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This article is taken from the July/August 2021 Double Issue of Documentary Credit World
Author: Dr. Karl Marxen 1
In 2018, the US fully reinstated its sanctions regime against the Iranian government and selected Iranian entities. Because of the extra-territorial application of these sanctions, natural and commercial parties around the world need to be aware of US sanctions in order to avoid fines, the freezing of their US-based assets, and other legal repercussions – even being targeted by sanctions themselves. Because many international commercial entities hold assets in the US and are thus “within reach” of US law enforcement agencies, most companies are careful to comply with US sanctions. This means that they screen their business partners and customers for sanctioned parties, monitor their transactions for sanctioned goods or services, and retain a comprehensive compliance program. The US government’s approach is an effective one because it leverages the importance of its banks and the US financial system, its currency, and the large US economic market. International payments are frequently processed by US banks, international contracts for goods or services often stipulate for payment in US-Dollars, and a market comprising more than 300 million potential customers is too tempting to be ignored. That is why many companies around the world cannot afford to avoid the US market categorically.
Incongruent and Non-Aligned Sanctions
It is important to note, however, that US sanctions – especially their scope and particular targets – are not necessarily aligned with international sanctions imposed by other countries or supranational entities such as the European Union. In many cases, US sanctions punish certain entities or industries from regions or countries, while sanctions enforced by other sovereignties or organizations do not. This leaves companies operating internationally a theoretical choice. Many companies observe US sanctions as a matter of prudence and precaution, so that they do not run a risk of legal action (fines, freezing of assets, imprisonment) initiated by US authorities.
The Dilemma - To Comply or Not to Comply?
Individuals and companies based in the European Union, however, face additional problems. In 1996, the European Union enacted a Council Regulation2 to help in “protecting against the effects of the extra-territorial application of legislation adopted by a third country, and actions based thereon or resulting therefrom”. The regulation is typically referred to as the “EU blocking statute”. This regulation, as amended in 20183, prohibits compliance with certain sanctions policies imposed by countries outside the European Union. The acts or regulations to be disregarded are contained in an annex to the EU blocking statute. Currently, the annex contains only international sanctions enacted by the US against Cuba and Iran. Natural persons and companies within the European Union are required to ignore these specified sanctions with extra-territorial application, such as the “Cuban Liberty and Democratic Solidarity Act of 1996”, the “Iran Sanctions Act of 1996”, and the “Iran Freedom and Counter-Proliferation Act of 2012”. The fact that other extra-territorial US sanctions are not included in the annex should not be interpreted to convey the EU’s tacit agreement with all other US sanctions. It rather shows that for now the attention of the European Union is focused on undermining certain US sanctions aimed solely at Cuba and Iran – but a simple revision of the annex could expand the ambit of the EU blocking statute.
EU Blocking Statute excerpts:
EU blocking statute, Article 1: “This Regulation provides protection against and counteracts the effects of the extra-territorial application of the laws specified in the Annex of this Regulation, including regulations and other legislative instruments, and of actions based thereon or resulting therefrom, where such application affects the interests of persons, referred to in Article 11, engaging in international trade and/or the movement of capital and related commercial activities between the Community and third countries.”
EU blocking statute, Article 4: “No judgment of a court or tribunal and no decision of an administrative authority located outside the Community giving effect, directly or indirectly, to the laws specified in the Annex or to actions based thereon or resulting there from, shall be recognized or be enforceable in any manner.”
EU blocking statute, Article 5: “No person referred to in Article 11 shall comply, whether directly or through a subsidiary or other intermediary person, actively or by deliberate omission, with any requirement or prohibition, including requests of foreign courts, based on or resulting, directly or indirectly, from the laws specified in the Annex or from actions based thereon or resulting therefrom.
Persons may be authorized, in accordance with the procedures provided in Articles 7 and 8, to comply fully or partially to the extent that non-compliance would seriously damage their interests or those of the Community. […].”
EU blocking statute, Article 9: “Each Member State shall determine the sanctions to be imposed in the event of breach of any relevant provisions of this Regulation. Such sanctions must be effective, proportional and dissuasive.”
