loans and insolvency:

1. Changes to the law of consumer loan agreements

A temporary waiver of rights relating to consumer loans has been implemented. Specifically, for any consumer loans that were executed prior to March 15, 2020, claims of the lender for the payment of principal or interest which fall due between April 1, 2020 and June 30, 2020 will be deferred by three months if the borrower claims that performing on such claims would be unreasonable for him due to loss of income caused by the COVID-19 pandemic. Where the borrower can establish that it has suffered a loss of income, it will be assumed that such loss is actually due to the COVID-19 pandemic. In addition, the right of the lender to terminate the consumer loan for payment default, deterioration of the financial condition or value of any collateral granted will be temporarily suspended in these cases. If by the end of the suspension period the lender and the borrower have not agreed to amend the loan agreement otherwise, the term of the loan will automatically be extended by three months and any due dates for performance under the loan agreement, including for any payments due during the suspension period, will be extended by three months as well. No deferral of payments or temporary suspension of termination rights applies where this would not be reasonably acceptable for the lender taking into account all relevant circumstances, including the changes in living conditions generally caused by the COVID-19 pandemic. Note that the Federal Government may, by way of regulation, extend the personal scope of the new rules. The law sets out that it may particularly include micro-enterprises but it appears that it may even go beyond.

2. Changes to German insolvency law

The German legislator has also passed a law to make certain temporary adjustments to German insolvency laws. Previous obstacles and pitfalls for lenders granting bridge loans or rescue financings to distressed companies shall be eliminated to a large extent. This can be an effective way to support (dis)stressed companies in Germany. The obligation on directors to file for insolvency will be suspended for scenarios caused by COVID-19.

a. Filing requirement

With effect from 1 March 2020 until September 30, 2020 German companies do not have to file for insolvency in case of cash flow insolvency unless it is not caused by the COVID-19 pandemic or there is no prospect that the cash flow insolvency will be remedied. To give directors comfort that there is no obligation on them to file, it will be assumed that an illiquidity is caused by the COVID-19 pandemic where the company was not already cash flow insolvent on December 31, 2019.

b. Payments by companies in a crisis

As a consequence the company can make payments in the ordinary course of business without management risking personal liability. This shall stabilize stressed companies and enable them to continue business with its contractual partners.

c. Lender liability

The new law also eliminates legal risks in connection with the provision of financing in a crisis. Potential lender liability due to a delayed filing for insolvency is suspended. Also, claw-back risks relating to loans granted between March 1 and September 1, 2020 and repaid until September 30, 2023 or the granting of security for such financing have been minimized for all customary scenarios of financing in a crisis. This shall assist lenders in quickly making a decision to support stressed borrowers.

d. Shareholder financing

Last but not least, also shareholders can benefit from this new law. A shareholder shall be able to may make available financing to its subsidiary between March 1 and September 30, 2020 without running the risk of legal subordination of such a loan in insolvency proceedings of the debtor until September 30, 2023. Legal subordination of shareholder loans had in the past often been an obstacle in many rescue financings attempted by shareholders.

3. What am I supposed to do?

The wider economic impacts of the amendments now introduced cannot be predicted and will also depend on how debtors and creditors will sort out their affairs under the new regime. While hurry does hardly ever make good law, businesses need to adapt to these changes, particularly if they or their close business partners significantly lend consumer loans. With regard to the changes to insolvency law, the German legislator has significantly released the burden on directors of companies to promptly file for insolvency. The assumption that a business that was not cash flow insolvent on December 31, 2019 has been affected by COVID-19 allows the management – without the threat of criminal prosecution and personal liability - to use the additional time granted to find reasonable arrangements with its creditors to hopefully avoid insolvency altogether. However, as this is only a temporary relaxation through September 30, 2020, due care should be taken to get a crystal clear understanding of the prospects of the business before that date to avoid criminal and individual liability if a deadline to file for insolvency would be missed after September

III. Keep the Germany AG Running – Facilitate Virtual and Remote General Shareholders’ Meetings, Allow for Advance Dividends

Due to the COVID-19 related restrictions of gatherings of people numerous German blue-chip stock corporations have canceled their scheduled annual shareholders meetings causing uncertainty when the necessary resolutions can be passed, in particular on the distribution of dividends. The German legislator reacted quickly. It has passed legislation significantly simplifying shareholders meetings in 2020: In particular virtual-only-meetings may be held with limited rights of shareholders (regarding questions, motions, appeals), convocation periods may be shortened and advance payments on dividends (up to 50%) can be granted without authorization in the company’s articles. The respective rules are expected to take effect at the beginning of next week and apply to the year 2020, only. The key regulations are:

1. Purely virtual shareholders’ meeting possible for the first time

The management board may (with consent of the supervisory board) hold the annual shareholders meetings without physical presence of shareholders, provided (i) the entire meeting is broadcasted by audio and video, (ii) voting rights can be exercised by way of electronic communication (iii) shareholders are granted a „possibility to ask questions“ and (iv) shareholders may electronically raise objections until the end of the meeting (provided they have also exercised their voting right electronically).

a. No “information right”, “possibility to ask questions” (only)

The possibility to ask questions does not give a right to request information. Rather the management board may select and decide - in its best lawful judgment - which questions to answer and in what way. The management board may privilege questions of investors with major shareholdings. It may also require shareholders to electronically turn in their questions (up to) 2 days before the meeting.

b. Motions DURING meeting don’t need to be permitted

No possibility to file motions during the meeting needs to be provided. If this applies only requests for additional agenda items prior to the meeting are possible.

c. Appeals against resolutions extremely limited

Appeals against resolutions in a virtual general meeting – in particular with respect to appropriate answers to questions – are limited to cases of intentional breach on the side of the company, which has to be proven by the appealing party.

2. Reduction of convocation period

The management board (with consent of the supervisory board) may reduce the convocation period to 21 days (for virtual and physical shareholders’ meetings). If this is applied, the record date (date for proof of shareholding in case of bearer shares) and the timeline for notifications of shareholders are reduced accordingly. This leads to an extremely tight window between notification of the shareholders and the registration deadline which makes it extremely difficult to register in time, in particular for foreign investors.

3. Advance payment on dividend

For virtual and physical shareholders’ meetings alike, the management board (with consent of the supervisory board) may grant advance payments on the expected net profit (irrespective of a respective authorization in the AoA). This allows, once (preliminary) annual accounts 2019 are available, a payment of up to 50% of the annual profit 2019 (less statutory reserves), however, limited to a maximum of 50% of the net profit of the preceding financial year (2018).

4. Deadline for holding the annual meeting extended from 8 to 12 months (after end of fiscal year)

This does, however, not apply to companies in the form SE (Societas Europaea) which is subject to European law (requiring the meeting to be held within 6 months after the end of the fiscal year). The new law opens most unusual ways to conduct shareholders’ meetings in 2020. Whilst the new rules enable companies to pass necessary resolutions, in particular on the distribution of dividends, despite the COVID-19 restrictions, this comes at the price of limited participation rights of the shareholders. Investors, therefore, need to monitor carefully how to exercise their rights in this year’s AGM season.

IV. Termination for Cause of German Property Leases Restricted

The public health crisis caused by the COVID-19 pandemic increases the risk that residential and commercial tenants alike may no longer be in a position to pay their rent when due. A temporary moratorium has put a halt to this risk for the tenant.

1. Landlord’s termination for cause temporarily restricted

German lease agreements usually allow the landlords to terminate the lease for cause, if the tenants are in default with their rent payments for at least two months. To mitigate the termination risks for tenants, the Act now temporarily restricts the landlords’ termination right concerning German property lease agreements (Miet- und Pachtverträge). According to the Act, a landlord is not entitled to terminate such a lease agreement based on the argument that the tenant is in default with payment of the rent for the period April 1, 2020 – June 30, 2020 if the tenant provides credible evidence (glaubhaft machen) that the payment default is based on the impacts of the COVID-19 pandemic.

2. All other contractual and statutory provisions remain unaffected

All other contractual and statutory termination rights, however, remain unaffected. Consequently, the landlord remains entitled to terminate the lease for payment defaults that occurred before or after this period or based on other defaults of the tenant. The temporary moratorium also does not waive in any way all of the landlord’s right to the payments due under the property lease. As of July 1, 2022, the landlord retrieves its termination right with regard to the rental payments for the period April to June 2020, if the respective amounts are still outstanding at that time. By way of a separate regulation (Rechtsverordnung) to be issued by the Federal Government, the respective restriction to terminate the lease for cause may be extended to backlogs in tenant’s payments for the period between July 1, 2020 through September 30, 2020 if it is to be expected that the social life, economic activity of a multitude of enterprises or the work of many continues to be significantly affected by the COVID-19-pandemic.

3. Many things to talk about…

The Act is silent on the question whether and under which circumstances a tenant may request an abatement (in whole or partly) of rent (Mietminderung) due to the impacts of the COVID-19 pandemic, e.g., due to a shutdown of the tenant’s business by public authorities. An abatement, if the abatement is the result of a defect of the property, would reduce the respective obligation of the tenant to pay the rent (in full or partly). Absent of any stipulations in the lease agreement to the contrary, German statutory and case law provides for an allocation of risks between the landlord and the tenant. As a general rule, the landlord is responsible for the compliance of the leased object with the agreed and/or common use. Therefore, any defect related to the constructional status of the lease object (e.g., public order to close the leased object due to constructional related issues (objektbezogene Mängel) and/or its location (e.g., limitation of access due to works)) is within the scope of responsibility of the landlord. Instead, everything related to the operation of the leased object without having any impact on its constructional status is generally within the scope of responsibility of the tenant. Therefore, in case of a shutdown of the activity of the tenant due to a public order related to the activity of the tenant, the shutdown would typically – absent force major events - be considered as in the tenant’s responsibility and, therefore, the tenant would not be entitled to an abatement of rent.

4. What already happens in the marketplace and what can be done

We see that in cases where the tenant’s operations are temporarily shut down by public orders following the COVID-19 pandemic, many tenants turn to the landlord with an (unspecified) notification of non-payment. The risks for the tenant to doing so are now quite low as the tenant will likely be able to provide credible evidence that that the inability to pay the rent was caused by the COVID- 19 pandemic. If, at a later stage, the tenant will advance the argument that his notification was an abatement, the landlord may be at risk, to not only losing the liquidity provided by the rent through the relevant time period for which the moratorium lasted, but to lose part or all of its claims for the period in which his tenant was subject to the restriction order. Therefore, it might be advisable, in order to respond to the tenant’s notification of non-payment of a lease with a reference to the COVID-19 pandemic, to understand whether the non-payment is based on the moratorium or a request for abatement, and further seek a discussion about mutually acceptable contractual provisions to address the specific needs of the landlord and the tenant. In this context, it is important to keep in mind that the mutually agreed provisions may not provide for less favorable provisions for the tenant than provided in the moratorium. However, finding a mutually acceptable solution will definitely be preferable to ensure stability and a clear path forward. _____________________ All those of you that have lived through prior crises have seen, ad hoc legislative measures prepared under stress and without extensive public debate come with many uncertainties caused by inconsistent terminology, sloppy drafting, or well-intentioned programs that ultimately fail to address the core of the problem. Clearly, this package demonstrates the Federal Government’s determination to be bold in face of the crisis. The next weeks and months will show whether this approach represented the right strategy. We hope for the best. _____________________ [1]  http://dip21.bundestag.de/dip21/btd/19/181/1918110.pdf
Gibson Dunn's lawyers are available to assist with any questions you may have regarding developments related to the COVID-19 outbreak. For additional information, please contact any member of the firm's Coronavirus (COVID-19) Response Team. The following Gibson Dunn lawyers prepared this client update: Markus Rieder, Finn Zeidler, Annekathrin Schmoll, Sebastian Schoon, Alexander Klein, Ferdinand M. Fromholzer, Silke Beiter, Wilhelm Reinhardt, Peter Decker, Daniel Gebauer, Benno Schwarz, Andreas Dürr, and Carla Baum. Gibson Dunn lawyers regularly counsel clients on the issues raised by this pandemic, and we are working with many of our clients on their response to COVID-19. Please feel free to contact the Gibson Dunn lawyer with whom you usually work, the authors, or any member of the team in Frankfurt or Munich: Gibson Dunn in Germany: Finance, Restructuring and Insolvency Sebastian Schoon (+49 69 247 411 505, sschoon@gibsondunn.com) Birgit Friedl (+49 89 189 33 180, bfriedl@gibsondunn.com) Alexander Klein (+49 69 247 411 505, aklein@gibsondunn.com) Marcus Geiss (+49 89 189 33 180, mgeiss@gibsondunn.com) General Corporate, Corporate Transactions and Capital Markets Lutz Englisch (+49 89 189 33 150), lenglisch@gibsondunn.com) Markus Nauheim (+49 89 189 33 122, mnauheim@gibsondunn.com) Ferdinand Fromholzer (+49 89 189 33 170, ffromholzer@gibsondunn.com) Dirk Oberbracht (+49 69 247 411 503, doberbracht@gibsondunn.com) Wilhelm Reinhardt (+49 69 247 411 502, wreinhardt@gibsondunn.com) Birgit Friedl (+49 89 189 33 180, bfriedl@gibsondunn.com) Silke Beiter (+49 89 189 33 170, sbeiter@gibsondunn.com) Annekatrin Pelster (+49 69 247 411 502, apelster@gibsondunn.com) Marcus Geiss (+49 89 189 33 180, mgeiss@gibsondunn.com) Litigation Michael Walther (+49 89 189 33 180, mwalther@gibsondunn.com) Mark Zimmer (+49 89 189 33 130, mzimmer@gibsondunn.com) Finn Zeidler (+49 69 247 411 504, fzeidler@gibsondunn.com) Markus Rieder (+49 89189 33 170, mrieder@gibsondunn.com) Kai Gesing (+49 89 189 33 180, kgesing@gibsondunn.com) Ralf van Ermingen-Marbach (+49 89 18933 130, rvanermingenmarbach@gibsondunn.com) Antitrust Michael Walther (+49 89 189 33 180, mwalther@gibsondunn.com) Jens-Olrik Murach (+32 2 554 7240, jmurach@gibsondunn.com) Kai Gesing (+49 89 189 33 180, kgesing@gibsondunn.com) International Trade, Sanctions and Export Control Michael Walther (+49 89 189 33 180, mwalther@gibsondunn.com) Richard Roeder (+49 89 189 33 180, rroeder@gibsondunn.com) Tax Hans Martin Schmid (+49 89 189 33 110, mschmid@gibsondunn.com) Labor Law Mark Zimmer (+49 89 189 33 130, mzimmer@gibsondunn.com) Real Estate Peter Decker (+49 89 189 33 115, pdecker@gibsondunn.com) Daniel Gebauer (+49 89 189 33 115, dgebauer@gibsondunn.com) Technology Transactions / Intellectual Property / Data Privacy Michael Walther (+49 89 189 33 180, mwalther@gibsondunn.com) Kai Gesing (+49 89 189 33 180, kgesing@gibsondunn.com) Corporate Compliance / White Collar Matters Benno Schwarz (+49 89 189 33 110, bschwarz@gibsondunn.com) Michael Walther (+49 89 189 33 180, mwalther@gibsondunn.com) Mark Zimmer (+49 89 189 33 130, mzimmer@gibsondunn.com) Finn Zeidler (+49 69 247 411 504, fzeidler@gibsondunn.com) Markus Rieder (+49 89189 33 170, mrieder@gibsondunn.com) Ralf van Ermingen-Marbach (+49 89 18933 130, rvanermingenmarbach@gibsondunn.com) © 2020 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

March 26, 2020 |
Senate Advances the CARES Act, the Largest Stimulus Package in History, to Stabilize the Economic Sector During the Coronavirus Pandemic

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Yesterday, the U.S. Senate passed (96-0) the Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”), a $2.2 trillion stimulus package designed to mitigate the effects of the novel coronavirus (“COVID-19”). The legislation includes relief for businesses and individuals, assistance to states, and key protections for workers. It is expected that the U.S. House of Representatives will swiftly pass the CARES Act, and that the President, in turn, will promptly sign the measure. At $2.2 trillion in emergency stimulus aid, the bill is the largest emergency stimulus package in United States history.

Last week, Senate Majority Leader Mitch McConnell (R-KY) introduced a bill responding to the economic impact of COVID-19 by providing $1.6 trillion in aid for individuals, small businesses, and businesses operating in impacted industries, such as the hotel industry, as well as providing increased resources for the health care industry. Given concern among Democratic Senators that the bill failed to include enough pro-worker protections, the Senate twice failed to clear procedural hurdles and advance the bill. After the Senate bill stalled, House Democrats introduced their own $2.5 trillion COVID-19 stimulus bill. Late Tuesday evening, however, Congress and the White House announced a bipartisan deal, which is the subject of this alert. The revised CARES Act provides, among other things, economic assistance to millions of Americans and small and distressed businesses. For businesses, the legislation--
  • Extends $500 billion in loans and loan guarantees to blunt the coronavirus’ economic impact, including $454 billion to businesses, states, and cities especially impacted by the coronavirus and not receiving loans through other provisions in the Act; $50 billion to passenger airlines; and $17 billion to businesses in the national security industry; and
  • Establishes a $350 billion loan guarantee program to help small businesses keep employees on the payroll and cover necessities such as rent and utilities. If certain conditions are met, the loans are forgivable.
The bill passed after the White House reportedly agreed to: (1) $150 billion for a “state stabilization fund,” which would provide key resources to state and local governments combatting the virus and almost $130 billion for the health care system; (2) additional aid for the airline industry; and (3) additional restrictions on stock buybacks and executive compensation. In this client alert we focus on key provisions within the CARES Act, as follows:
  1. A forgivable, “paycheck protection”, Small Business Administration loan program under Title I;
  2. Provisions for direct rebates and other tax relief for individuals and employers under Title II;
  3. Increased funding and other resources for education and health care under Title III; and
  4. An economic stabilization loan program for businesses under Title IV.

Title I: Keeping American Workers Paid and Employed

The CARES Act would authorize the Small Business Administration (“SBA”) to provide loan guarantees for up to $349 billion in loan commitments under the SBA’s 7(a) program (the SBA’s primary program for providing financial assistance to small businesses), funding a new “paycheck protection” program.[1] SBA Loan Eligibility Under existing law, a small business must meet size requirements to be eligible for an SBA loan. The SBA size standards vary by industry and are generally based on the average number of employees or average annual receipts. Under the CARES Act, small businesses would continue to be eligible under these standards. However, the CARES Act expands eligibility for loans authorized by the legislation (a “covered loan”) to all businesses with no more than 500 employees. Additional exceptions further expand the reach of the CARES Act. Businesses in the accommodation and food services industries, for example, may still qualify for loans if they are assigned a North American Industry Classification System (“NAICS”) code beginning with 72 and have not more than 500 employees per physical location. A key provision in the CARES Act for many companies is a waiver of SBA affiliation rules. Employees or annual receipts of domestic and foreign affiliates, in some cases under the CARES Act, may not count when considering whether a business, including portfolio companies owned by private equity funds, satisfies the SBA’s size requirements. Under the affiliation rule, the SBA ordinarily counts the total number of employees or annual receipts of a business’s domestic and foreign affiliates when determining whether the business qualifies as a small business, and Section 121.103 of Title 13 of the Code of Federal Regulations sets forth the general principles the SBA uses to determine affiliation. The CARES Act provides that this regulation is waived with respect to eligibility for a covered loan for any business:
  • With not more than 500 employees that is assigned a NAICS code beginning with 72;
  • Operating as a franchise that is assigned a franchise identifier code by the SBA; or
  • Receiving financial assistance from a company licensed under section 301 of the Small Business Investment Act of 1958.
SBA Loan Terms An eligible business may receive one covered loan, which the recipient may use for payroll costs; continuation of group health care benefits during periods of paid sick, medical or family leave, or insurance premiums; salaries or commissions or similar compensation; interest on mortgage obligations; rent; utilities; and interest on other outstanding debt. Generally, the maximum loan amount is the lesser of (1) $10 million, or (2) 2.5 times the average total monthly payments by the applicant for payroll costs—only payroll costs, not the other costs the loan proceeds may cover—incurred during the one-year period before the date of the loan. The CARES Act does not require collateral or personal guarantees for a covered loan. SBA Loan Forgiveness The CARES Act allows for covered loan forgiveness under certain conditions. The loan forgiveness amount, which is excluded from taxable income, is equal to the payroll costs, mortgage interest payments, rent, and utility payments incurred or paid by a recipient during the covered period. The loan forgiveness amount is reduced if the recipient (1) reduces the average number of full-time equivalent employees per month during the covered period below the lesser of (a) the average number of full-time equivalent employees per month from February 15, 2019 to June 20, 2019 or (b) the average number of full-time equivalent employees per month from January 1, 2020 to February 29, 2020, or (2) reduces the salary or wages of any employee in excess of 25 percent of the total salary or wages of the employee during the most recent full quarter during which the employee was employed before the covered period. There is no reduction if a borrower re-hires the employees who earlier were terminated. Applications To participate in the program, an eligible business must submit an application to the lender that originated the covered loan that includes: (1) documentation verifying the number of full-time equivalent employees on payroll and pay rates for the applicable periods, including payroll tax filings; (2) state income, payroll, and unemployment insurance filings; and (3) documentation verifying payments on mortgage obligations, lease obligations and utilities, including cancelled checks, payment receipts, and transcripts of accounts. More detail on how to apply and the criteria the SBA will use to determine who will receive loans is expected within 15 days of enactment, when the Administrator is required to issue guidance and regulations implementing the program. Additional Relief Through Reorganization The CARES Act modifies the provisions of the Bankruptcy Code dealing with small business reorganizations (embodied in 11 U.S.C. §1182 et seq) to allow companies with more outstanding debt (total noncontingent, liquidated, secured and unsecured debt of $7.5 million vs. $2.19 million, excluding insider and affiliate debt) to reorganize as a small business, thereby allowing additional small businesses to take advantage of truncated reorganization procedures and simpler confirmation standards.

Title II: Assistance for American Workers, Families, and Businesses

Expanded Unemployment Insurance One of the last negotiated provisions in the bill, which almost held up the bill’s passage, was the bill’s significant investment in unemployment insurance. Under Section 2104, individuals who receive unemployment insurance will be eligible for an additional $600 per week for up to four months. In addition, recognizing that many states have a one-week waiting period for unemployment compensation, if states choose to pay recipients as soon as they become unemployed, under Section 2105, the federal government will fund the cost of the first week of benefits. Further, under Section 2107, if individuals remain unemployed after state employment benefits are no longer available, the federal government will fund up to 13 weeks of unemployment benefits. Additional Relief for Individuals: Direct Rebates The CARES Act provides direct aid in the form of a refundable tax credit rebate of up to $1,200 for individuals and $2,400 for married couples. Households that earn $99,000 or less (individuals) and $198,000 or less (married couples) may be eligible for an additional $500 per child. Individuals and married couples that earn greater than $75,000 (but not more than $99,000) or $150,000 (but not more than $198,000), respectively, are eligible for a lesser amount—reduced by $5 for each additional $100 of income above $75,000 and $150,000, respectively. At the request of Democratic Senators, the final bill eliminated minimum earnings requirements. Accordingly, all taxpayers that filed tax returns in either 2018 or 2019 are eligible for a tax credit rebate, which will only be reduced for individuals and households with earnings above the respective $75,000 and $150,000 thresholds. In addition, eligibility and benefit amounts are based on 2019 income tax filings (or 2018 income tax filings if 2019 filings are unavailable). The bill requires all refunds or credits to be made on or before December 31, 2020. Increased Flexibility Under Retirement Plans Section 2202 of the CARES Act provides plan sponsors with the ability to make available to participants additional opportunities to take distributions and request loans from tax-qualified retirement plans. The CARES Act further provides relief from required loan repayments to tax-qualified retirement plans. These new provisions can be implemented immediately following the enactment of the CARES Act, so long as such tax-qualified retirement plans are amended to retroactively provide for such provisions on or before the last day of the first plan year beginning on or after January 1, 2022. Coronavirus-Related Distributions Individuals may make withdrawals from a tax-qualified retirement plan of up to $100,000 in 2020 as a “coronavirus-related distribution,” without such distributions being subject to the 10 percent additional tax that would typically apply to early distributions. Such distributions will, however, be taxable as ordinary income to the extent not repaid in the manner described below. Under the CARES Act, an employer would need to apply the $100,000 cap on such distributions to all distributions to an individual from all plans maintained by any member of the employer’s “controlled group” (in general, all 80 percent affiliates). “Coronavirus-related distributions” are broadly defined to include distributions made during the 2020 calendar year to individuals:
  • Who are diagnosed with SARS-CoV-2 or COVID-19;
  • Whose spouse or dependent is diagnosed with SARS-CoV-2 or COVID-19; or
  • Who experiences adverse financial consequences as a result of (1) being quarantined, furloughed, or laid off or having work hours reduced because of SARS-CoV-2 or COVID-19; (2) being unable to work due to lack of child care due to SARS-CoV-2 or COVID-19; or (3) closing or reducing hours of a business owned or operated by such individual due to SARS-CoV-2 or COVID-19.
Plan administrators may rely on an employee’s certification that such employee’s distribution qualifies as a coronavirus-related distribution. Individuals who receive coronavirus-related distributions will have the right to repay such distributions by making contributions to the plan from which the distribution was received over the three-year period beginning on the day after such coronavirus-related distribution was received. For any amounts that are repaid, the coronavirus-related distribution will be treated as an eligible rollover distribution (meaning that it will not be taxable to the individual), and the repayment will be treated as a transfer to the plan in a direct trustee-to-trustee transfer within 60 days of the distribution, even if the time-period for repayment extends beyond 60 days. To the extent coronavirus-related distributions are not repaid, any amount required to be included in gross income for the tax year of the distribution as a result of a coronavirus-related distribution will generally be included ratably over the three taxable years beginning with the tax year of the distribution. Loans from Qualified Retirement Plans For the 180 days following the date of the enactment of the CARES Act, for individuals who would qualify for distributions as noted above, the limit on loans from qualified retirement plans will be increased to the lesser of (1) $100,000 (from $50,000), or (2) 100 percent of the present value of the vested accrued benefit of the employee under the plan (under current law, loans cannot exceed 50 percent of such value). Additionally, for loans from a qualified retirement plan made to individuals who would qualify for coronavirus-related distributions as noted above that are outstanding on or after the date of enactment of the CARES Act:
  • Any due date for repayment that occurs during the period beginning on the date of enactment and ending on December 31, 2020 shall be delayed for one year;
  • Any subsequent repayments shall be appropriately adjusted to reflect the due date delay and any interest accruing during such delay; and
  • Any such delay shall be disregarded in satisfying the requirement that loans be repaid within five years.
Waiver of Minimum Distribution Rules Section 2203 of the CARES Act provides that minimum required distribution rules under Section 401(a)(9) of the Internal Revenue Code will not apply to certain defined contribution plans and individual retirement plans where the individual attained age 70-1/2 in 2019 and, therefore, the required beginning date is in 2020. Employee Retention Credits for Employers Facing difficult decisions about closures, employers should be aware that, under Section 2301, they may be eligible for a refundable payroll tax credit for 50 percent of “qualified wages” paid to employees during the COVID-19 crisis. This credit is available to employers whose (1) operations were fully or partially suspended because of a COVID-19-related shut-down order, or (2) gross receipts have declined by more than 50 percent when compared to the same quarter in 2019, until the business recovers to 80 percent of gross receipts relative to the same quarter. Like the tax credits created in the Families First Coronavirus Response Act (“FFCRA”), signed into law on March 18, 2020 (see Gibson Dunn's March 26, 2020 Client Alert), excess credits are refundable. The calculation of “qualified wages” depends on the number of employees (determined by taking the average number of employees in 2019), and is subject to an aggregate $10,000 cap per eligible employee for all calendar quarters, including health benefits. Modifications for Net Operating Losses The CARES Act temporarily suspends a number of the business loss limitations established by the 2017 tax reform law commonly known as the Tax Cuts and Jobs Act (“TCJA”). Under current law, net operating losses (“NOLs”) are subject to limitations based on taxable income and cannot be carried back to prior tax years. The CARES Act would modify current law to allow a taxpayer to carry back NOLs from tax years beginning in 2018, 2019, or 2020 up to five years. The NOLs cannot be carried back to offset the untaxed foreign earnings transition tax added to the Code in 2017; however, taxpayers can elect to exclude any tax years in which the foreign earnings are included into gross income from the calculation of the five-year carryback period. In addition, for taxable years beginning before January 1, 2021, the CARES Act removes a limitation on NOLs that prevents taxpayers from offsetting in excess of 80 percent of taxable income with NOLs. Real estate investment trusts (“REITs”) will not be able to carry back losses, and losses may not be carried back to any REIT year (regardless of whether the taxpayer incurring the loss is currently a REIT). The CARES Act would also modify the excess business loss limitation applicable to non-corporate taxpayers for 2018, 2019, and 2020, providing a benefit for these companies similar to that provided to corporations by the change to the NOL carryback rules. The limitations on excess farm losses under Code section 461(j) are suspended through the end of 2025. Modifications of Limitations on Business Interest Generally, the business interest allowable as a deduction is limited to 30 percent of adjusted taxable income (“ATI”), which currently is calculated in a manner similar to EBITDA, subject to certain modifications. The CARES Act would, for the 2019 and 2020 tax years, increase the limit from 30 percent to 50 percent of ATI. Further, taxpayers may elect to use their 2019 ATI in place of their 2020 ATI for purposes of determining business interest deductibility in 2020. Special provisions apply in the case of a partnership. Employer Payroll Tax Extension Certain employer payroll taxes for the period of the date of enactment until the end of the year would be deferred by the CARES Act. Fifty percent of those taxes could be deferred until December 31, 2021, and the remaining 50 percent could be deferred until December 31, 2022. Exclusion of Employer-Funded Student Debt Relief from Employee Taxable Income The CARES Act would add employer payments made prior to January 1, 2021, to an employee or lender for student loan principal and interest to the list of employee education assistance programs that an employee can exclude from his or her taxable income. The total amount of payments from employee education assistance programs that an employee can exclude from income remains capped at $5,250 per calendar year. These employee education assistance exclusions are unavailable for (1) programs that discriminate in favor of highly compensated employees or (2) programs where more than five percent of amounts paid are provided to five percent or greater owners. Additional Title II Tax Relief Excise Tax Holiday. Under the CARES Act, a federal excise tax holiday would apply to alcohol and distilled spirits in the production of hand sanitizer. $300 Charitable Deduction. The CARES Act allows an “above the line” charitable deduction of up to $300 for individuals who do not itemize. Refundable AMT Credit Modification. The corporate alternative minimum tax (“AMT”) was repealed by the TCJA. However, corporate AMT credits were made available as refundable credits over several years, ending in 2021. Section 2305 of the CARES Act accelerates the ability of companies to recover those AMT credits, permitting companies to claim a refund now and obtain additional cash flow during the COVID-19 emergency.

Title III: Supporting America’s Health Care System in the Fight Against the Coronavirus

Title III and the related appropriations provisions of the CARES Act provides an extensive program to support the health care system in its immediate response to COVID-19. The bill also includes provisions and investments intended to improve preparation for future disease outbreaks. In addition, Title III provides relief for education institutions and students. Immediate Funding for the Healthcare System In Division B of the CARES Act, Congress has provided substantial immediate funding for hospitals and other facilities in the healthcare system, through direct appropriations and availability of payments through Medicare and other federal healthcare programs. Congress appropriated $100 billion for the Public Health and Social Services Emergency Fund to support hospitals and other health care providers “for health care related expenses [not otherwise reimbursable] or lost revenues that are attributable to coronavirus” in Division B, Title VIII of the CARES Act. The funds are available to “eligible health care providers,” which “means public entities, Medicare or Medicaid enrolled suppliers and providers, and such for-profit entities and not-for-profit entities . . . as the Secretary may specify . . . that provide diagnoses, testing, or care for individuals with possible or actual cases of COVID–19.” In terms of process, “to be eligible for a payment . . . an eligible health care provider shall submit to the Secretary of Health and Human Services an application that includes a statement justifying the need of the provider for the payment.” Congress directs the Secretary to make payments on a rolling basis and the Secretary has flexibility to make advance payments or reimbursements. Recipients of these funds must comply with documentation requirements established by the Secretary, and the Secretary must provide reports to Congress every 60 days detailing the payments made. In addition, Division B, Title VII, provides more than $1 billion for the Indian Health Services to respond to the coronavirus outbreak. Funding For Countermeasures Congress designated $80 million in emergency funding for use by the Food and Drug Administration (“FDA”) in fighting the coronavirus, including to support “the development of necessary medical countermeasures and vaccines, advanced manufacturing for medical products, [and] the monitoring of medical product supply chains” in Division B, Title I. The emergency appropriations also include extensive funding for the Centers for Disease Control and Prevention, the National Institutes of Health, and other agencies for research, health surveillance programs, and other resources to respond to the crisis in Division B, Title VII. Building on earlier COVID-19 legislation, the emergency funding also includes investments in research for diagnostics, vaccines, and treatments for the virus, and for personal protective equipment (“PPE”) and other supplies for health care professionals administering countermeasures, including $16 billion in funding for these supplies as part of the Strategic National Stockpile addressed in Title III of the CARES Act, discussed below. Supporting Health Care Providers Measures to support health care providers on the front lines include payments in the form of increased Medicare reimbursements, such as increasing Medicare payments to hospitals for treating COVID-19 patients by 20 percent (Section 3710); extending Medicare advance payments for the duration of the public health emergency (Section 3719); temporarily lifting the so-called Medicare sequester, which has the effect of increasing payments to providers by 2 percent (Section 3709); and freeing up critical emergency resources in hospitals by increasing Medicare payments for coronavirus patients after they are discharged from the hospital and by providing what would otherwise be home-based services in the hospital (Sections 3708, 3711 and 3715). The provisions encourage the use of “technologies during the emergency period, including remote patient monitoring and broadening the range of providers who can provide telehealth” (Sections 3701-3707). The measures also extend coverage for treatment and prescription benefits under certain Medicare and Medicaid programs. The bill also reauthorizes or extends certain programs aimed at the education and development of healthcare professionals, including programs focused on health care for the elderly (Section 3403) and nurses (Section 3404). Insurance Provisions Regarding insurers, the bill provides for coverage of diagnostic tests for COVID-19 at “the cash price for such service as listed by the provider on a public internet website” or a lower negotiated rate, unless the insurer has negotiated a different rate with the provider prior to the start of the current public health emergency (Sections 3201-3202). In addition to COVID-19 tests that have not been approved or authorized by the FDA, the provisions include COVID-19 tests that have not yet received emergency use authorization, tests that are authorized by a State that has notified FDA of its intent to review the diagnostic tests, and the other tests that the FDA identifies by guidance. Health plans will also be required “to cover (without cost-sharing) any qualifying coronavirus preventive service,” which is “an item, service, or immunization that is intended to prevent or mitigate” COVID-19 (Section 3203). Limitations on Liability The CARES Act provides a limitation on liability for health care professionals. In general, “a health care professional shall not be liable under Federal or State law for any harm caused by an act or omission of the professional in the provision of health care services during the public health emergency with respect to COVID-19” if “the professional is providing health care services in response to such public health emergency, as a volunteer.” (Section 3215). There are certain limitations and exceptions. Notably, the bill includes a provision preempting state laws, “unless such laws provide greater protection from liability.” The CARES Act, in Section 3103, includes an important amendment to specifically recognize liability immunity under federal and state law for National Institute for Occupational Safety and Health (“NIOSH”)-approved respiratory protective devices that the Department of Health and Human Services (“HHS”) determines to be “a priority for use during a public health emergency.” The definition of “covered countermeasure” has included “devices,” “drugs,” and “biologics,” as these terms are defined in the federal Food, Drug and Cosmetic Act (“FDCA”), and some other defined categories. Many NIOSH-approved respirators, however, are not usually regulated as medical devices by FDA because they are not intended for medical applications. The CARES Act amends the definition of “covered countermeasures” that receive liability protection to specifically include these NIOSH-approved respiratory devices. Modernizing Regulation of Over-The-Counter Drugs The CARES Act also includes comprehensive reforms to the regulation of over-the-counter (“OTC”) drugs mirroring recently-proposed legislation. These provisions include speeding up the process for OTC monograph review with a more streamlined “administrative order” process in place of full notice-and-comment rulemaking proceedings, which can be lengthy and resource-intensive (Section 3851). To incentivize companies to invest in the research and development of innovative OTC drug products, Section 3851 also provides for an 18-month period of marketing exclusivity for OTC drug products with new active ingredients or conditions of use. Another significant reform establishes an OTC drug user fee program similar to the programs for prescription drugs and medical devices (Section 3862). The proceeds from the fee program will fund the FDA’s OTC monograph oversight and approval activities—a measure intended to address the resource challenges that the FDA has faced in implementing its OTC monograph program (Section 3861). Other OTC drug reforms include amending the FDCA to make explicit that the failure to comply with an applicable monograph renders an OTC drug “misbranded” and illegal to market in the United States (Section 3852); a clarification that the OTC monograph reforms do not apply to drugs the FDA previously excluded from the OTC monograph program (Section 3853); a provision permitting sponsors of sunscreen ingredients that have pending submissions with the FDA to seek review under the new monograph review process or in accordance with the Sunscreen Innovation Act (Section 3854); and a provision requiring the FDA to report annually to Congress on its progress in evaluating the pediatric indications for OTC cough and cold medications for children under six due to the potential safety risks such drugs may pose to young children (Section 3855). Planning For Future Crises The CARES Act includes a number of provisions aimed at improving the nation’s preparedness for public health emergencies. Section 3101 commissions a study by the National Academies of Sciences, Engineering and Medicine of the medical product supply chain. The resulting report and recommendations should include the input of relevant government agencies and outside stakeholders. COVID-19 has highlighted the fact that the manufacturing and supply chains for many pharmaceutical and device products have moved largely, if not entirely, overseas. Thus, if countries block the export of these products or of the critical ingredients or components, or there is some other disruption of this overseas supply, the United States is hampered in its ability to quickly manufacture and distribute critical medical supplies. This has become particularly apparent with the shortage of PPE for healthcare workers. In response to the recognized shortfall of critical medical supplies, Section 3102 requires the Strategic National Stockpile to include “personal protective equipment, ancillary medical supplies, and other applicable supplies required for the administration of drugs, vaccines and other biological products, medical devices and diagnostic tests in the stockpile.” As discussed above, the emergency appropriations designate $16 billion in funding for the Strategic National Stockpile. Section 3111 strengthens the mandate to the FDA to expedite the approval of drug applications for life-saving drugs in response to a discontinuance or manufacturing interruption that is likely to lead to a meaningful disruption in the supply of the drug. While the FDCA has stated that the FDA “may” expedite the review of an application and an inspection to mitigate or prevent such a drug shortage, the CARES Act provides that the FDA “shall, as appropriate” do so and that FDA will “prioritize” these actions. The CARES Act includes provisions to expand and establish reporting requirements for product discontinuations and manufacturing interruptions to the supply of drugs and medical devices. The provisions expand the existing manufacturer reporting requirements for drugs, including expansions for reporting about active pharmaceutical ingredients and for drugs that are critical during a public health emergency. Manufacturers of drugs, active pharmaceutical ingredients, or medical devices used to prepare or administer the drugs must develop risk management plans to address supply risks. Notably, the provisions establish a new framework of manufacturer reporting for medical devices that are “critical to public health during a public health emergency, including devices that are life-supporting, life-sustaining, or intended for use in emergency medical care or during surgery” and for medical devices for which HHS determines that the reporting is needed for a public health emergency (Sections 3112, 3121). The FDA has not had the authority to require medical device manufacturers to notify the agency when they became aware of a circumstance that could lead to a device shortage or meaningful disruption in the device supply. The CARES Act would establish this authority over certain medical devices and permit the FDA to expedite inspections and the review of device applications that may mitigate or prevent the device shortage. Increased Flexibility Under Health Plans Section 3701 of the CARES Act provides that, for plan years beginning on or before December 31, 2021, high deductible health plans may waive the deductible for telehealth and other remote care services without jeopardizing their status as a high deductible health plan. This amendment does not require that any such telehealth or other remote health care services for which there is no deductible be related to COVID-19. Expanded Coverage Under the Family and Medical Expansion Leave Act Section 3605 of the CARES Act broadens the definition of “eligible employee” in the Family and Medical Leave Expansion Act to give credit for prior service for employees who were laid off on March 1, 2020, or later; had previously worked for the employer for at least 30 of the last 60 days; and were later rehired by the same employer. Advance Refunding of Tax Credits Under last week’s Families First Coronavirus Response Act, certain employers are entitled to tax credits for Paid Sick and Paid Family and Medical Leave. Section 3606 will amend these provisions to allow the refundable portion of these credits to be advanced, subject to regulation and guidance. Additional Relief for Education Title III Subtitle B of the CARES Act—titled COVID-19 Pandemic Education Relief Act of 2020—includes several provisions aimed at providing emergency assistance related to elementary, secondary and higher education. Postsecondary Vocational Institutions. The legislation relaxes restrictions on the use and allocation of federal funds and grants provided during a declared emergency related to COVID-19; the legislation is primarily designed to allow higher education institutions to reallocate resources toward initiatives fighting the pandemic.
  • Under Section 3503, for the years 2019-2020 and 2020-2021, the Secretary of Education will waive an institution’s obligation to match federal grants for campus-based aid programs with an equivalent amount. This will only apply to non-profit organizations. Institutions will also be permitted to allocate funds previously assigned to work-study programs to supplemental grants.
  • Similarly, under Section 3504, institutions will be permitted to award additional emergency financial aid funds to students that have been impacted by COVID-19.
  • Under Section 3505, institutions will be allowed to issue work-study payments, for example, in the form of lump sums, to students who are not able to carry out their work under work-study schemes in light of workplace closures for the period of the declared emergency.
  • In addition, under Section 3518, the Secretary of Education will have authority to waive or modify current allowable uses of funds for institutional grant programs if so requested by an institution.
  • Institutions will also be able to request waivers from the Secretary of Education for financial matching requirements in competitive grant and other Minority Serving Institution (“MSI”) grant programs in the Higher Education Act. Both of these efforts are aimed at allowing colleges to deploy institutional resources to COVID-19 efforts.
  • Under Section 3510, during a declared emergency, certain foreign institutions will be permitted to offer distance learning to U.S. students that are receiving federal funds pursuant to title IV of the Higher Education Act of 1965.
  • Under Section 3512, the Secretary of Education will be empowered to defer payments on current Historically Black Colleges and Universities (“HBCU”) Capital Financing loans for the duration of the emergency related to COVID-19.
  • Similarly, under Section 3517, the Secretary of Education will receive the authority to waive certain outcome requirements for grant programs for HBCU and other MSI for the financial year 2021.
Relief for Student Loan Recipients. The CARES Act also includes a number of provisions related to individuals who have received study-related funding from the federal government. These provisions seek to both alleviate financial burdens on students and ease requirements usually associated with the receipt of these funds.
  • Under sections 3506 and 3507, terms affected by the declared emergency are excluded from counting towards lifetime subsidized loan eligibility and lifetime Pell Grant eligibility.
  • Under Section 3508, students are not required to return monies received pursuant to Pell Grants or federal student loans for a particular period if a student withdraws from the institution of higher education as a result of a qualifying emergency. Relatedly, institutions will not be required to calculate the amount of grant or loan assistance that the institution would otherwise have had to have returned to the government.
  • Under Section 3509, any grades and attempted credits that were not completed as a result of the declared emergency will not be counted towards a student’s federal academic requirements and eligibility to continue to receive Pell Grants or federal student loans.
  • Under Section 3513, student loan payments, including the payment of principal and interest of federally-owned student loans, are deferred for six months until September 30, 2020 without any penalty to student loan borrowers. $62 million of the stimulus package will be dedicated to this effort.
  • Under Section 3514, participants in National Service Corps programs that were due to receive educational awards before their duties were suspended or placed on hold as a result of the declared emergency related to COVID-19 will still receive that educational award. Age limits and terms of service will be extended to allow such individuals to continue participating in such programs after the declared emergency ends.
  • Under Section 3519, teachers who, barring COVID-19, would have finished their year of teaching service, will receive full credit for their partial year of service toward their TEACH grant obligations or Teacher Loan Forgiveness. The CARES Act also waives the requirement that teachers have to serve consecutively to be eligible for Teacher Loan Forgiveness if a teacher’s service is not consecutive as a result of coronavirus.
In addition, under Section 3515, local workforce boards will receive more flexibility in the allocation of funds received under the Workforce Innovation and Opportunity Act and state governors will be permitted to dedicate reserved workforce funds to rapid response activities to address coronavirus. Elementary and Secondary Education. Under Section 3511, the Secretary of Education is given authority to provide waivers to state and local education agencies from certain provisions, including testing requirements and reporting obligations of academic standards, pursuant to the Elementary and Secondary Education Act of 1965, which regulates funding of primary and secondary education. Education Stabilization Fund. The CARES Act provides $30.75 billion to the Department of Education’s Education Stabilization Fund to provide emergency support to local school systems and higher education institutions to continue to provide educational services to their students and support the on-going functionality of school districts and institutions. In addition, $69 million will be made available to tribal schools, colleges and universities through the Bureau of Indian Education. Single-Employer Defined Benefit Plans Under Section 3608 of the CARES Act, any minimum required contributions due for a single-employer defined benefit plan during the 2020 calendar year will not be required to be made until January 1, 2021 (with interest accruing through that date). Additionally, plan sponsors may treat the last plan year’s adjusted funding target attainment percentage as the percentage applicable to plan years which include the 2020 calendar year for purposes of applying the funding-based limitation on shutdown benefits and other unpredictable contingent event benefits. Federal Contractor Authority The bill includes a key provision to address the many federal government contractors whose contract performance has been impacted by the closure of their work sites as a result of COVID-19 mitigation measures. Section 3610 of the bill permits agencies to modify the terms and conditions of their government contracts to continue to pay contractors who cannot perform work at their work site, and cannot telework because of the nature of their jobs, due to COVID-19. Notably, reimbursement authorization is limited to any paid leave, including sick leave, that a contractor provides to “keep its employees or subcontractors in a ready state” “at the minimum applicable contract billing rates not to exceed an average of 40 hours per week,” and “in no event beyond September 30, 2020.” In addition, any reimbursement will be reduced by any credits otherwise allowed under the Act, or under the FFCRA.

Title IV: Economic Stabilization and Assistance to Severely Distressed Sectors of the United States Economy

The CARES Act provides $500 billion to the Treasury Department’s Exchange Stabilization Fund (“ESF”) to provide loans and loan guarantees for eligible businesses, states, and municipalities. Specifically, the CARES Act provides $25 billion for passenger air carriers; $4 billion for cargo air carriers; $17 billion for “businesses critical to maintaining national security”—though the legislation does not define this term; and $454 billion in support of the Federal Reserve’s lending facilities to eligible businesses, states, and municipalities. The Secretary of the Treasury will determine the terms and conditions of loans provided by the ESF. Accessing Funds The CARES Act further directs the Secretary of the Treasury to publish application procedures and additional requirements no later than 10 days after enactment of the legislation. The exact method for application and additional requirements for receiving funds will, therefore, remain uncertain until that date. Still, the CARES Act itself enumerates certain requirements for borrowers. Specifically, it provides that applicants will be eligible for a loan or loan guarantee only if the Secretary of the Treasury determines the following requirements are met:
  • The borrower certifies that it is a U.S.-domiciled business and it has significant operations and a majority of its employees in the United States;
  • For passenger air carriers, cargo air carriers, and businesses critical to national security, the Secretary of the Treasury determines the business has incurred, or is expected to incur, losses that jeopardize the continued operations of the business;
  • Credit is not otherwise reasonably available to the business;
  • The intended obligation by the applicant “is prudently incurred”;
  • The loan or loan guarantee is sufficiently secure or made at a rate that both reflects the risk of the loan or loan guarantee and is, if possible, no less than a comparable interest rate pre-COVID-19; and
  • The loan or loan guarantee’s duration is as short as practicable, but no longer than 5 years.
Restrictions On Borrowers The CARES Act places significant restrictions and obligations on businesses that borrow from the ESF. Specifically, from the date the loan agreement is executed until one year after the loan is no longer outstanding:
  • Borrowers are prohibited from engaging in stock buybacks, unless contractually obligated, or paying dividends until one year after the loan is no longer outstanding;
  • Borrowers must, to the extent practicable, maintain employment levels as of March 24, 2020, and retain no less than 90 percent of employees as of that date, until September 30, 2020;
  • Borrowers are prohibited from increasing the compensation of any employee whose compensation exceeds $425,000 or from offering them significant severance or termination benefits; and
  • Borrowers’ officers and employees whose total compensation exceeded $3 million in 2019 cannot receive compensation greater than $3 million, plus 50 percent of the amount over $3 million that the individual received in 2019.
Potential borrowers should carefully consider these restrictions before applying for ESF funds. Oversight Of Borrowers The CARES ACT provides the government with two significant ways to oversee borrowers’ use of ESF funds. First, the CARES Act creates a Special Inspector General For Pandemic Recovery (“Special Inspector General”) within the Department of the Treasury. The Special Inspector General is charged with overseeing and auditing the making, purchasing, management, and sale of loans, loan guarantees, and other investments made by the Secretary of the Treasury pursuant to the legislation. To that end, the Special Inspector General is charged with keeping detailed financial records of the funds dispersed. The CARES Act requires the Special Inspector General to submit reports to “the appropriate committees of Congress” every quarter. These reports must include detailed information on loans, loan guarantees, and investments made under the legislation. Second, the CARES Act creates a Congressional Oversight Commission (“Commission”) that is charged with overseeing the implementation of the legislation. The Commission will consist of five members. The majority and minority leaders of the Senate as well as the Speaker and minority leader of the House of Representatives will each appoint a member. The chairperson of the Commission will be appointed by the Speaker of the House of Representatives and the majority leader of the Senate. The Commission must release reports every thirty days and is empowered to hold hearings, take testimony, and receive evidence. Together, these two oversight mechanisms will subject borrowers to significant—and public—scrutiny regarding their use of ESF funds. Indeed, future congressional hearings at which borrowers testify are foreseeable. When making decisions regarding the use of ESF funds, borrowers should expect these decisions to be carefully and publicly examined through a political lens. Provisions Relating to Government Contracting The CARES Act provides key emergency appropriations of interest to government contractors and businesses that supply, or may begin supplying, products and services that the support the national defense in response to the COVID-19 pandemic. The CARES Act provides an additional $1 billion for purchases under the Defense Production Act (“DPA”), and in doing so, waives for a two-year period certain restrictions on the loan authorities reflected in sections 301 and 302 of the DPA, in addition to the other requirements waived pursuant to Section 4017 of the CARES Act. While the Trump Administration has not definitely announced whether it intends to issue orders under the DPA following the President’s March 18 Executive Order on Prioritizing and Allocating Health and Medical Resources to Respond to the Spread of COVID-19, the bill indicates that Congress, at least, foresees significant usage of the DPA in the coming months. The emergency appropriations also include $80 million for, and authorizes the creation of, a new oversight committee called the Pandemic Response Accountability Committee to promote transparency and oversight of CARES ACT appropriated funds. The Pandemic Response Accountability Committee, described in section 15010, was established within the Council of the Inspectors General on Integrity and Efficiency and comprised of various agency Inspector Generals in order to “(1) prevent and detect fraud, waste, abuse, and mismanagement; and (2) mitigate major risks that cut across program and agency boundaries.” The Committee’s functions include auditing or reviewing covered funds, including a comprehensive audit and review of charges made to Federal contracts pursuant to authorities provided in the CARES Act, to determine whether wasteful spending, poor contract or grant management, or other abuses are occurring. The Committee is also charged with referring appropriate matters to the Inspector General for the agency that disbursed the funds, conducting randomized audits to identify fraud, and reviewing whether contract competition requirements have been satisfied, among other functions. The Committee is empowered to conduct its own independent investigations, can issue subpoenas to compel testimony, and has the authorities provided under Section 6 of the Inspector General Act of 1978, including the power to subpoena documents. Within 30 days of the enactment of the CARES Act, the Committee is required to establish and maintain “a user-friendly, public-facing website to foster greater accountability and transparency in the use of covered funds and the Coronavirus response. . . .” The website is required to provide “detailed data on any federal awards that expend covered funds, including a unique trackable identification number for each project, information about the process that was used to award the covered funds, and for any covered funds over $150,000, a detailed explanation of any associated agreement, where applicable.” The creation of this Committee complements the efforts of the Justice Department and other agencies in combating fraud and other wrongdoing related to the coronavirus crisis. Additional Title IV Provisions In addition to establishing the ESF, Title IV includes provisions affecting debt, lending, financial institutions, and mortgages. It also grants government agencies additional power to temporarily guarantee debt or ease lending restrictions. Section 4008, for example, authorizes the Federal Deposit Insurance Corporation (“FDIC”) to establish a debt guarantee program to guarantee debt of solvent insured depositories and depository institution holding companies. This program (and any guarantees) must terminate no later than December 31, 2020. And Section 4011 permits the Office of the Comptroller of the Currency (“OCC”) to exempt any transaction from lending limits if the OCC finds an exemption would be “in the public interest consistent with the purposes of this section.” Other sections temporarily ease regulatory requirements on financial institutions. For instance, Section 4012 requires the “appropriate Federal banking agencies”—that is, FDIC, OCC, or the Board of Governors of the Federal Reserve System—to issue an interim final rule that (1) lowers the Community Bank Leverage Ratio (“CBLR”) to 8 percent and (2) provides a “reasonable grace period” if a community bank’s CBLR falls below this level. Similarly, Section 4013 allows financial institutions to suspend requirements under United States Generally Accepted Accounting Principles for loan modification related to the COVID-19 pandemic that would otherwise constitute a troubled debt restructuring. It also permits financial institutions to suspend determinations of loan modifications related to the COVID-19 pandemic. Additionally, a federal excise tax holiday would apply to federal taxes applicable to aviation kerosene, including at the refineries, terminals, or importation facilities. Foreclosure Provisions Sections 4022 and 4023, the relevant provisions of the CARES Act pertaining to residential and multifamily properties secured by “federally backed mortgages”, memorialized the announcements earlier this week from the Department of Housing and Urban Development as well as the Federal Housing Administration with respect to certain eviction restrictions, forbearance and foreclosure relief for owners of single-family and multi-family assets secured by federally insured mortgages. Generally, multi-family borrowers (assets designed for occupancy of 5 or more families) as distinct from other borrowers, are entitled to a shorter forbearance period and subject to certain other criteria, including temporary suspension of evictions regardless of any forbearance. Borrowers for Residential Real Property designed principally for the occupancy of 1-4 Families Section 4022(b)(1) provides, in general, that, during the “covered period” a borrower with a “Federally backed mortgage loan” experiencing a financial hardship due, directly or indirectly, to the COVID-19 emergency may request forbearance on the Federally backed mortgage loan, regardless of delinquency status, by (A) submitting a request to the borrower’s servicer and (B) affirming that the borrower is experiencing a financial hardship during the COVID-19 emergency. The duration of such forbearance granted shall be up to 180 days and shall be extended for an additional period of up to 180 daysat the request of the borrower, and during such time, no fees, penalties or interest beyond the amounts scheduled or calculated as if the borrower made all contractual payments on time and in full will accrue (Section 4022(b)(2) and (3)). Section 4022(c)(2) further imposes upon services of such federally backed mortgages a moratorium on foreclosure, as follows: “Except with respect to a vacant or abandoned property, a servicer of a Federally backed mortgage loan may not initiate any judicial or non-judicial foreclosure process, for more for a foreclosure judgment or order of sale, or execute a foreclosure-related eviction or foreclosure sale for not less than the 60 day period beginning on March 18, 2020.” For purposes of Section 4022, a “Federally backed mortgage loan” includes any loan which is secured by a first or subordinate lien on residential real property (including individual units of condominiums and cooperatives) designed principally for the occupancy of from 1-4 families that is (A) insured by the Federal Housing Administration under title II of the National Housing Act (12 U.S.C. § 1707 et seq); (B) insured under Section 255 of the National Housing Act (12 U.S.C. § 1715z-20); (C) guaranteed under Section 184 or 184A of the Housing and Community Development Act of 1992 (12 U.S.C. §§ 1715z-13a, 1715z-13b); (D) guaranteed or insured by the Department of Veterans Affairs; (E) guaranteed or insured by the Department of Agriculture; (F) made by the Department of Agriculture; or (G) purchased or securitized by the Federal Home Loan Mortgage Corporation or the Federal National Mortgage Association. Multi Family Borrowers (5 or more families) Section 4023, by contrast, provides that, during the “covered period” a “multi-family borrower” with a “federally backed multifamily mortgage loan” that was current on its payments as of February 1, 2020 may submit an oral or written request for forbearance under Section 4023(a) to the borrower’s servicer affirming that the multifamily borrower is experiencing a financial hardship during the COVID-19 emergency. Section 4203 defines the “covered period” as the period beginning on the date of enactment of the CARES Act and ending upon the sooner of “(A) the termination date of the national emergency concerning the novel coronavirus disease (COVID-19) outbreak declared by the President on March 13, 2020 under the National Emergencies Act (50 U.S.C. § 1601 et seq.) or (B) December 31, 2020.”  Section 4203 defines “multifamily borrower” as “a borrower of a residential mortgage loan that is secured by a lien against a property comprising 5 or more dwelling units.” For purposes of Section 4023, a “federally backed multifamily mortgage loan” includes any loan, other than temporary financing, such as a construction loan, that “(A) is secured by a first or subordinate lien on residential multifamily real property designed principally for the occupancy of 5 or more families, including any such secured loan the proceeds of which are used to prepay or pay off an existing loan secured by the same property; and (B) is made in whole or in part, or insured, guaranteed, supplemented, or assisted in any way, by any officer or agency of the Federal Government or under or in connection with a housing or urban development program administered by the Secretary of Housing and Urban Development or a housing or related program administered by any other such officer or agency, or is purchased or securitized by the Federal Home Loan Mortgage Corporation or the Federal National Mortgage Association.” Upon receipt of an oral or written request from a multi-family borrower, a servicer shall (A) document the financial hardship; and (B) provide the forbearance for up to 30 days; and (C) extend the forbearance for up to 2 additional 30 day periods upon the request of borrower, provided that the borrower’s request for an extension is made during the covered period and, at least 15 days prior to the end of the forbearance period described under sub-paragraph (B). Renter Protections (Multi-Family Borrowers) A multifamily borrower receiving forbearance under Section 4023 may not, for the duration of the forbearance, do any of the following: (1) evict or initiate the eviction of a tenant from a dwelling unit located in or on the applicable property solely for nonpayment of rent or other fees or charges; (2) charge any late fees, penalties or other charges to a tenant described at clause (1) for late payment of rent; (3) require a tenant to vacate a dwelling unit located in or on the applicable property before the date that is 30 days after the date on which the borrower provides the tenant with a notice to vacate; and (4) may not issue a notice to vacate until after the expiration of the forbearance (Section 4023(d) and (e)). Section 4024 further imposes a temporary moratorium on eviction filings for a 120 day period beginning on the date of the enactment of the Act, regardless of whether such lessor is the subject of any forbearance granted under the Act. 4024(b) provides, in pertinent part, that “the lessor of a covered dwelling[2] may not “make, or cause to be made, any filing with the court of jurisdiction to initiate a legal action to recover possession of the covered dwelling from the tenant for nonpayment of rent or other fees or charges” or take any of the other actions prohibited in the immediately preceding paragraph for the duration of the moratorium. _________________________    [1]   We will issue a more detailed description of this program, including tips for what companies interested in the program can do now, in a future client alert.    [2]   Covered Dwelling is defined as a dwelling that (A) is occupied by a tenant (i) pursuant to a residential lease or (ii) without a lease or with a lease terminable under State law; and (B) is on or in a covered property. Covered Property is, in turn, defined to mean any property that (A) participates in a covered housing program under the Violence Against Women Act, or the rural housing voucher program under the Housing Act; or (B) has a federally backed mortgage loan or federally backed multifamily mortgage loan, as these terms are defined earlier in this Alert.
Gibson Dunn's lawyers are available to assist with any questions you may have regarding developments related to the COVID-19 outbreak. For additional information, please contact any member of the firm's Coronavirus (COVID-19) Response Team. Gibson Dunn lawyers regularly counsel clients on issues raised by this pandemic, and we are working with many of our clients on their response to COVID-19. Please feel free to contact the Gibson Dunn lawyers with whom you usually work, any member of the firm's Tax Group, Public Policy Group, Corporate Transactions Group, Government Contracts Group, Labor and Employment Group, Business Restructuring and Reorganization Group, FDA and Health Care Group, International Trade Group, Real Estate Group, or other groups (view practice groups), or the following authors: Michael D. Bopp – Washington, D.C. (+1 202-955-8256, mbopp@gibsondunn.com) James Chenoweth – Houston (+1 346-718-6718, jchenoweth@gibsondunn.com) Catherine A. Conway – Co-Chair, Labor & Employment Practice Group, Los Angeles (+1 213-229-7822, cconway@gibsondunn.com) Stuart Delery – Washington, D.C. (+1 202-887-3650, sdelery@gibsondunn.com) Sean C. Feller – Century City (+1 310-551-8746, sfeller@gibsondunn.com) Marian J. Lee – Washington, D.C. (+1 202-887-3732, mjlee@gibsondunn.com) Karl G. Nelson – Dallas (+1 214-698-3203, knelson@gibsondunn.com) Michael A. Rosenthal – New York (+1 212-351-3969, mrosenthal@gibsondunn.com) Jason C. Schwartz – Co-Chair, Labor & Employment Practice Group, Washington, D.C. (+1 202-955-8242, jschwartz@gibsondunn.com) Greta B. Williams – Washington, D.C. (+1 202-887-3745, gbwilliams@gibsondunn.com) Lorna Wilson – Los Angeles (+1 213-229-7547, lwilson@gibsondunn.com) Roscoe Jones, Jr.* - Washington, D.C. (+1 202-887-3530, rjones@gibsondunn.com) Benjamin K. Belair – Washington, D.C. (+1 202-887-3743, bbelair@gibsondunn.com) Virginia Blanton* – Washington, D.C. (+1 202-887-3587, vblanton@gibsondunn.com) Courtney M. 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(+1 202-955-8296, LSullivan@gibsondunn.com) JeanAnn Tabbaa* – Washington, D.C. (+1 202-955-8690, jtabbaa@gibsondunn.com) Blair Watler* – Washington, D.C. (+1 202-955-8248, bwatler@gibsondunn.com) Please also feel free to contact any of the following practice group leaders: Tax Group: Jeffrey M. Trinklein – Co-Chair, London/New York (+44 (0)20 7071 4224 /+1 212-351-2344), jtrinklein@gibsondunn.com) David Sinak – Co-Chair, Dallas (+1 214-698-3107, dsinak@gibsondunn.com) James Chenoweth – Houston (+1 346-718-6718, jchenoweth@gibsondunn.com) Brian W. Kniesly – New York (+1 212-351-2379, bkniesly@gibsondunn.com) Eric B. Sloan – New York (+1 212-351-2340, esloan@gibsondunn.com) Edward S. Wei – New York (+1 212-351-3925, ewei@gibsondunn.com) Benjamin Rippeon – Washington, D.C. (+1 202-955-8265, brippeon@gibsondunn.com) Daniel A. Zygielbaum – Washington, D.C. (+1 202-887-3768, dzygielbaum@gibsondunn.com) Dora Arash – Los Angeles (+1 213-229-7134, darash@gibsondunn.com) Paul S. 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(+1 202-887-3546, jphillips@gibsondunn.com) International Trade Group Judith Alison Lee – Washington, D.C. (+1 202-887-3591, jalee@gibsondunn.com) Real Estate Group Danielle A. Katzir­ – Los Angeles, CA (+ 1 213-229-7630, dkatzir@gibsondunn.com) * Not admitted to practice in Washington, D.C.; currently practicing under the supervision of Gibson, Dunn & Crutcher LLP. © 2020 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

March 5, 2020 |
Gibson Dunn Earns 155 Rankings from Chambers Global 2020

In the 2020 edition of Chambers Global, Gibson Dunn earned 155 total rankings – 56 firm practice group rankings and 99 individual rankings.  The firm and its lawyers were recognized globally and in the Asia-Pacific, Europe, Latin America and Middle East regions, with additional recognitions in Belgium, China, France, Germany, India, Indonesia, the Philippines, Singapore, the United Arab Emirates, the United Kingdom and the United States.  This year, 79 Gibson Dunn attorneys were identified as leading lawyers in their respective practice areas, with a number ranked in more than one category.

February 19, 2020 |
CFIUS Reform: Top Ten Takeaways from the Final FIRRMA Rules

Click for PDF On February 13, 2020, final regulations went into effect to expand the scope of inbound foreign investment subject to review by the Committee on Foreign Investment in the United States (“CFIUS” or the “Committee”). CFIUS is an inter-agency federal government group authorized to review the national security implications associated with foreign acquisitions of or investments in U.S. businesses and to block transactions or impose measures to mitigate any threats to U.S. national security. Until last year, the Committee’s jurisdiction was limited to transactions that could result in the control of a U.S. business by a foreign person. As we described here, the 2018 Foreign Investment Risk Review and Modernization Act (“FIRRMA”) expanded the scope of transactions subject to the Committee’s review to include certain non-controlling but non-passive foreign investments in U.S. businesses involved in critical technologies, critical infrastructure, or sensitive personal data of U.S. citizens (abbreviated as “TID” businesses for technology, investment, and data) as well as real estate transactions—including leases, sales, and concessions—involving air or maritime ports or in close proximity to sensitive U.S. government facilities.[1] Many of the critical issues set forth in FIRRMA were clarified by proposed regulations published by the U.S. Department of the Treasury on September 17, 2019, described here, and further refined in the final regulations published on January 13, 2020. In a city that is rarely praised for efficiency or collaboration, the deliberative process that shaped these new rules merits some discussion. At the earliest stages of the legislative process, proposed CFIUS reform bills would have required scrutiny of innumerable transactions with no ostensible national security risk—including passive foreign investments through investment funds in ostensibly low risk industries and joint ventures with a foreign company partner. After months of negotiations, the House and Senate agreed upon legislation that expanded the scope of transactions subject to the Committee’s review, but punted key details to subsequent implementing regulations. Since proposing such regulations last year, the Committee sought and reviewed numerous written comments and requests for clarifications regarding the regulations in a transparent and public process. The final regulations reflect several changes made in response to such feedback, as well as lessons learned during the pilot program for mandatory filings involving certain types of critical technologies (the “Pilot Program”). The result is a smarter set of regulations designed to target real risks, as well as commentary that reflects the effort being made by the intelligence community to assess and adapt to increasingly complex investment structures. Our top ten observations regarding these new regulations are set forth below.

1.  Mandatory Filings for Critical Technology U.S. Business Transactions

The final regulations retain—with relatively minor changes—the Pilot Program’s mandatory fling requirement for certain transactions involving investments by foreign persons in U.S. businesses that deal in one or more “critical technologies.” The Pilot Program had served for the last year as a laboratory for the Committee to test out certain aspects of its newly expanded authorities—including mandatory pre-transaction filings for transactions involving critical technology U.S. businesses. These high-risk technologies include items subject to existing U.S. export controls, including emerging and foundational technologies to be identified pursuant to the Export Control Reform Act of 2018 (“ECRA”). Under the new rules, transactions triggering mandatory CFIUS review will continue to include any investment by which a foreign person acquires material nonpublic technical information about the target critical technology U.S. business, membership or observer rights on the target’s board, or the right to participate in substantive decision-making, as well as transactions in which foreign persons acquire control of a critical technology U.S. business. Such businesses include those companies that produce, design, test, manufacture, fabricate, or develop certain items subject to the Export Administration Regulations (“EAR”), defense articles or defense services subject to the International Traffic in Arms Regulations (“ITAR”), “emerging and foundational technologies” that are to be identified through an interagency process chaired by the Department of Commerce going forward, as well as items subject to several other U.S. export control regimes. To trigger the mandatory filing requirement under current regulations, the critical technology U.S. business in which the foreign person plans to invest must also operate in one of 27 high-risk industries identified by their five-digit North American Industry Classification System (“NAICS”) codes in Appendix B to Part 800.  Notably, the Pilot Program illustrated that there is no definitive means for establishing the NAICS code applicable to a particular U.S. business, that a company’s “primary” NAICS code—which CFIUS often requests—may not capture the full scope of its business operations, and that companies also often have limited experience with evaluating the applicable NAICS codes or establishing a process for doing so.  Rather than depend on this uncertain, unfamiliar metric for determining its jurisdiction, the Committee has indicated that it will eventually propose a new rule to replace the use of NAICS codes with a requirement based on export control licensing requirements.  This change will likely make jurisdictional determinations more efficient and certain.  The jurisdictional assessment for critical technology transactions already requires an evaluation of the target’s exposure to U.S. export controls.  Additionally, determining export controls classifications and applicable license requirements is a common component of compliance for many companies dealing in critical technologies. Forthcoming Commerce Department regulations to implement ECRA’s mandate will further clarify the range of companies that will be impacted by the Committee’s jurisdiction over critical technology business transactions.  Under the Pilot Program and continuing under the new CFIUS regulations, “critical technologies” include items to be controlled as “emerging and foundational technologies” under new regulations the Commerce Department is required to promulgate.  Observers have been expecting new regulations on emerging technologies—which will purportedly include new controls on particular kinds of artificial intelligence and quantum computing technology, among several other areas of emerging technology—to be published for months.  (The Commerce Department has yet to publish a companion Advanced Notice of Proposed Rulemaking to solicit input on how to define and identify foundational technologies.)  Commerce Department officials have repeatedly stated that publication of the new rules and controls on emerging technologies is imminent, but deliberations within the Trump administration appear to be delaying their publication.  Depending on the schedule for publishing these rules and how the Commerce Department follows through on ECRA’s expressed preference for building international support to impose multilateral controls on specific technologies, it could be many months or even years before any specific definitions of emerging or foundational technologies are adopted. For transactions subject to the CFIUS mandatory filing requirement, parties will continue to have the option of either filing a short-form declaration available on the Committee’s website or filing a full-length notice.  In many cases, given the close scrutiny to which transactions involving critical technologies have recently been subject, a full-length notice may be advisable in order to reduce the total amount of time required for the Committee to complete its review, as described further below.

2.  Mandatory Filings for Substantial Foreign Government Investments

In addition to the mandatory filing requirement for non-passive, non-controlling investments in a U.S. business dealing in critical technologies in connection with certain high-risk industries, filings are now also required for all transactions by which a foreign government obtains a “substantial interest” in a TID U.S. business.  Specifically, a CFIUS filing is now required when a foreign government holds a 49 percent or greater voting interest in a foreign person that would obtain a 25 percent or greater voting interest in the target U.S. business.  In the case of an entity with a general partner, managing member, or equivalent, the Committee will consider a foreign government to have a “substantial interest” if the foreign government holds 49 percent or more of the interest in the general partner, managing member, or equivalent.  The new regulations further clarify that a “substantial interest” applies to a single foreign government, including both national and subnational governments, and their respective departments, agencies, and instrumentalities.  In this regard, the Committee does not aggregate foreign governments’ interests when determining whether they are “substantial.”

3.  New Exceptions to Mandatory Filings Requirements

In response to public comments, the final CFIUS regulations incorporate several new exceptions to mandatory filing requirements:
  • Foreign Ownership, Control, or Influence (“FOCI”) Mitigated Entities. The final CFIUS regulations incorporate an exception for investments by foreign investors operating under a valid facility security clearance and subject to an agreement to mitigate FOCI pursuant to the National Industrial Security Program regulations.  Such FOCI mitigation agreements require the foreign entity holding a facility security clearance to implement an action plan to mitigate the security risk that the foreign ownership, control, or influence poses.
  • Exception for Investments Involving License Exception ENC. The regulations include a narrow exception for foreign investments in a U.S. business that would otherwise trigger a mandatory filing solely because the business produces, designs, tests, manufactures, fabricates, or develops one or more critical technologies that are eligible for License Exception ENC under the EAR, which authorizes the export of encryption commodities, software, and technology without a specific government-issued license. Helpfully, this exception will apply to many software and technology companies that include different kinds of encryption functionality in their products.
As described further below, the final CFIUS regulations retain exceptions from the mandatory filing requirement for passive and indirect foreign investment made through investment funds, as well as covered investments by certain “excepted” investors from exempted foreign states.

4.  Declarations for All Transactions—Still No Filing Fees

In order to help CFIUS and the regulated public manage the burden of CFIUS’s expanded remit, FIRRMA provided a new-short form filing—the “declaration.” These declarations are built from a standard five-page form, available on CFIUS’s website. They require similar, but less extensive, information about the proposed transaction than the standard notice and are subject to an abbreviated 30-day review period. Over the last year, CFIUS has test-driven this new filing tool in its Pilot Program. Parties to a Pilot Program covered transaction—including covered investments in and acquisitions of critical technology U.S. businesses—were required to file with the Committee in advance of closing the transaction and could choose to submit either a short-form declaration or the traditional long-format notice. But the Pilot Program proved a poor testing ground for the new tool. Perhaps because of the national security concerns inherent in Pilot Program covered transactions—which dealt exclusively with companies handling export controlled technology for sensitive industries—or because of the Committee’s expanded case load, CFIUS was frequently unable to clear declaration cases within the shortened 30-day review period. As a result, CFIUS would often request parties subsequently file a notice—increasing the amount of work required of the parties and dramatically extending the total CFIUS review timeline. By some estimates, only 10 percent of cases filed with CFIUS using the new short-form declaration were cleared in the shortened review period. Now the declaration is getting a wider release. Under the new regulations, parties to any transaction subject to CFIUS review are permitted to submit a short-form declaration as an alternative to the lengthier voluntary notice procedure that is subject to an expedited review process. The declaration may become more useful as parties to relatively low-risk transactions can now opt for the short-form filing and shorter review timeline. The Committee itself has cautioned that parties should consider the likelihood that CFIUS will be able to conclude action in the 30 days allotted for reviewing a declaration when determining which format to file, suggesting that the long-form notice may be more appropriate for more complex transactions bearing indicia of national security risk. Interestingly, neither submission format is yet subject to a filing fee, although fees will likely be proposed pursuant to forthcoming regulations.

5.  Preliminary List of Excepted Foreign States

The new CFIUS regulations create an exception from certain real estate transactions and non-controlling TID investments (but not transactions that could result in control) for investors based on their ties to certain countries identified as “excepted foreign states,” and their compliance with certain laws, orders, and regulations (including U.S. sanctions and export controls).[2] Although CFIUS initially suggested that it would be several years before such excepted foreign states were named, the Committee’s final regulations defied observers’ expectations by exempting investors from three named countries—Australia, Canada, and the United Kingdom—from CFIUS scrutiny in certain circumstances. Although the timing of the announcement surprised observers, the countries it selected were of no surprise. Australia, Canada, and the United Kingdom are all members of the multilateral UKUSA Agreement under which the so-called “Five Eyes”—the United States, Australia, Canada, New Zealand, and the United Kingdom—share intelligence data. According to the Committee these countries were selected due to aspects of their robust intelligence-sharing and defense industrial base integration mechanisms with the United States. A country’s status as an excepted foreign state is conditioned upon the implementation of their own process to analyze foreign investments for national security risks and to facilitate coordination with the United States on matters relating to investment security, by February 13, 2022. This two-year grace period will provide the Committee with time to develop processes and procedures to determine whether the standard has been met with respect to other jurisdictions. Although the Committee, indicated that it takes no current position as to whether these foreign states currently meet the review process requirement, all three named countries either have or are formalizing investment review processes. Although CFIUS could expand the list of “excepted foreign states” in advance of 2022, few other allies are as closely interwoven with the United States as Australia, Canada or the United Kingdom.  Moreover, the new regulations eliminate language in the proposed rules that would have allowed an eligible country to be selected with a consensus of two-thirds of CFIUS’s voting members.  As a result, selection of an additional eligible country likely would require consensus among the entire Committee.  Furthermore, the final regulations warn that an expansive application carries potentially significant implications for the national security of the United States, suggesting that a “go-slow” approach to expanding the list of excepted foreign states is likely to prevail.

6.  Clarifying the Excepted Investor Provision

The excepted investor provision was designed to accommodate increasingly complex ownership structures in the application of the Committee’s jurisdiction, and generally exempts persons, governments, and entities from excepted foreign states from certain types of CFIUS scrutiny. As mandated by FIRRMA, this exception was intended to limit the expansion of CFIUS jurisdiction. Notably, the final regulations revised the earlier proposed definition of excepted investor in response to numerous comments which suggested relaxing the criteria with respect to the nationality of board members and observers, the percentage ownership limits for individual investors, and the minimum excepted ownership. The final regulations indicate that a foreign entity will qualify as an excepted investor if it meets each of the following conditions with respect to itself and each of its parents: (i) such entity must be organized under the laws of an excepted foreign state or the United States, (ii) such entity must have its principal place of business in an excepted foreign state or the United States, (iii) 75 percent or more of the members and 75 percent or more of the observers of the board of directors or the equivalent governing body of such entity are U.S. nationals or nationals of one or more excepted foreign states who are not also nationals of any non-excepted foreign state, (iv) any foreign person that individually, and each foreign person that is part of a group of foreign persons that in the aggregate holds 10 percent or more of the outstanding voting interest of such entity (or otherwise could control such entity) is a foreign national of one or more excepted foreign states who is not also a national of any non-excepted foreign state; a foreign government of an excepted foreign state; a foreign entity that is organized under the laws of an excepted foreign state and has its principal place of business in an excepted foreign state or in the United States; and (v) the minimum excepted ownership of such entity is held, individually or in the aggregate, by one or more persons each of whom is (A) not a foreign person; (B) a foreign national who is a national of one or more excepted foreign states and is not also a national of any foreign state that is not an excepted foreign state; (C) a foreign government of an excepted foreign state; or (D) a foreign entity that is organized under the laws of an excepted foreign state and has its principal place of business in an excepted foreign state or in the United States. The final rules increased the number of foreign nationals that may be on an excepted company’s board, raised the percentage ownership limit for individual investors in an excepted investor entity, and allow investors to have more foreign ownership than under the earlier proposed rules and still qualify for excepted status. However, the exception remains significantly cabined by the multiple layers of criteria it includes, and it remains possible for investors to lose excepted investor status and for their investments to become subject to CFIUS review. Additionally, CFIUS rejected commenters’ requests for a separate exception for “repeat customers” of the Committee who have previously or routinely obtained clearance and remain in good stead. Notably, an investor’s nationality is not dispositive—the regulations identify additional criteria that a foreign person must meet in order to qualify for excepted investor status. Among these, investors cannot qualify for and may lose their excepted status if they are parties to settlement agreements with the U.S. Department of the Treasury’s Office of Foreign Assets Control (“OFAC”) or the U.S. Department of Commerce Bureau of Industry and Security (“BIS”), or are debarred by the U.S. Department of State, for sanctions or export control violations.

7.  Investment Fund Carve-Out

The new rules also place limitations on the Committee’s jurisdiction with respect to passive and indirect foreign investments made through investment funds in TID U.S. businesses. An indirect investment by a foreign person in a TID U.S. business through an investment fund that affords the foreign person membership as a limited partner on an advisory board of the fund will not be considered a covered investment if certain conditions are met. First, the fund must be managed exclusively by a general partner or equivalent that is not a foreign person. Further, the advisory board membership must not afford the foreign person the ability to control the fund, participate in substantive decision-making regarding the fund, or access material nonpublic technical information. In its discussion of the new regulations, CFIUS also makes clear that this exception is limited and is not intended to create a presumption that any indirect investment by a foreign person in a TID U.S. business through an investment fund is a covered transaction if these criteria are not met. Instead, TID business investments will need to be analyzed on a case-by-case basis. In the preamble to the new regulations, CFIUS indicated that numerous commenters requested further clarification regarding the scope of the investment carve-out, recommending revisions to the definition of “foreign entity” to focus on control by foreign persons, requesting additional examples of the types of limited partner rights that would not give rise to control. Citing the limitations of its authority under FIRRMA, the Committee declined to make most of these suggestions, opting instead to set forth a new interim rule defining “principal place of business” for CFIUS purposes, a measure that will address investment funds managed and controlled by U.S. persons in the United States, among other issues. The Committee did not adopt suggestions to apply the minimum excepted ownership criteria only to the general partner in a fund setting, noting that investment fund structures can vary significantly and limited partners may have significant rights vis-à-vis their investment interests. As described further below, the new regulations provide an exemption to the mandatory filing requirement for investment funds controlled and managed by U.S. nationals. The regulations clarify, however, that a limited partner in a fund could have a filing obligation separate and apart from that of the fund. If a limited partner, for example, is granted control rights or access to material nonpublic technical information of a TID U.S. business, the limited partner may be subject to its own mandatory filing even if the fund itself is not.

8.  New Principal Place of Business Interim Rule

In response to public comments seeking greater clarity about which entities are subject to CFIUS jurisdiction (including the aforementioned investment fund carve-out), the Treasury Department in January 2020 issued an interim rule defining an entity’s principal place of business as “the primary location where an entity’s management directs, controls, or coordinates the entity’s activities, or, in the case of an investment fund, where the fund’s activities and investments are primarily directed, controlled, or coordinated by or on behalf of the general partner, managing member, or equivalent.” Until now, the term principal place of business—which bears on whether an entity is “foreign” and thus subject to CFIUS jurisdiction—was undefined. The new definition, proposed in January 2020, was subject to a 30-day public comment period that ended on February 18, 2020. That definition broadly tracks the test used by U.S. federal courts for determining diversity jurisdiction, in which the court looks to where the corporate “nerve center” is located. The definition of principal place of business also includes a special rule designed to ensure “consistent treatment of an entity’s principal place of business in accordance with its own assertions to government entities, provided the facts have not changed since those assertions.” The new CFIUS definition of principal place of business therefore contains a second prong which provides that if an entity has represented to a U.S. federal, state, local or foreign government in its most recent submission or filing with that authority that its principal place of business is outside the United States, then that location will be deemed the entity’s principal place of business unless the entity can show that such location has since changed to the United States. From a policy standpoint, this carve-out appears designed to prevent entities from having their cake and eating it too—for example, by claiming to be based overseas for tax purposes, while also claiming to be U.S.-based for CFIUS purposes. This is an important clarification for foreign incorporated companies traded on U.S. exchanges, as the Committee continues to assert that U.S. shareholder addresses do not necessarily demonstrate that the owners of stock are U.S. nationals. The final FIRRMA regulations were modified in several significant ways in response to comments that were received during the last comment period, and we expect a similarly robust dialogue between the Committee and the business community regarding this new proposed definition.

9.  Personal Data Collections

The new rules also extended CFIUS jurisdiction to include review of certain investments in U.S. businesses that maintain or collect certain categories and quantities of sensitive data that may be exploited in a manner that threatens national security. This new category of jurisdiction covers U.S. businesses that (i) target or tailor products or services to sensitive populations, including U.S. military members and employees of federal agencies involved in national security; (ii) collect or maintain sensitive personal data on at least one million individuals; or (iii) have a “demonstrated business objective” to maintain or collect such data on greater than one million individuals with such data representing an integrated part of a U.S. business’s primary products or services. “Sensitive personal data” can include, among other types, financial data, geolocation data, U.S. government personnel clearance data, or biometric information that is maintained or collected by U.S. businesses described in (i)-(iii), above. Information derived from the results of genetic testing is considered “sensitive personal data” regardless of whether the business holding it is also described in (i)-(iii), above. Investments that provide a foreign person with certain information or governance rights with respect to such sensitive data U.S. businesses now trigger CFIUS jurisdiction. In its final rules, the Treasury Department made few changes to this expanded jurisdiction in response to comments it received. Some commenters had expressed concern that the scope of information CFIUS considered to be sensitive personal data was too broad and would exceed what is necessary to protect national security. CFIUS refined the rule to clarify that data collected by U.S. businesses on their own employees, with certain exceptions for federal employees and contractors, and data that is a matter of public record does not quality for CFIUS review. A further clarification was made to narrow the scope of financial data covered by CFIUS to include only data that could be used to determine an individual’s financial distress or hardship. There is still significant uncertainty regarding CFIUS’s potential use of this new rule, and it will likely be some time before its scope is fully understood. However, given the central and often commonplace role that data collection plays in many of today’s businesses, its application could be quite broad. What is clear from the promulgation of these new regulations is that any company with even moderate data collection practices will have to consider the potential impact of CFIUS on covered transactions. The threshold of collection or maintenance of data on at least one million individuals, or the demonstrated business objective to do so, is unlikely to provide a meaningful barrier to CFIUS review in many situations. There are some initial indications that CFIUS will broadly interpret its jurisdiction over transactions involving sensitive personal data in a way that could affect many companies that may be unaccustomed to the challenges of navigating U.S. trade controls. For example, in March 2019, the Committee ordered Beijing Kunlun Tech Co. Ltd. (“Kunlun”) to sell its interest in Grindr LLC, a popular dating application focused on the LGBTQ community. Kunlun, a Chinese technology firm, acquired an approximately 60 percent interest in Grindr in January 2015 and subsequently completed a full buyout of the company in January 2018. Although CFIUS did not comment publicly, observers have speculated that the action was prompted over the Chinese firm’s access to sensitive personal data from Grindr users—such as location, sexual preferences, HIV status, and messages exchanged via the app. The Committee similarly intervened with Shenzhen-based iCarbonX after it acquired a majority stake in PatientsLikeMe, an online service that helps patients find people with similar health conditions within a user-base of around 700,000 people. As these cases suggest, CFIUS’s new jurisdiction over sensitive data U.S. businesses could affect a wide range of technology companies and service providers that have not typically been subject to CFIUS review or particularly burdensome U.S. export controls and may not be adequately prepared for such scrutiny.

10.  Real Estate Transactions

As expected, the newly promulgated rules also expand CFIUS jurisdiction into new territory, including real estate transactions. Specifically, the Committee now has jurisdiction over the purchase or lease by, or concessions to, a foreign person of U.S. real estate that is within a defined range of certain airports, maritime ports, U.S. military installations, and other sensitive government sites listed in Appendix A to Part 802. In a departure from CFIUS jurisdiction under prior rules, the Committee has jurisdiction to review real estate transactions even when the transaction does not involve a “U.S. business.” Importantly, however, even if the real estate at issue is not covered under the Committee’s expanded jurisdiction or if the foreign person did not acquire sufficient property rights as described below, CFIUS could still have jurisdiction over the transaction if it involves the transfer of control over (or a qualifying investment in) a U.S. business. Covered real estate transactions include property associated with maritime ports and major domestic airports, and property located within “close proximity” or the “extended range” of certain military installations and other sensitive government sites identified in an appendix to the regulations. “Close proximity” is defined as property within one mile of the boundary of such facilities; whereas “extended range” is generally defined as property within 99 miles of identified government locations. CFIUS anticipates making a web-based tool available to help the public understand the geographic coverage of the new rule. Additional limitations narrow the scope of what real estate transactions are covered. For example, a foreign person must acquire specified property rights in “covered real estate” to trigger CFIUS scrutiny—namely, the foreign person must be afforded as a result of the transaction three or more of the following property rights: (i) to physically access; (ii) to exclude; (iii) to improve or develop; or (iv) to affix structures or objects. The regulations leave undefined lesser rights. Importantly, the right or ability to determine the type of development to occur on the property, or to participate in decisions regarding tenants or leases, or to monitor the property likely would not trigger CFIUS jurisdiction. Furthermore, specific exceptions apply to certain properties in urban areas. Real estate in “urbanized areas” and “urban clusters” as defined by the Census Bureau in the most recent U.S. census are excluded from the Committee’s real estate jurisdiction. Urban clusters are those territories with between 2,500 and 50,000 individuals whereas urbanized areas are those with more than 50,000 people. The urbanized area exclusion applies to covered real estate everywhere except where it is in “close proximity” to a military installation or sensitive U.S. government facility or where it will function as part of an airport or maritime port. Real estate transactions regarding single housing units and certain commercial office space are also excepted under the new rules.