EU blocking statute, Article 11: “This Regulation shall apply to:
- any natural person being a resident in the Community and a national of a Member State,
- any legal person incorporated within the Community…”
Natural persons residing in the European Union, or companies incorporated in Europe, are in a precarious position. If they follow US sanctions and, for example, terminate their commercial relations with certain Iranian entities to conform with US sanctions’ requirements, they are then potentially liable to “effective, proportional and dissuasive” measures by European member states (EU blocking statute, Art. 9). Conversely, if they decide to comply with the EU blocking statute instead and thus disregard certain US sanctions, they can expect legal action by US law enforcement agencies, such fines, freezing of assets and even imprisonment.
Between a Rock and a Hard Place
The practical difficulties are illustrated well in a recent German case decided by courts in Hamburg. An Iranian bank, Bank Melli, maintains a branch in Hamburg and provides trade finance and corresponding banking services to parties active in commercial transactions between European countries and Iran. The bank’s telecommunications service provider in Germany is Deutsche Telekom, the largest telecommunications provider in Europe. Among Telekom’s affiliates and subsidiaries are, inter alia, T-Mobile US, as well as T-Systems North America, through which Telekom maintains a considerable US presence. In 2018, the US government declared its withdrawal from the Joint Comprehensive Plan of Action (JCPOA), according to which certain sanctions against Iran and Iranian entities had been suspended temporarily. With the withdrawal, these US sanctions came into force again on 5 November 2018. The US sanctions also applied to Bank Melli and its branch in Hamburg. As a result, the SWIFT network suspended the bank’s membership and cut off the branch from its network servers.
On 16 November 2018, Telekom gave notice of its decision to terminate the telecommunications services contracts with Bank Melli’s branch in Hamburg with immediate effect. Bank Melli applied for an interim injunction, either preventing Telekom from terminating the telecommunications services, or ordering it to reinstate telecommunications services, as the case may be. The injunction was granted on a temporary basis by Landgericht Hamburg, the court of first instance in the case.4
Telekom was ordered to maintain its services until the regular notice periods run off. Under German law, long-term and open-ended contracts, such as most telecommunications contracts, may only be terminated with immediate effect if extraordinary circumstances existed, which would result in undue hardship if the contractual relationship is not ended immediately. If extraordinary circumstances are not present, the contract can only be terminated by giving sufficient notice in advance. Telekom did not refer to US sanctions in its notice of termination. Instead, Telekom argued that Bank Melli’s suspension from the SWIFT network indicated an impending financial decline of the bank and, resulting from that, the bank’s likely inability to pay Telekom for its services in the near future. According to Telekom, this would justify immediate termination without giving notice in advance. The court rejected that argument because the bank, so far, had always paid its telecommunications bills on time. Also, suspension from the SWIFT network would have no impact on the bank’s regular payments to Telekom. Without access to the SWIFT network, the bank’s own accounts would still be accessible and operational, meaning the bank would remain in a position to pay its telephone bills. The bank also submitted proof of sufficient funds deposited at the federal bank of Germany. Therefore, Telekom was ordered to keep the bank’s telephone and internet connections open and maintain services until the regular end date of the telecommunications contracts.
The Appeal at Oberlandesgericht Hamburg
After Bank Melli prevailed at the Landgericht Hamburg and obtained the interim injunction, Telekom appealed the decision. During the appeal, the appellate court (Oberlandesgericht Hamburg) took two important steps. First, it issued a judicial notice5(so-called Hinweisbeschluss) to the parties and indicated its provisional tendency to side with Bank Melli. The court rejected the argument that maintaining the contractual relationship with the bank would cause extraordinary hardship to Telekom. No serious reputational damage would be suffered in the US, due to the insignificant size of the business dealings with Bank Melli in Hamburg. The court also clarified that Telekom would be breaching the EU blocking statute if it would terminate the contracts with the bank due to pressure by US law enforcement agencies.