Conclusion

If past is prologue, the Committee’s enforcement efforts in the coming months will highlight the types of risks that these new regulations are designed to target. In 2019, CFIUS forced several foreign companies to divest from U.S. businesses involved in the collection of sensitive personal data or cybersecurity, two issues likely to remain in the Committee’s crosshairs. Buoyed by new funding and personnel, we expect the Committee to proactively monitor the market for similarly high-risk transactions in the coming year. _________________________    [1]   FIRRMA was incorporated into the John S. McCain National Defense Authorization Act for Fiscal Year 2019, which was signed into law by President Trump on August 13, 2018.    [2]   §800.219 (excepted foreign state); §800.220 (excepted investor); §802.215 (excepted real estate foreign state); §802.216 (excepted real estate investor).
The following Gibson Dunn lawyers assisted in preparing this client update: Judith Alison Lee, Jose Fernandez, Stephanie Connor, Chris Timura, R.L. Pratt, Scott Toussaint, Allison Lewis, JeanAnn Tabbaa, Brian Williamson, Cate Harding and Tory Roberts. Gibson Dunn's lawyers are available to assist in addressing any questions you may have regarding the above developments.  Please contact the Gibson Dunn lawyer with whom you usually work, the authors, or any of the following leaders and members of the firm's International Trade practice group: United States: Judith Alison Lee - Co-Chair, International Trade Practice, Washington, D.C. (+1 202-887-3591, jalee@gibsondunn.com) Ronald Kirk - Co-Chair, International Trade Practice, Dallas (+1 214-698-3295, rkirk@gibsondunn.com) Jose W. Fernandez - New York (+1 212-351-2376, jfernandez@gibsondunn.com) Marcellus A. McRae - Los Angeles (+1 213-229-7675, mmcrae@gibsondunn.com) Adam M. Smith - Washington, D.C. (+1 202-887-3547, asmith@gibsondunn.com) Stephanie L. Connor - Washington, D.C. (+1 202-955-8586, sconnor@gibsondunn.com) Christopher T. Timura - Washington, D.C. (+1 202-887-3690, ctimura@gibsondunn.com) Ben K. Belair - Washington, D.C. (+1 202-887-3743, bbelair@gibsondunn.com) Courtney M. Brown - Washington, D.C. (+1 202-955-8685, cmbrown@gibsondunn.com) Laura R. Cole - Washington, D.C. (+1 202-887-3787, lcole@gibsondunn.com) R.L. Pratt - Washington, D.C. (+1 202-887-3785, rpratt@gibsondunn.com) Samantha Sewall - Washington, D.C. (+1 202-887-3509, ssewall@gibsondunn.com) Audi K. Syarief - Washington, D.C. (+1 202-955-8266, asyarief@gibsondunn.com) Scott R. Toussaint - Washington, D.C. (+1 202-887-3588, stoussaint@gibsondunn.com) Europe: Peter Alexiadis - Brussels (+32 2 554 72 00, palexiadis@gibsondunn.com) Nicolas Autet - Paris (+33 1 56 43 13 00, nautet@gibsondunn.com) Attila Borsos - Brussels (+32 2 554 72 10, aborsos@gibsondunn.com) Patrick Doris - London (+44 (0)207 071 4276, pdoris@gibsondunn.com) Sacha Harber-Kelly - London (+44 20 7071 4205, sharber-kelly@gibsondunn.com) Penny Madden - London (+44 (0)20 7071 4226, pmadden@gibsondunn.com) Steve Melrose - London (+44 (0)20 7071 4219, smelrose@gibsondunn.com) Benno Schwarz - Munich (+49 89 189 33 110, bschwarz@gibsondunn.com) Michael Walther - Munich (+49 89 189 33-180, mwalther@gibsondunn.com) Richard W. Roeder - Munich (+49 89 189 33-160, rroeder@gibsondunn.com) © 2020 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

January 30, 2020 |
Who’s Who Legal Names 12 Partners to Practice Guides for Trade & Customs, Arbitration and Restructuring & Insolvency

Who’s Who Legal guides for 2019 and 2020 named 12 Gibson Dunn partners to practice guides in their respective fields. Washington, D.C. partners Donald Harrison, Judith Lee and Adam Smith were recommended for Trade & Customs. London partners Cyrus Benson, Penny Madden and Jeffrey Sullivan were recommended for Arbitration. New York partner Rahim Moloo was also named a Future Leader in Arbitration. Los Angeles partners Robert Klyman and Jeffrey Krause, New York partners David Feldman and Michael Rosenthal and Paris partner Jean-Pierre Farges were recommended for Restructuring & Insolvency. The 2019 Trade & Customs guide, the 2020 Arbitration guide, and the 2020 Restructuring & Insolvency guide were published in December 2019.

January 23, 2020 |
2019 Year-End Sanctions Update

Click for PDF Between claims of “financial carpet bombing” and dire warnings regarding the “weaponization” of the U.S. dollar, it was difficult to avoid hyperbole when describing the use of economic sanctions in 2019. Sanctions promulgated by the U.S. Department of the Treasury’s Office of Foreign Assets Control (“OFAC”) have become an increasingly prominent part of U.S. foreign policy under the Trump administration. For the third year in a row, OFAC blacklisted more entities than it had under any previous administration, adding an average of 1,000 names to the Specially Designated Nationals and Blocked Persons (“SDN”) List each year—more than twice the annual average increase seen under either President Barack Obama or President George W. Bush. Targets included major state-owned oil companies such as Petróleos de Venezuela, S.A. (“PdVSA”), ostensible U.S. allies such as Turkey (and—almost—Iraq), major shipping lines, foreign officials implicated in allegations of corruption and abuse, drug traffickers, sanctions evaders, and more. As if one blacklisting was not enough, some entities had the misfortune of being designated multiple times under different regulatory authorities—each new announcement resulting in widespread media coverage if little practical impact. At last count, Iran’s Islamic Revolutionary Guard Corps (“IRGC”) has been sanctioned under seven separate sanctions authorities. Eager to exert its own authorities in what has traditionally been a solely presidential prerogative, in 2019 the U.S. Congress proposed dozens of bills to increase the use of sanctions. Compounding the impact of expansive new sanctions, OFAC’s enforcement penalties hit a record of more than U.S. $1.2 billion. While President Obama described his sanctions team as his favorite “combatant command” (likening it to the traditional military forces employed by the United States), President Trump has truly unleashed the power of OFAC sanctions—employing them frequently, quickly, and unilaterally. The Trump administration announced new sanctions 82 times in 2019—eclipsing the previous record set in 2018. Much to the chagrin of the regulated community, more than one-quarter of the announcements in 2019 were made on a Friday. Under prior administrations, U.S. officials tried to avoid such late-week announcements to ensure that new designations were implemented consistently within the business week on both sides of the Atlantic. The willingness to impose Friday measures is an underappreciated indication of the breakdown in multilateral support for the use of U.S. sanctions, as well as the United States’ increasing willingness to go it alone. This lack of multilateral sanctions engagement, however, should not be read as an indication that other jurisdictions are cooling to the idea of sanctions—quite the opposite. The United Kingdom, as a part of its Brexit process, announced that it would adopt existing European Union sanctions into its own domestic law in addition to promulgating independent, domestic measures that, at least initially, will target human rights abusers. The remainder of the European Union continued to threaten new measures against the regime of Venezuela’s Nicolás Maduro, paved the way for new sanctions against Iran by initiating the dispute resolution process allowed for under the Joint Comprehensive Plan of Action (“JCPOA”), and is considering sanctions targeting gross human rights violations. Meanwhile, companies began turning to the EU Blocking Statute—which aims to prohibit EU actors from complying with certain extraterritorial aspects of U.S. sanctions—to strengthen their position in contractual negotiations, disputes, and litigation. Both China and Russia also proposed counter-sanctions in 2019 against parties who comply with U.S. measures. While China’s “unreliable suppliers” list has yet to be formalized and its sole counter-sanctions have thus far focused on non-economic actors (principally non-government organizations supportive of the Hong Kong democracy movement), and as of this writing Russian counter-sanctions remain un-enacted by the Duma, we expect the use of such counter-sanctions to increase in 2020. Though it is hard to predict how sanctions will develop going forward, we feel it is safe to assume that sanctions will remain a centerpiece of the current U.S. administration’s approach to the world in 2020. We expect other world powers—both established and emerging—to respond in kind. As the following charts illustrate, the two-decades-long trend toward increasing use of U.S. sanctions continued apace in 2019 and shows no signs of stopping during the year ahead. OFAC Designations Chart - New Additions to OFAC Sanctions Lists by Year OFAC Sanctions Actions Annual Sanctions Actions Announced by OFAC OFAC Monetary Penalties

Chart - Total OFAC Civil Enforcement Penalties by Year

I.   Major U.S. Program Developments

A.   Iran

When the United States abandoned the JCPOA and fully re-imposed nuclear sanctions on Iran in November 2018, the Trump administration warned that the United States would exert “maximum economic pressure” on all facets of the Iranian economy to both deter Iran’s “malign activities”—including its support for terrorism, missile proliferation, and regional disruption—and drive Iran back to the negotiating table. True to its word, the Trump administration continued to increase sanctions pressure on Iran and its trading partners in 2019 and expanded its enforcement efforts to new industries and institutions. Iran responded by pulling back from its commitments under the JCPOA, seeking alternative paths to avoid U.S. jurisdiction, and ramping up its provocative use of force. Hostilities with Iran escalated sharply by the end of the year—U.S. and Iranian-backed militias exchanged airstrikes and rocket attacks in late December, culminating in a militia-led breach of the U.S. embassy compound in Baghdad on December 31. When a U.S. airstrike killed Iranian General Qassem Soleimani on January 3, 2020, Iran vowed to retaliate, later carrying out a missile strike on two Iraqi military bases hosting U.S. troops. President Trump responded to this latest Iranian missile strike by promising the imposition of “additional punishing economic sanctions on the Iranian regime,” a promise that left many observers questioning whether anything in Iran was left to be sanctioned. In pursuing “maximum economic pressure,” the United States has not only targeted new industries and entities but also has ramped up pressure on previously sanctioned persons. On April 8, 2019, as we described here, the United States designated the already-sanctioned IRGC as a foreign terrorist organization (“FTO”). Until this designation, the FTO label had been exclusively used on non-state actors, such as Al-Qaeda or the Islamic State of Iraq and Syria (“ISIS”). The FTO designation has limited practical impact, as the IRGC was already designated under several OFAC sanctions programs—including those related to counterterrorism. As we discussed here, Iranian President Hassan Rouhani announced on May 8, 2019 that Iran would stop complying with the JCPOA’s limitations on Iran’s domestic build-up of enriched uranium and heavy water, and that same day President Trump signed an executive order authorizing new sanctions relating to the iron, steel, aluminum, and copper sectors of the Iranian economy. Notably, Iran has responded to increasing economic pressure—particularly on Iranian banks—by seeking alternative tools to finance its operations. Specifically, U.S. sanctions effectively cut off Iran’s access to dollars and euros and contributed to a sharp drop in the value of the Iranian rial, making Iran’s foreign reserve currencies an increasingly important tool for the support of Iran’s activities in Iraq, Lebanon, Syria, and Yemen. According to OFAC, Iran used a network of Turkish and Emirati foreign exchange houses and front companies to exchange rials for foreign currencies used by a designated Iranian bank to support the IRGC’s Qods Force (“IRGC-QF”) and Iran’s Ministry of Defense and Armed Forces Logistics (“MODAFL”)—both of which have been designated to the SDN List. The United States responded to this workaround by designating 25 Iranian, Turkish, and Emirati exchange houses, trading companies, and officials on May 26, 2019. Rather than relying on its Iran sanctions authorities, OFAC used its counterterrorism sanctions—as it would later against Iran’s central bank—to ensure maximum impact. Entities designated under that program are not only subject to the broad sanctions restrictions typically imposed on SDNs but also may not participate in humanitarian trade with Iran—a category of activity generally exempt from sanctions restrictions. The designations also underscored OFAC’s willingness to extend its maximum economic pressure campaign to Iran’s international supporters, a possible harbinger of things to come in 2020. In 2019, the United States continued to roll back sanctions relief that it had previously provided to other countries, including waivers that allowed certain jurisdictions to continue importing Iranian oil. In particular, waivers granted to China, India, South Korea, Japan, Italy, Greece, Taiwan, and Turkey allowed those jurisdictions to continue importing Iranian oil without being sanctioned by the United States, provided that those jurisdictions significantly reduced their Iranian oil imports. Our analyses of these temporary waivers, also known as Significant Reduction Exceptions (“SREs”), can be found here and here. The Trump administration also announced that, as part of its maximum pressure campaign, no further SREs would be issued and warned that those who continued to trade in Iranian crude would be sanctioned. The expiration of the SREs had relatively little effect on Taiwan, Italy, and Greece, which reportedly ceased importing oil from Iran long before the announcement. By contrast, China increased its purchases of Iranian oil, cementing its status as Iran’s biggest customer. According to the U.S. State Department, China continued to purchase oil from Iran following the expiration of its SRE in May. In response, the Trump administration made good on its earlier warning—quickly sanctioning a Chinese state-owned oil trading company and its CEO in July. In announcing the designation, Secretary of State Mike Pompeo emphasized that the United States takes its secondary sanctions seriously and “will sanction any sanctionable behavior.” That warning, combined with the speed of the designation and the targeting of a state-owned firm, sent a clear signal that the Trump administration would continue aggressively applying maximum economic pressure both within and outside Iran. In one of the more disruptive sanctions actions of the past year, OFAC on September 25, 2019, designated two subsidiaries of the giant Chinese company COSCO Shipping Corporation Ltd. (“COSCO”) for their involvement in transporting Iranian oil. While this action targeted only approximately 40 vessels belonging to the two designated entities (and their majority-owned subsidiaries), by not identifying those vessels by name the designation caused confusion to ripple through world markets regarding which among the approximately 1,100 vessels in the larger COSCO fleet were actually subject to U.S. sanctions. In an abundance of caution, many counterparties temporarily ceased doing business with all COSCO vessels—leaving numerous ships and their cargo stranded at sea. This confusion dissipated only after OFAC issued guidance indicating that non-U.S. persons that continue to deal with COSCO post-designation will generally not be at risk of U.S. sanctions exposure provided that such dealings do not involve Iran or otherwise have any U.S. nexus, and also issued a general license authorizing U.S. person involvement in transactions and activities ordinarily incident to the maintenance and wind down of pre-existing contracts involving one of the two sanctioned COSCO entities and its vessels. In another example of the Trump administration’s maximum pressure campaign reaching beyond the typical industries, OFAC released an advisory on July 23, 2019 warning of Iran’s deceptive practices in the civil aviation industry and the heightened risk of enforcement actions against those that engage with Iran. The advisory formally put the global commercial aviation industry on notice of the role Iranian commercial airlines play in providing services to the Iranian government and military, as well as the deceptive practices commonly used to acquire U.S.-origin aircraft and related goods—including using front companies, misrepresenting that sanctions have been lifted, and falsely claiming OFAC authorization. The guidance specifically called out Mahan Air—designated in 2011 for its support of the IRGC-QF—for flying several flights per week with fighters and weapons to Damascus, and flying back the bodies of Iranian soldiers killed in Syria. The industry advisory used more than just the threat of sanctions to urge the civil aviation industry to avoid Mahan, noting that Germany and several other countries deny Mahan landing rights and urging others to do the same, as well as warning that Mahan has failed to pay its debt obligations. As sanctions began to bite, economic tensions escalated to physical conflict. In September, Iran conducted airstrikes on Saudi Arabian oil facilities. The United States responded by imposing additional sanctions on the Central Bank of Iran (“CBI”) and Iran’s sovereign wealth fund on September 20. The United States accused those entities of supporting the IRGC, its Qods Force, and Hezbollah, and designated them using OFAC’s primary counterterrorism authority. Although President Trump characterized these designations as the “highest sanctions ever imposed on a country,” these sanctions in fact marked the latest in a series of actions targeting the CBI, including its earlier designation to the SDN List in November 2018. OFAC had also previously sanctioned senior CBI officials for their involvement in transactions supporting the IRGC and its Qods Force. These earlier sanctions already prohibited U.S. persons from engaging in transactions involving CBI and its designated officers, and non-U.S. persons were already subjected to secondary sanctions for doing so. The new counterterrorism designations primarily impact the ability of U.S. and non-U.S. persons to provide food, other agricultural products, medicine, and medical devices to Iran. Such humanitarian goods can typically be provided to Iran pursuant to a general license. However, the license expressly prohibits the involvement of persons designated under OFAC’s counterterrorism sanctions—now including the CBI. Given the CBI’s key role in financing and otherwise facilitating humanitarian trade with Iran, many were concerned that the provision of humanitarian items to Iran had effectively become unlawful or sanctionable. In response to these concerns, OFAC announced that it would implement a new mechanism to identify compliant financial channels to support humanitarian exports to Iran. According to Brian Hook, the U.S. Special Representative for Iran, the new financing channel would “make it easier for foreign governments, financial institutions, and private companies to engage in legitimate humanitarian trade on behalf of the Iranian people while reducing the risk that money ends up in the wrong hands.” Under the new program, OFAC will provide written confirmation, or “comfort letters,” that proposed financial channels are not exposed to U.S. sanctions. However, to obtain these comfort letters, exporters of humanitarian items, foreign financial institutions, and foreign governments will be required to provide, on an ongoing basis, a significant amount of detailed information about their Iran-related activities and the proposed payment channel. Specifically, OFAC will require those seeking written confirmation to submit monthly reports that include detailed information about Iranian customers, their beneficial ownership, the seller of the items for export, the items included in the proposed exports, and the path of the export. Those who obtain written confirmation from OFAC will also be required to inform OFAC if they discover that their Iranian customers have misused the financial channel for non-humanitarian purposes. As of this writing, we are aware of no companies that have yet taken OFAC up on its offer. On December 11, 2019, OFAC followed its warning to the civil aviation industry with the designation of three of Mahan’s general sales agents, which are third parties that provide services to an airline under the airline’s brand. None of the sales agents are based in Iran; the designated entities are registered in the United Arab Emirates and China. They were all designated purely for acting on behalf of Mahan Air, and were not alleged to have specifically been involved in flights to and from Syria. On January 10, 2020, OFAC announced the designation of several senior Iranian government officials, as well as Iran’s largest steel, aluminum, copper, and iron manufacturers, a number of Iranian metal producers, and several Chinese and Seychellois companies involved in the purchase of Iranian metals. The President also issued a new executive order authorizing OFAC to designate entities operating in Iran’s construction, mining, manufacturing, or textile sectors or any other sector of the Iranian economy determined by the U.S. Secretary of the Treasury and authorizing the imposition of secondary sanctions for any entity that supports Iranian companies designated under the new authority. Following the U.S. drone strike that killed General Soleimani, Iran again announced that it would further reduce its commitments to restrain its nuclear program and would no longer comply with the restrictions on the number of centrifuges it may operate. The most meaningful response to Iran’s actions may come from the European Union which has triggered the dispute mechanism under the JCPOA—which could lead to the automatic re-imposition of sanctions against Iran. With much of Iran now subject to comprehensive, sometimes overlapping sanctions regimes, it is not clear whether and how the Trump administration will continue to increase sanctions pressure on Iran. OFAC may target additional Iranian government officials, and 2020 will likely see designations under the newly released executive order targeting Iran’s construction, mining, manufacturing, and textiles sectors. If past is prologue, the Trump administration may also begin imposing secondary sanctions more robustly in an effort to further cut off Iran’s international support. These measures may have limited practical impact, however, as many non-U.S. entities have already decided not to participate in the Iranian economy out of concern for the tightening network of U.S. secondary sanctions.

B.   Venezuela

U.S. sanctions targeting the regime of Venezuela’s President Nicolás Maduro significantly expanded in 2019, as the Trump administration designated the giant state-owned oil company PdVSA, the country’s central bank, and ultimately the entire Government of Venezuela. These seismic shifts in U.S. policy were prompted by a power struggle in Caracas between Nicolás Maduro and Juan Guaidó, the head of Venezuela’s National Assembly, that witnessed dueling claims to the presidency, widespread public protests, and an abortive military uprising. Against that tumultuous backdrop, the United States sought to hasten the transition to a democratically elected government by imposing more than 20 rounds of sanctions designed to deny the Maduro regime the financial resources to sustain its hold on power. In addition to designating progressively broader segments of the Venezuelan state, the Trump administration during 2019 also expanded U.S. sanctions to target Venezuela’s oil, financial, and defense and security sectors; a growing list of senior regime officials; as well as President Maduro’s perceived enablers in Russia and Cuba. The rapid evolution of U.S. sanctions on Venezuela began immediately after the new year. In January 2019, Nicolás Maduro was inaugurated for a second term as president following an election widely described by outside observers as neither free nor fair. Within days, Juan Guaidó, acting as head of the National Assembly—the country’s sole remaining democratic institution—invoked a provision of Venezuela’s constitution to declare himself the country’s interim leader. (Guaidó’s claim to be Venezuela’s lawful head of state has since been recognized by the United States and nearly 60 other countries.) In a protective action designed to deny Maduro and his inner circle access to oil revenues and to prevent the regime from looting state assets, the Trump administration on January 28, 2019, imposed sanctions on the state-owned oil company PdVSA—by far the most economically significant actor in Venezuela’s oil-driven economy and one of the largest companies ever designated by OFAC. PdVSA’s designation and its implications are described at length in an earlier client alert, available here. Underscoring the strong U.S. policy interest in preserving PdVSA for use in rebuilding Venezuela’s economy under a post-Maduro government, OFAC has issued and repeatedly extended general licenses authorizing certain transactions involving PdVSA’s main U.S. subsidiary CITGO, as well as the activities of five named U.S. oil and oil services companies that operate joint ventures with PdVSA. As the year progressed, the Trump administration continued to make use of the authorities set forth in Executive Order 13850—which empowers the U.S. Secretary of the Treasury to impose sanctions on persons who operate in the gold sector of the Venezuelan economy, and any other sector the Secretary deems appropriate—to target areas of the Venezuelan economy that generate large amounts of hard currency and are especially prone to corruption. In particular, OFAC during 2019 used this authority to impose sanctions on specific individuals and entities operating in the gold, oil, financial, and defense and security sectors of Venezuela’s economy. Among the targeted entities were the state gold mining company, Minerven; PdVSA’s majority-owned subsidiaries; Venezuela’s national development bank, BANDES, and four of its affiliates, including the prominent commercial lender Banco de Venezuela; and the Central Bank of Venezuela. Taken together, these measures sharply constrained the Maduro regime’s access to capital and closed off key channels for transferring funds in and out of Venezuela. In August 2019, the United States went further and imposed sanctions on the entirety of the Government of Venezuela, including all of its agencies and political subdivisions. Importantly, however, this measure did not impose sanctions on all transactions involving the country of Venezuela and its practical impact was limited by the fact that the most economically significant arms of the Venezuelan state—including the national oil company, PdVSA, and its various subsidiaries, along with the country’s central bank—were already subject to U.S. sanctions. OFAC then further cabined this action by issuing general licenses—common across even the most restrictive U.S. sanctions programs (such as those targeting Cuba, Iran, North Korea, and the Crimea region)—authorizing certain transactions that involve the Venezuelan government and that are associated with telecommunications/mail; technology allowing internet communication; medical services; registration and defense of intellectual property; support for non-governmental organizations; transactions related to port and airport operations; overflight payments; and personal maintenance of U.S. persons inside Venezuela. Further details regarding this action can be found in our August 2019 client alert. Throughout the past year, the United States also sought to target the Maduro regime’s perceived enablers, both within Venezuela and abroad. Consistent with past practice, the United States continued to designate a steady stream of senior Venezuelan government officials, including the country’s foreign minister and various members of the security services. Such designations appear designed both to punish previous bad behavior by senior officials—including corruption, mismanagement and the breakdown of democratic institutions—and to deter other officials from engaging in similar conduct in the future. Additionally, the Trump administration designated numerous foreign actors—principally from Russia and Cuba—for providing a financial lifeline to the government in Caracas. For example, in March 2019, OFAC designated the Russian-Venezuelan financial institution Evrofinance Mosnarbank for helping the regime to evade U.S. sanctions by, among other things, financing Venezuela’s cyber currency, the Petro. OFAC, across multiple actions, also designated dozens of companies and vessels involved in the Venezuela-Cuba oil trade, and has strongly suggested that Russian and Chinese individuals and entities may be sanctioned if they continue to prop up the Maduro regime. Finally, amid a year of sweeping changes to the Venezuela sanctions program, OFAC has repeatedly emphasized that “U.S. sanctions need not be permanent and are intended to bring about a positive change of behavior.” Even if such an “off ramp” to sanctions has always existed—and parties do come off the SDN List—OFAC’s announcement that it would be amenable to de-listing parties if they manifest a change in behavior is new. Along those lines, the Trump administration has held out the prospect of sanctions relief for individuals and entities that renounce their previous support for President Maduro—an enticement OFAC has touted by de-listing the former head of Venezuela’s intelligence service, along with numerous shipping companies and vessels that had discontinued their Venezuela-related business activities and implemented sanctions compliance measures. Moreover, OFAC has indicated in published guidance that it is prepared to swiftly lift sanctions on PdVSA, and presumably the Government of Venezuela itself, upon a transfer of control “to Interim President Juan Guaidó or a subsequent, democratically elected government.” Accordingly, just as the United States rapidly tightened sanctions on Venezuela during 2019, there remains the possibility, if President Maduro were to fall, that U.S. sanctions could be eased just as quickly.

C.   Cuba

In 2019, the Trump administration continued to reverse the Obama administration’s easing of measures on Cuba. In April 2019, President Trump removed a more than two-decades-long restriction on American citizens’ ability to bring suit over property confiscated by the Cuban regime. Title III of the Cuban Liberty and Democratic Solidarity (LIBERTAD) Act of 1996, commonly known as the Helms-Burton Act, authorizes U.S. citizens and companies whose property was confiscated by the Cuban government to sue those that “traffic” in that confiscated property. Since the Act’s entry into force in 1996, Presidents of both parties had continuously suspended the availability of this cause of action. As we discussed here, by lifting this suspension President Trump has—for the first time—opened up U.S. federal courts to a new type of lawsuit, which has important implications not only for U.S. relations with Cuba but also with countries that continue to operate in Cuba. Title III actions can be based on claims certified by the Foreign Claims Settlement Commission of the United States (“FCSC”)—a quasi-judicial, independent federal agency created by the International Claims Settlement Act of 1949 (“certified claims”), or claims that have not been adjudicated by the FCSC process (“uncertified claims”). There are currently 6,000 certified claims, and by the State Department’s estimate, up to 200,000 uncertified claims. We have not yet witnessed a flood of litigation; rather, the filing of new Title III cases has averaged a little over two cases per month. By Gibson Dunn’s count, there have been 21 Title III cases filed in federal court to date, with the vast majority in the Southern District of Florida. Many of these cases were brought against defendants in the tourism industry, including airlines, cruise lines, hotels, and travel technology companies, with a number related to other industries such as oil refining, banking, and farming. Also in April 2019, the Trump administration struck down a December 2018 deal between Major League Baseball (“MLB”) and the Cuban Baseball Federation (“CBF”) in which Cuban athletes would have been allowed to play in the United States without defecting. Under the MLB-CBF deal, an MLB team could sign a CBF player if it, among other things, paid the CBF a fee equivalent to 25% of the player’s signing bonus. (A similar arrangement exists for foreign players from other countries such as Japan.) The deal was originally thought to be authorized under a license established by the Obama administration that allowed the hiring of a Cuban national as long as payments were not made to the Cuban government in connection with such hiring. Per a senior Trump official, although this license remains in effect, the CBF is considered a part of the Cuban government and, as a result, the MLB-CBF deal as structured was illegal. In June 2019, OFAC announced it would no longer authorize “people-to-people” educational group travel, which had allowed an organization subject to U.S. jurisdiction to sponsor exchanges that promoted contact with Cuban locals. Those travelers who had completed at least one travel-related transaction (e.g., purchasing a flight, booking a hotel) prior to June 5, 2019 were grandfathered in and allowed to proceed with their trip. Notably, OFAC left intact the “support for the Cuban people” travel authorization which also allows travel to Cuba but under strict conditions, such as avoiding all state-run businesses and institutions. At the same time, the U.S. Commerce Department’s Bureau of Industry and Security (“BIS”), in coordination with OFAC, instituted a policy of denying licenses for passenger and recreational vessels (e.g., cruise ships, yachts), and private and corporate aircraft, to travel to Cuba on temporary sojourn. Moreover, such vessels and aircraft were made ineligible for license exceptions. This policy change left cruise lines scrambling to modify their trips. In September 2019, OFAC announced a number of changes to the general license allowing for remittances to Cuba. First, the amount that one remitter can send to one Cuban national was capped at $1,000 per quarter. Second, close relatives of Cuban government officials or Cuban Communist Party officials could no longer be the recipients of such remittances. (The officials themselves had already been barred.) Third, “donative” remittances to certain individuals and organizations under 31 C.F.R. § 515.570(b) were eliminated. In that same action, OFAC also created a new authorization that allows for remittances to “self-employed individuals,” which includes small business owners, contractors, and farmers. At the same time, OFAC announced changes to the “U-Turn” general license. The U-Turn license authorized U.S. financial institutions to “process fund transfers originating and terminating outside the United States, provided that neither the originator nor the beneficiary is a person subject to U.S. jurisdiction.” In effect, this allowed transactions between a Cuban national and a non-U.S. person, occurring outside the United States, to be conducted using U.S. dollars processed through the U.S. financial system via correspondent accounts maintained at U.S. intermediary banks. Now, such institutions are required to reject requests for these transactions. While this change dramatically limits the ability of Cubans to transact in U.S. dollars, notably banks are not required to block the funds at issue. The Trump administration gave the same rationale for these financial restrictions as they did for the travel restrictions months earlier. As Treasury Secretary Steven Mnuchin expressed it, by imposing these restrictions, the United States is “hold[ing] the Cuban regime accountable for its oppression of the Cuban people and support of other dictatorships throughout the region, such as the illegitimate Maduro regime.” In October 2019, citing Cuba’s “destructive behavior at home and abroad,” BIS amended the Export Administration Regulations (“EAR”) in a number of ways to further restrict exports and re-exports of items to Cuba. First, licenses to lease aircraft to Cuban state-owned airlines were revoked, and a general policy of denying future applications was instituted. Second, the de minimis level was revised downward for Cuba from 25% to 10%, meaning that items with at least 10% Cuban content would be subject to EAR restrictions. Third, the “Support for the Cuban People” license exception was limited in a number of ways, including barring donations to organizations controlled by or administered by the Cuban government or the Cuban Communist Party. In addition to changes to the Cuba sanctions regulations, the Trump administration has consistently added Cuban persons and entities to the blacklist for their support of Venezuela’s Maduro regime. As discussed above, numerous shipping entities and vessels that have transported Venezuelan oil to Cuba have been sanctioned along with Cuban state-owned oil companies and individual Cuban government officials. Cuba’s defense minister, for example, has been barred by the U.S. State Department from entry into the United States for his actions “prop[ping] up the former Maduro regime in Venezuela.”

D.   North Korea

Amid the stalled nuclear negotiations between President Trump and North Korean leader Kim Jong Un, the United States over the past year continued to target the illicit movement of goods in and out of North Korea. On March 21, 2019, OFAC published an advisory to address North Korea’s illicit shipping practices (the “North Korea Advisory”). That document serves as a comprehensive guide to key participants in the shipping trade, such as ship owners, financial institutions, brokers, oil companies, port operators, and insurance companies, and includes an overview of sanctions specific to the shipping industry. The North Korea Advisory also includes updated information about North Korea’s deceptive shipping practices, as well as additional guidance for members of the shipping industry on how to mitigate the risk of involvement in these practices. According to OFAC, North Korea has been resorting to certain tactics to mask the identities of vessels and cargo in order to evade U.S. sanctions. These tactics include: (i) disabling a vessel’s location-tracking Automatic Identification System (“AIS”); (ii) physically altering a vessel’s identification or International Maritime Organization number; (iii) engaging in ship-to-ship transfers to conceal the origin or destination of the transferred cargo; (iv) falsifying cargo and vessel documents; and (v) manipulating data transmitted via AIS. To counter these deceptive practices, the North Korea Advisory encourages persons involved in shipping-related transactions to adopt certain risk mitigation measures, including but not limited to, carrying out necessary diligence to verify the identity of vessels, reviewing all applicable shipping documentation, and monitoring for AIS manipulation and disablement. The North Korea Advisory also identifies, in a series of annexes, 18 vessels believed to have engaged in ship-to-ship transfers with North Korean tankers, plus 49 vessels that are believed to have exported North Korean coal since the United Nations Security Council Resolution 2371 was passed on August 5, 2017. Throughout 2019, OFAC continued to designate individuals and entities involved in the shipping industry for facilitating North Korean trade. On March 21, 2019, OFAC designated two Chinese shipping companies for their dealings with North Korea, citing the routine use of deceptive practices that enabled EU-based North Korean procurement officials to operate and purchase goods for the Kim regime. On August 30, 2019, OFAC announced North Korea-related designations of two individuals and three entities from Taiwan and Hong Kong for participating in illicit “ship-to-ship transfers” to enable North Korea’s import of refined petroleum products.   Finally, U.S. prosecutors continued to pursue civil forfeiture actions against companies engaged in the illicit shipment of goods to North Korea, relying in many instances on money laundering or bank fraud charges in addition to violations of OFAC sanctions.

E.   Russia

In 2019, OFAC took additional measures to address and combat Russia’s past and current attempts at interfering in the U.S. electoral process. On September 30, 2019, OFAC took its first action under Executive Order 13848, targeting Russia’s Internet Research Agency (“IRA”) and its financier, Yevgeniy Prigozhin, as well as entities, individuals, and assets associated with them, for their efforts to interfere with the 2018 midterm elections. Executive Order 13848, which was announced in September 2018, blocks all property in the United States of those who have “directly or indirectly engaged in, sponsored, concealed, or otherwise been complicit in foreign interference in a United States election,” as well as those found to have provided support for election interference. The action’s practical impact was limited by the fact that both the IRA and Prigozhin were previously designated in March 2018 under Executive Order 13694, which the Obama administration implemented to target “malicious cyber actors,” as were four of the six IRA members who were designated in this action. Adding additional pressure to Prigozhin, OFAC designated three of his private aircraft, a yacht, and three entities that operated those vessels. On August 3, 2019, the Trump administration announced that OFAC will be issuing a second round of sanctions in response to Russia’s use of the Novichok nerve agent in the United Kingdom in March 2018. The Chemical and Biological Weapons Control and Warfare Elimination Act of 1991 (the “CBW Act”) requires, in the event that the President determines that a foreign government has used chemical or biological weapons, two rounds of sanctions. This second round of CBW Act sanctions prohibits U.S. banks, including foreign branches, from participating in the primary market for non-ruble denominated bonds issued by Russia and from issuing non-ruble denominated loans to Russia. As detailed in our 2018 Year-End Sanctions Update, the first round of sanctions were imposed on August 22, 2018. Though initially expected in November 2018, the second round of sanctions was not implemented until August 26, 2019, over a year after the first round’s implementation. As described in detail here, on April 6, 2018, OFAC significantly enhanced the impact of sanctions against Russia by blacklisting almost 40 Russian oligarchs, officials, and their affiliated companies pursuant to Obama-era sanctions, as modified by the Countering America’s Adversaries Through Sanctions Act of 2017. On December 19, 2018, OFAC de-listed three entities that had been related to sanctioned oligarch Oleg Deripaska after the companies took significant steps to disentangle from Deripaska’s ownership. Several months later, on March 15, 2019, Deripaska sued the Secretary of the Treasury, the Department of the Treasury, and OFAC in U.S. federal court in order to reverse the sanctions imposed upon him. Deripaska argued that OFAC acted outside the bounds of its authority by including him on “an arbitrarily contrived list of ‘oligarchs’” and that “[t]he effects of these unlawful sanctions has been the wholesale devastation of [his] wealth, reputation, and economic livelihood.”   Although the U.S. government has filed a motion to dismiss (and, in the alternative, motion for summary judgment) and Deripaska has submitted his opposition, the court has stayed the motion until the parties file a joint status report, due on February 19, 2020. Congress and the Trump administration took additional measures against Russia during the very last weeks of 2019, highlighting the geopolitical tension between the two countries. On December 18, 2019, the Senate Foreign Relations Committee voted to approve the Defending American Security from Kremlin Aggression Act (“DASKA”), which aims to impose new sanctions on the Russian financial, energy, and cyber sectors. The draft bill limits the President’s ability to withdraw from NATO, establishes in the State Department a new office to address international cybersecurity, creates new offenses related to hacking, and directs the President to impose a host of sanctions against Russia. Among the many contemplated sanctions, the bill includes additional sanctions against Russian banks, the Russian energy, cyber, and shipbuilding sectors, sovereign debt, and, significantly, sanctions on persons who facilitate corrupt activities on behalf of President Vladimir Putin.   Although the bipartisan bill has been dubbed the bill “from hell,” currently there is no scheduled date for the full Senate to vote on its adoption. Two days after DASKA was approved by committee, the President signed the National Defense Authorization Act for Fiscal Year 2020 (the “NDAA”), which includes provisions requiring the imposition of sanctions against vessels and persons involved in the construction of two Russian gas export pipelines, the Nord Stream 2 and the Turkstream pipelines. Although the inclusion of these sanctions signals U.S. support for Ukraine—Russia is constructing these pipelines largely to bypass Ukraine—their impact may be minimal as the pipelines’ construction is nearly complete.

F.   Syria

As we described in an earlier client alert, on October 14, 2019, the Trump administration authorized sanctions against core ministries of the Government of Turkey in response to Ankara’s incursion into northern Syria. Shortly thereafter, OFAC issued sanctions against Turkey’s Ministry of Energy and Natural Resources and Ministry of National Defense, as well as three senior officials. Less than two weeks later, following the announcement of a ceasefire in northern Syria, the Department of Treasury delisted the two ministries and three senior officials. To our knowledge, OFAC had never issued and then reversed sanctions so quickly against such significant targets. On March 25, 2019, OFAC issued an updated advisory to the maritime petroleum shipping community “alert[ing] persons globally to the significant U.S. sanctions risks for parties involved in petroleum shipments to the Government of Syria” (the “Syria Advisory”). That document emphasizes that certain countries, in particular Iran and Russia, ship petroleum to Syria, and that the facilitation of such transactions by persons subject to U.S. jurisdiction puts those persons at risk for being targeted by OFAC. The Syria Advisory also includes a non-comprehensive list of deceptive practices employed by certain shipping companies to “obfuscat[e] the destination and recipient of oil shipments in the Mediterranean Sea ultimately destined for Syria,” as well as certain measures companies should take to mitigate risk presented by these practices. Though very similar to an earlier advisory on which it is based, the latest version of the Syria Advisory includes “additional guidelines and risks associated with facilitating the shipment of petroleum destined for Syrian Government-owned and -operated ports, to include petroleum of Iranian origin.” Additionally, the updated Syria Advisory includes an expanded annex, listing additional vessels that are alleged to have delivered petroleum to Syria between 2016 and 2018, as well as vessels that are alleged to have engaged in ship-to-ship transfers of oil destined for Syria and those that had exported Syrian oil to other countries.

II.   Other OFAC Programs

A.   Global Magnitsky Sanctions

As we noted previously, on December 20, 2017, President Trump issued Executive Order 13818, an unusually broad executive order to implement the Global Magnitsky Human Rights Accountability Act (“Global Magnitsky Act”), a 2016 law that authorizes sanctions against those responsible for human rights abuses and significant government corruption around the world. The Global Magnitsky Act is named for Sergei Magnitsky, a Russian accountant who was imprisoned after exposing a tax fraud scheme allegedly involving Russian government officials and who died under suspicious circumstances while in custody. The 2012 Sergei Magnitsky Rule of Law Accountability Act of 2012 (the “2012 Magnitsky Act”) authorizes sanctions against individuals and entities found to have been involved in Magnitsky’s mistreatment and death as well as subsequent efforts to obstruct the related investigation. The Global Magnitsky Act expands that sanctions authorization to cover serious human rights abuses and corruption worldwide. In 2019, the Trump administration designated 97 individuals and entities under the Global Magnitsky Act. That figure was nearly double the 49 designations in 2018, a significant number of which were levied against those involved in the killing of the journalist Jamal Khashoggi. Together with the initial round of designations that accompanied issuance of Executive Order 13818, the total number of persons designated pursuant to the Global Magnitsky Act is currently 196 (two designations of senior Turkish government officials were lifted in 2018 following the release of American pastor Andrew Brunson). Also this past year, the administration designated six additional Russian persons pursuant to the 2012 Magnitsky Act. On December 9 and 10, 2019, in conjunction with International Anticorruption Day and International Human Rights Day, respectively, OFAC announced a set of wide-ranging sanctions targeting notable cases of public corruption and serious abuses. On December 9, 2019, Treasury announced the following Global Magnitsky Act designations:
  • Try Pheap and Kun Kim, current and former senior Cambodian officials responsible for significant public corruption and misuse of state resources.
  • Aivars Lembergs, a Latvian oligarch and mayor of Ventspils, Latvia, who is involved in significant public corruption, money laundering, and abuse of office. OFAC also designated four entities controlled by Lembergs, including the Ventspils Freeport Authority.
  • Associates of and entities controlled by Slobodan Tesic, a Serbian arms dealer who was previously sanctioned by the UN for violating the arms embargo imposed on Liberia.
On December 10, 2019, Treasury announced the following designations:
  • Four senior Burmese military officials, including the Commander-in-Chief of the Burmese military forces, for their involvement in serious human rights abuses committed against the minority Rohingya people in Rakhine State. Since 2017, over 500,000 Rohingya have fled Burma and, during that time, the Burmese military has been engaged in acts of mass violence directed against the Rohingya people.
  • The leader and deputies of the Allied Democratic Forces (“ADF”) of the Democratic Republic of the Congo (“DRC”). The ADF has engaged in serious human rights abuses, committing acts of mass violence, torture, abduction, and the use of child soldiers for over two decades in the Eastern part of the DRC, near the border with Uganda.
  • Marian Kocner, a Slovakian businessman, charged with ordering the murder of Jan Kuciak, a young reporter who had uncovered alleged corrupt dealings involving Kocner.
  • A Pakistani senior superintendent of police reportedly responsible for staging encounters in which over 400 individuals were killed by police.
OFAC also used the Global Magnitsky authority to target several Iraqi officials, some of whom are known proxies of the IRGC-QF. In July 2019, Treasury designated two Iraqi militia leaders pursuant to the Global Magnitsky Act for human rights abuses and corruption carried out in the Nineveh region of Iraq, a former Islamic State stronghold, as well as two Iraqi former politicians accused of significant public corruption. In December 2019, Treasury designated three Iraqi militia leaders responsible for directing soldiers to open fire on protesters in Baghdad. The Iraqi militia leaders were described as proxies of the IRGC-QF. The designations were made just weeks before one of the designated militia leaders was photographed among those protesting at the U.S. Embassy in Baghdad on December 31. On January 3, 2020, two of the previously designated militia leaders were further designated as global terrorists. As discussed further below, the European Union announced on December 9, 2019 that it would begin drafting its own Magnitsky-style sanctions framework for targeting human rights offenders. The United Kingdom and Canada have already adopted Magnitsky-style sanctions programs. From a compliance perspective, the Global Magnitsky Act designations serve as a reminder to carefully assess contacts with, and screen business partners related to, jurisdictions of heightened concern, even if those jurisdictions are not subject to comprehensive sanctions. Particularly with respect to jurisdictions with increased risk related to public corruption, organized crime, or geopolitical instability, sanctions may be deployed with very little notice and may affect commercial networks both within and beyond the country concerned.

B.   Narcotics Trafficking Kingpin Sanctions and New Fentanyl Sanctions Act

This past year brought renewed focus on using financial sanctions to target persons involved in the international trafficking of opioids. On August 21, 2019, the Treasury Department announced coordinated action by OFAC and by Treasury’s Financial Crimes Enforcement Network (“FinCEN”) to target manufacturers and distributors of illicit synthetic opioids. OFAC designated three Chinese individuals and two entities pursuant to the Foreign Narcotics Kingpin Designation Act (“Kingpin Act”) for operating an international drug trafficking network responsible for shipping hundreds of packages of synthetic opioids to the United States. Treasury highlighted the use of digital currency by the designated persons to launder the proceeds of illicit drug sales. The White House also announced actions to crack down on international fentanyl trafficking, including the publication of a series of private-sector advisories to help domestic and foreign businesses protect themselves and their supply chains from inadvertent fentanyl trafficking. Congress took further action by adopting the Fentanyl Sanctions Act on December 20, 2019, as Title 72 of the NDAA. The Act requires the President to submit to Congress within 180 days a list of persons determined to be foreign opioid traffickers and requires the imposition of five or more sanctions measures against such persons, including, among other restrictions, an asset freeze, visa ban, exclusion from public procurement, and exclusion from the U.S. financial system. The statute also calls upon the government of China to follow through on its commitments to implement new regulations controlling the production and export of fentanyl and fentanyl analogues. Separately, OFAC designated over 70 additional persons under the Kingpin Act in 2019, including drug trafficking and money laundering networks in Argentina, the Dominican Republic, Guatemala, Lebanon, Mexico, and the United Arab Emirates.

C.   Mali

Despite the presence of 15,000 United Nations peacekeepers and police in Mali, renewed violence has continued to roil the country; news reports indicate that at least 200,000 people were displaced in the first half of 2019 alone. As a result, the Trump administration on July 26, 2019, announced a new sanctions program “to combat the worsening situation in Mali,” which was described to include “[m]align activities such as drug trafficking, hostage taking, attacks against civilians, and attacks against United Nations (UN) Multidimensional Integrated Stabilization Mission in Mali (MINUSMA) personnel.” In connection therewith, President Trump issued Executive Order 13882, finding the deterioration of peace and security in Mali to constitute a national security threat to the United States. The Order blocks all property and interests in property under U.S. jurisdiction of persons determined to be responsible or complicit in: acts or policies that threaten the peace, security, stability, or the democratic processes or institutions in Mali; acts that threaten, violate, or obstruct the 2015 Agreement on Peace and Reconciliation in Mali; planning or sponsoring attacks against government institutions and the Malian defense and security forces, international security forces and peacekeepers, and any other U.N. personnel; obstructing the distribution of humanitarian aid; planning, directing, or committing any act that violates international humanitarian law or constitutes a serious human rights abuse; the use or recruitment of child soldiers in the Malian armed conflict; the illicit production of or trafficking in narcotics; trafficking in persons, arms, and illegally acquired cultural property; and any transaction(s) involving bribery or other corruption. Currently, five individuals have been added to the SDN List pursuant to this Order.

III.   Other U.S. Developments

A.   New Treasury Under Secretary for Terrorism and Financial Intelligence

On December 10, 2019, the Trump administration announced its intent to nominate Jessie K. Liu, the United States Attorney for the District of Columbia, to the position of Under Secretary for Terrorism and Financial Intelligence at the Treasury Department, a role previously held by Sigal Mandelker. In this role, Liu would lead the Treasury Department teams responsible for administration and enforcement of U.S. sanctions programs. Liu previously served as Deputy General Counsel of the Treasury Department and in a senior position within the Justice Department’s National Security Division, the office responsible for criminal enforcement of U.S. sanctions and export control laws.

B.   OFAC Compliance Guidance

As we described in a previous client alert, OFAC in May 2019 published “A Framework for OFAC Compliance Commitments,” on what constitutes an effective sanctions compliance program. The document represents the most detailed statement to date of OFAC’s views on the best practices that companies should follow to ensure compliance with U.S. sanctions laws and regulations. Importantly, this guidance also aims to provide greater transparency with respect to how, should a sanctions violation occur, OFAC will assess the adequacy of a company’s existing compliance program in determining what penalty to impose. The compliance guidelines contain five components of what OFAC deems to comprise an effective compliance framework: (i) management commitment; (ii) risk assessment; (iii) internal controls; (iv) testing and auditing; and (v) training. OFAC also provides examples of best practices that companies are expected to follow under each of the five components. With the publication of the new OFAC compliance framework, companies subject to U.S. jurisdiction now have the benefit of a more granular understanding of what policies and procedures will lead OFAC to conclude that their sanctions compliance program is adequate or deficient. The compliance guidelines also describe in detail ten root causes of sanctions violations, including but not limited to the lack of a formal sanctions compliance program; facilitating transactions by non-U.S. persons; exporting or re-exporting U.S.-origin goods, technology or services to OFAC sanctioned persons or countries; and utilizing non-standard payment or commercial practices. We recommend that companies use the OFAC framework as a baseline to assess their own compliance programs, and update them accordingly to reduce the risk of incurring U.S. sanctions liability.

C.   New OFAC Transaction Reporting Procedures

On June 21, 2019, OFAC announced an Interim Final Rule amending the Reporting, Procedures, and Penalties Regulations (31 C.F.R Part 501). Notably, the amendment expands the reporting requirements for rejected transactions. Although financial and non-financial institutions alike had previously been required to file blocked property reports, only financial institutions had been required to file rejected transfer reports. Under the new amendment, however, all U.S. persons and persons subject to U.S. jurisdiction are required to submit reports on rejected transactions. The new amendment also makes clear that, in addition to rejected funds transfers, the reporting requirement applies to all rejected transactions, which includes rejected “transactions related to wire transfers, trade finance, securities, checks, foreign exchange, and goods or services.” Moreover, the scope of the information to be included in the rejection (and blocking) reports is expanded to include a host of information in order to reduce OFAC’s need to issue follow-up requests for additional information. This new rule materially increases the number of transactions that may need to be reported to the agency; the regulated community and advisors have been engaging with OFAC ever since the announcement to understand the true scope of the transactions that OFAC would like to see reported.

D.   New OFAC Penalty Amounts

Also in June 2019, OFAC increased the maximum base penalties for sanctions violations pursuant to the Federal Civil Penalties Inflation Adjustment Act Improvements Act of 2015. This is the fourth time that OFAC has adjusted the applicable civil monetary penalties (“CMPs”) since the Act was adopted in 2015. Under this adjustment, the maximum CMP amount for the five applicable sanctions-related statutes increased as follows:

Table

Additionally, the OFAC enforcement guidelines published as Appendix A to 31 C.F.R. Part 501 have been updated to reflect these new figures. The update includes a new “base penalty matrix” to assist in calculating possible penalty amounts under the various statutes, which takes into account the egregiousness of the offense and whether the offending transaction was voluntarily disclosed to OFAC:

Table-Base Penalty Matrix

E.   CAPTA List

On March 14, 2019, OFAC introduced the List of Foreign Financial Institutions Subject to Correspondent Account or Payable-Through Account Sanctions (“CAPTA List”). This list includes identifying information of foreign financial institutions (“FFIs”) for whom it is prohibited to open or maintain correspondent or payable-through accounts in the United States under existing legal authorities, including: the Ukraine Freedom Support Act of 2014, as amended by the Countering America’s Adversaries Through Sanctions Act; the North Korea Sanctions Regulations; the Iranian Financial Sanctions Regulations; and the Hizballah International Financing Prevention Act of 2015. Importantly, the CAPTA List is not a new list in its own right; rather, it consolidates information that had previously been included under other lists maintained under various sanctions programs, such as the now-defunct Part 561 List and the (never used) Hizballah Financial Sanctions Regulations List. Notably, entities appearing on the CAPTA List are not included on the SDN List. Although this list does not contain new information per se, it may prove to be a useful resource for U.S. financial institutions when conducting diligence on FFIs seeking to open correspondent or payable-through accounts in the United States.

IV.   Developments in U.S. Export Controls

The Trump administration’s practice of using all international trade tools at its disposal to advance its domestic and foreign policy objectives also extended to its use of certain authorities delegated to the U.S. Department of Commerce’s Bureau of Industry and Security (“BIS”). Although interagency coordination on sanctions is not new, the Administration’s apparent willingness in 2019 to use BIS’s export control licensing and enforcement tools to advance its foreign policy and national security interests, including the Administration’s trade agenda, was. This was most manifest in BIS’s designation of Huawei Technologies Co. Ltd. (“Huawei”) to the Export Administration Regulation’s (“EAR”) Entity List on May 16, 2019, though BIS made frequent use of this and another listing power throughout the year. Importantly, BIS’s measures are not technically “sanctions” though they operate in a similar manner and, depending upon the measure, can have similar impacts.

A.   Entity List

Entities can be designated to the Entity List upon a determination by the End-User Review Committee (“ERC”) that the entities pose a significant risk of involvement in activities contrary to the national security or foreign policy interests of the United States. The ERC is an interagency body with representatives from the Departments of Commerce, State, Defense, Energy, and the Treasury, and which is chaired by Commerce. Through Entity List designations, BIS prohibits the export, re-export, or transfer (hereinafter “export”) of specified items to designated entities without BIS licensing. BIS will typically announce either a policy of denial or ad hoc evaluation of license requests. The practical impact of any Entity List designation varies in part on the scope of items BIS defines as subject to the new export licensing requirement, which could include all or only some items that are “subject to the EAR.” In addition to items manufactured or exported from the United States, items “subject to the EAR” include (a) foreign-made items containing U.S. content that exceeds the EAR’s de minimis threshold for controlled content to the country of destination (25% for most countries, 10% for others), (b) certain U.S. content that is exempt from the de minimis rule, meaning that any amount of the controlled content will render the foreign-made item subject to the EAR, and to foreign-made items (c) that are the direct product of U.S.-origin technology or software, or (d) that are the products of whole plants or components of plants designed with certain U.S. technology or software. Those exporting to parties on the Entity List are also precluded from making use of any BIS license exceptions. Because the Entity List prohibition applies only to exports of items subject to the EAR, U.S. persons are still free to provide many kinds of services and to otherwise continue dealing with those designated in transactions that occur wholly outside of the United States and without items subject to the EAR. While on the one hand, this makes the Entity List prohibition more limited than OFAC’s SDN prohibitions, the Entity List prohibition is more extraterritorial in reach because it also prohibits non-U.S. persons from re-exporting or transferring any items subject to the EAR to the listed parties wherever these items are located. OFAC’s SDN prohibitions are limited to U.S. person dealings with SDNs, though foreign person dealings with SDNs can be a basis for OFAC’s designating the foreign person under certain circumstances. On May 16, 2019, BIS added Huawei and almost 70 Huawei affiliates to the Entity List. Later, on August 21, 2019, BIS expanded its Huawei designations to include its fabless semiconductor subsidiary, HiSilicon, plus 46 new designations, pushing the total number of Huawei entities designated to over 100. The ERC’s cited basis for its original determination was a Superseding Indictment of Huawei filed in the Eastern District of New York which includes among its 13 counts two charges that Huawei knowingly and willfully conspired and caused the export, re-export, sale and supply, directly and indirectly, or goods, technology, and services from the United States to Iran and the Government of Iran without authorization from OFAC. BIS’s prohibition on dealings with Huawei was and continues to be comprehensive; BIS included the export of all items subject to the EAR within the scope of its prohibition and announced that it will review license applications to export to Huawei with a policy presumption of denial. No other company as large as Huawei or with operations in as many countries worldwide had ever been designated by the ERC to the Entity List.

B.   BIS Made More Typical Entity List Designations Throughout the Year

On June 24, 2019, BIS designated five Chinese entities involved in exascale high performance computing out of concern that they were developing and using technologies to support nuclear explosive simulation and military simulation activities. On May 14, 2019, BIS designated twelve entities to the Entity List. Two from China were added due to their role in the unauthorized export of syntactic foam to Chinese state-owned enterprises, defense industrial corporations, and military-related academic institutions. Four more Chinese and Hong Kong entities were added due to their attempts to procure U.S.-origin commodities that would provide material support to Iran’s weapons of mass destruction and military programs. A Pakistan entity was added due to its participation in unsafeguarded nuclear activities. Finally, four United Arab Emirates-based entities were designated for their role in procuring U.S.-origin commodities for the SDN Mahan Air and for another entity already identified on the Entity List. On November 13, 2019, BIS added 22 new entities located in Bahrain, France, Iran, Jordan, Lebanon, Oman, Pakistan, Saudi Arabia, Senegal, Syria, Turkey, the United Arab Emirates, and the United Kingdom. The rationales provided for their designations ran the gamut of U.S. foreign policy concerns. An airline from France was designated for its role in transshipping U.S.-origin items to sanctioned jurisdictions. Entities in Oman, Pakistan, Saudi Arabia, and the United Arab Emirates were designated for their participation in unspecified unsafeguarded nuclear activities, and entities located in Bahrain, the United Arab Emirates, and Turkey were designated for diverting U.S.-origin items to Iran without authorization.

C.   One Other Set of Entity List Designations Broke New Ground and Could Create a Path for Export Control Designations in 2020

While many of BIS’s other Entity List designations for the year tracked historical concerns of the United States—for example, nuclear proliferation and sanctions evasion—one set of Entity List designations broke new ground. On October 9, 2019, BIS designated 28 new Chinese entities, including eight major emerging technology companies, for their roles in the implementation of China’s campaign of repression, mass arbitrary detention, and high-technology surveillance against Uighurs, Kazakhs, and other members of Muslim minority groups in the Xinjiang Uighur Autonomous Region. While OFAC designations based on human rights concerns have become common in recent years, BIS has not historically used Entity List designations in this way and we anticipate that we will see additional Entity List designations on these grounds in 2020.

V.   Legislative Developments: Focus on China

On November 21, 2019, amid mounting tensions between China and Hong Kong over a now-withdrawn extradition bill, the U.S. Congress passed the Hong Kong Human Rights and Democracy Act of 2019 (the “HK Act”), as described in our earlier client alert. The HK Act seeks to protect civil rights in Hong Kong and to deter human rights violations in the territory (including punishing those who commit them). Within a week after the HK Act was passed by supermajorities in both houses of Congress, President Trump signed the HK Act into law on November 27, 2019, despite hinting earlier that he might veto the legislation. An accompanying bill to prohibit the commercial export of covered munitions items to the Hong Kong police force was also signed into law the same day. The HK Act augments the existing U.S.-Hong Kong Policy Act of 1992 by requiring the U.S. Secretary of State to annually certify to Congress whether Hong Kong retains sufficient autonomy to merit its special trade and investment status. An adverse assessment could potentially threaten this status. Under the HK Act, the President is also empowered to impose sanctions on individuals deemed responsible for human rights violations in Hong Kong. The potential sanctions are varied, and could include asset blocking, which would effectively blacklist any identified party from participating in transactions with U.S. persons, and limit the designated party’s ability to engage in U.S. dollar trade (which almost always requires clearing through a bank under U.S. jurisdiction). Other types of sanctions that could be imposed include the revocation or denial of U.S. visas currently issued or to be issued to identified individuals. China has declared that the HK Act represents an interference in its domestic affairs and has retaliated by announcing sanctions against U.S.-based non-profit organizations, including the National Endowment for Democracy and Human Rights Watch. China also stated that it will prohibit U.S. military vessels from conducting port calls in Hong Kong—though, in practice, such port calls were already typically denied. It remains to be seen if Beijing will impose further retaliatory measures. On December 3, 2019, the U.S. House of Representatives passed the Uighur Intervention and Global Humanitarian Unified Response Act of 2019 (the “UIGHUR Act”) in an attempt to hold Beijing accountable for its alleged human rights abuses against ethnic and religious minorities, particularly the Uighurs (alternatively “Uyghurs”) in the Xinjiang region. This bill, which passed by a vote of 407-1, would amend and strengthen a related Senate version of the bill by explicitly linking U.S. policy toward China with the human rights situation in Xinjiang and mandating many of the Senate version’s non-binding provisions. In particular, the UIGHUR Act stands to impose a host of sanctions on senior Chinese government officials involved in the human rights abuses towards the Uighurs and implement export controls on U.S.-made items destined for Xinjiang and that could be used by the Chinese government for certain surveillance and repressive activities. If enacted, it would mark the first time that sanctions would be imposed on a member of China’s politburo, namely Secretary Chen Quanguo. The Senate now must reconcile and approve the differences between the House and Senate versions, and the President must sign the final bill for enactment. Key lawmakers have expressed optimism that Congress will be able to move the legislation forward soon, even as concerns about the UIGHUR Act’s strengthened export controls provisions and President Trump’s impeachment trial may result in delay.

VI.   Select U.S. Enforcement

2019 saw OFAC as busy as it has been in over a decade, finalizing 30 cases, assessing record fines, and pursuing novel and aggressive enforcement theories. While OFAC cases are not formally precedential, the agency does use enforcement to educate the public and to indicate OFAC’s foremost compliance concerns. In that regard, we provide below an overview of some of the more impactful enforcement actions of the past year.

A.   Apollo Aviation

In November 2019, Apollo Aviation Group, LLC (“Apollo”) agreed to pay $210,600 to OFAC to settle its potential civil liability for apparent violations of U.S. sanctions on Sudan. OFAC alleged that Apollo violated U.S. sanctions when it leased three aircraft engines to an entity incorporated in the United Arab Emirates, which then subleased the engines to a Ukrainian airline, who in turn installed the engines on aircraft leased to Sudan Airways. The leases occurred between 2013 and 2015, when Sudan Airways was identified on the SDN List as meeting the definition of “Government of Sudan.” The lease agreements that Apollo entered into contained a provision prohibiting the lessee from maintaining, operating, flying, or transferring the engines to any countries subject to U.S. sanctions. However, OFAC alleged that Apollo did not periodically monitor or otherwise verify that the lessee and sublessee were adhering to this lease provision and, as a result, Apollo did not learn that its engines were installed on Sudan Airways aircraft until a review of the engine records after the end of the lease. In determining the appropriate penalty, OFAC considered that Apollo voluntarily self-disclosed the apparent violations, implemented a number of remedial measures in response, and no Apollo personnel had actual knowledge of the conduct leading to the apparent violations. This case was one of the first to name in an enforcement action a non-operational, private equity investor that did not own the entity at the time of the alleged misconduct. This line of enforcement cases has made it clear that OFAC is increasingly willing to pursue enforcement actions under a theory of successor liability and even against parties not involved in the operational management of an alleged offender.

B.   General Electric

In October 2019, the General Electric Company (“GE”), on behalf of three current and former GE subsidiaries, Getsco Technical Services Inc., Bentley Nevada, and GE Betz (collectively, the “GE Companies”), agreed to pay $2,718,581 to settle potential civil liability for 289 alleged violations of U.S. sanctions on Cuba. Specifically, OFAC alleged that between December 2010 and February 2014, the GE Companies accepted 289 payments from The Cobalt Refinery Company (“Cobalt”) for goods and services provided to a Canadian customer of GE. Cobalt, an entity owned by a public joint venture between GE’s Canadian customer and the Cuban government, has been on the SDN List since June 1995. Although GE entered into contracts with and issued invoices directly to the Canadian customer, Cobalt paid the invoices in more than 65 percent of the total transactions during the relevant period, with payments totaling approximately $8,018,615. In setting the monetary penalty, OFAC considered the fact that GE identified the alleged violations by testing and auditing its compliance program and then voluntarily self-disclosed the payments to OFAC. This case demonstrated OFAC’s continued focus on Cuban violations and the agency’s willingness to “pierce the veil” in enforcement cases to find alleged wrongdoing on an indirect basis.

C.   British Arab Commercial Bank

In September 2019, British Arab Commercial Bank (“BACB”) agreed to remit $4,000,000 to settle potential violations of the Sudanese Sanctions Regulations stemming from the bank’s processing of 72 transactions totaling $190,700,000. OFAC determined that BACB did not make a voluntary self-disclosure and that the violations represented an egregious case, but nonetheless found that the bank’s operating capacity was such that it would face disproportionate impact were it required to pay the proposed penalty of over $220 million. Between September 2010 and August 2014, BACB processed 72 bulk funding payments related to Sudan in relation to its operation of U.S. dollar accounts for at least seven Sudanese financial institutions, including the Central Bank of Sudan. The transactions themselves were not processed to or through the U.S. financial system but the bank did operate a nostro account at a non-U.S. financial institution located in a country that imports Sudanese-origin oil to facilitate payments involving Sudan. The bank funded this nostro account with large, periodic U.S. dollar wire transfers from banks in Europe, which in turn transacted with U.S. financial institutions in a manner that violated OFAC sanctions. Several BACB employees, including managers and a member of the compliance team, had knowledge of this arrangement. In determining a settlement amount far lower than the potential penalty range, OFAC considered BACB’s record free from prior violations, the bank’s cooperation with the investigation, and the institution’s weak financial position. OFAC also credited BACB for undertaking several remedial measures, including exiting the Sudanese market, hiring new compliance staff and new senior management, and implementing additional compliance procedures. This case was another in a line of enforcement actions that has seen OFAC continue to extend its theory of jurisdiction, using even an indirect and somewhat attenuated reliance on the U.S. dollar to bring an entire body of transactions under OFAC jurisdiction.

D.   Atradius

On August 16, 2019, Atradius Trade Credit Insurance, Inc. (“Atradius”), a trade credit insurer licensed to operate in the state of Maryland, agreed to pay $345,315 to settle its potential civil liability for two apparent violations of the Foreign Narcotics Kingpin Sanctions Regulations. On May 5, 2016, OFAC designated Grupo Wisa, S.A. (“Grupo Wisa”) pursuant to the Kingpin Act and added the entity to the SDN List. In October 2016, approximately five months after Grupo Wisa’s designation, a cosmetics company located in the United States assigned to Atradius the right to collect on a debt owed by Grupo Wisa. Atradius subsequently filed a claim in Panama as a creditor in the liquidation of Grupo Wisa, and in June 2017, Atradius received a payment of approximately $4 million from the liquidation of Grupo Wisa’s assets in Panama. OFAC alleged that by accepting the assignment of the Grupo Wisa debt, and by receiving the payment from the Grupo Wisa liquidation, Atradius was alleged to have dealt in property or interests in property of a specially designated narcotics trafficker in violation of U.S. sanctions. OFAC considered it an aggravating factor that Atradius did not undertake any meaningful analysis or otherwise seek confirmation from OFAC that assignment of the SDN’s debt and acceptance of payment was permissible under existing authorizations. This enforcement action underlines one of the surprising facts about OFAC designations. Atradius sought to extract money from a sanctioned party, which would presumably be in line with U.S. Government wishes to further harm a designated entity. However, that is not how OFAC sees such dealings. Whether a party is providing a benefit to or attempting to seize payments from a blocked party, it is the dealings with that party that are prohibited. Once on the SDN List, OFAC’s desire is to make the party a financial pariah, and almost any engagement requires an OFAC license.

E.   DNI and Southern Cross

On August 8, 2019, OFAC issued Findings of Violation to two U.S. companies, DNI Express Shipping Company (“DNI”) and Southern Cross Aviation, LLC (“Southern Cross”), in relation to administrative subpoenas with follow-up responses deemed by OFAC to be materially inaccurate or incomplete. This is one of the few times OFAC has ever enforced solely on the basis of inadequate responses. DNI, a shipping company based in Virginia, was under investigation in 2015 for allegedly facilitating the shipment and sale of farm equipment to Sudan in apparent violation of U.S. sanctions. OFAC issued an administrative subpoena and a Cautionary Letter to DNI in May 2015. OFAC determined that DNI, through counsel, demonstrated “reckless disregard” for its U.S. sanctions obligations by providing misleading and inaccurate information in response to a May 2015 administrative subpoena. Similarly, OFAC determined that Southern Cross, a Florida-based aviation company which had been issued an administrative subpoena, demonstrated “reckless disregard” for its U.S. sanctions obligations by failing to provide complete and accurate information in response to OFAC’s administrative subpoena, but did consider that the underlying potential sale in question did not appear to have occurred.

F.   Paccar Inc.

On August 6, 2019, OFAC announced a $1,709,325 settlement with Paccar Inc. (“Paccar”) to resolve the company’s potential civil liability for 63 apparent violations of U.S. sanctions on Iran by DAF Trucks N.V. (“DAF”), a wholly-owned subsidiary of Paccar headquartered in the Netherlands. Specifically, OFAC alleged that on three occasions between October 2013 and February 2015, DAF sold or supplied 63 trucks to customers in Europe that it knew or had reason to know were ultimately intended for buyers in Iran. DAF sells its trucks through a network of independent dealers that typically purchase the trucks from DAF and then resell the trucks to identified end-customers. In 2014, a dealer based in Hamburg, Germany requested a price quotation from DAF for 51 trucks with particular specifications for an Iranian company located in Iran. After DAF informed the Hamburg-based dealer that DAF could not sell trucks destined for Iran, the dealer submitted a nearly identical order the same day, this time stating that the trucks were destined for an end-user in Russia. Despite the similarities, DAF did not conduct a further inquiry and processed the order. The dealer then resold the trucks to a buyer in Iran. Separately, in 2013, a directly owned DAF dealer in Frankfurt sold two trucks to a trader based in the Netherlands who in turn resold the trucks to two buyers in Iran, despite receiving draft invoices referencing buyers in Iran. In 2014, DAF sold ten trucks to a dealer in Bulgaria who sold the trucks to an affiliated rental company, which in turn sold the ten trucks to a buyer in Iran. The Bulgarian agent alleged that a DAF employee had introduced its agent to the Iranian buyers. OFAC alleged that in both instances DAF knew or had reason to know that the trucks were intended for Iran. The Paccar case is a reminder that while most OFAC sanctions programs stop at the water’s edge and foreign subsidiaries of U.S. companies do not, as a general matter, come under OFAC jurisdiction, the same is not true under either Iran or Cuba sanctions. In both cases, a foreign subsidiary or affiliate of a U.S. company can find itself subject to the exact same restrictions as their U.S. parent regardless how removed or insulated their activities may appear to be.

G.   State Street

In May 2019, OFAC issued State Street Bank and Trust Co. (“State Street”) a Finding of Violation with no accompanying penalty for processing pension payments totaling over $11,000 to a participant who was a U.S. citizen with a U.S. bank account, but who was residing in Iran, a violation of the Iranian Transactions and Sanctions Regulations. Between January 2012 and September 2015, State Street acted as trustee for a customer’s employee retirement plan, processing at least 45 pension payments totaling $11,365 to a plan participant who was a U.S. citizen with a U.S. bank account but who resided in Iran. State Street appeared to have knowledge that the plan participant was a resident of Iran because the beneficiary’s address was in Tehran and the bank’s sanctions compliance software issued an alert with each payment. The compliance process in place at the time, however, routed such alerts to non-sanctions expert personnel, rather than State Street’s sanctions compliance staff. State Street self-reported the violation and modified its process to ensure that such payments are reviewed by its sanctions compliance unit. In issuing a Notice of Violation without a monetary penalty, OFAC considered State Street’s self-disclosure of the violation, its remedial action in response to the violation, its screening process in place at the time of the violation, and the fact that no managers or supervisors appeared to have been aware of the conduct that led to the violation. This matter emphasizes both the expanse of Iran sanctions (applying to any person “ordinarily resident in Iran”) while underlining that sanctions expertise within a compliance unit is critical and expected—especially for sophisticated economic actors.

H.   Standard Chartered and UniCredit

In a return to the massive bank fines of the past, in April 2019, OFAC announced enforcement settlements against Standard Chartered Bank (“Standard Chartered”) and various UniCredit entities. Standard Chartered agreed to remit $1.1 billion in a global settlement with federal, state, local, and UK authorities for apparent violations of sanctions programs relating to Burma, Cuba, Iran, Sudan, and Syria. Payment owed to OFAC amounted to $639 million, which was deemed satisfied by payments of penalties assessed by other U.S. federal agencies arising out of the same conduct. OFAC also separately settled a case with Standard Chartered involving violations related to Zimbabwe. Between June 2009 and May 2014, Standard Chartered processed 9,335 transactions to or through the United States involving persons or countries subject to various comprehensive sanctions regimes administered by OFAC. The total amount processed was $437,553,380. A majority of the conduct related to Iranian-associated accounts maintained in Standard Chartered’s Dubai branches, including accounts maintained by a United Arab Emirates-incorporated petrochemical company owned by an Iranian citizen and engaged in the sale of energy products to, from, and through Iran. The Dubai entity processed U.S. dollar transactions to or through the bank’s New York branch and other U.S. financial institutions on behalf of customers physically located or ordinarily residing in Iran. Separately, Standard Chartered agreed to remit $18,016,283 to settle potential civil liability for violations related to Zimbabwe. The bank’s New York branch processed 1,795 transactions totaling over $76 million to individuals on the SDN List or parties that were owned 50 percent or more by individuals on the SDN List. OFAC determined that Standard Chartered voluntarily self-disclosed these apparent violations and that they constituted a non-egregious case. OFAC also identified several failures in the bank’s compliance program including insufficient procedures to identify and “ring-fence” SDN customers, but also credited Standard Chartered’s cooperation with the investigation. OFAC announced three separate settlements totaling $611 million with three UniCredit Group banks, including UniCredit Bank AG (Germany), UniCredit Bank Austria AG (Austria) and UniCredit S.p.A. (Italy), resolving its investigation into apparent violations of a number of U.S. sanctions programs. UniCredit Bank AG in Germany agreed to remit $553,380,759 to settle its potential civil liability; UniCredit S.p.A., the parent company of the UniCredit Group, and UniCredit Bank Austria AG agreed to remit a total of $57,542,662 to settle potential civil liability. While these penalties were substantial, they do not necessarily portend another surge in sanctions enforcement against financial institutions. Notably, the apparent violations date back a decade or more, suggesting that these are legacy actions rather than an indication of future enforcement priorities. However, these matters demonstrate that OFAC remains ready, willing, and able to impose massive fines on global institutions.

I.   Kollmorgen

In February 2019, Kollmorgen Corporation (“Kollmorgen”), on behalf of its Turkish affiliate, Elsim Elektroteknik Sistemler Sanayi ve Ticaret Anonim Sirketi (“Elsim”), agreed to remit $13,381 to settle potential civil liability for six apparent violations of U.S. sanctions on Iran. Specifically, OFAC alleged that between July 2013 and July 2015, Elsim appeared to violate U.S. sanctions on Iran when, on six occasions, Elsim serviced machines containing Elsim products located in Iran and provided products, parts, or services with knowledge they were destined for Iranian end-users. OFAC determined that despite Kollmorgen’s extensive compliance efforts, a monetary penalty remained appropriate due to Elsim’s egregious conduct and specific risk profile, including that Elsim had previously engaged in business with Iran. Notably, OFAC sanctioned a Turkish national employee, Evren Kayakiran, for directing the apparent violations and his attempted concealment of them. The action against Kayakiran is the first time OFAC has named an individual a Foreign Sanctions Evader in relation to a civil enforcement action. This demonstrates an additional, very serious consequence that can emerge from an enforcement action—it is not just a penalty and compliance obligations, but individuals directly involved can actually end up blacklisted.

J.   e.l.f. Cosmetics

In January 2019, e.l.f. Cosmetics, Inc. (“ELF”) agreed to pay $996,080 to settle its potential civil liability for 156 apparent violations of U.S. sanctions on North Korea. Specifically, OFAC alleged that between April 2012 and January 2017, ELF imported false eyelash kits from two suppliers located in the People’s Republic of China that contained materials sourced from North Korea. This case has been interpreted to demonstrate OFAC’s growing concern about supply chain management, and especially some jurisdictions (like North Korea’s) willingness to co-mingle commodity supply chains. During the operative time period, OFAC alleges that ELF’s OFAC compliance program was either non-existent or inadequate. The company and its supplier audits failed to discover that approximately 80 percent of false eyelash kits supplied by the two China-based suppliers contained materials sourced from North Korea until January 2017. Subsequently, OFAC determined that ELF voluntary self-disclosed the apparent violations to OFAC and that the apparent violations constitute a non-egregious case. In determining the penalty amount, OFAC considered among other factors the fact that ELF’s personnel did not appear to have had actual knowledge of the conduct at issue and that the apparent violations did not appear to constitute a significant part of ELF’s business activities. Further, OFAC considered the company’s cooperation with OFAC by immediately disclosing the apparent violations, signing a tolling agreement, and submitting a complete and satisfactory response to OFAC’s request for additional information. ____________________ In addition to the OFAC enforcement actions, this overview would not be complete without referencing an enforcement action that, via an unprecedented judicial action, was overturned in Exxon Mobil Corp. v. Mnuchin. On December 31, 2019, the U.S. District Court for the Northern District of Texas vacated a $2 million final penalty notice issued by OFAC to Exxon Mobil Corporation (“Exxon”), finding that OFAC had failed to provide fair notice that Exxon’s entry into contracts with Rosneft that were signed by Rosneft CEO Igor Sechin, an SDN, would violate sanctions rules. Igor Sechin was added to the SDN List in April 2014 under Executive Order 13661 relating to Russian activities in the Crimea region of Ukraine. The next month, Exxon entered a series of contracts with its existing business partner Rosneft. The contracts were signed by Sechin acting in his representative capacity as chief executive of Rosneft. OFAC issued an administrative subpoena to Exxon and, following an investigation, issued a penalty notice to Exxon imposing a $2 million fine. Exxon objected and filed suit. The court considered whether OFAC had carried its burden of providing “fair notice” to the public regarding its interpretation of Executive Order 13661 and related implementing regulations. A “Frequently Asked Question” (“FAQ”) posted on OFAC’s website under the Burma sanctions program announced the agency’s interpretation that U.S. persons could not enter into contracts signed by an SDN, even if the company represented by the SDN was not itself blocked. However, similar FAQs for the Ukraine program were not published until after Exxon had signed the contracts. In addition, various White House Factsheets and other executive branch public statements had emphasized that the sanctions targeted the designated persons “individually” and with respect to their “personal assets.” The court concluded that a regulated party “acting in good faith” would not have known with “ascertainable certainty” that Sechin’s signature on the contract would constitute a prohibited receipt of a service from an SDN.

VII.   European Union Legislative Developments, Enforcement and Judgements

In 2019, the European Union became more active in addressing EU common foreign and security policy (“CFSP”) objectives with the help of what it calls “restrictive measures,” i.e., EU financial and economic sanctions. This included targeting new issues that had not been precisely addressed by “traditional” EU sanctions. For example, the EU imposed a new sanctions framework for responding to cyber-attack threats. Further “new” types of EU sanctions are under discussion, such as EU human rights-related, “Magnitsky-like” sanctions. The EU has also become more vocal on how it expects individuals and companies under its jurisdiction to implement EU sanctions. For instance, the bloc issued unprecedented detailed guidance regarding how to comply with the EU Blocking Statute. Furthermore, the EU has published guidance on internal compliance programs for dual-use trade controls. We have discussed these developments and respective challenges in depth in our recently published treatise U.S., EU, and UN Sanctions: Navigating the Divide for International Business. Below, we provide an update on the most recent developments.

A.   EU Legislative Developments

With the recent start of Ursula von der Leyen’s term as the new President of the European Commission, the EU has already been active on the topic of sanctions: “The EU Commission emphatically rejects sanctions against European companies that engage in projects in line with the law,” von der Leyen noted in response to U.S. sanctions against EU companies working at finalizing the Nord Stream 2 pipeline. Further, without yet providing details, von der Leyen has discussed sanctions as a means to resolve trade disputes, saying “[w]e must ensure that we can enforce our rights, including through the use of sanctions, if others block the resolution of a trade conflict.” We expect EU sanctions to play a key role in addressing and enforcing the CFSP and potentially also to be applied in trade disputes in the years to come. Additionally, several EU member state foreign ministers have requested a reform of the EU sanctions regime, specifically asking for faster implementation of, better guidance on, and stricter compliance with EU sanctions. We expect further development on this front.

1.   EU Human Rights Sanctions

On December 9, 2019, the EU agreed to begin the necessary preparatory work to develop a global sanctions regime to address serious human rights violations. Josep Borrell, the EU’s High Representative for Foreign Affairs and Security Policy, noted that the legislation will be the “Magnitsky Act of the EU.” In line with some media reports, we expect the EU human rights sanctions to take several months before taking effect.

2.   Cyber-Attack Threats

The EU took a step forward in demonstrating its determination to enhance the EU’s cyber-defense capabilities with the introduction, on May 17, 2019, of a new sanctions framework in response to cyber-attack threats (as discussed in detail in our recent client alert.) The announced framework creates restrictive measures to deter and respond to cyber-attacks that constitute an external threat to the EU or its member states. The framework is significant for two reasons. First, it enables the EU to implement unilateral cyber sanctions—a move that expands the EU’s sanctions toolkit beyond traditional areas of sanctions, such as sanctions imposed in response terrorism and international relations-based grounds. Second, it represents a major, concrete measure that arose out of the EU’s continued interest in developing an open and secured cyberspace and amid concerns about the malicious use of information and communications technologies by both state and non-state actors. From the alleged plot by Russia to hack the Organization for the Prohibition of Chemical Weapons in The Hague in April 2018 to a cyber-attack on the German Parliament, European leaders have been very concerned about future cyber-attacks on EU member states.

B.   EU Economic Sanctions & EU Dual-Use Regulation Updates

Council Regulation (EC) 428/2009—regularly referred to as the EU Dual-Use Regulation—has established an EU regime for the control of export, transit, and brokering of dual-use items in order to contribute to international peace and security by precluding the proliferation of nuclear, chemical, or biological weapons and their means of delivery. In the interplay with EU economic sanctions and national EU member state export laws, it forms part of what one could refer to as “EU Export Controls.” To adapt to rapidly changing technological, economic, and political circumstances, the EU Commission presented a proposal in September 2016 to update and expand the existing rules that was supported by the European Parliament in its first report on the matter. On June 5, 2019, the Council issued its own parameters for negotiations with the European Parliament seeking a more limited recast of the dual-use regulation. Thereby the discussion mainly focuses on the classification of cyber surveillance technologies as dual-use goods and the possibility of a resulting discrimination of EU companies. The progress of the respective discussions can be viewed at the respective EU legislative train. The respective legislative train has not yet reached the station, and it remains to be seen whether it will be a priority of von der Leyen’s. However, the EU Commission already started to become more vocal on how it expects individuals and companies under its jurisdiction to implement EU sanctions. We summarized key recommendations of this new EU guidance and some additional points we consider helpful in our recent client alert. Taking into account both the new EU guidance and the Framework for OFAC Compliance Commitments, there is a clear trend from authorities to articulate in detail their expectations on how companies should address sanctions and export control compliance. In turn, it can be expected that non-compliance with such expectations will increasingly be under enhanced regulatory scrutiny. Further, EU member states have indicated that they might have additional, independent expectations. For instance, the Netherlands has issued its own set of guidelines for companies to assist with establishing an internal compliance program for “strategic goods, torture goods, technology and sanctions.”

1.   Iran

Following the implementation of the JCPOA in January 2016, most nuclear-related EU financial and economic sanctions were removed. However, several prohibitions and authorization requirements remain in place, specifically with respect to prohibited support for Iran’s ballistic missile program. Furthermore, since 2011, the EU has adopted and regularly renewed non-nuclear Iran financial and economic sanctions related to violations of human rights, including asset freezes and visa bans for entities and individuals responsible for grave human rights violations and a ban on exports of equipment that might be used for internal repression or for monitoring telecommunications. These measures were last extended on April 8, 2019 until April 13, 2020. In response to the U.S. decision to abandon the JCPOA, on August 6, 2018 the European Union enacted Commission Delegated Regulation (EU) 2018/1100 which amended the EU Blocking Statute. The EU Blocking Statute is a 1996 European Commission Regulation (No 2271/96) which was designed as a countermeasure to what the EU considers to be the unlawful effects of third-country (primarily U.S.) extraterritorial sanctions on “EU operators.” The combined effect of the EU Blocking Statute and the Re-imposed Iran Sanctions Blocking Regulation, inter alia, is to prohibit compliance by EU operators with U.S. sanctions that have been re-imposed following the U.S. withdrawal from the JCPOA. Further, decisions rendered in the United States or elsewhere because of the sanctions blocked by the EU Blocking Statute cannot be enforced in the EU. Finally, the EU Blocking Statute allows EU operators to recover damages arising from the application of the extraterritorial measures and requires EU operators to report to the EU. Two principal trends have emerged after the end of the first full year of an “active” EU Blocking Statute.  While enforcement by the competent authorities of the EU member states has been limited, the EU Blocking Statute has not been the paper tiger some have suggested; an interesting feature of the landscape over the last year has been private enforcement of the EU Blocking Statute by parties to commercial litigation before the domestic courts of the EU member states.  In a number of instances, non-EU companies, including Iranian companies, have relied on the EU Blocking Statute to secure enforcement through the national courts of EU member states of contracts relating to sanctioned countries against EU companies refusing performance by reference to the extraterritorial effects of U.S. sanctions. Furthermore, Instex was established in January 2019 by France, Germany, and the United Kingdom to facilitate non-U.S. dollar and non-SWIFT trade with Iran. While additional EU member states became shareholders of the French incorporated vehicle, it substantially fell behind expectations. The recent escalation in tensions between the United States and Iran led President Trump to renew his call for the remaining parties to the JCPOA to abandon the deal and re-introduce EU Iran nuclear-related sanctions. While EU leaders have opted to rally behind the JCPOA, ignoring the U.S. administration’s repeated calls to abandon the agreement, this should not be seen as an indication that the EU would not be willing to reintroduce EU Iran nuclear-related sanctions in the event that Iran does not uphold its part of the bargain. UN Security Council Resolution 2231 (2015), which endorsed the JCPOA, includes a “snapback” mechanism that would be triggered and eventually lead to the reintroduction of UN and EU nuclear-related Iran sanctions if the International Atomic Energy Agency, the UN’s nuclear watchdog, were to find Iran was no longer complying with the terms of the JCPOA. In its latest statements in response to the killing of General Soleimani, Iran has threatened to no longer observe the JCPOA’s limitations of centrifuges—a key commitment under the JCPOA. The French, German, and UK foreign ministers responded by issuing a statement and referring the matter to the JCPOA dispute resolution mechanism. While Iran still has the opportunity to change its course of action, it is possible that this statement has triggered the last chapter of the JCPOA. As of today, 2020 might see a “snapback” of UN and EU nuclear-related sanctions.

2.   Cuba

As discussed above, the increased U.S. sanctions pressure on Cuba has received broad resistance within the EU. The EU Blocking Statute already applies to Titles I, III, and IV of the Helms-Burton Act. Accordingly, the restrictions apply to this most recent set of U.S. Cuba sanctions. According to Article 4 of the EU Blocking Statute, any judgment enforcing the laws listed in the annex, including Helms-Burton, cannot be recognized or enforced in any EU member state. This means that the doctrine of res judicata (the Latin term for “a matter [already] judged”) no longer applies in these instances. Further, the EU Blocking Statute not only prohibits EU operators from complying with Helms-Burton but also entitles them to recover any damages, including legal costs, caused by the application of the law. Indeed, the EU Blocking Statute might also be used as a “clawback” mechanism of any damages that may be awarded in a Title III action. As noted, no cases under Helms-Burton have yet been finalized and consequently this aspect of the EU Blocking Statute remains untested. Additionally, it is important to take into account national, and specifically EU member state, anti-boycott (anti-declaration) provisions, particularly those relating to Cuba. As an example, for transactions, individuals and entities subject to German jurisdiction, Section 7 of the German Foreign Trade and Payments Ordinance (Außenwirtschaftsverordnung (“AWV”)), states that “[t]he issuing of a declaration in foreign trade and payments transactions whereby a resident participates in a boycott against another country (boycott declaration) shall be prohibited.”  This originally had to be read with the implicit addendum “to the extent such a declaration would be contradictory to UN, EU and German law.” Accordingly, any compliance advice included the burdensome task of understanding the specific extent of applicable UN, EU, and German sanctions and export control rules. If an individual or entity was understood to declare that it was in compliance with specific U.S. sanctions against, inter alia, Cuba and Iran that were not mirrored by the UN, the EU, or Germany, such a declaration was regularly covered and thus prohibited by Section 7 AWV.  If the German Public Prosecutor wanted to pursue such a case, a court could find the individual or entity to be in breach of Section 7 AWV, which could then lead to an administrative penalty of up to €500.000 (per declaration) for both the company and the acting employee. Further, it could also lead to forfeiture of income associated with the declaration, (partial) nullity of the provision in respective contractual arrangements, and reputational damages. On December 19, 2018, Section 7 AWV was amended, adding a provision that a declaration of a boycott against another state is excluded from Section 7 AWV prohibitions if the UN, the EU, or Germany have issued economic sanctions against that state as well. After such a change, the general view is that it is permitted under German law to declare compliance with a boycott against another country if the UN, the EU, or Germany have imposed any sanctions (regardless to what extent) on the particular country. Accordingly, individuals and entities may now lawfully declare their intent to comply with U.S. sanctions, at least under Section 7 AWV, if the UN, the EU, and/or Germany have also imposed economic sanctions against that particular state. This is the case with Iran, for example, where UN, EU, and German sanctions are in place. While the dilemma of complying with either U.S. sanctions or the EU Blocking Statute remains, the EU Blocking Statute currently only covers certain sanctions of the United States. Therefore, while it is still important to tailor such statements (usually appearing in representations and warranties) carefully, a broader statement of compliance with U.S. sanctions on Iran has become permissible under German law. With respect to Cuba (or Israel or any other country not in the scope of UN, EU, and/or German sanctions), Section 7 AWV continues to apply.

3.   North Korea

While 2018 gave rise to significant new and partly autonomous EU economic and financial sanctions against North Korea due to the deteriorating security situation on the Korean peninsula and regular threats by Kim Jong Un to attack South Korea or the United States, in 2019 the EU mostly maintained the scope of its sanctions on North Korea. The EU did, however, revise its lists of North Korea-related designated parties, which now consist of 57 individuals and 9 entities.

4.   Venezuela

The EU Venezuela sanctions include an arms embargo as well as travel bans and asset freezes on listed individuals, targeting those involved in human rights violations and those undermining democracy or the rule of law. On September 27, 2019, the European Council added 7 members of the Venezuelan security and intelligence forces to the list of designated individuals, now including 25 listed persons. On January 9, 2020, the EU’s High Representative, Josep Borrell, declared that the EU is “ready to start work towards applying [additional] targeted measures against individuals” involved in the recent use of force against Juan Guaidó, the president of Venezuela’s National Assembly, and other lawmakers to impede their access to the National Assembly on January 5, 2020. The EU Venezuela sanctions have recently been extended until November 14, 2020.

5.   Syria

EU Syria economic sanctions include an oil embargo, certain investment restrictions, asset freezes applying to the Syrian central bank, as well as export restrictions on equipment and technology used to monitor or intercept telecommunications or for internal repression. EU Syria financial sanctions include travel bans and asset freezes for persons involved in violently repressing the civilian population in Syria, benefiting from or supporting the regime, or being associated with such persons or entities. Currently 269 individuals and 69 entities are designated under the EU Syria sanctions program. On May 17, 2019, the EU extended its sanctions against the Syrian regime for one year, until June 1, 2020.

6.   Russia and Crimea

As discussed in previous client alerts, since March 2014, the EU has progressively imposed economic and financial sanctions against Russia in response to Moscow’s deliberate destabilization of Ukraine and its annexation of Crimea. EU economic sanctions against Russia continue to include an arms embargo; an export ban on dual-use goods for military use or military end-users in Russia; limited access to EU primary and secondary capital markets for major Russian state-owned financial institutions and major Russian energy companies; and limited Russian access to certain sensitive technologies and services that can be used for oil production and exploration. However, there are certain noteworthy differences between U.S. and EU sanctions targeting Russia and the latest U.S. actions against Russia have created further disparities between the two regimes. Further, the EU still does not recognize the annexation of Crimea and Sevastopol by Russia, and the EU imposed broad sanctions against these territories in 2014. The EU Crimea sanctions include an import ban on goods from Crimea and Sevastopol; broad restrictions on trade and investment related to certain economic sectors and infrastructure projects in Crimea and Sevastopol; an export ban on certain goods and technologies to Crimea and Sevastopol; and a prohibition to supply tourism services in Crimea or Sevastopol. The EU economic sanctions against Russia have been renewed and are currently in place until July 31, 2020. Also, the EU financial sanctions were further extended in September 2019 until March 15, 2020. As of now, 170 people and 44 entities are subject to a respective asset freeze and travel ban. On June 20, 2019, the European Council also extended the EU Crimea sanctions until June 23, 2020. These restrictions are similar to those in place in the United States. We expect the EU Russia and Crimea sanctions to stay in place for the time being. High Representative Borrell has previously indicated that he believes that “[u]ntil such time as Russia changes its attitude on Crimea and territorial violations, those [EU Russia] sanctions must remain.” Finally, given how upset the EU has been regarding recent U.S. sanctions on Nord Stream 2, it would be logical to assess that the EU Blocking Statute could be extended to include the NDAA, which provides for targeted sanctions on Nord Stream 2. The EU Blocking Statute currently does not apply to U.S. Russia sanctions. However, we think this outcome is unlikely. The EU Trade Commissioner, Phil Hogan, pointed out that the EU opposes sanctions generally if they threaten companies involved in legitimate business. European Commission President Ursula von der Leyen stated, “The EU Commission emphatically rejects sanctions against European companies that engage in projects in line with the law.” Overall, the EU authorities appear to be at least momentarily satisfied that the U.S. sanctions are unlikely to actually be implemented in this late stage of the construction process, even if they are perceived as an “unfriendly act.”

7.   Turkey

Considering that Turkey remains an official applicant for EU membership, it was a surprising development for the bloc to establish on November 11, 2019 an EU financial sanctions framework targeting Turkey’s drilling for natural resources off the coast of Cyprus. The contemplated EU financial sanctions include travel bans and asset freezes. So far, no entity has been designated under the new EU Turkey sanctions. EU Turkey sanctions are aimed at deterring Ankara from violating Cyprus’s maritime economic zone by drilling off the coast of the divided island. In a separate decision, the EU also imposed an arms embargo prohibiting new arms sales by EU member states to Turkey in light of Turkey’s involvement in the Syria conflict.

8.   Saudi Arabia

After the assassination of dissident journalist Jamal Khashoggi at the Saudi consulate in Istanbul in October 2018, the German Federal Government issued a unilateral moratorium on arms exports to Saudi Arabia. While originally aligned with France and the United Kingdom, the moratorium did not take the form of EU economic sanctions. Rather, the competent German authority stopped issuing necessary export licenses, including for exports that had previously been approved by the German government. The Administrative Court of Frankfurt am Main has now lifted this de facto export ban, at least with respect to a specific request to ship an arms manufacturer’s trucks. According to the court, the specific case was about 110 unarmored vehicles for the Royal Saudi Land Forces. The export of the trucks had been authorized in 2017, and 20 vehicles had then been delivered by the end of October 2018. With an order dated November 2018, the Federal Office of Economics and Export Control (Bundesamt für Wirtschaft und Ausfuhrkontrolle (“BAFA”)) temporarily “suspended the validity of the authorization.” Subsequently, additional orders with extended temporary suspensions were issued. After the BAFA failed to respond to the company’s complaint, the company brought an action for failure to act. It is noteworthy that the question of whether or to what extent EU member states are free to unilaterally (i.e., without alignment with other EU member states) introduce national sanctions measures, such as an asset freeze, has been the topic of a broader recent debate in the EU. The European Commission has published a non-binding opinion in response to a request by an EU member state national competent authority on the compatibility of national, unilateral asset-freezing measures with EU law. According to the opinion, a unilateral asset freeze measure, such as those regularly imposed by EU financial sanctions, are generally not permissible if based on grounds covered by Article 215 of the Treaty on the Functioning of the European Union.

9.   Nicaragua

On October 14, 2019, the EU adopted a legal framework for EU financial sanctions targeting Nicaragua, including travel bans and asset freezes against individuals and entities that have committed human rights violations or abuses, repressed civil society and democratic opposition, or undermined democracy and the rule of law in Nicaragua. Furthermore, EU individuals and entities also will not be allowed to make funds available to listed individuals and entities. So far, no designations have been made.

10.   Myanmar/Burma

On April 29, 2019, the EU extended EU economic sanctions on Myanmar/Burma for one year, until April 30, 2020. The EU economic sanctions against Myanmar/Burma include an embargo on arms and equipment that can be used for internal repression, an export ban on dual-use goods to be used by the military and border police, as well as restrictions on the export of equipment for monitoring communications that might be used for internal repression. Furthermore, the provision of military training to and military cooperation with the Myanmar Armed Forces (Tatmadaw) is prohibited under the sanctions regime. The extension of the EU financial sanctions includes restrictive measures imposed on 14 officials of the Tatmadaw and the border police for human rights violations or association with such violations.

VIII.   EU Member State Enforcement Action and Judgements

Enforcement of EU financial and economic sanctions takes place at the EU member state level. Judgments regarding EU financial and economic sanctions also regularly take place at the EU member state level. However, the EU’s supranational courts may be called upon to address specific questions and hold jurisdiction over particular matters, such as de-listing requests.

A.   Belgium

In February 2019, the Antwerp Criminal Court found three Belgian companies and two of their managing directors guilty of violating EU Syria sanctions for exporting chemicals to Syria without the necessary license. The court imposed fines between €75,000 and €500,000 on AAE Chemie Trading (“AAE”), Anex Customs (“Anex”), and Danmar Logistics (“Danmar”) for creating a supply chain to export the chemicals to Syria. AAE’s managing director was given a conditional fine of €346,000 and received a four-month conditional sentence, and Anex and Danmar’s managing director was given a conditional fine of €500,000 and was sentenced to a 12-month custodial sentence.

B.   Denmark

In September 2019, Danish state prosecutors started investigating Dan-Bunkering, the Danish bunker fuel supplier, on suspicion of violation of the EU Syria sanctions. According to U.S. court records and public sources, Dan-Bunkering was involved in supplying at least 30,000 metric tons of jet fuel for the civil war in Syria. According to Russia’s Foreign Ministry, the company that ordered the supplies was in charge of supplying fuel for Russian fighter jets conducting air raids in Syria. A confidential report submitted to the court detailed transactions totaling DKK 342 million (approximately $50 million) between Dan-Bunkering and the Russian company Maritime in 2016 and 2017.

C.   Estonia

In autumn 2019, Estonia started taking measures against the news agency Sputnik Estonia in order to implement EU sanctions. Sputnik Estonia is controlled by Russia Today, the Russian state media organization. Dimitry Kiselyov, the head of Russia Today, is on the EU’s list of those subject to an asset freeze and travel restrictions for their involvement in “undermining or threatening the territorial integrity, sovereignty and independence of Ukraine.” Because of this, Estonian officials took enforcement measures against Sputnik Estonia. At the end of October 2019, Estonian branches of foreign banks stopped payments by Sputnik Estonia, thus making the payment of salaries, taxes, and rent impossible. As a consequence, Sputnik Estonia received a termination notice from its landlord. In December 2019, the employees of Sputnik Estonia received a warning from the Estonian Finance Intelligence Unit informing them of possible criminal liability if they continued to work for Sputnik Estonia. Subsequently, all 35 employees of the news agency resigned. In December 2019, Sputnik Estonia announced that it would be closing its operations in Estonia.

D.   France

In April 2019, the Sanctions Committee of the French Banking Regulator opened disciplinary proceedings against the bank Raguram International for shortcomings in its screening of customers with regard to sanctions compliance. No penalty was issued due to the ensuing compliance efforts by the bank.

E.   Germany

1.   Russia Arms Embargo

The Hamburg Higher Regional Court sentenced a Russian citizen to seven years in prison for violating European sanctions by selling sensitive dual-use technology worth over €1.83 million to Russians with military backgrounds between 2014 and 2018. In doing so, this individual both forged the necessary documents and violated the export ban under Council Common Position 2008/944/CFSP. He sold, among other things, two hot isostatic presses. As these can be used for civilian or military purposes, exporting them to Russia is prohibited. He further sold up to 15 kilograms of decaborane chemicals, also to a Russian military recipient. The chemicals can be used as rocket fuel or explosives. The items, which can be used for military purposes, fall under the EU Russia economic sanctions.

2.   Mahan Air

In January 2019, Germany revoked the license of Iranian airline Mahan Air, which Germany alleged was transporting military equipment and personnel to Syria and other Middle East war zones. The airline is subject to U.S. terrorism secondary sanctions imposed in 2011 for its support for the IRGC. Partly in response to pressure from the United States, Germany imposed the sanctions on Mahan Air after discovering a spy working as a translator in the Bundeswehr.

IX.   United Kingdom

2019 saw the United Kingdom’s Office of Financial Sanctions Implementation (“OFSI”) impose its first monetary penalties pursuant to the Policing and Crime Act 2017 (“PCA”). OFSI has the authority to substitute a criminal prosecution with a civil monetary enforcement for breaches of financial sanctions legislation. The maximum penalty a company can receive pursuant to the PCA is the greater of either £1 million (approximately $1.3 million) or 50% of the approximate value of the funds or the economic resources provided. Guidance provided by OFSI in May 2018 highlights the factors to be considered when calculating the potential for, and amount of, the monetary penalty that may be levied. A number of these factors mirror those applied in other compliance regimes, including whether the breach was systemic, the level of knowledge within the organization, whether funds were provided directly, or actions were taken to circumvent the sanctions, etc.

A.   House of Commons - Foreign Affairs Committee Report, and Government Response

On June 12, 2019, the Foreign Affairs Committee of the House of Commons published a scathing report (the “Report”) in relation to the UK’s sanctions regime post-Brexit and preparations in relation thereto. The Report, entitled “Fragmented and incoherent: the UK’s sanctions policy,” highlighted three key elements of sanctions policy that the Committee considered had been overlooked including: (i) a clear high-level Government strategy; (ii) an effective structure for cross-governmental coordination; and (iii) an acknowledgment of the overlap between sanctions and anti-money laundering enforcement in practice. The overall strategy deficiencies included concern over the timing of incorporation of EU sanctions legislation into local law, a lack of legal certainty regarding whether, and when, the UK will be able to implement and use “Magnitsky-style” powers (that is to say, sanctions targeting human rights violators), and an absence of clarity regarding post-Brexit cooperation with the EU. In order to overcome some of the deficiencies in the policy making and enforcement structures, the Report recommended the appointment of a Senior Responsible Officer (“SRO”) who would be personally accountable to the National Security Council in relation to sanctions policy and enforcement. The Report further recommended consideration be given to the creation of a single body with responsibility for both policy and enforcement, along the lines of OFAC in the United States. Finally, while acknowledging that sanctions and anti-money laundering policy are distinct, the Report recommended a greater appreciation by the Foreign and Commonwealth Office (“FCO”) of the overlap between the two, using the example of the listing of En+ Group on the London Stock Exchange in 2017 as a failure in practical enforcement due to the sanctions laws in force at the time being too narrow to effectively block such a listing, and there being no clear way for the Financial Conduct Authority (“FCA”) to convey its concerns or consult national security experts. The Report also re-iterated its previous recommendation for there to be an assessment of the effectiveness of OFSI. The overall conclusion of the Report was that “the Government has spent the last two years running as fast as it can just to stay in the same place.” The Government’s response (the “Response”) to the concerns raised by the Report was published on September 3, 2019. The Response began by noting the complexity, and unique and dynamic nature of the 22 statutory instruments that had to be drafted in order to translate EU sanctions into local law. The Government also noted that this in turn utilized unprecedented resources and time. The Response indicated that post-Brexit the Government intends to implement Magnitsky-style sanctions as well as publish its own designated persons list to facilitate enforcement of the same. The Response confirmed the Government’s hope to continue international cooperation in relation to its sanctions regime while maintaining independent policy-making and using its permanent seat on the UN Security Council to express and coordinate the imposition of international sanctions. In response to the Report’s more domestic concerns, such as its suggestion to appoint an SRO, the Government confirmed that it already has multiple SROs within the FCO, and will re-assess the need for a single SRO designation in the future. Additionally, the Response considered the Report’s concern regarding permission for En+ to list on the London Stock Exchange, the Government re-iterated that the FCA is an independent body, and is empowered under the Financial Services and Markets Act 2000 to refuse an application for listing where it would be detrimental to the investor. Furthermore, the Government stated that it is deliberating the possibility of introducing a power to block a listing on grounds of national security to overcome such challenges in the future. In relation to the wider consideration of the overlap between sanctions and anti-money laundering efforts, the Government confirmed that its intention is to keep the two separate, however it recognized the overlap and highlighted the systems existing alongside sanctions in the Government’s artillery to fight economic crime. Lastly, the Government defended the effectiveness of OFSI, noting its success in communicating the latest sanctions, its guidance in relation to sanctions compliance, and the threat of monetary enforcement being a strong deterrent.

B.   Enforcement

1.   R. Raphael & Sons plc

In January 2019, OFSI issued its first financial penalty, against UK bank Raphael & Sons plc (“Raphaels Bank”), of £5,000, for dealing with funds belonging to a designated person without a license, in contravention of regulation 3 of the Egypt (Asset-Freezing) Regulations 2011 (S.I. 2011/887). The value of the transaction at issue was £200. Raphaels Bank made a disclosure of the transaction to OFSI and cooperated with the regulator which resulted in a reduction in penalty of 50 % from an initial fine of £10,000.

2.   Travelex (UK) Ltd

OFSI issued its second enforcement in May 2019 against Travelex (UK) Ltd. for contravention of regulation 3 of the Egypt (Asset Freezing) Regulations 2011 (S.I. 2011/887) by dealing with funds belonging to a designated person without a license. This breach was linked to the penalty imposed against Raphaels Bank. OFSI found that “Travelex had direct, in-person, contact with a designated person (DP), in the UK, and dealt with funds belonging to that person despite having access to their passport, which clearly identified the individual by name, date of birth and nationality.” The transaction in question was valued at £204, however no discount was applied for voluntary disclosure and therefore the company was fined £10,000.

3.   Telia Carrier UK Limited

OFSI’s largest monetary penalty yet was levied against Telia Carrier UK Limited (“Telia”), a UK subsidiary of Telia Company on October 28, 2019. Telia was fined for breaching section 4 and 6 of the Syria (European Union Financial Sanctions) Regulation 2012. SyriaTel, the sanctioned entity, is the largest mobile phone company in Syria and is owned and controlled by Rami Makhlouf, a powerful Syrian businessman and cousin of President Bashar al-Assad. The company was designated in 2011 by both the United States and the EU, and was described as “being controlled by one of the regime’s most corrupt insiders.” The decision from OFSI while not detailed, confirmed that the telecom carrier’s facilitation of international telephone calls to SyriaTel involved “repeatedly making economic resources available to the designated entity over an extended period of time.” OFSI took the opportunity to remind businesses of the broad scope of assistance that it would consider providing “economic resources,” including tangible and intangible assets that can be transferred either directly or indirectly. This broad definition is likely to be of interest to global businesses in all sectors. The decision confirmed that OFSI’s investigation found that the company “had knowledge, or had reasonable cause to suspect it was breaching sanctions.” The regulator urged companies to implement more thorough screening processes and self-report when issues are identified. Interestingly, this is the first OFSI enforcement in which the ministerial review process, as provided for in Section 147 of the PCA, was engaged and the penalty in this matter was reduced substantially after the review. When ministerial review is requested by a company, there are three potential outcomes: (i) upholding the decision to impose a penalty and the amount; (ii) upholding the decision to impose a penalty but changing the amount; and (iii) canceling the decision to impose any penalty. The Guidance provided by OFSI in May 2018 confirms that a party requesting a review has 28 days to do so from the date on which it receives written confirmation of the penalty. Once a review is requested, no new material is generally required and this process is not designed to be an opportunity to introduce new evidence. However, in this case, during the review process, OFSI received further clarification regarding the nature of the transactions which it did not have when deciding the initial penalty. As a result the assessed value of the transactions was more than halved from £480,000 to £234,000. OFSI noted that this information needed to be considered even though it was provided as such a late stage, given the “significant impact” of the information. While it is unclear what would be considered “significant impact” and therefore what information will be of assistance to OFSI, companies found to be in breach will want to self-investigate the value of any breach as early as possible to ensure they are not incorrectly penalized.

4.   Bank Mellat

In June 2019, the UK settled a £1.25 billion (approximately $1.6 billion) lawsuit brought by Bank Mellat, an Iranian bank partly owned by the Iranian government, in relation to UK sanctions imposed against it between 2009 and 2013 due to alleged links to Iran’s nuclear program. The bank claimed this led to losses of £3.2 billion (approximately $4 billion) due to its inability to do business in the UK financial sector and the substantial damage caused to its reputation in the UK and internationally. While details of the settlement were kept confidential, there was some press speculation that the settlement monies were transferred by the UK through a third country and entity, with U.S. sanctions concerns in mind. Bank Mellat continues to be sanctioned by the United States after its inclusion as a designated entity in October 2018.
The following Gibson Dunn lawyers assisted in preparing this client update: Judith Alison Lee, Adam Smith, Patrick Doris, Michael Walther, Stephanie Connor, Christopher Timura, Shruti Chandhok, Grace Chow, Cate Harding, Dyllan Lee, Allison Lewis, Jesse Melman, R.L. Pratt, Tory Roberts, Richard Roeder, Samantha Sewall, Audi Syarief, Scott Toussaint, Brian Williamson, and Simon Woerrlein. Gibson Dunn's lawyers are available to assist in addressing any questions you may have regarding the above developments.  Please contact the Gibson Dunn lawyer with whom you usually work, the authors, or any of the following leaders and members of the firm's International Trade practice group: United States: Judith Alison Lee - Co-Chair, International Trade Practice, Washington, D.C. (+1 202-887-3591, jalee@gibsondunn.com) Ronald Kirk - Co-Chair, International Trade Practice, Dallas (+1 214-698-3295, rkirk@gibsondunn.com) Jose W. Fernandez - New York (+1 212-351-2376, jfernandez@gibsondunn.com) Marcellus A. McRae - Los Angeles (+1 213-229-7675, mmcrae@gibsondunn.com) Adam M. Smith - Washington, D.C. (+1 202-887-3547, asmith@gibsondunn.com) Stephanie L. Connor - Washington, D.C. (+1 202-955-8586, sconnor@gibsondunn.com) Christopher T. Timura - Washington, D.C. (+1 202-887-3690, ctimura@gibsondunn.com) Ben K. Belair - Washington, D.C. (+1 202-887-3743, bbelair@gibsondunn.com) Courtney M. Brown - Washington, D.C. (+1 202-955-8685, cmbrown@gibsondunn.com) Laura R. Cole - Washington, D.C. (+1 202-887-3787, lcole@gibsondunn.com) R.L. Pratt - Washington, D.C. (+1 202-887-3785, rpratt@gibsondunn.com) Samantha Sewall - Washington, D.C. (+1 202-887-3509, ssewall@gibsondunn.com) Audi K. Syarief - Washington, D.C. (+1 202-955-8266, asyarief@gibsondunn.com) Scott R. Toussaint - Washington, D.C. (+1 202-887-3588, stoussaint@gibsondunn.com) Europe: Peter Alexiadis - Brussels (+32 2 554 72 00, palexiadis@gibsondunn.com) Attila Borsos - Brussels (+32 2 554 72 10, aborsos@gibsondunn.com) Nicolas Autet - Paris (+33 1 56 43 13 00, nautet@gibsondunn.com) Patrick Doris - London (+44 (0)207 071 4276, pdoris@gibsondunn.com) Sacha Harber-Kelly - London (+44 20 7071 4205, sharber-kelly@gibsondunn.com) Penny Madden - London (+44 (0)20 7071 4226, pmadden@gibsondunn.com) Shruti S. Chandhok - London (+44 (0)20 7071 4215, schandhok@gibsondunn.com) Steve Melrose - London (+44 (0)20 7071 4219, smelrose@gibsondunn.com) Benno Schwarz - Munich (+49 89 189 33 110, bschwarz@gibsondunn.com) Michael Walther - Munich (+49 89 189 33-180, mwalther@gibsondunn.com) Richard W. Roeder - Munich (+49 89 189 33-160, rroeder@gibsondunn.com) Grace Chow - Singapore (+65 6507.3632, gchow@gibsondunn.com) © 2020 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

January 10, 2020 |
2019 Year-End German Law Update

Click for PDF Since the end of World War II, Germany’s foreign policy and economic well-being were built on three core pillars: (i) a strong transatlantic alliance and friendship, (ii) stable and influential international institutions and organizations, such as first and foremost, the EU, but also others such as the UN and GATT, and, finally, (iii) the rule of law. Each of these pillars has suffered significant cracks in the last years requiring a fundamental re-assessment of Germany’s place in the world and the way the world’s fourth largest economy should deal with its friends, partners, contenders and challengers. A few recent observations highlight the urgency of the issue:

  • The transatlantic alliance and friendship has been eroding over many years. A recent Civey study conducted for the think tank Atlantic-Brücke showed that 57.6% of Germans prefer a “greater distance” to the U.S., 84.6% of the 5,000 persons polled by Civey described the German-American relationship as negative or very negative, while only 10.4% considered the relationship as positive.
  • The current state of many international institutions and organizations also requires substantial overhaul, to put it mildly: After Brexit has occurred, the EU will have to re-define its role for its remaining 27 member states and its (new) relationship with the UK, which is still the fifth-largest economy on a stand-alone basis. GATT was rendered de facto dysfunctional on December 10, 2019, when its Appellate Body lost its quorum to hear new appeals. New members cannot be approved because of the United States’ veto against the appointment of new appeal judges. The UN is also suffering from a vacuum created by an attitude of disengagement shown by the U.S., that is now being filled by its contenders on the international stage, mainly China and Russia.
  • Finally, the concept of the rule of law has come under pressure for some years through a combination of several trends: (i) the ever expanding body of national laws with extra-territorial effect (such as the FCPA or international sanction regulations), a rule-making trend not only favored by the U.S., but also by China, Russia, the EU and its member states alike, (ii) the trend – recently observed in some EU member states – that the political party in charge of the legislative and executive branch initiates legislative changes designed to curtail the independence of courts (e.g. Poland and Hungary), and (iii) the rise of populist parties that have enjoyed land-slide gains in many countries (including some German federal states) and promulgate simple solutions, not least by cutting corners and curtailing legal procedures and legal traditions.
These fundamental challenges occur toward the end of a period of unprecedented rise in wealth and economic success of the German economy: Germany has reaped the benefits of eight decades of peace and the end of the Cold War after the decay of the Soviet Union. It regained efficiencies after ambitious structural changes to its welfare state in the early years of the millennium, and it re-emerged as a winner from the 2008 financial crisis benefiting (among others) from the short-term effects of the European Central Bank’s policy of a cheap Euro that mainly benefits the powerful German export machine (at the mid- and long-term cost to German individual savers). The robust economy that Germany enjoyed over the last decade resulted in record budgets, a reduction of public debt, a significant reduction in unemployment, and individual consumption at record levels. Therefore, the prospects of successfully addressing the above challenges are positive. However, unless straight forward and significant steps are identified and implemented to address the challenges ahead, the devil will be in the detail. The legislative changes across all practice areas covered in this year-end update are partly encouraging, partly disappointing in this respect. It is impossible to know whether the new laws and regulations will, on balance, make Germany a stronger and more competitive economy in 2020 and beyond. Healthy professional skepticism is warranted when assessing many of the changes suggested and introduced. However, we at Gibson Dunn are determined and committed to ensuring that we utilize the opportunities created by the new laws to the best benefit of our clients, and, at the same time, helping them in their quest to limit any resulting threats to the absolute minimum. As in prior years, in order to succeed in that, we will require your trust and confidence in our ability to support you in your most complicated and important business decisions and to help you form your views and strategies to deal with sophisticated German legal issues in times of fundamental change. Your real-world questions and the tasks you entrust us with related to the above developments and changes help us in forming our expertise and sharpening our focus. This adds the necessary color that allows us to paint an accurate picture of the multifaceted world we are living in, and on this basis, it will allow you to make sound business decisions in the interesting times to come. In this context, we are excited about every opportunity you will provide us with to help shaping our joint future in the years to come. _______________________

Table of Contents      

  1. Corporate, M&A
  2. Tax
  3. Financing and Restructuring
  4. Labor and Employment
  5. Real Estate
  6. Compliance and Litigation
  7. Antitrust and Merger Control
  8. Data Protection
  9. IP & Technology
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1.   Corporate, M&A

1.1   ARUG II – New Transparency Rules for Listed German Corporations, Institutional Investors, Asset Managers, and Proxy Advisors In November 2019, the German parliament passed ARUG II, a long awaited piece of legislation implementing the revised European Shareholders’ Rights Directive (Directive (EU) 2017/828). ARUG II is primarily aimed at listed German companies and provides changes with respect to “say on pay” provisions, as well as additional approval and disclosure requirements for related party transactions, the transmission of information between a corporation and its shareholders and additional transparency and reporting requirements for institutional investors, asset managers and proxy advisors. “Say on pay” on remuneration of board members; remuneration policy and remuneration report In a German stock corporation, shareholders determine the remuneration of the supervisory board members at a shareholder meeting, whereas the remuneration of the management board members is decided by the supervisory board. Under ARUG II, shareholders of German listed companies must be asked to vote on the remuneration of the board members pursuant to a prescribed procedure. First, the supervisory board will have to prepare a detailed remuneration policy (including maximum remuneration amounts) for the management board, which must be submitted to the shareholders if there are major changes to the remuneration, and in any event at least once every four years. The result of the vote on the policy will only be advisory except that the shareholders’ vote to reduce the maximum remuneration amount will be binding. With respect to the remuneration of supervisory board members, the new rules require a shareholder vote at least once every four years. Second, at the annual shareholders’ meeting, the shareholders will vote ex post on the remuneration report which contains the remuneration granted to the present and former members of the management board and the supervisory board in the previous financial year. Again, the shareholders’ vote, however, will only be advisory. Both the remuneration report and the remuneration policy have to be made public on the company’s website for at least ten years. The changes introduced by ARUG II will not apply retroactively and will not therefore affect management board members’ existing service agreements, i.e. such agreements will not have to be amended in case they do not comply with the new remuneration policy. Related party transactions German stock corporation law already provides for various safeguards to protect minority shareholders in transactions with major shareholders or other related parties (e.g. the capital maintenance rules and the laws relating to groups of companies). In the future, for listed companies, these mechanisms will be supplemented by a detailed set of approval and transparency requirements for related party transactions. In particular, transactions exceeding certain thresholds will require prior supervisory board approval, provided that a rejection by the supervisory board can be overruled by shareholder vote, and a listed company must publicly disclose any such material related party transaction, without undue delay over media channels providing for European-wide distribution. Communication / Know-your-Shareholder Listed corporations will have the right to request information on the identity of their shareholders, including the name and both a postal and electronic address, from depositary banks, thus allowing for a direct communication line, also with respect to bearer shares (“know-your-shareholder”). Furthermore, depositary banks and other intermediaries will be required to pass on important information from the corporation to the shareholders and vice versa, e.g. with respect to voting in shareholders’ meetings and the exercise of subscription rights. Where there is more than one intermediary in a chain, the intermediaries are required to pass on the respective information within the chain. Increased transparency requirements for institutional investors, asset managers and proxy advisors Institutional investors and asset managers will be required to disclose their engagement policy (including how they monitor, influence and communicate with investee companies, exercise shareholders’ rights and manage actual and potential conflicts of interests). They will also have to report annually on the implementation of their engagement policy and on their voting decisions. Institutional investors will also have to disclose to which extent key elements of their investment strategy match the profile and duration of such institutional investors’ liabilities towards their ultimate beneficiaries. If they involve asset managers, institutional investors also have to disclose the main aspects of their arrangements with them. The new disclosure and reporting requirements, however, only apply on a “comply or explain” basis, i.e. investors and asset managers may choose not to comply with the transparency requirements provided that they give an explanation as to why this is the case. Proxy advisors will have to publicly disclose on an annual basis whether and how they have applied their code of conduct based again on the “comply or explain” principle. They also have to provide information on the essential features, methodologies and models they apply, their main information sources, the qualification of their staff, their voting policies for the different markets they operate in, their interaction with the companies and the stakeholders as well as how they manage conflicts of interests. These rules, however, do not apply to proxy advisors operating from a non-EEA state with no establishment in Germany. Entry into force and transitional provisions The provisions concerning related party transactions already apply. The rules relating to communications via intermediaries and know-your-shareholder information will apply from September 3, 2020. The “mandatory say on pay” resolutions will only have to be passed in shareholder meetings starting in 2021. The remuneration report will have to be prepared for the first time for the financial year 2021. It needs to be seen whether companies will already adhere to the new rules prior to such dates on a voluntary basis following requests from their shareholders or pressure from proxy advisors. In any event, both listed companies as well as the other addressees of the new transparency rules should make sure that they are prepared for the new reporting and disclosure requirements.

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1.2   Restatement of the German Corporate Governance Code – New Stipulations for the Members of the Supervisory Board and the Remuneration of the Members of the Board of Management

A restatement of the German Corporate Governance Code (Deutscher Corporate Governance Kodex, DCGK” or the “Code”) is expected for the beginning of 2020, after the provisions of the EU Shareholder Rights Directive II (Directive (EU) 2017/828 of the European Parliament and of the Council of May 17, 2017 amending Directive 2007/36/EC as regards the encouragement of long-term shareholder engagement) were implemented into German domestic law as part of the "ARUG II" reform as of January 1, 2020. This timeline seeks to avoid overlaps and potentially conflicting provisions between ARUG II and the Code. In addition to structural changes, which are designed to improve legal clarity compared to the previous 2017 version, the new Code contains a number of substantial changes which affect boards of management and supervisory boards in an effort to provide more transparency to investors and other stakeholders. Some of the key modifications can be summed up as follows:
(a)   Firstly, restrictions on holding multiple corporate positions are tightened considerably. The new DCGK will recommend that (i) supervisory board members should hold no more than five supervisory board mandates at listed companies outside their own group, with the position of supervisory board chairman being counted double, and (ii) members of the board of management of a listed company should not hold more than two supervisory board mandates or comparable functions nor chair the supervisory board of a listed company outside their own group. (b)   A second focal point is the independence of shareholder representatives on the supervisory board. In this context, the amended DCGK for the first time introduces certain criteria which can indicate a lack of independence by supervisory board members such as long office tenure, prior management board membership, family or close business relationships with board members and the like. However, the Government Commission DCGK (Regierungskommission Deutscher Corporate Governance Kodex) (the “Commission”) has pointed out that these criteria should not replace the need to assess each case individually. Furthermore, at least 50% of all shareholder representatives (including the chairperson) shall be independent. If there is a controlling shareholder, at least two members of the supervisory board shall be independent of such controlling shareholder (assuming a supervisory board of six members). (c)   A third key area of reform focuses on the remuneration of members of the board of management. Going forward, it is recommended that companies should determine a so-called “target total remuneration”, i.e. the amount of remuneration that is paid out in total if 100 percent of all previously determined targets have been achieved, as well as a "maximum compensation cap", which should not be exceeded even if the previously determined targets are exceeded. Under the new Code, the total remuneration of the management board should be “explainable to the public”. (d)  Finally, the Commission has decided to simplify corporate governance reporting and put an end to the parallel existence of (i) the corporate governance report under the Code and (ii) a separate corporate governance statement contained in the management report of the annual accounts. Going forward, the corporate governance statement in the annual financial statements will be the core instrument of corporate governance reporting.
In recent years, governance topics have assumed ever increasing importance for both domestic and foreign investors and are typically a matter of great interest at annual shareholders’ meetings. Hence, we recommend that (listed) stock corporations, in a first step, familiarize themselves with the content of the new recommendations in the Code and, thereafter, take the necessary measures to comply with the rules of the revised DCGK once it takes effect . In particular, stock corporations should evaluate and disclose the different mandates of their current supervisory board members to comply with the new rules.

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1.3   Cross-Border Mobility of European Corporations Facilitated On January 1, 2020 the European Union Directive on cross-border conversions, mergers and divisions (Directive (EU) 2019/2121 of the European Parliament and of the Council of November 27, 2019) (the “Directive”) has entered into force. While a legal framework for cross-border mergers had already been implemented by the European Union in 2005, the lack of a comparable set of rules for cross-border conversions and divisions had led to fragmentation and considerable legal uncertainty. Whenever companies, for example, attempted to move from one member state to another without undergoing national formation procedures in the new member state and liquidation procedures in the other member state, they were only able to rely on certain individual court rulings of the European Court of Justice (ECJ). Cross-border asset transfers by (partial) universal legal succession ((partielle) Gesamtrechtsnachfolge) were virtually impossible due to the lack of an appropriate legal regime. The Directive now seeks to create a European Union-wide legal framework which ultimately enhances the fundamental principle of freedom of establishment (Niederlassungsfreiheit). The Directive in particular covers the following cross-border measures:
  • The conversion of the legal structure of a corporation under the regime of one member state into a legal structure of the destination member state (grenzüberschreitende Umwandlung) as well as the transfer of the registered office from one member state to another member state (isolierte Satzungsitzverlegung);
  • Cross-border division whereby certain assets and liabilities of a company are transferred by universal legal succession to one or more entities in another member state which are to be newly established in the course of the division. If all assets and liabilities are transferred, at least two new transferee companies are required and the transferor company ceases to exist upon effectiveness of the division. In all cases, the division is made in exchange for shares or other interests in the transferor company, the transferee company or their respective shareholders, depending on the circumstances.
  • The Directive further amends the existing legal framework for cross-border merger procedures by introducing common rules for the protection of creditors, dissenting minority shareholders and employees.
  • Finally, the Directive provides for an anti-abuse control procedure enabling national authorities to check and ultimately block a cross-border measure when it is carried out for abusive or fraudulent reasons or in circumvention of national or EU legislation.
Surprisingly, however, the Directive does not cover a cross-border transfer of assets and liabilities to one or more companies already existing in another member state (Spaltung durch Aufnahme). In addition, the Directive only applies to corporations (Kapitalgesellschaften) but not partnerships (Personengesellschaften). Member states have until January 2023 to implement the Directive into domestic law. Through this legal framework for corporate restructuring measures, it is expected that the Directive will harmonize the interaction between national procedures. If the member states do not use the contemplated national anti-abuse control procedure excessively, the Directive can considerably facilitate cross-border activities. Forward looking member states may even consider implementing comparable regimes for divisions into existing legal entities which are currently beyond the scope of the Directive.

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1.4   Transparency Register: Reporting Obligations Tightened and Extended to Certain Foreign Entities

The Act implementing the 5th EU Anti-Money Laundering Directive (Directive (EU) 2018/843) which amended the German Anti-Money Laundering Act (Geldwäschegesetz, GwG) with effect as of January 1, 2020 (see below under section 6.2) also introduced considerable new reporting obligations to the transparency register (Transparenzregister), which seeks to identify the “ultimate beneficial owner”. Starting on January 1, 2020, not only associations incorporated under German private law, but also foreign associations and trustees that have a special link to Germany must report certain information on their „beneficial owners“ to the German transparency register. Such link exists if foreign associations acquire real property in Germany. Non-compliance is not only an administrative offence (potential fines of up to EUR 150,000), but the German notary recording a real estate transaction must now check actively that the reporting obligation has been fulfilled before notarizing such transaction and must refuse notarization if it has not. Foreign trustees must in addition report the beneficial owners of the trust if a trust acquires domestic real property or if a contractual partner of the trust is domiciled in Germany. Reporting by a foreign association or trustee to the German transparency register is, however, not required if the relevant information on the beneficial owners has already been filed with a register of another EU member state. Additional requirements apply to foreign trustees. In addition, the reporting obligations of beneficial owners, irrespective of their place of residence, towards a German or, as the case may be, foreign association, regarding their interest have been clarified and extended. Associations concerned must now also actively make inquiries with their direct shareholders regarding any beneficial owners and must keep adequate records of these inquiries. Shareholders must respond to such inquiries within a reasonable time period and, in addition, must also notify the association pro-actively, if they become aware that the beneficial owner has changed as well as duly record any such notification. Furthermore, persons or entities subject to the GwG obligations (“Obliged Persons”) inspecting the transparency register to fulfil their customer due diligence requirements (e.g. financial institutions and estate agents) must now notify the transparency register without undue delay of any discrepancies on beneficial ownership between entries in the register and other information and findings available to them. Finally, the transparency register is now also accessible to the general public without proof of legitimate interest with regard to certain information about the beneficial owner (full legal name of the beneficial owner, the month and year of birth, nationality and country of residence as well as the type and extent of the economic interest of the beneficial owner). As in the past, however, the registry may restrict inspection into the transparency register, upon request of the beneficial owner, if there are overriding interests worthy of protection. In return for any disclosure, starting on July 1, 2020, beneficial owners may request information on inspections made by the general public (in contrast to inspections made by public authorities or Obliged Persons such as, e.g. financial institutions, auditing firms, or tax consultants and lawyers). Although reporting obligations to the transparency register were initially introduced more than 2.5 years ago, compliance with these obligations still seems to be lacking in practice. Therefore, any group with entities incorporated in Germany, any foreign association intending to acquire German real estate and any individual qualifying as a beneficial owner of a domestic or foreign association should check whether new or outstanding inquiry, record keeping or reporting obligations arise for them and take the required steps to ensure compliance. In this context, we note that for some time now the competent administrative enforcement authority (Bundesverwaltungsamt) has increased its efforts to enforce the transparency obligations, including imposing fines on associations that have failed to make required filings. It is to be expected that they will further tighten the reins based on this reform.

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1.5   UK LLPs with Management Seat in Germany – Status after Brexit?

As things stand at present the British government is pushing to enact its Withdrawal Agreement Bill (the “WAB”) to ensure that it can take the UK out of the EU on January 31, 2020. Pursuant to the WAB such withdrawal from the EU is not intended to result in a so-called “Hard Brexit” as the WAB introduces a transition period until December 31, 2020 during which the European fundamental freedoms including the freedom of establishment would continue to apply. Freedom of establishment has, over the last decade in particular, resulted in German law recognizing that UK (and other EU) companies can have their effective seat of management (Verwaltungssitz) in Germany rather than the respective domestic jurisdiction. Until the end of the transition period, UK company structures such as UK Plc, Ltd. or LLP will continue to benefit from such recognition. But what happens thereafter if the EU and the UK (or, alternatively, Germany and the UK) do not succeed in negotiating particular provisions for the continued recognition of UK companies in the EU or Germany, respectively? From a traditional German legal perspective, such companies will lose their legal capacity as a UK company in Germany after the transition period because German courts traditionally follow the real or effective seat theory (Sitztheorie) and thus apply German corporate law to the companies in question rather than the incorporation theory (Gründungstheorie) which would lead to the application of English law. There would be a real risk that UK companies that have their effective management seat in Germany would have to be reclassified as a German company structure under the numerus clausus of German company structures. For some company structures such as the “LLP” German law does not have an equivalent LLP company structure as such, and reclassifying it as a German law limited partnership would not work either in most cases due to lack of registration in the German commercial register. In short, the only alternative for future recognition of a UK multi-person LLP, under German law, may be a German civil law partnership (GbR) or in certain cases a German law commercial partnership (OHG), with all legal consequences that flow from such structures, including, in particular, unlimited member liability. The discussion on how to resolve this issue in Germany has focused on a type of German partnership with limited liability (Partnerschaftsgesellschaft mit beschränkter Haftung, PartGmbB), that has only limited scope. A PartGmbB is only open to members of the so-called liberal or free professions such as attorneys or architects. In addition, the limitation of liability in a PartGmbB applies only to liability due to professional negligence and risks associated with the profession, and would thus not benefit their members generally. Unless UK companies with an effective seat of management in Germany opted to risk reliance on the status quo – in the event there is no new framework for recognition after the transition period – affected companies should either change their seat of management to the UK (or any other EU jurisdiction that applies the incorporation theory) and establish a German branch office, or, alternatively, consider forming a suitable German legal corporate structure before the end of the transition period at the end of December 2020.

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1.6   The ECJ on Corporate Agreements and the Rome I Regulation

In its decision C-272/18, of 3 October 2019, the European Court of Justice (ECJ) further clarified the scope of the EU regulation Rome I (Regulation (EC) No 593/2008 of the European Parliament and of the Council of 17 June 2008 on the law applicable to contractual obligations (the “Rome I Regulation”) on the one hand, and international company law which is excluded from the scope of the Rome I Regulation on the other hand. The need for clarification resulted from Art. 1 para. 2 lit f. of the Rome I Regulation pursuant to which “questions governed by the law of companies and other bodies, corporate or unincorporated, such as the creation, by registration or otherwise, legal capacity, internal organization or winding-up of companies and other bodies […]” are excluded from the scope of the Rome I Regulation. The ECJ, as the highest authority on the interpretation of the Regulation, held that the “corporate law exception” does not apply to contracts which have shares as object of such contract only. According to the explicit statement of the Advocate General Saugmandsgaard Øe, this also includes share purchase agreements which are now held to be within the scope of the Rome I Regulation. This exception from the scope of the Rome I Regulation is thus much narrower than it has been interpreted by some legal commentators in the past. The case concerned a law suit brought by an Austrian consumer protection organization (“VKI”) against a German public instrument fund (“TVP”), and more particularly, trust arrangements for limited (partnership) interests in funds designed as public limited partnerships. The referring Austrian High Court had to rule on the validity of a choice of law clause in trust agreements concerning German limited partnership interests between the German fund TVP, as trustee over the investors’ partnership interests, and Austrian investors qualifying as consumers, as trustors. This clause provided for the application of German substantive law only. VKI claimed that this clause was, under Austrian substantive law, not legally effective and binding because pursuant to the Rome I Regulation, a contract concluded by a consumer with another person acting in the exercise of his/her trade or profession shall either be governed by the law of the country of the consumer’s habitual residence (in this case Austria) and/or, in the event the parties have made a choice as to the applicable law, at least not result in depriving the consumer of the protection offered to him/her by his/her country of residence. The contractual choice of German law could not therefore, in VKI’s view, deprive Austrian investors of rights guaranteed by Austrian consumer protection laws. TVP, on the other hand, argued that the Rome I Regulation was not even applicable as the contract in question was an agreement related to partnership interests and, thus, to corporate law which was excluded from the scope of the Rome I Regulation. The ECJ ruled that the relevant corporate law exclusion from the scope of the Rome I Regulation is limited to the organizational aspects of companies such as their incorporation or internal statutes. In turn, a mere connection to corporate law was ruled not to be sufficient to fall within the exclusion. Sale and purchase agreements in M&A transactions, or as in the matter at hand trust arrangements, are therefore covered by the Rome I Regulation. The decision provides that the choice of law principle of the Rome I Regulation is, subject to the restrictions imposed by the Regulation itself for particular groups such as consumers and employees, applicable in more cases than considered in the past with respect to corporate law related contracts.

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1.7   German Foreign Direct Investment – Further Rule-Tightening Announced for 2020

Restrictions on foreign investment is increasingly becoming a perennial topic. After the tightening of the rules on foreign direct investment in 2017 (see 2017 Year-End German Law Update under 1.5) and the expansion of the scope for scrutiny of foreign direct investments in 2018 (see 2018 Year-End German Law Update under 1.3), the German Ministry of Economy and Energy (Bundesministerium für Wirtschaft und Energie) in November 2019 announced further plans to tighten the rules for foreign direct investments in Germany in its policy guideline on Germany’s industrial strategy 2030 (Industriestrategie 2030 – Leitlinien für eine deutsche und europäische Industriepolitik). The envisaged amendments to the German Foreign Trade and Payments Ordinance (Außenwirtschaftsverordnung, AWV) relate to the following three key pillars: Firstly, by October 2020, the German rules shall be adapted to reflect the amended EU regulations (so-called EU Screening Directive dated March 19, 2019). This would be achieved, inter alia, by implementing a cooperation mechanism to integrate other EU member states as well as the EU Commission into the review process. Further, the criteria for public order or security (öffentliche Ordnung oder Sicherheit) relevant to the application of foreign trade law is expected to be revised and likely expanded to cover further industry sectors such as artificial intelligence, robotics, semiconductors, biotechnology and quantum technology. The threshold for prohibiting a takeover may be lowered to cover not only a “threat” but a “foreseeable impairment” of the public order or security (as contemplated in the EU directive). Secondly, if the rules on foreign direct investments cannot be relied on to block an intended acquisition, but such acquisition nonetheless affects sensitive or security related technology, another company from the German private sector may acquire a stake in the relevant target as a so-called “White Knight” in a process moderated by the government. Thirdly, as a last resort, the strategy paper proposes a “national fallback option” (Nationale Rückgriffsoption) under which the German state-owned Kreditanstalt für Wiederaufbau could acquire a stake in enterprises active in sensitive or security-related technology sectors for a limited period of time. Even though the details for the implementation of those proposals are not yet clear, the trend towards more protectionism continues. For non-EU investors a potential review pursuant to the rules on foreign direct investment will increasingly become the new rule and should thus be taken into account when planning and structuring M&A transactions.

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2.   Tax - German Federal Government Implements EU Mandatory Disclosure Rules

On December 12, 2019 and December 20, 2019, respectively, the two chambers of the German Federal Parliament passed the Law for the Introduction of an Obligation to report Cross-Border Tax Arrangements (the “Law”), which implements Council Directive 2018/822/EU (referred to as “DAC 6”) into Germany’s domestic law effective as of July 1, 2020. DAC 6 entered into force on June 25, 2018 and requires so-called intermediaries, and in some cases taxpayers, to report cross-border arrangements that contain defined characteristics with their national tax authorities within specified time limits. The stated aim of DAC 6 is to provide tax authorities with an early warning mechanism for new risks of tax avoidance. The Law follows the same approach as provided for in DAC 6. The reporting obligation would apply to “cross-border tax arrangements” in the field of direct taxes (e.g. income taxes but not VAT). Cross-border arrangements concern at least two member states or a member state and a non-EU country. Purely national German arrangements are - contrary to previous drafts of the Law – not subject to reporting.
(a)   Reportable cross-border arrangements must have one or more specified characteristics (“hallmarks”). The hallmarks are broadly scoped and represent certain typical features of tax planning arrangements, which potentially indicate tax avoidance or tax abuse. (i)    Some of these hallmarks would result in reportable transactions only if the “main benefit test” is satisfied. The test would be satisfied if it can be established that the main benefit that a person may reasonably expect to derive from an arrangement is obtaining a tax advantage in Germany or in another member state. Hallmarks in that category are, inter alia, the use of substantially standardized documentation or structures, the conversion of income into lower taxed categories of revenue or payments to an associated enterprise that are tax exempt or benefit from a preferential tax regime or arrangement. (ii)   In addition, there are hallmarks that would result in reportable transactions regardless of whether the main benefit test is satisfied. Hallmarks in this category are, for example, assets that are subject to depreciation in more than one jurisdiction, relief from double taxation that is claimed more than once, arrangements that involve hard-to-value intangibles or specific transfer pricing arrangements. (b)   The primary obligation to disclose information to the tax authorities rests with the intermediary. An intermediary is defined as “any person that promotes, designs for a third party, organizes, makes available for implementation or manages the implementation of a reportable cross-border arrangement.” Such intermediary must be resident in the EU or provides its services through a branch in the EU. Typical intermediaries are tax advisors, accountants, lawyers, financial advisors, banks and consultants. When multiple intermediaries are engaged in a cross-border arrangement, the reporting obligation lies with all intermediaries involved in the same arrangement. However, an intermediary can be exempt from reporting if he can prove that a report of the arrangement has been filed by another intermediary. In the event an intermediary is bound by legal professional privilege from reporting information, the intermediary would have to inform the relevant taxpayer of the possibility of waiving the privilege. If the relevant taxpayer does not grant the waiver, the responsibility for reporting the information would shift to the taxpayer. Other scenarios where the reporting obligation is shifted to the taxpayer are in-house schemes without involvement of intermediaries or the use of intermediaries from countries outside the EU. (c)   Reporting to the tax office is required within a 30-day timeframe after the arrangement is made available for implementation or when the first step has been implemented. The report must contain the applicable hallmark, a summary of the cross-border arrangement including its value, the applicable tax provisions and certain information regarding the intermediary and the taxpayer. The information will be automatically submitted by the competent authority of each EU member state through the use of a central directory on administrative cooperation in the field of direct taxation. (d)  The reporting obligations commence on July 1, 2020. However, the Law also has retroactive effect: for all reportable arrangements that were implemented in the interim period between June 24, 2018 and June 30, 2020 the report would have to be filed by August 31, 2020. Penalties for noncompliance with the reporting obligations are up to EUR 25,000 while there are no penalties for noncompliance with such reportable arrangements for the interim period between June 25, 2018 and June 30, 2020.
Since, as noted above, the reporting obligation can be shifted to the client as the taxpayer and the client will then be responsible for complying with the reporting obligations, taxpayers should consider establishing a suitable reporting compliance process. Such process may encompass sensitization for and identification of reportable transactions, the determination of responsibilities, the development of respective DAC 6 governance and a corresponding IT-system, recording of arrangements during the transitional period after June 24, 2018, robust testing and training as well as live operations including analysis and reporting of potential reportable arrangements.

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3.   Financing and Restructuring

3.1   EU Directive on Preventive Restructuring Framework – Minimum Standards Across Europe? On June 26, 2019, the European Union published Directive 2019/1023 on a preventive restructuring framework (Directive (EU) 2019/1023 of the European Parliament and of the Council of June 20, 2019) (the “Directive”). The Directive aims to introduce standards for “honest entrepreneurs” in financial difficulties providing businesses with a “second chance” in all EU member states. While some member states had already introduced preventive restructuring schemes in the past (e.g. the UK scheme of arrangement), others, like Germany, stayed inactive, leaving debtors with the largely creditor-focused and more traditional tools set forth in the German Insolvency Code (Insolvenzordnung, InsO). By contrast, the Directive now seeks to protect workers and creditors alike in “a balanced manner”. In addition, a particular focus of the Directive are small and medium-sized enterprises, which often do not have the resources to make use of already existing restructuring alternatives abroad. The key features of the Directive provide, in particular:
  • The preventive restructuring regime shall be available upon application of the debtor. Creditors and employee representatives may file an application, but generally the consent of the debtor shall be required in addition;
  • Member states are required to implement early warning tools and to facilitate access to information enabling debtors to properly assess their financial situation early on and detect circumstances which may ultimately lead to insolvency;
  • Preventive restructuring mechanisms must be set forth in domestic law in the event there is a “likely insolvency”. Debtors must be given the possibility to remain in control of the business operations while restructuring measures are implemented to avoid formal insolvency proceedings. In Germany, it will be a challenge to properly distinguish between the newly introduced European concept of “likely insolvency” which is the door opener for preventive restructuring under the Directive and the existing German legal concept of “imminent illiquidity” (drohende Zahlungsunfähigkeit) which under current insolvency law enables German debtors to proceed with a voluntary insolvency filing;
  • A stay of individual enforcement measures for an initial period of four months (with an extension option of up to a maximum of 12 months) must be provided for, thus putting debtors in a position to negotiate a restructuring plan. During this time period, the performance of executory contracts cannot be withheld solely due to non-payment;
  • Minimum requirements for a restructuring plan include an outline of the contemplated restructuring measures, effects on the workforce, as well as the prospects that insolvency can be prevented on the basis of such measures;
  • Restructuring measures contemplated by the Directive are wide ranging and include a change in the composition of a debtor’s assets and liabilities, a sale of assets or of the business as a going concern, as well as necessary operational changes;
  • Voting on the restructuring plan is generally effected by separate classes of creditors in each case with a majority requirement of not more than 75%.
  • Cross-class cram down will be available subject to certain conditions including (i) a majority of creditor classes (including secured creditors) voted in favor and (ii) dissenting creditors are treated at least equal to their pari passu creditors (or better than creditors ranking junior). In addition, the restructuring plan must be approved by either a judicial or administrative authority in order to be binding on dissenting voting classes. Such approval is also required in the event of new financing or when the workforce is reduced by more than 25%.
Member states have until July 17, 2021 to implement the Directive into domestic law (subject to a possible extension of up to one year), but considering the multiple alternative options the Directive leaves to member states, discussions on how to best align existing domestic laws with the requirements of the Directive have already started. Ultimately, the success of the Directive depends on the willingness of the member states to implement a truly effective pre-insolvency framework. The inbuilt flexibility and variety of structuring alternatives left to the member states can be an opportunity for Germany to finally enact an out-of-court restructuring scheme beyond the existing debtor in possession (Eigenverwaltung) or protective shield (Schutzschirm) proceedings which, however, currently kick in only at a later stage of financial distress after an insolvency filing has already been made.

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3.2   Insolvency Contestation in Cash Pool Scenarios

One of the noticeable developments in the year 2019 was that inter-company cash-pool systems have increasingly come under close scrutiny in insolvency scenarios. There were several decisions by the German Federal Supreme Court (Bundesgerichtshof, BGH), the most notable one probably a judgment handed down on June 27, 2019 (case IX ZR 167/18) in a double insolvency case where the respective insolvency administrators of an insolvent group company and its insolvent parent and cash pool leader were fighting over the treatment of mutually granted upstream and downstream loans during the operation of a group-wide cash management system that saw multiple loan movements between the two insolvent debtors during the relevant pre-insolvency period. Under applicable German insolvency contestation laws (Insolvenzanfechtung), the insolvency administrator of the insolvent subsidiary has the right to contest any shareholder loan repayments or equivalent payments made to its parent as shareholder and pool leader within a period of one year prior to the point in time when the insolvency filing petition is lodged. The rationale of this rule is to protect the insolvent estate and regular unsecured trade creditors from pre-insolvency payments to shareholders who in an insolvency would only be ranked as subordinated creditors. The contestation right – if successful - allows the insolvency administrator to claw back from shareholders such earlier repayments to boost the funds available for distribution in the insolvency proceedings. In cases such as the one at hand where the cash pool was operated in a current account system resulting in multiple cash payments to and from the pool leader, the parent’s potential exposure could have grown exponentially if the insolvency administrator of the subsidiary could have simply added up all loan repayments made within the last year, irrespective of the fact that the pool leader, in turn, regularly granted new down-stream loan payments to the subsidiary as and when liquidity was needed. In one of the main conclusions of the judgment, the BGH confirmed the calculation mechanism for the maximum amount that can be contested and clawed back in scenarios such as this: The court, in this respect, does not simply add up all loan repayments in the last year. Instead, it uses the historic maximum amount of the loans permanently repaid within the one-year contestation period as initial benchmark and then deducts the outstanding amounts still owed by the insolvent subsidiary at the end of the contestation period. Interim fluctuations, where further repayments to the pool leader occurred, are deemed immaterial if they have been re-validated by new subsequent downstream loans. Consequently, the court limits the exposure of the pool leader in current account situations to the balance of loans, not by way of a simple addition of all repayments. In a second clarification, the BGH decreed that customary, arm’s length interest charged by the pool leader to the insolvent subsidiary for its downstream loans and then paid to the shareholder as pool leader are not qualified as a “payment equivalent to a loan repayment”, because interest is an independent compensation for the downstream loan, not capital transferred to the lender for temporary use. Beyond the specifics of the decision, the increased focus of the courts on cash pools in crisis situations should cause larger groups of companies that operate such group-wide cash management systems to revisit the underlying contractual arrangements to ensure that participating companies and the pool leader have adequate mutual early warning systems in place, as well as robust remedies and/or withdrawal rights to react as early as possible to the deterioration of the financial position of one or several cash pool participants. Even though the duration of the one-year contestation period will often mean that even carefully and appropriately drafted cash pooling documentation cannot always preempt or avoid all risk in a later financial crisis, at least, the potential personal liability risks for management which go beyond the mere contestation risk can be mitigated and addressed this way.

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4.   Labor and Employment

4.1   De-Facto Employment – A Rising Risk for Companies A widely-noticed court decision by the Federal Social Court (Bundessozialgericht) (judgment of June 4, 2019 – B12 R11 11/18 R) on the requalification of freelancers as de-facto employees has potentially increased risks to companies who employ freelancers. In this decision, the court requalified physicians officially working as “fee doctors” in hospitals as de-facto employees, because they were considered as integrated into the hospital hierarchy, especially due to receiving instructions from other doctors and the hospital management. While this decision concerned physicians, it found wide interest in the general HR community, as it tightened the leeway for employing freelancers. This aspect is particularly important for companies in Germany, as there is a war for talent, particularly with respect to engineers and IT personnel. These urgently sought-after experts are in high demand and therefore often able to dictate the contractual relationships. In this respect, they often prefer a freelancer relationship, as it is more profitable for them and gives them the opportunity to also work for other (even competing) companies. Against the background of this decision, every company would be well advised to review very thoroughly, whether a “freelancer” is really free of instructions regarding the place of work, the working hours, and the details of the work to be done. Otherwise, the potential liability for the company – both civil and criminal – is considerable if freelancers are deemed to be de-facto employees.

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4.2   New Constraints for Post-Contractual Non-Compete Covenants

A recently published decision by the Higher District Court (Oberlandesgericht) of Munich has restricted the permissible scope of post-contractual non-compete covenants for managing directors (decision of August 2, 2018 – 7 U 2107/18). The court held that such restrictions are only valid if and to the extent they are based upon a legitimate interest of the company. In addition, their scope has to be explicitly limited in the respective wording tailored to the individual case. This court decision is important, because, unlike for “regular” employees, post-contractual non-compete agreements for managing directors are not regulated by statutory law. Therefore, every company should, in a first step, carefully review whether a post-contractual non-compete is really necessary for the relevant managing director. If it is deemed to be indispensable, the wording should be carefully drafted according to the above-mentioned principles.

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4.3   ECJ Judgments on Vacation and Working Hours

The European Court of Justice (ECJ) has handed down two employee-friendly decisions regarding (a) the forfeiture of entitlement to vacation and (b) the control of working hours (case C-684/16, judgment of November 6, 2018 and case C-55/18, judgment of May 14, 2019). According to the first decision, employee vacation entitlement cannot simply be forfeited due to the lapse of time, even if such a forfeiture is stipulated by national statutory law. Rather, the employer has an obligation to actively notify employees of their outstanding entitlement to vacation and encourage them to take their remaining vacation. In the other decision, the ECJ demanded that the company establish a system to control and document all the working hours of its employees, not only those exceeding a certain threshold. In practical terms of the German economy, not all companies currently have such seamless time control and documentation systems in place. However, until this ECJ judgment is implemented into German statutory law, companies cannot be fined solely based upon the ECJ judgment. Thus, a legislative response to this issue and the court decision must be awaited.

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5.         Real Estate

5.1   Real Estate – Rent Price Cap concerning Residential Space in Berlin On November 26, 2019, the Berlin Senate (the government of the federal state of Berlin) passed a draft bill for the “Act on Limiting Rents on Berlin’s Residential Market” (Gesetz zur Mietenbegrenzung im Wohnungswesen in Berlin), the so-called Berlin rent price cap (Mietendeckel). It is expected that this bill will be adopted by the Berlin House of Representatives (the legislative chamber of the federal state of Berlin) and come into force in early 2020, with certain provisions of the bill having retroactive effect as of June 18, 2019. This bill shall apply to residential premises in Berlin (with a few exceptions) that were ready for occupancy for the first time before January 1, 2014. The three key instruments of this bill are (a) a rent freeze, (b) the implementation of rent caps and (c) a limit on modernization costs that can be passed on to the tenant.
(a)   The rent freeze shall apply to all existing residential leases and shall freeze the rent at the level of the rent on June 18, 2019 (or, if the premises were vacant on that date, the last rent before that date). This rent freeze also applies to indexed rents and stepped rents. As of 2022, landlords shall be entitled to request an annual inflation related rent adjustment, however, capped at 1.3% p.a.. Prior to entering into a new residential lease agreement, the landlord must inform the future tenant about the relevant rent as at June 18, 2019 (or earlier, as applicable). (b)   Depending on the construction year and fit-out standards (with / without collective heating / bathroom), initial monthly base rent caps between EUR 3.92 and EUR 9.80 per square meter (m²) shall apply. These caps shall be increased by 10% for buildings with up to two apartments. Another increase of EUR 1 per m² shall apply with respect to an apartment with “modern equipment”, i.e. an apartment that has at least three of the following five features: (i) barrier-free access to a lift, (ii) built-in kitchen, (iii) “high quality” sanitary fit-out, (iv) “high quality” flooring in the majority of the living space and (v) low energy performance (less than 120 kWh/(m²a). The bill does not contain a definition of what constitutes “high quality”. For new lettings after June 18, 2019 and re-lettings after this bill has come into force, the rent must not exceed the lower of the applicable rent caps and the rent level as of June 18, 2019 (or earlier, as applicable). If the agreed monthly rent as of June 18, 2019 (or earlier) was below EUR 5.02 per m², the re-letting rent may be increased by EUR 1 per m² up to a maximum monthly rent of EUR 5.02 per m². Once the act has been in effect for nine months, the tenants may request the public authorities to reduce the rent of all existing leases to the appropriate level if the rent is considered “extortionate”, i.e. if the rent exceeds the applicable rent cap level (subject to certain surcharges / discounts for the location of the premises) by more than 20% and it has not been approved by public authorities. The surcharges / discounts amount to +74 cents per m² (good location), -9 cents per m² (medium location) and –28 cents per m² (simple location). (c)   Modernization costs shall only be passed on to tenants if they relate to (i) measures required under statutory law, (ii) thermal insulation of certain building parts, (iii) measures for the use of renewable energies, (iv) window replacements to save energy, (v) replacement of the heating system, (vi) new installation of elevators or (vii) certain measures to remove barriers. Such costs can also only be passed on to tenants to the extent that the monthly rent is not increased by more than EUR 1 per m² and the applicable rent cap is not exceeded by more than EUR 1 per m². To cover the remaining modernization costs, landlords may apply for subsidies under additional subsidy programs of the state of Berlin. Any rent increase due to modernization measures is to be notified to the state-owned Investitionsbank Berlin.
Breaches of the material provisions of this bill are treated as an administrative offence and may be fined by up to EUR 500,000 in each individual case. Many legal scholars consider the Berlin rent price cap unconstitutional (at least, in parts) for infringing the constitutional property guarantee, the freedom of contract and for procedural reasons. In particular, they raise concerns about whether the state of Berlin is competent to pass such local legislation (as certain provisions deviate from the German Civil Code (BGB) as federal law) and whether the planned retroactive effect is permissible. The opposition in the Berlin House of Representatives and a parliamentary faction on the federal level have already announced that they intend to have the Berlin rent cap reviewed by the Berlin’s Regional Constitutional Court (Verfassungsgerichtshof des Landes Berlin) and the Federal Constitutional Court (Bundesverfassungsgericht). In light of the severe potential fines, landlords should nonetheless consider compliance with the provisions of the Berlin rent price cap until doubts on the constitutional permissibility have been finally clarified.

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5.2   Changes to the Transparency Register affecting Real Property Transactions

Certain aspects of the act implementing the 5th EU Anti-Money Laundering Directive (Directive (EU) 2018/843) which amended the German Anti-Money Laundering Act (GwG) are of particular interest to the property sector. We would, therefore, refer interested circles to the above summary in section 1.4.

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6.   Compliance and Litigation

6.1   German Corporate Sanctions Act German criminal law so far does not provide for corporate criminal liability. Corporations can only be fined under the law on administrative offenses. In August 2019, the German Federal Ministry of Justice and Consumer Protection (Bundesministerium der Justiz und für Verbraucherschutz) circulated a legislative draft of the Corporate Sanctions Act (Verbandssanktionengesetz, the “Draft Corporate Sanctions Act”) which would, if it became law, introduce a hybrid system. The main changes to the current legal situation would eliminate the prosecutorial discretion in initiating proceedings, tighten the sentencing framework and formally incentivize the implementation of compliance measures and internal investigations. So far, German law grants the prosecution discretion on whether to prosecute a case against a corporation (whereas there is a legal obligation to prosecute individuals suspected of criminal wrongdoing). This has resulted not only in an inconsistent application of the law, in particular among different federal states, but also in a perceived advantageous treatment of corporations over individuals. The Draft Corporate Sanctions Act now intends to introduce mandatory prosecution of infringements by corporations, with an obligation to justify non-prosecution under the law. The law as currently proposed would also apply to criminal offenses committed abroad if the company is domiciled in Germany. Under the current legal regime, corporations can be fined up to a maximum of EUR10 million (in addition to the disgorgement of profits from the legal violation), which is often deemed insufficient by the broader public. The Draft Corporate Sanctions Act plans to increase potential fines to a maximum of 10% of the annual—worldwide and group-wide—turnover, if the group has an average annual turnover of more than EUR100 million. Additionally, profits could still be disgorged. The Draft Corporate Sanctions Act would also introduce two new sanctions: a type of deferred prosecution agreement with the possibility of imposing certain conditions (e.g. compensation for damages and monitorship), and a “corporate death penalty,” namely the liquidation of the company to combat particularly persistent and serious criminal behavior. The Draft Corporate Sanctions Act would also allow the prosecutor to either refrain from pursuing prosecution or to positively take into account in the determination of fines the existence of an adequate compliance system. If internal investigations are carried out in accordance with the requirements set out in the Draft Corporate Sanctions Act (including in particular: (i) substantial contributions to the authorities’ investigation, (ii) formal division of labor between those conducting the internal investigation, on the one hand, and those acting as criminal defense counsel, on the other, (iii) full cooperation, including full disclosure of the investigation and its results to the prosecution, and (iv) adherence to fair trial standards, in particular the interviewee’s right to remain silent in internal investigations), the maximum fine might be reduced by 50%, and the liquidation of the company or a public announcement might be precluded. It is unclear under the current legal regime whether work product created in the context of an internal investigation is protected against prosecutorial seizure. The Draft Corporate Sanctions Act wants to introduce a clarification in this respect: only such documents will be protected against seizure that are part of the relationship of trust between the company as defendant and its defense counsel. Therefore, documents used or created in the preparation of the criminal defense would be protected. Documents from interviews in the context of an internal investigations, however, would only be protected in case they stem from the aforementioned relationship between client and defense counsel. Interestingly, and as mentioned above, the draft law requires that counsel conducting the internal investigation must be separate from defense counsel if the corporation wants to claim a cooperation bonus. How this can be achieved in practice, in particular in an international context where criminal defense counsel is often expected to conduct the internal investigation and where the protection of legal privilege may depend on this dual role, is unclear. In particular here, the draft does not seem sufficiently thought-through, and both the legal profession and the business community are voicing strong opposition. Overall, it is doubtful at the moment that the current government coalition, in its struggle for survival, will continue to pursue the implementation of this legislative project as a priority. Therefore, it remains to be seen whether, when, and with what type of amendments the German Corporate Sanctions Act will be passed by the German Parliament.

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6.2   Amendments to the German Anti-Money Laundering Act: Further Compliance Obligations, including for the Non-Financial Sector

On January 1, 2020, the Act implementing the 5th EU Anti-Money Laundering Directive (Directive (EU) 2018/843) became effective. In addition to further extending the scope of businesses that are required to conduct anti-money laundering and anti-terrorist financing procedures in accordance with the German Anti-Money Laundering Act (Geldwäschegesetz, GwG), in particular in the area of virtual currencies, it introduced new obligations and stricter individual requirements for persons or entities subject to the GwG obligations (“Obliged Persons”). The new requirements must be taken into account especially in relation to customer onboarding and ongoing anti-money laundering and countering terrorist financing (“AML/CTF”) compliance. The following overview provides a summary of some key changes, in particular, concerning the private non-financial sector, which apply in addition to the specific reporting obligations to the transparency register already described above under section 1.4.
  • The customer due diligence obligations (“KYC”) were further extended and also made more specific. In particular, Obliged Persons are now required to collect proof of registration in the transparency register or an excerpt of the documents accessible via the transparency register (e.g. shareholder lists) when entering into a new business relationship with a relevant entity. In addition, the documentation obligations with regard to the undertaken KYC measures have been further increased and clarified. Further important changes concern the enhanced due diligence measures required in the case of a higher risk of money laundering or terrorist financing, in particular with regard to the involvement of “high-risk countries”.
  • Obliged Persons must now also notify the registrar of the transparency register without undue delay of any discrepancies on beneficial ownership between entries in the transparency register and other information and findings available to them.
  • Obliged Persons must register with the Financial Intelligence Unit (FIU), regardless of whether they intend to report a suspicious activity, as soon as the FIU’s new information network starts its operations, but no later than January 1, 2024.
  • In accordance with the findings of the First National Risk Assessment, the duties for the real estate sector were significantly extended and increased. Real estate agents are now also subject to the AML/CTF risk management requirements of the GwG and are required to conduct customer due diligence when they act as intermediaries in the letting of immovable property if the monthly rent amounts to EUR 10,000 or more. Furthermore, notaries are now explicitly required to check the conclusiveness of the identity of the beneficial owner before notarizing a real estate purchase transaction in accordance with section 1 of the German Federal Real Estate Transfer Tax Act (Grunderwerbsteuergesetz) and may even be required to refuse notarization, see also section 1.4 above on the transparency register.
  • In an effort towards a more uniform EU-wide approach with regard to politically exposed persons (“PEPs”), EU member states must submit to the EU Commission a catalogue of specific functions and offices which under the relevant domestic law justify the qualification as PEP by January 10, 2020. The EU Commission will thereafter publish a consolidated catalogue, which will be binding for Obliged Persons when determining whether a contractual partner or beneficial owner qualifies as PEP with the consequence that enhanced customer due diligence applies.
  • Furthermore, the new law brought some clarifications by changing or introducing definitions, including in particular a new self-contained definition for the term “financial company”. For example, the legislator made clear that industrial holdings are not subject to the duties of the GwG: Any holding companies which exclusively hold participations in companies outside of the credit institution, financial institution or insurance sector do not qualify as financial companies under the GwG, unless they engage in business activities beyond the tasks associated with the management of their participations. That said, funds are not explicitly excluded from the definition of financial companies – and since their activities generally also include the acquisition and sale of participations, it is often questionable whether the exemption for holding companies applies.
  • Another noteworthy amendment concerns the group-wide compliance obligations in section 9 of the GwG: the amended provision now distinguishes (more) clearly between obligations applicable to an Obliged Person that is the parent company of a group and the other members of the group.
The amendments to the GwG have further intensified the obligations not only for the classical financial sector but also the non-financial sector. Since the amendments entered into force on January 1, 2020, the relevant business circles are well advised to review whether their existing AML/CTF risk management system and KYC procedures need to be adjusted in order to comply with the new rules.

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6.3   First National Risk Assessment on the Money Laundering and Terrorist Financing Risk for Germany – Implications for the Company-Specific Risk Analyses

The first national risk assessment for the purposes of combatting money laundering and terrorist financing (“NRA”) was finally published on the website of the German Federal Ministry of Finance (Bundesministerium der Finanzen) on October 21, 2019 (currently in German only). When preparing their company-specific risk analyses under the GwG, Obliged Persons must now take into consideration also the country-, product- and sector-specific risks identified in the NRA. Germany as a financial center is considered a country with a medium-high risk (i.e. level 4 of a five-point scale from low to high) of being abused for money laundering and terrorist financing. The NRA identifies, in particular, the following key risk areas: anonymity in transactions, the real estate sector, the banking sector (in particular, in the context of correspondent banking activities and international money laundering) and the money remittance business due to the high cash intensity and cross-border activities. With regard to specific cross-border concerns, the NRA has identified eleven regions and states that involve a high risk of money laundering for Germany: Eastern Europe (particularly Russia), Turkey, China, Cyprus, Malta, the British Virgin Islands, the Cayman Islands, Bermuda, Guernsey, Jersey and the Isle of Man. Separately, a medium-high cross-border threat was identified for Lebanon, Panama, Latvia, Switzerland, Italy and Great Britain, and a further 17 countries were qualified as posing a medium, medium-low or low threat with regard to money laundering. The results of the NRA (including the assessment of cross-border threats in its annex 4) need to be taken into consideration by Obliged Persons both of the financial and non-financial sector when preparing or updating their company-specific risk analyses in a way that allows a third party to assess how the findings of the NRA were accounted for. Obliged Persons (in particular, if supervised by the BaFin (Bundesanstalt für Finanzdienstleistungsaufsicht) or active in other non-financial key-risk sectors), if they have not already done so, should thus conduct a timely review, and document such a review, of whether the findings of the NRA require an immediate update to their risk assessment or whether they consider an adjustment in the context of their ongoing review.

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7.   Antitrust and Merger Control

7.1   Antitrust and Merger Control Overview 2019 Germany’s antitrust watchdog, the German Federal Cartel Office (Bundeskartellamt), has had another very active year. On the cartel enforcement side, the Bundeskartellamt concluded several cartel investigations and imposed fines totaling EUR 848 million against 23 companies or associations and 12 individuals from various industries including bicycle wholesale, building service providers, magazines, industrial batteries and steel. As in previous years, leniency applications continue to play an important role for the Bundeskartellamt‘s antitrust enforcement activities with a total of 16 leniency applications received in 2019. With these applications and dawn raids at 32 companies, it can be expected that the agency will have significant ammunition for an active year in 2020 in terms of antitrust enforcement. With respect to merger control, the Bundeskartellamt reviewed approximately 1,400 merger filings in 2019. 99% of these filings were concluded during the one-month phase 1 review. Only 14 merger filings (i.e. 1% of all merger filings) required an in-depth phase 2 examination. Of those, four mergers were prohibited and five filings were withdrawn – only one was approved in phase 2 without conditions, and four phase 2 proceedings are still pending. In addition, the Bundeskartellamt has been very active in the area of consumer protection and concluded its sector inquiry into comparison websites. The agency has also issued a joint paper with the French competition authority regarding algorithms in the digital economy and their competitive effects. For 2020, it is expected that the Bundeskartellamt will conclude its sector inquiry regarding online user reviews as well as smart TVs and will continue to focus on the digital economy. Furthermore, the Bundeskartellamt has also announced that it is hoping to launch the Federal Competition Register for Public Procurement by the end of 2020 – an electronic register that will list companies that have been involved in serious economic offenses.

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7.2   Competition Law 4.0: Proposed Changes to German Competition Act

The German Federal Ministry for Economic Affairs and Energy (Bundesministerium für Wirtschaft und Energie) has compiled a draft bill for the tenth amendment to the German Act against Restraints of Competition (Gesetz gegen Wettbewerbsbeschränkungen, GWB) that aims at further developing the regulatory framework for digitalization and implementing European requirements set by Directive (EU) 2019/1 of December 11, 2018 by empowering the competition authorities of the member states to be more effective enforcers and to ensure the proper functioning of the internal market. While it is not yet clear when the draft bill will become effective, the most important changes are summarized below. (Super) Market Dominance in the Digital Age Various amendments are designed to help the Federal Cartel Office (Bundeskartellamt) deal with challenges created by restrictive practices in the field of digitalization and platform economy. One of the criteria to be taken into account when determining market dominance in the future would be “access to data relevant for competition”. For the first time, companies that depend on data sets of market-dominating undertakings or platforms would have a legal claim to data access against such platforms. Access to data will also need to be granted in areas of relative market power. Giving up the reference to “small and medium-sized” enterprises as a precondition for an abuse of relative or superior market power takes into account the fact that data dependency may exist regardless of the size of the concerned enterprise. Last but not least, the draft bill refers to a completely new category of “super dominant” market players to be controlled by the Bundeskartellamt, i.e. undertakings with “paramount significance across markets”. Large digital groups may not have significant market shares in all affected markets, but may nevertheless be of significant influence on these markets due to their key position for competition and their conglomerate structures. Before initiating prohibitive actions against such “super dominant” market players, the Bundeskartellamt will have to issue an order declaring that it considers the undertaking to have a “paramount significance across markets”, based on the exemplary criteria set out in the draft bill. Rebuttable Presumptions Following an earlier decision of the German Federal Supreme Court (Bundesgerichtshof, BGH), the draft bill suggests introducing a rebuttable presumption whereby it is presumed that direct suppliers and customers of a cartel are affected by the cartel in case of transactions during the duration of the cartel with companies participating in the cartel. The rebuttable presumption is intended to make it easier for claimants to prove that they are affected by the cartel. Another rebuttable presumption shall apply in favor of indirect customers in the event of a passing-on. However, there is still no presumption for the quantification of damages. Another procedural simplification foreseen in the draft bill is a lessening of the prerequisites to prove an abuse of market dominance. It would suffice that market behavior resulted in an abuse of market dominance, irrespective of whether the market player utilized its dominance for abusive purposes. Slight Increase of Merger Control Threshold The draft bill provides for an increase of the second domestic turnover threshold from EUR 5 million to EUR 10 million. Concentrations would consequently only be subject to filing requirements in the future if, in the last business year preceding the concentration, the combined aggregate worldwide turnover of all the undertakings concerned was more than EUR 500 million, and the domestic turnover of, at least, one undertaking concerned was more than EUR 25 million and that of another undertaking concerned was more than EUR 10 million. This change aims at reducing the burden for small and medium-sized enterprises. The fact that transactions that provide for an overall consideration of more than EUR 400 million may trigger a filing requirement remains unchanged.

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7.3   “Undertakings” Concept Revisited – Parents Liable for their Children?

Following the Skanska ruling of the European Court of Justice (ECJ) earlier this year (case C-724/17 of March 14, 2019) , the first German court decisions (by the district courts (Landgerichte) of Munich and Mannheim) were issued in cases where litigants were trying to hold parent companies liable for bad behavior by their subsidiaries. As a reminder: In Skanska, the ECJ ruled on the interpretation of Article 101 of the Treaty on the Functioning of the European Union (TFEU) in the context of civil damages regarding the application of the “undertakings” concept in cases where third parties claim civil damages from companies involved in cartel conduct. The “undertakings” concept, which the ECJ developed with regard to the determination of administrative fines for violations of Article 101 TFEU, establishes so-called parental liability. This means that parent entities may be held liable for antitrust violations committed by their subsidiaries, as long as the companies concerned are considered a “single economic unit” because the parent has “decisive influence” over the offending company and is exercising that influence. The Skanska case extends parental liability to civil damages cases. The decisions by the two German courts in Mannheim and Munich denied a subsidiary’s liability for its parent company, or for another subsidiary, respectively.

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8.   Data Protection: GDPR Fining Concept Raises the Stakes

While some companies are still busy implementing the requirements of the General Data Protection Regulation (the “GDPR”), the German Conference of Federal and State Data Protection Authorities has increased the pressure in October 2019 by publishing guidelines for the determination of fines in privacy violation proceedings against companies (the “Fining Concept”). Even though the Fining Concept may seem technical at first glance, it has far-reaching consequences for the fine amounts, which have already manifested in practice. The Fining Concept applies to the imposition of fines by German Data Protection Authorities within the scope of the GDPR. Since the focus for determining fines is on the global annual turnover of a company in the preceding business year, it is to be expected that fines will increase significantly. For further details, please see our client update from October 30, 2019 on this subject. In the past few months, in particular after the Fining Concept was published, several German Data Protection Authorities already issued a number of higher fines. Most notably, in November 2019 the Berlin Data Protection Authority imposed a fine against a German real estate company in the amount of EUR 14.5 million (approx. USD 16.2 million) for non-compliance with general data processing principles. The company used an archive system for the storage of personal data from tenants, which did not include a function for the deletion of personal data. In December 2019, another fine in the amount of EUR 9.5 million (approx. USD 10.6 million) was imposed by the Federal Commissioner for Data Protection and Freedom of Information against a major German telecommunications service provider for insufficient technical and organizational measures to prevent unauthorized persons from being able to obtain customer information. Many German data protection authorities have announced further investigations into possible GDPR violations and recent fines indicate that the trend towards higher fine levels will continue. This development leaves no doubt that the German Data Protection Authorities are willing to use the sharp teeth that data protection enforcement has received under the GDPR – and leave behind the rather symbolic fine ranges that were predominant in the pre-GDPR era. This is particularly true in light of the foreseeable temptation to use the concept of “undertakings” as developed under EU antitrust laws, which may include parental liability for GDPR violations of subsidiaries in the context of administrative fines as well as civil damages. For further details on the concept of “undertakings” in light of recent antitrust case law, please see above under Section 7.3.

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9.   IP & Technology

On April 26, 2019, the German Trade Secret Act (the “Act”) came into effect, implementing the EU Trade Secrets Directive (2016/943/EU) on the protection of undisclosed know-how and business information (trade secrets) against their unlawful acquisition, use and disclosure. The Act aims at consolidating what has hitherto been a potpourri of civil and criminal law provisions for the protection of trade secrets and secret know-how in German legislation. Besides an enhanced protection of trade secrets in litigation matters, one of the most important changes to the pre-existing rules in Germany is the creation of a new and EU-wide definition of trade secrets. Trade secrets are now defined as information that (i) is secret (not publicly known or easily available), (ii) has a commercial value because it is secret, (iii) is subject to reasonable steps to keep it secret, and (iv) there is a legitimate interest to keeping it secret. This definition therefore requires the holder of a trade secret to take reasonable measures to keep a trade secret confidential in order to benefit from its protection. To prove compliance with this requirement when challenged, trade secret holders will further have to document and track their measures of protection. This requirement goes beyond the previous standard pursuant to which a manifest interest in keeping an information secret would have been sufficient. There is no clear guidance yet on what is to be understood as “reasonable measures” in this respect. A good indication may be the comprehensive case law developed by U.S. courts when interpreting the requirement of “reasonable efforts” to maintain the secrecy of a trade secret under the U.S. Uniform Trade Secrets Act. Besides a requirement to advise recipients that the information is a confidential trade secret not to be disclosed (e.g. through non-disclosure agreements), U.S. courts consider the efforts of limiting access to a “need-to-know” scope (e.g. through password protection). Another point that is of particular importance for corporate trade secret holders is that companies may be indirectly liable for negligent breaches of third-party trade secrets by their employees. Enhanced liability risks may therefore result when hiring employees who were formerly employed by a competitor and had access to the competitor’s trade secrets. Reverse engineering of lawfully acquired products is now explicitly considered a lawful means of acquiring information, except when otherwise contractually agreed. Previously, reverse engineering was only lawful if it did not require considerable expense. To avoid disclosing trade secrets that form part of a product or object by surrendering prototypes or samples, contracts should provide for provisions to limit the acquisition of the trade secret. In a nutshell, companies would be well advised to review their internal policies and procedures to determine whether there are reasonable and sufficiently trackable legal, technical and organizational measures in place for the protection of trade secrets, to observe and assess critically what know-how is brought into an organization by lateral hires, and to amend contracts for the surrender of prototypes and samples as appropriate.

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The following Gibson Dunn lawyers assisted in preparing this client update: Birgit Friedl, Marcus Geiss, Silke Beiter, Stefan Buehrle, Lutz Englisch, Daniel Gebauer, Kai Gesing, Franziska Gruber, Selina Gruen, Dominick Koenig, Markus Nauheim, Mariam Pathan, Annekatrin Pelster, Wilhelm Reinhardt, Sonja Ruttmann, Martin Schmid, Sebastian Schoon, Benno Schwarz, Dennis Seifarth, Ralf van Ermingen-Marbach, Milena Volkmann, Michael Walther, Finn Zeidler, Mark Zimmer and Caroline Ziser Smith. Gibson Dunn's lawyers are available to assist in addressing any questions you may have regarding the issues discussed in this update. The two German offices of Gibson Dunn in Munich and Frankfurt bring together lawyers with extensive knowledge of corporate, financing and restructuring, tax, labor, real estate, antitrust, intellectual property law and extensive compliance / white collar crime and litigation experience. The German offices are comprised of seasoned lawyers with a breadth of experience who have assisted clients in various industries and in jurisdictions around the world. Our German lawyers work closely with the firm's practice groups in other jurisdictions to provide cutting-edge legal advice and guidance in the most complex transactions and legal matters. For further information, please contact the Gibson Dunn lawyer with whom you work or any of the following members of the German offices: General Corporate, Corporate Transactions and Capital Markets Lutz Englisch (+49 89 189 33 150), lenglisch@gibsondunn.com) Markus Nauheim (+49 89 189 33 122, mnauheim@gibsondunn.com) Ferdinand Fromholzer (+49 89 189 33 170, ffromholzer@gibsondunn.com) Dirk Oberbracht (+49 69 247 411 503, doberbracht@gibsondunn.com) Wilhelm Reinhardt (+49 69 247 411 502, wreinhardt@gibsondunn.com) Birgit Friedl (+49 89 189 33 122, bfriedl@gibsondunn.com) Silke Beiter (+49 89 189 33 170, sbeiter@gibsondunn.com) Annekatrin Pelster (+49 69 247 411 502, apelster@gibsondunn.com) Marcus Geiss (+49 89 189 33 122, mgeiss@gibsondunn.com) Finance, Restructuring and Insolvency Sebastian Schoon (+49 69 247 411 505, sschoon@gibsondunn.com) Birgit Friedl (+49 89 189 33 122, bfriedl@gibsondunn.com) Alexander Klein (+49 69 247 411 505, aklein@gibsondunn.com) Marcus Geiss (+49 89 189 33 122, mgeiss@gibsondunn.com) Tax Hans Martin Schmid (+49 89 189 33 110, mschmid@gibsondunn.com) Labor Law Mark Zimmer (+49 89 189 33 130, mzimmer@gibsondunn.com) Real Estate Peter Decker (+49 89 189 33 115, pdecker@gibsondunn.com) Daniel Gebauer (+49 89 189 33 115, dgebauer@gibsondunn.com) Technology Transactions / Intellectual Property / Data Privacy Michael Walther (+49 89 189 33 180, mwalther@gibsondunn.com) Kai Gesing (+49 89 189 33 180, kgesing@gibsondunn.com) Corporate Compliance / White Collar Matters Benno Schwarz (+49 89 189 33 110, bschwarz@gibsondunn.com) Michael Walther (+49 89 189 33 180, mwalther@gibsondunn.com) Mark Zimmer (+49 89 189 33 130, mzimmer@gibsondunn.com) Finn Zeidler (+49 69 247 411 504, fzeidler@gibsondunn.com) Markus Rieder (+49 89189 33 170, mrieder@gibsondunn.com) Ralf van Ermingen-Marbach (+49 89 18933 130, rvanermingenmarbach@gibsondunn.com) Antitrust Michael Walther (+49 89 189 33 180, mwalther@gibsondunn.com) Jens-Olrik Murach (+32 2 554 7240, jmurach@gibsondunn.com) Kai Gesing (+49 89 189 33 180, kgesing@gibsondunn.com) Litigation Michael Walther (+49 89 189 33 180, mwalther@gibsondunn.com) Mark Zimmer (+49 89 189 33 130, mzimmer@gibsondunn.com) Finn Zeidler (+49 69 247 411 504, fzeidler@gibsondunn.com) Markus Rieder (+49 89189 33 170, mrieder@gibsondunn.com) Kai Gesing (+49 89 189 33 180, kgesing@gibsondunn.com) Ralf van Ermingen-Marbach (+49 89 18933 130, rvanermingenmarbach@gibsondunn.com) International Trade, Sanctions and Export Control Michael Walther (+49 89 189 33 180, mwalther@gibsondunn.com) Richard Roeder (+49 89 189 33 122, rroeder@gibsondunn.com) © 2020 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

January 9, 2020 |
Developments in the Defense of Financial Institutions – The International Reach of the U.S. Money Laundering Statutes

Click for PDF Our clients frequently inquire about precisely when U.S. money laundering laws provide jurisdiction to reach conduct that occurred outside of the United States.  In the past decade, U.S. courts have reiterated that there is a presumption against statutes applying extraterritorially,[1] and explicitly narrowed the extraterritorial reach of the Foreign Corrupt Practices Act (“FCPA”)[2] and the wire fraud statute.[3]  But the extraterritorial reach of the U.S. money laundering statutes—18 U.S.C. §§ 1956 and 1957—remains uncabined and increasingly has been used by the U.S. Department of Justice (“DOJ”) to prosecute crimes with little nexus to the United States.  Understanding the breadth of the money laundering statutes is vital for financial institutions because these organizations often can become entangled in a U.S. government investigation of potential money laundering by third parties, even though the financial institution was only a conduit for the transactions. This alert is part of a series of regular analyses of the unique impact of white collar issues on financial institutions.  In this edition, we examine how DOJ has stretched U.S. money laundering statutes—perhaps to a breaking point—to reach conduct that occurred outside of the United States.  We begin by providing a general overview of the U.S. money laundering statutes.  From there, we discuss how DOJ has relied on a broad interpretation of “financial transactions” that occur “in whole or in part in the United States” to reach, for instance, conduct that occurred entirely outside of the United States and included only a correspondent banking transaction that cleared in the United States.  And while courts have largely agreed with DOJ’s interpretation of the money laundering statutes, a recent acquittal by a jury in Brooklyn in a case involving money laundering charges with little nexus to the United States shows that juries occasionally may provide a check on the extraterritorial application of the money laundering statutes—for those willing to risk trial.  Next, we discuss three recent, prominent examples—the FIFA corruption cases, the 1MDB fraud civil forfeitures, and the recent Petróleos de Venezuela, S.A. (“PDVSA”) indictments—that demonstrate how DOJ has increasingly used the money laundering statutes in recent years to police corruption and bribery abroad.  The alert concludes by illustrating the risks that the broad reach of the money laundering statutes can have for financial institutions.

1. The U.S. Money Laundering Statutes and Their Extraterritorial Application

In 1980, now-Judge Rakoff wrote that “[t]o federal prosecutors of white collar crime, the mail fraud statute is our Stradivarius, our Colt 45, our Louisville Slugger, our Cuisinart—and our true love.”[4]  In 2020, the money laundering statutes now play as an entire string quartet for many prosecutors, particularly when conduct occurs outside of the United States. Title 18, Sections 1956 and 1957 are the primary statutes that proscribe money laundering.  “Section 1956 penalizes the knowing and intentional transportation or transfer of monetary proceeds from specified unlawful activities, while § 1957 addresses transactions involving criminally derived property exceeding $10,000 in value.”  Whitfield v. United States, 543 U.S. 209, 212-13 (2005).  To prosecute a violation of Section 1956, the government must prove that: (1) a person engaged in a financial transaction, (2) knowing that the transaction involved the proceeds of some form of unlawful activity (a “Specified Unlawful Activity” or “SUA”),[5] and (3) the person intended to promote an SUA or conceal the proceeds of an SUA.[6]  And if the person is not located in the United States, Section 1956 provides that there is extraterritorial jurisdiction if the transaction in question exceeds $10,000 and “in the case of a non-United States citizen, the conduct occurs in part in the United States.”[7]  The word “conducts” is defined elsewhere in the statute as “includ[ing] initiating, concluding, or participating in initiating, or concluding a transaction.”[8]  Putting it all together, establishing a violation of Section 1956 by a non-U.S. citizen abroad requires:

Figure 1: Applying Section 1956 Extraterritorially

Section 1957 is the spending statute, involving substantially the same elements as Section 1956 but substituting a requirement that a defendant spend proceeds of criminal activity for the requirement that a defendant intend to promote or conceal an SUA.[9]

a. “Financial Transaction” and Correspondent Banking

Although the term “financial transaction” might at first blush seem to limit the reach of money laundering liability, the reality is that federal prosecutors have repeatedly and successfully pushed the boundaries of the types of value exchanges that qualify as “financial transactions.”  As one commentator has noted, “virtually anything that can be done with money is a financial transaction—whether it involves a financial institution, another kind of business, or even private individuals.”[10]  Indeed, courts have confirmed that the reach of money laundering statutes extends beyond traditional money.  One such example involves the prosecution of the creator of the dark web marketplace Silk Road.  In 2013, federal authorities shut down Silk Road, which they alleged was “the most sophisticated and extensive criminal marketplace on the Internet” that permitted users to anonymously buy and sell illicit goods and services, including malicious software and drugs.[11]  Silk Road’s creator, Ross William Ulbricht, was charged with, among other things, conspiracy to commit money laundering under Section 1956.[12]  The subsequent proceedings focused in large part on the meaning of “financial transactions” as used in Section 1956 and specifically, whether transactions involving Bitcoin can qualify as “financial transactions” under the statute.  Noting that “financial transaction” is broadly defined, the district court reasoned that because Bitcoin can be used to buy things, transactions involving Bitcoin necessarily involve the “movement of funds” and thus qualify as “financial transactions” under Section 1956.[13] In addition to broadly interpreting “financial transaction,” DOJ also has taken an expansive view of what constitutes a transaction occurring “in part in the United States”—a requirement to assert extraterritorial jurisdiction over a non-U.S. citizen.[14]  One area where DOJ has repeatedly pushed the envelope involves correspondent banking transactions. Correspondent banking transactions are used to facilitate cross-border transactions that occur between two parties using different financial institutions that lack a direct relationship.  As an example, if a French company (the “Ordering Customer”) maintains its accounts at a French financial institution and wants to send money to a Turkish company (the “Beneficiary Customer”) that maintains its accounts at a Turkish financial institution, and if the French and Turkish banks lack a direct relationship, then often those banks will process the transaction using one or more correspondent accounts in the United States.  An example of this process is depicted in Figure 2.

Figure 2: Correspondent Banking Transactions[15]

Although correspondent banking transactions can occur using a number of predominant currencies, such as euros, yen, and renminbi, U.S. dollar payments account for about 50 percent of correspondent banking transactions.[16]  Not only that, but “[t]here are indications that correspondent banking activities in US dollars are increasingly concentrated in US banks and that non-US banks are increasingly withdrawing from providing services in this currency.”[17]  As a result, banks in the United States play an enormous role in correspondent banking transactions. Given the continued centrality of the U.S. financial system, when confronted with misconduct taking place entirely outside of the United States, federal prosecutors are often able to identify downstream correspondent banking transactions in the United States involving the proceeds of that misconduct.  On the basis that the correspondent banking transaction qualifies as a financial transaction occurring in part in the United States, prosecutors have used this hook to establish jurisdiction under the money laundering statutes.  Two notable examples are discussed below.

i. Prevezon Holdings

The Prevezon Holdings case confirmed DOJ’s ability to use correspondent banking transactions as a jurisdictional hook for conduct occurring overseas.  The case arose from an alleged $230 million fraud scheme that a Russian criminal organization and Russian government officials perpetrated against hedge fund Hermitage Capital Management Limited.[18]  In 2013, DOJ filed a civil forfeiture complaint alleging that (1) the criminal organization stole the corporate identities of certain Hermitage portfolio companies by re-registering them in the names of members of the organization.  Then, (2) other members of the organization allegedly filed bogus lawsuits against the Hermitage entities based on forged and backdated documents.  Later, (3) the co-conspirators purporting to represent the Hermitage portfolio companies confessed to all of the claims against them, leading the courts to award money judgments against the Hermitage entities.  Finally, (4) the representatives of the purported Hermitage entities then fraudulently obtained money judgments to apply for some $230 million in fraudulent tax refunds.[19]  DOJ alleged that this fraud scheme constituted several distinct crimes, all of which were SUAs supporting money laundering violations.  DOJ then sought forfeiture of bank accounts and real property allegedly traceable to those money laundering violations. The parties challenging DOJ’s forfeiture action (the “claimants”) moved for summary judgment on certain of the SUAs, claiming that those SUAs, including Interstate Transportation of Stolen Property (“ITSP,” 18 U.S.C. § 2314), did not apply extraterritorially.  The district court rejected claimants’ challenge to the ITSP SUA.  The court held that Section 2314 does not, by its terms, apply extraterritorially.[20]  Nevertheless, the court found the case involved a permissible domestic application of the statute because it involved correspondent banking transactions.  Specifically, the court held that “[t]he use of correspondent banks in foreign transactions between foreign parties constitutes domestic conduct within [the statute’s] reach, especially where bank accounts are the principal means through which the relevant conduct arises.”[21]  In support of this holding, the court described U.S. correspondent banks as “necessary conduits” to accomplish the four U.S. dollar transactions cited by the government, which “could not have been completed without the services of these U.S. correspondent banks,” even though the sender and recipient of the funds involved in each of these transactions were foreign parties.[22]  The court also rejected claimants’ argument that they would have had to have “purposefully availed” themselves of the services of the correspondent banks, on the basis that this interpretation would frustrate the purpose of Section 2314 given that “aside from physically carrying currency across the U.S. border, it is hard to imagine what types of domestic conduct other than use of correspondent banks could be alleged to displace the presumption against extraterritoriality in a statute addressing the transportation of stolen property.”[23]

ii. Boustani

The December 2019 acquittal of a Lebanese businessman on trial in the Eastern District of New York marks an unusual setback in DOJ’s otherwise successful efforts to expand its overseas jurisdiction by using the money laundering statutes and correspondent banking transactions. Jean Boustani was an executive at the Abu Dhabi-based shipping company Privinvest Group (“Privinvest”).[24]  According to prosecutors, three Mozambique-owned companies borrowed over $2 billion through loans that were guaranteed by the Mozambican government.[25]  Although these loans were supposed to be used for maritime projects with Privinvest, the government alleged that Boustani and his co-conspirators created the maritime projects as “fronts to raise as much money as possible to enrich themselves,” ultimately diverting over $200 million from the loan funds for bribes and kickbacks to themselves, Mozambican government officials, and Credit Suisse bankers.[26]  According to the indictment, Boustani himself received approximately $15 million from the proceeds of Privinvest’s fraudulent scheme, paid in a series of wire transfers, many of which were paid through a correspondent bank account in New York City.[27] Boustani did not engage directly in any activity in the United States, and he filed a motion to dismiss arguing that, with respect to a conspiracy to commit money laundering charge, as a non-U.S. citizen he must participate in “initiating” or “concluding” a transaction in the United States to come under the extraterritorial reach of 18 U.S.C. § 1956(f).[28]  Specifically, he argued that “[a]ccounting interactions between foreign banks and their clearing banks in the U.S. does not constitute domestic conduct . . . as Section 1956(f) requires.”[29]  In response, prosecutors argued that Boustani “systematically directed $200 million of U.S. denominated bribe and kickback payments through the U.S. financial system using U.S. correspondent accounts”[30] and that such correspondent banking transactions are sufficient to allow for the extraterritorial application of Section 1956.[31] The court agreed with the government’s position.  In denying the motion to dismiss, the court held that correspondent banking transactions occurring in the United States are sufficient to satisfy the jurisdictional requirements of 18 U.S.C. § 1956(f).[32]  It cited to “ample factual allegations” that U.S. individuals and entities purchased interests in the loans at issue by wiring funds originating in the United States to locations outside the United States and that Boustani personally directed the payment of bribe transactions in U.S. dollars through the United States, describing this as “precisely the type of conduct Congress focused on prohibiting when enacting the money laundering provisions with which [Boustani] is charged.”[33] The jury, however, was unconvinced.  After a roughly seven-week trial, Boustani was acquitted on all charges on December 2, 2019.[34]  The jurors who spoke to reporters after the verdict said that a major issue for the jury was whether or not U.S. charges were properly brought against Boustani, an individual who had never set foot in the United States before his arrest.[35]  The jury foreman commented, “I think as a team, we couldn’t see how this was related to the Eastern District of New York.”[36]  Another juror echoed this sentiment, adding, “We couldn’t find any evidence of a tie to the Eastern District. . . .  That’s why we acquitted.”[37] The Boustani case illustrates that even if courts are willing to accept the position that the use of correspondent banks in foreign transactions between foreign parties constitutes domestic conduct within the reach of the money laundering statute, juries may be less willing to do so.

b. Using “Specified Unlawful Activities” to Target Conduct Abroad

Another way in which the U.S. money laundering statutes reach broadly is that the range of crimes that qualify as SUAs for purposes of Sections 1956 and 1957 is virtually without limit.  Generally speaking, most federal felonies will qualify.  More expansively, however, the money laundering statutes include specific foreign crimes that also qualify as SUAs.  For example, bribery of a public official in violation of a foreign nation’s bribery laws will qualify as an SUA.[38]  Similarly, fraud on a foreign bank in violation of a foreign nation’s fraud laws qualifies as an SUA.[39]  In addition to taking an expansive view of what constitutes a “financial transaction” and when it occurs “in part in the United States,” DOJ also has increasingly used the foreign predicates of the money laundering statute to prosecute overseas conduct involving corruption or bribery.  This subsection discusses a few notable recent examples.

i. FIFA

In May 2015, the United States shocked the soccer world when it announced indictments of nine Fédération Internationale de Football Association (“FIFA”) officials and five corporate executives in connection with a long-running investigation into bribery and corruption in the world of organized soccer.[40]  Over a 24-year period, the defendants allegedly paid and solicited bribes and kickbacks relating to, among other things, media and marketing rights to soccer tournaments, the selection of a host country for the 2010 FIFA World Cup, and the 2011 FIFA presidential elections.[41]  The defendants included high-level officials in FIFA and its constituent regional organizations, as well as co-conspirators involved in soccer-related marketing (e.g., Traffic Sports USA), broadcasting (e.g., Valente Corp.), and sponsorship (e.g., International Soccer Marketing, Inc.).[42]  Defendants were charged with money laundering under Section 1956(a)(2)(A) for transferring funds to promote wire fraud, an SUA.[43]  Two defendants were convicted at trial.[44]  The majority of the remaining defendants have pleaded guilty and agreed to forfeitures.[45] One of the defendants, Juan Ángel Napout, challenged the extraterritorial application of the U.S. money laundering statutes.  At various points during the alleged wrongdoing, Napout served as the vice president of FIFA and the president of the Confederación Sudamericana de Fútbol (FIFA’s South American confederation).[46]  Napout was accused of using U.S. wires and financial institutions to receive bribes for the broadcasting and commercial rights to the Copa Libertadores and Copa America Centenario tournaments.[47]  He argued that the U.S. money laundering statutes do not apply extraterritorially to him and that, regardless, this exercise of extraterritorial jurisdiction was unreasonable.[48]  The district court rejected these arguments, concluding that extraterritorial jurisdiction was proper because the government satisfied the two requirements in 18 U.S.C. § 1956(f): the $10,000 threshold and conduct that occurred “in part” in the United States.[49]  Notably, at trial, the jury acquitted Napout of the two money laundering charges against him but convicted him on the other three charges (RICO conspiracy and two counts of wire fraud).[50]  At the same trial, another defendant, José Marin, was charged with seven counts, including two for conspiracy to commit money laundering.  Marin was acquitted on one of the money laundering counts but convicted on all others.[51]

ii. 1MDB

The 1MDB scandal is “one of the world’s greatest financial scandals.”[52]  Between 2009 to 2014, Jho Low, a Malaysian businessman, allegedly orchestrated a scheme to pilfer approximately $4.5 billion from 1 Malaysia Development Berhad (“1MDB”), a Malaysian sovereign wealth fund created to pursue projects for the benefit of Malaysia and its people.[53]  Low allegedly used that money to fund a lavish lifestyle including buying various properties in the United States and running up $85 million in gambling debts at Las Vegas casinos.[54]  The former Prime Minister of Malaysia, Rajib Nazak, also personally benefited from the scandal, allegedly pocketing around $681 million.[55]  Additionally, his stepson, Riza Aziz, used proceeds from the scandal to fund Red Granite Pictures, a U.S. movie production company, which produced “The Wolf of Wall Street,” among other films.[56] In 2016, DOJ filed the first of a number of civil forfeiture actions against assets linked to funds pilfered from 1MDB, totaling about $1.7 billion.[57]  As the basis of the forfeiture, DOJ asserted a number of different violations of the U.S. money laundering statutes on the basis of four SUAs.[58] In March 2018, Red Granite Pictures entered into a settlement agreement with the DOJ to resolve the allegations in the 2016 civil forfeiture action.[59]  On October 30, 2019, DOJ announced the settlement of a civil forfeiture action against more than $700 million in assets held by Low in the United States, United Kingdom and Switzerland, including properties in New York, Los Angeles, and London, a luxury yacht valued at over $120 million, a private jet, and valuable artwork.[60]  Although neither Red Granite Pictures nor Low challenged the extraterritoriality of the U.S. money laundering statute as applied to their property, the cases nevertheless serve as noteworthy examples of DOJ using its authority under the money laundering statutes to police political corruption abroad.

iii. PDVSA

To date, more than 20 people have been charged in connection with a scheme to solicit and pay bribes to officials at and embezzle money from the state-owned oil company in Venezuela,  Petróleos de Venezuela, S.A.[61]  The indictments charge money laundering arising from several SUAs, including bribery of a Venezuelan public official.[62] Many of the defendants have pled guilty to the charges, but the charges against two former government officials, Nervis Villalobos and Rafael Reiter, remain pending.[63]  In March 2019, Villalobos filed a motion to dismiss the FCPA and money laundering claims against him on the basis that these statutes do not provide for extraterritorial jurisdiction.[64]  As to the money laundering charges, he argued that “[e]xtraterritorial jurisdiction over a non-citizen cannot be based on a coconspirator’s conduct in the United States,” and that extraterritorial application of the money laundering statute would violate international law and the due process clause.[65]  As of this writing, the court has not ruled on the motion.

2. The Risks to Financial Institutions

The degree to which the U.S. money laundering statutes can reach extraterritorial conduct outside the United States has important implications for financial institutions.  Prosecutions of foreign conduct under the money laundering statutes frequently involve high-profile scandals, as shown above.  Financial institutions are often drawn into these newsworthy investigations.  In the wake of the FIFA indictments, for instance, “[f]ederal prosecutors said they were also investigating financial institutions to see whether they were aware of aiding in the launder of bribe payments.”[66]  Indeed, more than half a dozen banks reportedly received inquiries from law enforcement related to the FIFA scandal.[67] At a minimum, cooperating with these investigations is time-consuming and costly.  The investigations can also create legal risk for financial institutions.  In the United States, “federal law generally imposes liability on a corporation for the criminal acts of its agents taken on behalf of the corporation and within the scope of the agent’s authority via the principle of respondeat superior, unless the offense conduct solely furthered the employee’s interests at the employer’s expense (for instance, where the employee was embezzling from the employer).”[68]  And prosecutors can satisfy the intent required by arguing that individual employees were “deliberately ignorant” of or “willfully blind” to, for instance, clearing suspicious transactions.[69] The wide scope of potential corporate criminal liability in the United States is often surprising to our clients, particularly those with experience overseas where the breadth of corporate liability is narrower than in the United States.  As one article explained, the respondeat superior doctrine is “exceedingly broad” as “it imposes liability regardless of the agent’s position in the organization” and “does not discriminate” in that “the multinational corporation with thousands of employees whose field-level salesman commits a criminal act is as criminally responsible as the small corporation whose president and sole stockholder engages in criminal conduct.”[70] Given the breadth of corporate criminal liability, DOJ applies a 10-factor equitable analysis to determine whether to impute individual employee liability to the corporate employer.  These 10 factors are the “Principles of Federal Prosecution of Business Organizations,” and are often referred to by the shorthand term “Filip Factors.”  The factors include considerations such as the corporation’s cooperation, the pervasiveness of the wrongdoing, and other considerations meant to guide DOJ’s discretion regarding whether to pursue a corporate resolution.[71]  They are not equally weighted (indeed, there is no specific weighting attached to each, and the DOJ’s analysis will not be mathematically precise).  Financial institutions should continually assess, both proactively and in the event misconduct occurs, the actions that can be taken to ensure that they can persuasively argue that, even if there is legal liability under the doctrine of respondeat superior, prosecution is nevertheless unwarranted under the Filip Factors.

3. Conclusion

In recent years, DOJ has expansively applied the money laundering statutes to reach extraterritorial conduct occurring almost entirely overseas.  Indeed, a mere correspondent banking transaction in the United States has been used by DOJ as the hook to prosecute foreign conduct under the U.S. money laundering statutes.  Because of the extraordinary breadth of corporate criminal liability in the United States, combined with the reach of the money laundering statutes, the key in any inquiry is to quickly assess and address prosecutors’ interests in the institution as a subject of the investigation. ____________________ [1]              Morrison v. National Australia Bank Ltd., 561 U.S. 247 (2010). [2]              United States v. Hoskins, 902 F.3d 69 (2d Cir. 2018).  Although the Second Circuit rejected the government’s argument that Hoskins could be charged under the conspiracy and complicity statutes for conduct not otherwise reachable by the FCPA, id. at 97, he was nevertheless found guilty at trial in November 2019 on a different theory of liability: that he acted as the agent of Alstom S.A.’s American subsidiary.  See Jody Godoy, Ex-Alstom Exec Found Guilty On 11 Counts In Bribery Trial, Law360 (Nov. 8, 2019), https://www.law360.com/articles/1218374/ex-alstom-exec-found-guilty-on-11-counts-in-bribery-trial. [3]              See, e.g., United States v. Elbaz, 332 F. Supp. 3d 960, 974 (D. Md. 2018) (collecting cases where extraterritorial conduct not subject to the wire fraud statute). [4]              Jed S. Rakoff, The Federal Mail Fraud Statute (Part I), 18 Duq. L. Rev. 771, 822 (1980). [5]              Many of the SUAs covered by Section 1956 are incorporated by cross-references to other statutes.  See 18 U.S.C. § 1956(c)(7).  All of the predicate acts under the Racketeer Influenced and Corrupt Organizations Act, for instance, are SUAs under Section 1956.  18 U.S.C. § 1956(c)(7)(a).  One commentator has estimated that there are “250 or so” predicate acts in Section 1956.  Stefan D. Cassella, The Forfeiture of Property Involved in Money Laundering Offenses, 7 Buff. Crim. L. Rev. 583, 612 (2004).  Another argues this estimate is “exceptionally conservative.”  Charles Doyle, Cong. Research Serv., RL33315, Money Laundering: An Overview of 18 U.S.C. § 1956 and Related Federal Criminal Law 1 n.2 (2017). [6]              See, e.g., Fifth Circuit Pattern Jury Instructions (Criminal Cases) Nos. 2.76A, 2.76B, available at   http://www.lb5.uscourts.gov/viewer/?/juryinstructions/Fifth/crim2015.pdf; Ninth Circuit Manual of Model Criminal Jury Instruction Nos. 8.147-49, available at http://www3.ce9.uscourts.gov/jury-instructions/sites/default/files/WPD/Criminal_Instructions_2019_12_0.pdf. [7]              18 U.S.C. § 1956(f). [8]              18 U.S.C. § 1956(c)(2). [9]              See, e.g., Fifth Circuit Pattern Jury Instructions (Criminal Cases) No. 2.77; Ninth Circuit Manual of Model Criminal Jury Instruction No. 8.150. [10]             Stefan D. Cassella, The Money Laundering Statutes (18 U.S.C. §§ 1956 and 1957), The United States Attorneys’ Bulletin, Vol. 55, No. 5 (Sept. 2007); see also 18 U.S.C. § 1956(c)(4)(i) (definition of “financial transaction”). [11]             United States v. Ulbricht, 31 F. Supp. 3d 540, 549-50 (S.D.N.Y. 2014). [12]             Id. at 568-69. [13]             Id.  Ultimately, Ulbricht was convicted and his conviction was affirmed on appeal.  See United States v. Ulbricht, 858 F.3d 71 (2d Cir. 2017).  The Second Circuit did not address the district court’s interpretation of the term “financial transactions” under Section 1956. [14]             18 U.S.C. § 1956(f)(1). [15]             International Monetary Fund, Recent Trends in Correspondent Banking Relationships: Further Considerations, at 9 (April 21, 2017), https://www.imf.org/en/Publications/Policy-Papers/Issues/2017/04/21/recent-trends-in-correspondent-banking-relationships-further-considerations. [16]             Id. [17]             Bank for International Settlements Committee on Payments and Market Infrastructures, Correspondent Banking, at 12 (July 2016), https://www.bis.org/cpmi/publ/d147.pdf. [18]             See generally Bill Browder, Red Notice: A True Story of High Finance, Murder, and One Man’s Fight for Justice (2015).  The alleged scheme was discovered by Russian tax lawyer Sergei Magnitsky, who was arrested on specious charges and died after receiving inadequate medical treatment in a Russian prison.  In response to Magnitsky’s death, the United States passed a bill named after him sanctioning Russia for human rights abuses.  See Russia and Moldova Jackson–Vanik Repeal and Sergei Magnitsky Rule of Law Accountability Act of 2012, Pub. L. 112–208 (2012). [19]             Second Amended Complaint at 10-12, United States v. Prevezon Holdings Ltd., No. 13-cv-06326 (S.D.N.Y. Oct. 23, 2015), ECF No. 381. [20]             United States v. Prevezon Holdings Ltd., 251 F. Supp. 3d 684, 691-92 (S.D.N.Y. 2017). [21]             Id. at 692. [22]             Id. at 693. [23]             Id.  [24]             Stewart Bishop, Boustani Acquitted in $2B Mozambique Loan Fraud Case, Law360 (Dec. 2, 2019), https://www.law360.com/articles/1221333/boustani-acquitted-in-2b-mozambique-loan-fraud-case. [25]             Superseding Indictment at 6, United States of America v. Boustani et al., No. 1:18-cr-00681 (E.D.N.Y. Aug. 16, 2019), ECF No. 137. [26]             Id. at 6-7. [27]             Id. at 33. [28]             Motion to Dismiss at 35-36, United States of America v. Boustani et al., No. 1:18-cr-00681 (E.D.N.Y. June 21, 2019), ECF No. 98. [29]             Id. at 36. [30]             Opposition to Motion to Dismiss at 38, United States of America v. Boustani et al., No. 1:18-cr-00681 (E.D.N.Y. July 22, 2019), ECF No. 113. [31]             Id. at 34-35 (citing United States v. All Assets Held at Bank Julius (“All Assets”), 251 F. Supp. 3d 82, 96 (D.D.C. 2017).) [32]             Decision & Order Denying Motions to Dismiss at 14, United States of America v. Boustani et al., No. 1:18-cr-00681 (E.D.N.Y. Oct. 3, 2019), ECF No. 231. [33]             Id. at 15-16; see also All Assets, 251 F. Supp. 3d at 95 (finding correspondent banking transactions fall within U.S. money laundering statutes because “[t]o conclude that the money laundering statute does not reach [Electronic Fund Transfers] simply because [defendant] himself did not choose a U.S. bank as the correspondent or intermediate bank for his wire transfers would frustrate Congress’s intent to prevent the use of U.S. financial institutions ‘as clearinghouses for criminals’”).  In United States v. Firtash, No. 13-cr-515, 2019 WL 2568569 (N.D. Ill. June 21, 2019), the defendant recently moved to dismiss an indictment on grounds including that correspondent banking transactions do not fall within the scope of the U.S. money laundering statute.  The court has sidestepped the argument for now, concluding that this argument “does not support dismissal of the Indictment at this stage” because “the Indictment does not specify that the government’s proof is limited to correspondent bank transactions.”  Id. at *9. [34]             Stewart Bishop, Boustani Acquitted in $2B Mozambique Loan Fraud Case, Law360 (Dec. 2, 2019), https://www.law360.com/articles/1221333/boustani-acquitted-in-2b-mozambique-loan-fraud-case. [35]             Id. [36]             Id. [37]             Id. [38]             18 U.S.C. § 1956(c)(7)(B)(iv).  In United States v. Chi, 936 F.3d 888, 890 (9th Cir. 2019), the Ninth Circuit recently rejected the argument that the term “bribery of a public official” in Section 1956 should be read to mean bribery under the U.S. federal bribery statute, as opposed to the article of the South Korean Criminal Code at issue in that case. [39]             18 U.S.C. § 1956(c)(7)(B)(iii). [40]             U.S. Dep’t of Justice, Attorney General Loretta E. Lynch Delivers Remarks at Press Conference Announcing Charges Against Nine FIFA Officials and Five Corporate Executives (May 27, 2015), https://www.justice.gov/opa/speech/attorney-general-loretta-e-lynch-delivers-remarks-press-conference-announcing-charges. [41]             Superseding Indictment at ¶¶ 95-360, United States v. Hawit, No. 15-cr-252 (E.D.N.Y. Nov. 25, 2015), ECF No. 102. [42]             See, e.g., id. at ¶¶ 30-93. [43]             See, e.g., id. at ¶ 371. [44]             Press Release, U.S. Dep’t of Justice, High-Ranking Soccer Officials Convicted in Multi-Million Dollar Bribery Schemes (Dec. 26, 2017), https://www.justice.gov/usao-edny/pr/high-ranking-soccer-officials-convicted-multi-million-dollar-bribery-schemes. [45]             U.S. Dep’t of Justice, FIFA Prosecution United States v. Napout et al. and Related Cases, Upcoming Court Dates, https://www.justice.gov/usao-edny/file/799016/download (last updated Nov. 5, 2019). [46]             Superseding Indictment, supra note 41, at ¶ 41. [47]             Superseding Indictment, supra note 41, at ¶¶ 376-81, 501-04. [48]             Memorandum of Law in Support of Defendant Juan Angel Napout’s Motion to Dismiss All Charges for Lack of Extraterritorial Jurisdiction, at 3-4, Hawit, supra note 41, ECF No. 491-1. [49]             United States v. Hawit, No. 15-cr-252, 2017 WL 663542, at *8 (E.D.N.Y. Feb. 17, 2017). [50]             United States v. Napout, 332 F. Supp. 3d 533, 547 (E.D.N.Y. 2018). [51]             Id.  On appeal, Napout challenged the extraterritoriality of the honest-services wire-fraud statutes, a case currently pending before the Second Circuit.  See United States of America v. Webb et al., No. 18-2750 (2d. Cir. appeal docketed Sept. 17, 2018), Dkt. 107.  Marin did not raise the extraterritoriality of the money laundering statute on appeal.  Id., Dkt. 104. [52]             Heather Chen, Mayuri Mei Lin, and Kevin Ponniah, 1MDB: The Playboys, PMs and Partygoers Around a Global Financial Scandal, BBC (Apr. 2, 2019), https://www.bbc.com/news/world-asia-46341603; see generally Tom Wright & Bradley Hope, Billion Dollar Whale: The Man Who Fooled Wall Street, Hollywood, and the World (2018). [53]             Complaint at 6, United States v.“The Wolf of Wall Street,” No. 2:16-cv-05362 (C.D. Cal. July 20, 2016), ECF No. 1, https://www.justice.gov/archives/opa/page/file/877166/download. [54]             Complaint, supra note 53, at 37. [55]             Najib 1MDB Trial: Malaysia Ex-PM Faces Court in Global Financial Scandal, BBC (Apr. 3, 2019), https://www.bbc.com/news/world-asia-47194656.  In the aftermath of the scandal, Nazak was voted out of office and currently faces trial in Malaysia.  Id. [56]             Complaint, supra note 53, at 63-65. [57]             Complaint, supra note 53; Rishi Iyengar, ‘Wolf of Wall Street’ Maker Settles US Lawsuit for $60 Million, CNN Business (Mar. 7, 2018), https://money.cnn.com/2018/03/07/media/wolf-wall-street-red-granite-1mdb-settlement/index.html. [58]             See Complaint, supra note 53, at 132. [59]             Consent Judgment of Forfeiture, No. 2:16-cv-05362 (C.D. Cal. Mar. 8, 2018), ECF No. 143.  As a part of the settlement, Red Granite Pictures agreed to forfeit $60 million.  Id. at 5. [60]             See United States v. Any Rights to Profits, Royalties and Distribution Proceeds Owned by or Owed Relating to EMI Music Publishing Group, Stipulation and Request to Enter Consent Judgment of Forfeiture, No. 16-cv-05364 (C.D. Cal. Oct. 30, 2019), ECF No. 180; Press Release, U.S. Dep’t of Justice, United States Reaches Settlement to Recover More Than $700 Million in Assets Allegedly Traceable to Corruption Involving Malaysian Sovereign Wealth Fund (Oct. 30, 2019), https://www.justice.gov/opa/pr/united-states-reaches-settlement-recover-more-700-million-assets-allegedly-traceable. [61]             See Indictment, United States v. De Leon-Perez et al., No. 4:17-cr-00514 (S.D. Tex. Aug. 23, 2017), ECF No. 1; Press Release, U.S. Dep’t of Justice, Two Members of Billion-Dollar Venezuelan Money Laundering Scheme Arrested (July 25, 2018), https://www.justice.gov/opa/pr/two-members-billion-dollar-venezuelan-money-laundering-scheme-arrested. [62]           Criminal Information at 1-2, United States v. Krull, No. 1:18-cr-20682 (S.D. Fla. Aug. 16, 2018), ECF No. 23; Criminal Complaint at 6, United States v. Guruceaga, et al., No. 18-MJ-03119 (S.D. Fla. July 23, 2018), ECF No. 3. [63]           Press Release, U.S. Dep’t of Justice, Former Venezuelan Official Pleads Guilty to Money Laundering Charge in Connection with Bribery Scheme (July 16, 2018), https://www.justice.gov/opa/pr/former-venezuelan-official-pleads-guilty-money-laundering-charge-connection-bribery-scheme-0. [64]           See Defendant’s Motion to Dismiss at 9-24, United States v. Villalobos, No. 4:17-cr-00514 (S.D. Tex. Mar. 28, 2019), ECF No. 123. [65]           See id. at 21-35. [66]           Gina Chon & Ben McLannahan, Banks face US investigation in Fifa corruption scandal, Financial Times (May 27, 2015); see also Christie Smythe & Keri Geiger, U.S. Probes Bank Links in FIFA Marketing Corruption Scandal, Bloomberg (May 27, 2015). [67]           Christopher M. Matthews & Rachel Louise Ensign, U.S. Authorities Probe Banks’ Handling of FIFA Funds, Wall St. Journal (July 23, 2015). [68]           Fed. Ins. Co. v. United States, 882 F.3d 348, 368 (2d Cir. 2018). [69]           See, e.g., Global-Tech Appliances, Inc. v. SEB S.A., 563 U.S. 754, 769 (2011); United States v. Florez, 368 F.3d 1042, 1044 (8th Cir. 2004). [70]           Philip A. Lacovara & David P. Nicoli, Vicarious Criminal Liability of Organizations: RICO as an Example of a Flawed Principle in Practice, 64 St. John’s L. Rev. 725, 725-26 (1990). [71]           See U.S. Department of Justice, Principles of Federal Prosecution of Business Organizations (Aug. 28, 2008), https://www.justice.gov/sites/default/files/dag/legacy/2008/11/03/dag-memo-08282008.pdf.

The following Gibson Dunn attorneys assisted in preparing this client update:  M. Kendall Day, Stephanie L. Brooker, F. Joseph Warin, Chris Jones, Jaclyn Neely, Chantalle Carles Schropp, Alexander Moss, Jillian Katterhagen Mills, Tory Roberts, and summer associates Beatrix Lu and Olivia Brown.

Gibson Dunn has deep experience with issues relating to the defense of financial institutions.  For assistance navigating white collar or regulatory enforcement issues involving financial institutions, please contact the Gibson Dunn lawyer with whom you usually work, any of the leaders and members of the firm’s Financial InstitutionsWhite Collar Defense and Investigations, or International Trade practice groups, or the following authors in the firm’s Washington, D.C., New York, and San Francisco offices: M. Kendall Day – Washington, D.C. (+1 202-955-8220, kday@gibsondunn.com) Stephanie Brooker –  Washington, D.C.(+1 202-887-3502, sbrooker@gibsondunn.com) F. Joseph Warin – Washington, D.C. (+1 202-887-3609, fwarin@gibsondunn.com) Jaclyn Neely – New York (+1 212-351-2692, jneely@gibsondunn.com) Chris Jones* – San Francisco (+1 415-393-8320, crjones@gibsondunn.com) Chantalle Carles Schropp – Washington, D.C. (+1 202-955-8275, cschropp@gibsondunn.com) Alexander R. Moss – Washington, D.C. (+1 202-887-3615, amoss@gibsondunn.com) Jillian N. Katterhagen* – Washington, D.C. (+1 202-955-8283 , jkatterhagen@gibsondunn.com)

Please also feel free to contact any of the following practice group leaders:

Financial Institutions Group: Matthew L. Biben – New York (+1 212-351-6300, mbiben@gibsondunn.com) Stephanie Brooker – Washington, D.C. (+1 202-887-3502, sbrooker@gibsondunn.com) Arthur S. Long – New York (+1 212-351-2426, along@gibsondunn.com) White Collar Defense and Investigations Group: Joel M. Cohen – New York (+1 212-351-2664, jcohen@gibsondunn.com) Charles J. Stevens – San Francisco (+1 415-393-8391, cstevens@gibsondunn.com) F. Joseph Warin – Washington, D.C. (+1 202-887-3609, fwarin@gibsondunn.com) International Trade Group: Ronald Kirk – Dallas (+1 214-698-3295, rkirk@gibsondunn.com) Judith Alison Lee – Washington, D.C. (+1 202-887-3591, jalee@gibsondunn.com) *Mr. Jones and Ms. Katterhagen Mills are not yet admitted in California and Washington, D.C., respectively.  They are practicing under the supervision of Principals of the Firm. © 2020 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

December 13, 2019 |
DOJ National Security Division Releases Updated Guidance on Voluntary Self-Disclosures

Click for PDF Today, the U.S. Department of Justice (“DOJ” or the “Department”) announced changes to its policy governing the treatment of voluntary self-disclosures (or “VSDs”) in criminal sanctions and export control investigations. Critically, DOJ will now offer VSD benefits to financial institutions in such matters, generally aligning the Department’s guidance to financial institutions in this area with other enforcement policies meant to encourage corporate disclosures. As we discussed at length last year, deciding whether to voluntarily self-disclose corporate wrongdoing to DOJ is a complex exercise, marked by potential benefits that are difficult to anticipate and quantify. DOJ’s efforts to incentivize corporate disclosures of U.S. Foreign Corrupt Practices Act (“FCPA”) violations—and thus provide more certainty for companies facing criminal prosecution—have served as a model for corporate criminal investigations in other areas. In early 2018, Acting Assistant Attorney General John Cronan announced that DOJ’s 2017 FCPA Corporate Enforcement Policy (“CEP”) would serve as non-binding guidance for corporate investigations beyond the FCPA context. Many aspects of the CEP (and its predecessor, the 2016 FCPA Pilot Program) were incorporated into the Justice Manual (“JM”) (previously known as the United States Attorneys’ Manual), which outlines the Department’s high-level approach to voluntary self-disclosures. In a similar vein, the changes announced today by DOJ’s National Security Division (“NSD”) with respect to criminal sanctions and export control violations include the following key features:

  • Applies to Financial Institutions: Financial institutions are now subject to NSD’s newly issued policy (the “2019 NSD Guidance”). Accordingly, rather than relying on general DOJ guidance applicable to all business organizations—like the high-level guidance provided in the JM—financial institutions may instead rely on the requirements and assurances set forth in the 2019 NSD Guidance when evaluating the potential costs and benefits of self-disclosing export control and sanctions violations to DOJ.
  • Presumption of Non-Prosecution Agreement: Companies that discover a criminal export control or sanctions violation, voluntarily self-disclose the violation to DOJ, and satisfy the requirements set forth in the 2019 NSD Guidance will now benefit from a presumption that they will receive a non-prosecution agreement (“NPA”) and will not be assessed a fine, provided no aggravating factors are present.
  • Reduced Penalties: Where aggravating circumstances warrant an enforcement action other than an NPA, companies that otherwise satisfy all the requirements of a VSD will be eligible for at least a 50 percent reduction off the statutory base penalty—effectively capping the penalty for such companies at the dollar value of the violative transactions—and the Department will not require a monitor, provided the company has implemented an effective compliance program.
  • Successor Liability: In mergers and acquisitions, successor companies that uncover a criminal export control or sanctions violation by the merged or acquired entity through timely due diligence and voluntarily self-disclose the violation to DOJ also will benefit from a presumption in favor of an NPA.
To help make sense of this latest development, we provide below an overview of NSD’s prior policy regarding VSDs in the export control and sanctions area, a comparison with the Department’s guidelines in FCPA investigations, and conclude with an analysis of the changes announced today and what they mean for businesses considering whether to self-disclose. Background U.S. sanctions and export controls are primarily administered and enforced by U.S. regulatory agencies, including the U.S. Department of the Treasury’s Office of Foreign Assets Control (“OFAC”), the U.S. Department of Commerce’s Bureau of Industry and Security (“BIS”), and the U.S. Department of State’s Directorate of Defense Trade Controls (“DDTC”). NSD—the DOJ office with primary responsibility for overseeing and coordinating criminal investigations related to violations of U.S. export controls and sanctions—has historically played a secondary role to civil enforcement agencies, becoming involved in enforcement matters referred to them by OFAC, BIS, or DDTC. NSD became more forward leaning during the waning days of the Obama administration, and in 2016 published the first iteration of its “Guidance Regarding Voluntary Self-Disclosures, Cooperation, and Remediation in Export Control and Sanctions Investigations Involving Business Organizations” (the “2016 NSD Guidance”). The 2016 NSD Guidance articulated the Department’s policy of encouraging business organizations to voluntarily self-disclose criminal violations of sanctions and export controls and for the first time set forth the criteria that NSD would use in determining the potential benefits that may be offered to an organization for its self-disclosure, cooperation, and remediation efforts. Notably, the 2016 NSD Guidance specifically exempted financial institutions from receiving the VSD benefits offered to other corporate actors in the export control and sanctions context, citing the “unique reporting obligations” imposed on financial institutions under their applicable statutory and regulatory regimes. Indeed, most U.S. financial institutions are required to file Suspicious Activity Reports (“SARs”) to the U.S. Department of the Treasury when the institution knows, suspects or has reason to suspect that a transaction by, through or to it involves illegal activity. Moreover, financial institutions must report blocked property to OFAC within ten business days from the date that the property becomes blocked or else risk violating their own sanctions compliance obligations. In recent years, DOJ has accused numerous banks of engaging in practices that involved omitting, removing, or masking references to sanctioned parties and jurisdictions so as to allow transactions to be processed through the U.S. financial system. Given the potentially enormous fines for sanctions violations—which, for large banks, can easily rise to hundreds of millions of dollars—financial institutions have strong incentives to over-comply with U.S. sanctions. As a result of their visibility into a huge volume of daily transactions and their deep aversion to sanctions-related risk, financial institutions have in effect been pressed into service as the leading edge of DOJ’s and OFAC’s sanctions enforcement efforts. NSD has also become more heavily involved in the criminal enforcement of U.S. export controls—measures that are increasingly relied upon to combat the unauthorized transfer of sensitive, U.S.-origin technologies to adversaries such as China. From a policy perspective, these efforts appear to be driven by an interest in both denying China the technological means to engage in activities that threaten U.S. national security (such as spying on U.S. telecommunications networks), as well as blunting China’s ability to dominate the technologies of the future (such as artificial intelligence). In the face of such risks, NSD officials have also sought to incentivize disclosures from U.S. companies targeted by Chinese economic espionage. Key Considerations Timing The 2019 NSD Guidance makes explicit the stringent timing requirement applicable to VSDs for a company to qualify for full mitigation credit. DOJ requires companies to submit a VSD to the relevant office of the Counterintelligence and Export Control Section (“CES”) of the NSD at substantially the same time that it submits a VSD related to the matter to the appropriate regulatory agency, whether that is DDTC, BIS, OFAC, or a combination thereof. While this timing requirement was included in the 2016 NSD Guidance, the revised policy emphasizes the point with more blunt language. The 2016 NSD Guidance indicated that a VSD must be submitted to DOJ “within a reasonably prompt time after becoming aware of the offense,” with the burden on the company to demonstrate timeliness. In export control and sanctions cases, it is now clear that the VSD must be submitted to DOJ at substantially the same time that it is submitted to DDTC, BIS, or OFAC, as the case may be. Timely and Appropriate Remediation The 2019 NSD Guidance generally harmonizes the requirements for companies disclosing export control and sanctions-related violations with those applicable to FCPA-related matters. The 2016 NSD Guidance was already substantially similar to the CEP, but with several subtle divergences. For example, the 2016 NSD Guidance lacked the CEP’s root cause analysis requirement; the 2016 NSD Guidance did not require companies to conduct a “root cause” analysis to determine the causes of the underlying misconduct in the export control and sanctions context. The 2019 NSD Guidance adds the root cause analysis requirement for companies disclosing to NSD. Another point of harmonization relates to the treatment of personal communications and ephemeral messaging systems. Under the CEP, companies are required to implement appropriate guidance and controls on the use of personal communications and ephemeral messaging platforms that undermine a company’s ability to retain relevant business records. The 2019 NSD Guidance incorporates this requirement into the export control and sanctions context. With respect to possible sanctions violations, the 2019 NSD Guidance is also broadly consistent with OFAC’s recent guidance, titled “A Framework for OFAC Compliance Commitments.” That policy, which we described here, sets forth OFAC’s views regarding what constitutes an effective sanctions compliance program and, when violations do occur, provides transparency into how OFAC will assess the adequacy of a company’s compliance program in determining what penalty to impose. The 2019 NSD Guidance similarly includes the implementation of an effective compliance program—which NSD will now evaluate using criteria substantially similar to those described by OFAC—as one of the requirements for a company to remediate a criminal export control or sanctions violation. Aggravating Factors The 2019 NSD Guidance retains and lightly updates the list of aggravating factors specific to violations of export control and sanctions rules. These factors are in addition to others generally applicable to business organizations, which are mirrored in the CEP. The 2016 NSD Guidance also listed examples of aggravating factors specific to the export control and sanctions area, the presence of which in substantial degree would result in a more stringent resolution for the company. The updated list of aggravating factors includes:
  • Exports of items controlled for nuclear nonproliferation or missile technology reasons to a proliferator country;
  • Exports of items known to be used in the construction of weapons of mass destruction;
  • Exports to a Foreign Terrorist Organization or Specially Designated Global Terrorist;
  • Exports of military items to a hostile foreign power;
  • Repeated violations, including similar administrative or criminal violations in the past; and
  • Knowing involvement of upper management in the criminal conduct.
Benefits The 2019 NSD Guidance provides that when a company voluntarily self-discloses export control or sanctions violations to CES, fully cooperates, and timely and appropriately remediates, there is now a presumption that the company will receive an NPA and will not pay a fine, absent aggravating factors like those described above. In cases where a different resolution—such as a DPA or a guilty plea—is warranted due to the presence of aggravating factors, but the company has otherwise satisfied all the requirements set forth in the 2019 NSD Guidance, the company can expect a reduced fine and, provided the company has implemented an effective compliance program, DOJ will not require a monitor. Under the 2016 NSD Guidance, when a company voluntarily self-disclosed criminal violations of export controls and sanctions, fully cooperated, and provided timely and appropriate remediation, the company may have been eligible for a significantly reduced penalty, to include the possibility of (under the best case scenario) an NPA, a reduced period of supervised compliance, a reduced fine and forfeiture, and no requirement for a monitor. Under the CEP, when a company has voluntarily self-disclosed misconduct in an FCPA matter, fully cooperated, and provided timely and appropriate remediation, there is a presumption that the company will receive a declination absent aggravating circumstances involving the seriousness of the offense or the nature of the offender. However, unlike in the FCPA context, DOJ stated today that a declination would generally not be appropriate with respect to export control and sanctions violations because of the likely harm to U.S. national security interests. Voluntary Disclosure Considerations DOJ’s publication of the 2019 NSD Guidance provides additional clarity for businesses confronting the challenging decision of whether to self-report. NSD should be applauded for its efforts to sync its guidance with the CEP. Companies—including now financial institutions—can potentially enjoy the benefit of a presumption in favor of an NPA and no fine in the export control and sanctions space if they meet the requirements set out by NSD with respect to voluntary self-disclosure, cooperation, and remediation. Moreover, by bringing NSD’s guidance more closely into line with the CEP, companies and their counsel can perhaps develop a more consistent, predictable set of expectations about how DOJ’s various components will treat their VSD. The 2019 NSD Guidance creates a more elaborate set of options for corporations, particularly financial institutions. If the disclosure path is pursued, disclosure would possibly be made to NSD, OFAC, and, for financial institutions, prudential regulators as well as potentially to the Money Laundering and Asset Recovery Section of DOJ’s Criminal Division (“MLARS”). As before, when considering whether to self-disclose to DOJ, companies should be mindful of a number of other considerations. Today’s announcement notwithstanding, a company that discovers a potential willful export control or sanctions violation must carefully consider, among other things, the likelihood that DOJ will discover the misconduct (such as through a tip from a whistleblower or another regulator); at what stage in an investigation the misconduct should be disclosed to the government; and to what agencies the disclosure should be made and in what sequence. By taking these and other factors into account, companies that uncover export control and sanctions violations can enhance their prospects of both avoiding a full-blown criminal investigation and minimizing institutional liability to the extent possible.
Gibson Dunn's lawyers are available to assist in addressing any questions you may have regarding these developments. Please contact the Gibson Dunn lawyer with whom you usually work, any of the leaders and members of the firm's International Trade, Financial Institutions or White Collar Defense and Investigations practice groups, or the following authors in the firm's Washington, D.C. office: M. Kendall Day (+1 202-955-8220, kday@gibsondunn.com) Adam M. Smith (+1 202-887-3547, asmith@gibsondunn.com) F. Joseph Warin (+1 202-887-3609, fwarin@gibsondunn.com) Stephanie L. Connor (+1 202-955-8586, sconnor@gibsondunn.com) Samantha Sewall (+1 202-887-3509, ssewall@gibsondunn.com) Scott R. Toussaint (+1 202-887-3588, stoussaint@gibsondunn.com) Please also feel free to contact any of the following practice group leaders: International Trade Group: Ronald Kirk - Dallas (+1 214-698-3295, rkirk@gibsondunn.com) Judith Alison Lee - Washington, D.C. (+1 202-887-3591, jalee@gibsondunn.com) Financial Institutions Group: Matthew L. Biben - New York (+1 212-351-6300, mbiben@gibsondunn.com) Stephanie Brooker - Washington, D.C. (+1 202-887-3502, sbrooker@gibsondunn.com) Arthur S. Long - New York (+1 212-351-2426, along@gibsondunn.com) White Collar Defense and Investigations Group: Joel M. Cohen - New York (+1 212-351-2664, jcohen@gibsondunn.com) Charles J. Stevens - San Francisco (+1 415-393-8391, cstevens@gibsondunn.com) F. Joseph Warin - Washington, D.C. (+1 202-887-3609, fwarin@gibsondunn.com) © 2019 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

December 5, 2019 |
New Guidance on Internal Compliance Programs (“ICPs”) – What Regulators on Both Sides of the Atlantic Expect from International Business

Click for PDF The European Union has become more active in addressing EU common foreign and security policy (“CFSP”) objectives with the help of what it calls “restrictive measures,” i.e., EU Financial and Economic sanctions. As indicated in our recent client alert, The EU Introduces a New Sanctions Framework in Response to Cyber-Attack Threats and even more recent by introducing a framework for EU Financial Sanctions against Turkey,[1] it has also specifically started to unilaterally implement sanctions addressing EU security concerns, including issues beyond traditional areas addressed by sanctions such as “traditional” sanctions imposed due to terrorism and international relations-based grounds. We have discussed this development and respective challenges in our recent publication U.S., EU, and UN Sanctions: Navigating the Divide for International Business.[2] Furthermore, the EU Commission started to become more vocal on how it expects individuals and companies under its jurisdiction to implement those restrictive measures. A good example is the detailed guidance provided with regard to the EU Blocking Statute. As shown below, the EU Commission has moved forward now and published the EU Guidance on Internal Compliance Programmes (“ICPs”) for dual-use trade controls.[3] In the following, we shall highlight key recommendations of the EU guidance and some additional points we consider helpful. Please note that the competent authorities of EU member states might have additional requirements and expectations.[4] In some respects, these developments in the EU mirror recent developments in the United States. The U.S. Department of Commerce Bureau of Industry and Security (“BIS”) has previously published compliance guidance for the export of dual-use items that closely tracks the EU Commission’s guidance on ICPs.[5] The EU guidance also references similar advice on internal compliance programs published by the U.S. Department of State.[6] Most recently, the Department of the Treasury’s Office of Foreign Assets Control (“OFAC”), which administers U.S. sanctions, has published guidance on sanctions compliance best practices, advising companies to implement compliance programs with similar central features. For companies with an U.S. nexus, we suggest additionally reviewing these resources, as well as our recent client alert OFAC Releases Detailed Guidance on Sanctions Compliance Best Practices.

1.   EU Commission recommendations on internal compliance programs

The guidance issued by the EU Commission is intended to support companies with applying a framework to identify, manage and mitigate risks associated with dual-use trade controls and to ensure compliance with the relevant EU and national law and regulations[7]. The guidance consists of seven core elements representing what the EU Commission believes should be the “cornerstones”[8] of a company’s individual ICP.[9] While it notes that there is no one-size-fits-all approach, it also notes that “A company’s approach to compliance that includes policies and internal procedures for, at least, all the core elements could be expected to be in line with the EU ICP guidance for dual-use trade controls.[10] While the focus of the guidance is on managing dual-use trade[11] control impact and mitigating associated risks[12], we believe it also sheds a light on general expectations the EU Commission has with respect to internal compliance programs regarding sanctions and export controls.

1.1   Risk assessment

Prerequisite for the installation of an ICP is an assessment of the company’s business activities and their related risk of violating EU export controls, specifically the dual-use regulations. Rather than identifying every single exposure to EU regulation, this risk assessment serves as a basis to design an ICP tailor-made for the company.[13] Furthermore, we suggest that in case the risk profile changes, such risk assessment should be rerun and—if deemed necessary—the ICP should be revised to fit the changed risk profile.

1.2   Top-level management commitment to compliance

The top-level management should continuously and distinctly express their commitment to a culture of compliance in order to lead by example. Regularly communicating corporate commitment to compliance to all employees and defining expectations, both orally and in writing, is considered vital in order to encourage such a culture of compliance.[14] We further suggest such making sure this commitment—including the way it was expressed—is well-documented. Furthermore, any expressed commitment to compliance should be reviewed by counsel to ensure the statement itself does not cause regulatory concerns in light of applicable anti-boycott law. For example, a statement made by a German resident noting, “Our company fully complies with all U.S. sanctions,” is itself a breach of applicable law in Germany, specifically section 7 of the German Trade Ordinance.

1.3   Organization structure, responsibilities and resources

According to the EU guidelines, companies should create an internal organizational chart in order to define responsibilities and assign functions to various employees. It is also suggested that companies designate at least one person in control of the overall compliance commitment (in some EU Member States this person must be part of the top-level management)and at least one employee in charge of the dual-use trade control function.[15] The personnel overseeing compliance with dual-use regulations needs to be authorized to stop transactions and has to be guarded from potential conflicts of interest. Additionally, companies are advised to give these personnel access to relevant legislation, especially the latest lists of controlled goods and embargoed or sanctioned destinations and entities, and to gather all relevant compliance-related documents (policies and procedures) and assemble them in a “compliance manual.”

1.4   Training and awareness raising

Companies should also require periodic training (in the form of external seminars or in-house training events, etc.) to keep the control staff up-to-date with the dual-use regulations and the company’s ICP.[16] Training sessions may also include lessons learned from performance reviews. Moreover, as potential compliance issues are a concern at all relevant levels of a company, measures to raise awareness for such issues should be taken accordingly.

1.5   Transaction screening process and procedures

Establishing standardized transaction processes and procedures can help ensure compliance with relevant export law. This is best achieved by collecting and analysing all relevant information concerning item classification, transaction risk assessment, license determination and post-licensing controls.[17] Even if all necessary information is readily available, it remains challenging to verify a certain item classification from a legal perspective as the performance characteristics of an item need to be checked against the EU and national dual-use control lists. This classification regularly demands cooperation between different departments of a company, such as a cooperation between the competent technical department and the legal team.[18] Companies may also directly contact the competent authority and ask for assistance with the classification after providing a detailed technical description of the respective item. At the competent authorities, such mix of personnel is mirrored, e.g. the competent German authority, the Federal Office for Economic Affairs and Export Control (BAFA), employs both (legally trained) engineers / technicians and lawyers.

1.6   Transaction risk assessment

Companies also need to ascertain whether their counterparties (intermediaries, purchasers, consignees or end users) are subject to any embargoes or sanctions. The guidance of the EU Commission proposes acquiring end-use statements from customers, checking the reliability of end users with the national competent authority and to giving attention to diversion risk indicators. If information learned or acquired from the competent authority gives cause for concern, procedures must be in place to avert any export without the authority’s explicit permit.[19]

1.7   Licensing

The company should ensure that it has all relevant contact details of the competent control authority. Moreover, the exporter should be aware that exports via cloud services or personal baggage and other activities such as providing technical assistance and brokering are subject to dual-use control measures.[20]

1.8   Post-licensing controls

A final check should be conducted to make sure that all steps ensuring compliance were duly taken and that licenses have not been invalidated since their issuance due to changes of the details of the exporter, the intermediaries or the end users.[21] A procedure to stop or suspend the export—if necessary—should be implemented. Note that companies are still obligated to independently investigate the lawfulness of the transaction.[22]

1.9   Performance review, audits, reporting and corrective actions

According to the guidelines, it is essential to implement procedures that regularly analyse, test, evaluate, and revise the company’s ICP (e.g., in the form of targeted and documented audits).[23] Furthermore, specific reporting procedures should be in place in order to enable the company to take the required action when a case of noncompliance is suspected or has occurred. Employees must also feel secure to express concerns about noncompliance or the operational reliability of the ICP. Any suspected noncompliance should be documented. After taking effective corrective actions, the relevant personnel should be informed of those measures.

1.10   Record-keeping and documentation

The company should establish policies for legal document storage, record management and traceability of trade control-related activities.[24] This may be legally required in some cases, but it also generally renders the search for legal documents more effective. The relevant EU and national legal provisions for record-keeping (period of safekeeping, scope of documents, etc.) should be reviewed before establishing such a filing system. Additionally, it is suggested that the company keep track of past contacts with responsible authorities.

1.11   Physical and information security

Due to the generally high sensitivity of dual-use items, companies are requested to introduce procedures to prevent the unapproved access to and removal of controlled items. With regard to physical items, the establishment of restricted access areas, personnel access or exit controls or physically safeguarding the respective item should be considered. To assure the security of physically intangible technology, the guideline recommends, among other steps, that the company install antivirus programs, file encryption and firewalls[25].

2.   Outlook

Taking into account both the new EU guidance and the Framework for OFAC Compliance Commitments,[26] there is a clear trend visible from authorities to voice and detail their expectations on how companies should address sanctions and export control compliance. In turn, it can be expected that noncompliance with such expectations will increasingly be under enhanced regulatory scrutiny. ___________________    [1]   See: Press release of the Council of the EU: Turkey's illegal drilling activities in the Eastern Mediterranean: Council adopts framework for sanctions, available online at: https://www.consilium.europa.eu/en/press/press-releases/2019/11/11/turkey-s-illegal-drilling-activities-in-the-eastern-mediterranean-council-adopts-framework-for-sanctions/.    [2]   A. Smith, S. Connor and R. Roeder, U.S., EU, and UN Sanctions: Navigating the Divide for International Business, Bloomberg, 2019, ISBN 978-1-68267-281-5. The first chapter can be found online at: https://www.gibsondunn.com/wp-content/uploads/2019/11/Smith-Connor-Roeder-US-EU-and-UN-Sanctions-Navigating-the-Divide-for-International-Businesses-Bloomberg-Law-2019.pdf.    [3]   https://eur-lex.europa.eu/legal-content/EN/TXT/PDF/?uri=CELEX:32019H1318&from=EN – page 3/18.    [4]   E.g. for Germany, please see: Internal Compliance Programmes – ICP - Company-internal export control systems, available online at: www.bafa.de › Downloads › afk_merkblatt_icp_en.    [5]   https://www.bis.doc.gov/index.php/documents/pdfs/1641-ecp/file.    [6]   https://icp.acis.state.gov/.    [7]   https://eur-lex.europa.eu/legal-content/EN/TXT/PDF/?uri=CELEX:32019H1318&from=EN – page 1/18.    [8]   https://eur-lex.europa.eu/legal-content/EN/TXT/PDF/?uri=CELEX:32019H1318&from=EN – page 3/18.    [9]   Please note that the EU ICP guidance makes reference to the 2011 Wassenaar Arrangement Best Practice Guidelines on Internal Compliance Programmes for Dual-Use Goods and Technologies (available online at https://www.wassenaar.org/app/uploads/2015/06/2-Internal-Compliance-Programmes.pdf); the “Best Practice Guide for Industry” from the Nuclear Suppliers Group (NSG), click here; the ICP elements in the Commission Recommendation 2011/24/EU; the results from the fourth Wiesbaden Conference (2015) on “Private Sector Engagement in Strategic Trade Controls: Recommendations for Effective Approaches on United Nations Security Council Resolution 1540 (2004) Implementation”; and the 2017 United States Export Control and Related Border Security Program ICP Guide website (available online at http://icpguidelines.com/). [10]   https://eur-lex.europa.eu/legal-content/EN/TXT/PDF/?uri=CELEX:32019H1318&from=EN – page 3/18. [11]  Council Regulation (EC) 428/2009, regularly referred to as the EU Dual-Use Regulation, has set up an EU regime for the control of export, transit and brokering of dual-use items in order to contribute to international peace and security by precluding the proliferation of nuclear, chemical, or biological weapons and their means of delivery. To adapt to the rapidly changing technological, economic and political circumstances, the EU Commission presented a proposal in September 2016 to update and expand the existing rules that was supported by the European Parliament in its first report on the matter.  On June 5, 2019, the Council issued its own parameters for negotiations with the European Parliament seeking a more limited recast of the dual-use regulation.  Thereby the discussion mainly focuses on the classification of cyber surveillance technologies as dual-use goods and the possibility of a resulting discrimination of EU companies.  Considering the ongoing discussions, we do not expect the implementation to take place in the coming weeks.  The progress of the respective discussion can be viewed at : http://www.europarl.europa.eu/legislative-train/theme-europe-as-a-stronger-global-actor/file-review-of-dual-use-export-controls. [12]   https://eur-lex.europa.eu/legal-content/EN/TXT/PDF/?uri=CELEX:32019H1318&from=EN – page 3/18. [13]   https://eur-lex.europa.eu/legal-content/EN/TXT/PDF/?uri=CELEX:32019H1318&from=EN – page 4/18. [14]   https://eur-lex.europa.eu/legal-content/EN/TXT/PDF/?uri=CELEX:32019H1318&from=EN – pages 5/18 and 6/18. [15]   https://eur-lex.europa.eu/legal-content/EN/TXT/PDF/?uri=CELEX:32019H1318&from=EN – page 6/18. [16]   https://eur-lex.europa.eu/legal-content/EN/TXT/PDF/?uri=CELEX:32019H1318&from=EN – page 7/18. [17]   https://eur-lex.europa.eu/legal-content/EN/TXT/PDF/?uri=CELEX:32019H1318&from=EN – page 7/18. [18]   For best practices from a company perspective please see: Müller, Alexandra / Groba, Alexander in AW-Prax 2019 – page 300. [19]   https://eur-lex.europa.eu/legal-content/EN/TXT/PDF/?uri=CELEX:32019H1318&from=EN – page 9/18. [20]   https://eur-lex.europa.eu/legal-content/EN/TXT/PDF/?uri=CELEX:32019H1318&from=EN – page 10/18. [21]   https://eur-lex.europa.eu/legal-content/EN/TXT/PDF/?uri=CELEX:32019H1318&from=EN – page 10/18. [22]   Müller, Alexandra / Groba, Alexander in AW-Prax 2019 – page 303. [23]   https://eur-lex.europa.eu/legal-content/EN/TXT/PDF/?uri=CELEX:32019H1318&from=EN – page 10/18. [24]   https://eur-lex.europa.eu/legal-content/EN/TXT/PDF/?uri=CELEX:32019H1318&from=EN – page 11/18. [25]   https://eur-lex.europa.eu/legal-content/EN/TXT/PDF/?uri=CELEX:32019H1318&from=EN – page 12/18. [26]   https://www.treasury.gov/resource-center/sanctions/Documents/framework_ofac_cc.pdf.
The following Gibson Dunn lawyers assisted in preparing this client update: Judith Alison Lee, Patrick Doris, Michael Walther, R.L. Pratt and Richard Roeder. Gibson Dunn's lawyers are available to assist in addressing any questions you may have regarding the above developments.  Please contact the Gibson Dunn lawyer with whom you usually work, the authors, or any of the following leaders and members of the firm's International Trade practice group: United States: Judith Alison Lee - Co-Chair, International Trade Practice, Washington, D.C. (+1 202-887-3591, jalee@gibsondunn.com) Ronald Kirk - Co-Chair, International Trade Practice, Dallas (+1 214-698-3295, rkirk@gibsondunn.com) Jose W. Fernandez - New York (+1 212-351-2376, jfernandez@gibsondunn.com) Marcellus A. McRae - Los Angeles (+1 213-229-7675, mmcrae@gibsondunn.com) Adam M. Smith - Washington, D.C. (+1 202-887-3547, asmith@gibsondunn.com) Stephanie L. Connor - Washington, D.C. (+1 202-955-8586, sconnor@gibsondunn.com) Christopher T. Timura - Washington, D.C. (+1 202-887-3690, ctimura@gibsondunn.com) Ben K. Belair - Washington, D.C. (+1 202-887-3743, bbelair@gibsondunn.com) Courtney M. Brown - Washington, D.C. (+1 202-955-8685, cmbrown@gibsondunn.com) Laura R. Cole - Washington, D.C. (+1 202-887-3787, lcole@gibsondunn.com) R.L. Pratt - Washington, D.C. (+1 202-887-3785, rpratt@gibsondunn.com) Samantha Sewall - Washington, D.C. (+1 202-887-3509, ssewall@gibsondunn.com) Audi K. Syarief - Washington, D.C. (+1 202-955-8266, asyarief@gibsondunn.com) Scott R. Toussaint - Washington, D.C. (+1 202-887-3588, stoussaint@gibsondunn.com) Europe: Peter Alexiadis - Brussels (+32 2 554 72 00, palexiadis@gibsondunn.com) Nicolas Autet - Paris (+33 1 56 43 13 00, nautet@gibsondunn.com) Attila Borsos - Brussels (+32 2 554 72 10, aborsos@gibsondunn.com) Patrick Doris - London (+44 (0)207 071 4276, pdoris@gibsondunn.com) Sacha Harber-Kelly - London (+44 20 7071 4205, sharber-kelly@gibsondunn.com) Penny Madden - London (+44 (0)20 7071 4226, pmadden@gibsondunn.com) Steve Melrose - London (+44 (0)20 7071 4219, smelrose@gibsondunn.com) Benno Schwarz - Munich (+49 89 189 33 110, bschwarz@gibsondunn.com) Michael Walther - Munich (+49 89 189 33-180, mwalther@gibsondunn.com) Richard W. Roeder - Munich (+49 89 189 33-160, rroeder@gibsondunn.com) © 2019 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

November 26, 2019 |
U.S. Congress Passes The Hong Kong Human Rights and Democracy Act of 2019; Awaiting Presidential Signature

Click for PDF On November 21, 2019, amid mounting tensions between China and Hong Kong, the U.S. Congress passed the Hong Kong Human Rights and Democracy Act of 2019 (the “Bill”)[1] and sent it to the President for his signature.  The Bill, which aims to protect civil rights in Hong Kong and to deter human rights violations in the territory (including by punishing those who commit them), was passed by supermajorities in both houses of Congress—the House of Representatives approved the Bill by a 417-1 margin, while the Bill received unanimous support in the Senate.[2]  As of this writing, the President has not signed the legislation. On November 22, 2019, President Trump suggested that he might veto the Bill in order to prioritize a trade deal with China, despite the fact that the President’s ability to exercise such authority will be limited because the Bill passed both houses of Congress with rare veto-proof majorities.  Although the U.S. Congress has the power to create the law, the U.S. President has sole enforcement authority, and President Trump may still be able to express his displeasure with the Bill by narrowly interpreting the law’s provisions.  We would expect that the President could announce his desire to narrowly interpret the law in a signing statement made simultaneous with his signing of the Bill. The Bill has received widespread support from the Hong Kong protestors, whose activities over the past several months have often included calls on Washington to show its support for their movement. On the other hand, the Bill has been met with strong opposition in Hong Kong and China due to concerns that the legislation could disrupt economic stability in Hong Kong, as well as worsen the existing trade relationship between Hong Kong and the United States.[3] In Hong Kong, Chief Executive Carrie Lam has said that foreign interference in Hong Kong’s internal affairs is “totally unacceptable” and that any sanctions imposed by Washington would only serve to complicate matters further.[4] Beijing has also characterized the Bill as an interference in China’s domestic affairs and has threatened to take “strong countermeasures” against the United States if the Bill is implemented.[5] Overview of the Hong Kong Human Rights and Democracy Act 2019 If enacted, the Bill would amend the United States-Hong Kong Policy Act of 1992 (the “1992 HK Act”), the primary legislation that governs the United States’ relationship with Hong Kong. The 1992 HK Act statute allows Hong Kong to be treated separately from mainland China on various economic matters such as trade. An earlier version of the Bill had been introduced in 2014 in response to the “Umbrella Revolution” that took place in Hong Kong that year;[6] and an updated version was again introduced in 2017. However, the Bill only gained legislative traction this year as violence in Hong Kong escalated. The protests, which have spanned more than 22 weeks, originally began in June. They were spurred by a now-withdrawn bill that would have allowed extraditions from Hong Kong to mainland China, among other jurisdictions, a move that many Hong Kongers viewed as an attempt to circumvent the “one country, two systems” rule and erode human rights in the territory.[7] The protests have since grown into a bigger movement, including broader demands for democracy, such as universal suffrage and the ability for Hong Kongers to elect its own leaders, as set out under the Basic Law of the Hong Kong Special Administrative Region (the “Basic Law”).[8] Other demands that the protestors have made also include calls to establish an independent commission of inquiry to look into alleged police brutality against protestors. The Bill, if signed into law, will increase the United States’ scrutiny over the situation in Hong Kong. According to the Bill, the objective of the legislation is to “reaffirm the principles and objectives set forth in the [1992 HK Act]”.[9] The Bill also calls for Hong Kong to remain “sufficiently autonomous from the People’s Republic of China to ‘justify treatment under a particular law of the United States, or any provision thereof, different from that accorded to the People’s Republic of China.’”[10] Similar to the 1992 HK Act, the Bill requires an annual assessment of Hong Kong’s autonomy to determine whether it should continue to be treated differently from mainland China. Additionally, the Bill introduces the potential imposition of U.S. sanctions in response to human rights violations in Hong Kong. The following is a summary of the key provisions of the Bill: Annual Certification of Hong Kong Under the provisions of the Bill, on an annual basis the U.S. Secretary of State will be required to report to the Congress the U.S. Government’s view as to whether Hong Kong retains sufficient autonomy to merit its continued enjoyment of economic treatment by the United States distinct from (and in almost all cases more favorable than) the treatment provided to the mainland.[11] Furthermore, the report must include “an assessment of the degree of any erosions to Hong Kong’s autonomy” that have an impact on a number of matters such as commercial agreements, sanctions enforcement, export controls, and any other agreements and forms of exchange involving dual-use, critical, or other sensitive technologies as a result of any action taken by the Chinese government that is inconsistent with its commitments under the Basic Law or the Sino-British Joint Declaration of 1984.[12] Importantly, under the Bill a positive assessment that allows the continued differentiated treatment between Hong Kong and mainland China does not require that Beijing allow for further democratization in Hong Kong. Annual Report on Violations of U.S. Export Control Laws and UN Sanctions in Hong Kong The Bill also requires the U.S. Secretaries of the Treasury and State to submit a separate joint report to Congress that includes:

  1. an assessment of the nature and extent of violations of U.S. export control and sanctions laws occurring in Hong Kong;
  2. an identification of items reexported from Hong Kong in violation of U.S. export control and sanctions laws, including the countries and persons to which the items were reexported to, and how such items were used;
  3. an assessment of whether sensitive dual-use items subject to U.S. export control laws are being transhipped through Hong Kong and used to develop mass surveillance programs in China;
  4. an assessment of whether China has been using Hong Kong’s status as a separate customs territory to import goods into China from Hong Kong in contravention of U.S. export control laws through certain schemes or programs that may exploit Hong Kong as a conduit for controlled sensitive technology;
  5. an assessment of whether Hong Kong has adequately enforced sanctions imposed by the United Nations (“UN”);
  6. a description of the types of goods and services transhipped or reexported through Hong Kong in violation of UN sanctions to North Korea, Iran, or other high risk jurisdictions or entities; and
  7. an assessment of whether any shortcomings in Hong Kong’s enforcement of sanctions and export controls necessitates the assignment of additional personnel to the U.S. Consulate of Hong Kong.[13]
Promulgation of U.S. Sanctions in Response to Human Rights Violations in Hong Kong The Bill empowers the President to impose sanctions on individuals deemed responsible for “the extrajudicial rendition, arbitrary detention, or torture of any person in Hong Kong” or “other gross violations of internationally recognized human rights in Hong Kong.”[14] The potential sanctions that could be imposed are varied, and could include asset blocking which would effectively blacklist any identified party from participating in transactions with U.S. persons. This would be akin to adding such a party to the U.S. Specially Designated Persons and Blocked Persons List (the “SDN List”), freezing any property owned by such a party in the United States, and prohibiting any transactions involving such a party that has a U.S. nexus.[15] This would also greatly limit the designated party’s ability to engage in U.S. Dollar trade (which almost always requires clearing through a bank under U.S. jurisdiction). Other types of sanctions that could be imposed include the revocation or denial of U.S. visas currently issued or to be issued to identified individuals.[16] On the other hand, the Bill provides that visa applications from Hong Kong applicants will not be denied on the basis of “politically motivated arrest, detention, or other adverse government action.”[17] Implications of the Hong Kong Human Rights and Democracy Act 2019 Potential Impact on Hong Kong Companies Under the 1992 HK Act, Hong Kong’s distinct trading status from China has meant that it enjoys protection from punitive tariffs that the United States has imposed on China, including the tariffs that are currently in force as a result of continuing U.S.-China trade disagreements. If the Bill becomes law and Hong Kong’s protected status is eroded or removed, the impact could be significant for both Hong Kong and U.S. companies. As discussed, the Bill requires the U.S. Secretary of State to assess and certify on an annual basis, whether Hong Kong should continue to enjoy its special trade benefits vis-à-vis the United States. An adverse assessment could potentially threaten this status. Hong Kong is currently the United States’ 21st largest trading partner, with goods and services trade with Hong Kong amounting to nearly $70 billion in 2018.[18] Any limitations on trade imposed on Hong Kong could also threaten its reputation as a global financial hub – which has relied, at least in part, on its preferential trading relationship with counterparties including the United States. More than 1,300 U.S. firms currently operate in Hong Kong, and nearly every major U.S. financial firm maintains a presence in the territory, with billions of dollars of assets under management.[19] Hong Kong also risks losing ready access to U.S. technologies that are more tightly controlled when exported to China as the Bill could result in the United States imposing the same export controls on Hong Kong as it places on China. Potential Impact on U.S. Companies The impact of the Bill on the United States could be broader than trade-related losses with respect to Hong Kong. The Bill could stall trade talks between the United States and China and derail plans between the two nations to complete a “phase one” trade deal that had been announced earlier in November.[20] Even more significantly, the Bill may invite China to impose its long-threatened countersanctions against U.S. companies. Following its recent favourable World Trade Organization decision against the United States, China may find justification to impose $3.6 billion in tariffs against the United States.[21] The Bill could spur China to place additional sanctions on key U.S. imports such as aircraft, services, and wider manufacturing. Earlier in June 2019, aerospace manufacturer Boeing was reportedly in talks with Chinese air carriers for a potential $30 billion deal for the sale of wide-body aircraft, which would be one of the largest orders ever placed.[22] The deal has been threatened by the ongoing trade war, and may be subject to further delay or even cancellation if the Bill becomes law and dealings with U.S. firms become more sensitive for major Chinese entities.[23] Perhaps most aggressively, China could go as far as to proscribe some U.S. companies from doing business in China – effectively placing U.S. firms on a Chinese blacklist. Beijing has threatened such a response in the past but has yet to fully enact such a consequence. China announced the beginnings of such a list earlier in 2019 in response to the U.S. restrictions placed on Huawei Technologies Co.[24] At that time, China announced plans to establish an “unreliable entity” list that targets foreign companies or persons who China deems as severely damaging the legitimate interests of Chinese companies by, amongst others, blocking or cutting off supply chains for “non-commercial reasons.”[25] _________________________ [1]   Summary of 116thCongress (2019-2020) (Nov. 21, 2019), https://www.congress.gov/bill/116th-congress/senate-bill/1838/summary/55 [2]   See Jacob Pramuk, Congress passes Hong Kong rights bill as Trump tries to strike China trade deal, CNBC (Nov. 20, 2019), https://www.cnbc.com/2019/11/20/house-passes-hong-kong-rights-bill-amid-trump-china-trade-talks.html [3]   See Tobias Hoonhout, China Calls Senate’s Passing of Hong Kong Human Rights and Democracy Act ‘Very Disappointing’, National Review (Nov. 20, 2019), https://www.nationalreview.com/news/china-calls-senates-passing-of-hong-kong-human-rights-and-democracy-act-very-disappointing/ [4]   See Iain Marlow and Daniel Flatley, What the U.S. Congress Is and Isn’t Doing About Hong Kong, Washington Post (Nov. 18, 2019), https://www.washingtonpost.com/business/what-the-us-congress-is-and-isnt-doing-about-hong-kong/2019/11/18/d51ab226-0a19-11ea-8054-289aef6e38a3_story.html [5]   See China warns U.S. of “strong countermeasures” to looming legislation on Hong Kong, CBS News (Nov. 21, 2019), https://www.cbsnews.com/news/china-hong-kong-human-rights-and-democracy-act-2019-strong-countermeasures-beijing-today-2019-11-21/ [6]   Hong Kong Human Rights and Democracy Act, S. 2922 [7]   See Senate Passes Bill Supporting Human Rights in Hong Kong as Protests Show No Sign of Abating, Associated Press (Nov. 20, 2019), https://time.com/5733673/senate-human-rights-democracy-act-hong-kong/ [8]   See Hong Kong’s Protests Explained, Amnesty International (undated), https://www.amnesty.org/en/latest/news/2019/09/hong-kong-protests-explained/ [9]   Section 3 of the Hong Kong Human Rights and Democracy Act of 2019, S. 1838 [10]   Id. [11]   Id at Section 4 [12]   Id. [13]   Id at Section 5. [14]   Id at Section 7. [15]   Id. [16]   Id. [17]   Id at Section 4. [18]   Office of the United States Trade Representative Hong Kong Report. [19]   United States Department of State 2019 Hong Kong Policy Act Report. [20]   See US and China ‘getting close’ to trade deal, White House economic advisor Kudlow says, CNBC (Nov. 15, 2019), https://www.cnbc.com/2019/11/15/us-china-getting-close-to-trade-deal-white-house-advisor-kudlow.html [21]   See Robert Delaney, China wins WTO case to sanction US$3.6 billion in US products following anti-dumping dispute, South China Morning Post (Nov. 2, 2019), https://www.scmp.com/news/china/article/3036010/china-wins-wto-case-sanction-us36-billion-us-trade [22]   See Boeing and Chinese airlines in talks for US$30 billion mega-deal that trade war could derail, South China Morning Post (Jun. 6, 2019), https://www.scmp.com/news/china/article/3013289/boeing-and-chinese-airlines-talks-us30-billion-mega-deal-trade-war-could [23]   See Explainer: U.S.-China trade war – the levers they can pull, Reuters (Jun. 6, 2019), https://www.reuters.com/article/us-usa-trade-china-levers-explainer/explainer-u-s-china-trade-war-the-levers-they-can-pull-idUSKCN1T62KY [24]   Gibson Dunn Client Alert (May 20, 2019), Citing a National Emergency, the Trump Administration Moves to Secure U.S. Information and Communications Technology and Service Infrastructurehttps://www.gibsondunn.com/?search=news&article-type=publications&s=huawei&year=&practice%5B%5D=1680 [25]   See What We Know About China’s ‘Unreliable Entities’ Blacklist, Bloomberg News (Jun. 4, 2019), https://www.bloomberg.com/news/articles/2019-06-04/understanding-china-s-unreliable-entities-blacklist-quicktake
The following Gibson Dunn lawyers assisted in preparing this client update: Adam Smith, Grace Chow, Stephanie Connor, Chris Timura, Judith Alison Lee, David Lee, Brian Schwarzwalder, Scott Jalowayski, Kelly Austin, John Fadely, Fang Xue, Paul Boltz, and Yi Zhang. Gibson Dunn's lawyers are available to assist in addressing any questions you may have regarding the above developments.  Please contact the Gibson Dunn lawyer with whom you usually work, any member of the firm's International Trade practice group, or the authors: United States: Judith Alison Lee - Co-Chair, International Trade Practice, Washington, D.C. (+1 202-887-3591, jalee@gibsondunn.com) Adam M. Smith - Washington, D.C. (+1 202-887-3547, asmith@gibsondunn.com) David C. Lee - Orange County, CA (+1 949-451-3842, dlee@gibsondunn.com) Christopher T. Timura - Washington, D.C. (+1 202-887-3690, ctimura@gibsondunn.com) Stephanie L. Connor - Washington, D.C. (+1 202-955-8586, sconnor@gibsondunn.com) Asia: Kelly Austin - Hong Kong (+852 2214 3788, kaustin@gibsondunn.com) Paul Boltz - Hong Kong (+852 2214 3723, pboltz@gibsondunn.com) Grace Chow - Singapore (+65 6507 3632, gchow@gibsondunn.com) John Fadely - Hong Kong (+852 2214 3810, jfadely@gibsondunn.com) Scott Jalowayski - Hong Kong (+852 2214 3727, sjalowayski@gibsondunn.com) Brian Schwarzwalder - Hong Kong (+852 2214 3712, bschwarzwalder@gibsondunn.com) Fang Xue - Beijing (+86 10 6502 8687, fxue@gibsondunn.com) Yi Zhang - Hong Kong (+852 2214 3988, yzhang@gibsondunn.com) © 2019 Gibson, Dunn & Crutcher LLP Attorney Advertising:  The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.

November 15, 2019 |
U.S., EU, and UN Sanctions: Navigating the Divide for International Business

Washington, D.C. partner Adam Smith and of counsel Stephanie Connor and Munich associate Richard Roeder are the authors of U.S., EU, and UN Sanctions: Navigating the Divide for International Business, published by Bloomberg Law in 2019. The first chapter “Introduction – The Golden Age of Sanctions” can be viewed here.