Preliminary Ruling Requested
Secondly, the appellate court requested6 a preliminary ruling from the Court of Justice of the European Union in Luxembourg on the interpretation and application of the first paragraph of Article 5 of the EU blocking statute. This was deemed necessary by the German judges, because in addition to its termination with immediate effect due to extraordinary circumstances, Telekom also exercised its general right to terminate the contract with full notice in advance without stating reasons. Therefore, the Court of Justice of the European Union was asked to rule, inter alia, on the following questions regarding the EU blocking statute: Does application of Article 5 require direct measures by US law enforcement against the party wishing to terminate a contract, or would any (voluntary) compliances with US sanctions by said party be sufficient to fall under Article 5? Would Article 5 override provisions of German domestic law that allow for termination with sufficient notice but without stating a reason for termination? And if Article 5 indeed overrides such provisions of German domestic law, is the termination notice automatically invalid or could a monetary fine against the party breaching the EU blocking statute be sufficient instead?
By posing these (and other additional) legal questions, the German judges sought guidance from the Court of Justice of the European Union to ensure a harmonized application of European and German domestic law. While the response from the judges in Luxembourg is pending, one of the influential Advocate Generals of the Court of Justice, Gerard Hogan, has issued his official opinion regarding the questions.7 Since the advice of Advocate Generals is often followed by the judges in Luxembourg, it carries significant weight. In Hogan’s opinion, Article 5 may apply whether or not US law enforcement agencies have exerted direct measures against the party wishing to terminate the contract. Furthermore, domestic law, in this case German law, will be overridden by Article 5. This means that the party wishing to terminate the contract, that is Telekom in the present case, “must demonstrate to the satisfaction of the referring court that it did not do so by reason of its desire to comply with those sanctions”.8Also, in cases of a breach of Article 5, that is termination of contract in order to comply with US sanctions, his opinion suggests that termination of the contract “should be regarded as invalid and ineffective, with the consequence that national courts are obliged to treat the contractual relationship as having continued on the same commercial terms as those previously existing.”9
De-Risking Can be Risky
If the Court of Justice of the European Union follows the Advocate General’s opinion, the EU blocking statute will gain strength through rigorous application by the European member states and their respective courts. In turn, natural persons and companies with a presence in Europe and the US will continue to find themselves in awkward positions. Often, their measures to satisfy US sanctions will violate European law, and vice versa. Telekom’s de-risking attempt, that is to terminate immediately its commercial relationship with a sanctioned Iranian entity, may have appeased US law enforcement agencies but infringed on European and German domestic law.
Interestingly, litigation between Bank Melli and Telekom eventually came to an end without a final judgment from the appellate court (Oberlandesgericht Hamburg). In the wake of the judicial notice by Oberlandesgericht Hamburg, Telekom simply decided to withdraw its appeal and thus made the injunction by Landgericht Hamburg, the court of first instance, legally binding.
The Road Ahead
As the preliminary ruling from the European Court is still pending, it is important for entities engaged in international banking and commerce to monitor legal developments closely to make informed decisions regarding their transactions. At the moment, even courts in Germany are not in agreement regarding application of the EU blocking statute. While the above approach by Oberlandesgericht Hamburg suggests support for a far-reaching application of the EU blocking statute, other courts such as the Oberlandesgericht Cologne10 in a similar case favored the telecommunications provider and allowed termination of its services with parties that have ties to sanctioned Iranian entities. Furthermore, with China having announced legislative measures11 in January 2021 that are similar to the EU blocking statute, it seems blocking statutes and their application will increasingly impact international commercial transactions.
Conferences and Events
For nearly a decade now IIBLP has held global conferences on matters relating to risk and compliance matters in banking and trade. Covering both the financial crime side as well as organizational compliance, these events are a must for compliance officers in banks, as well as corporates in FinTech or RegTech with an active interest in trade, AML, TBML, sanctions, and beyond. Visit shop.iiblp.org/events to see upcoming Annual Trade Finance Compliance Conferences in your region.
Trade Based Financial Crime Compliance, the book.
Taking a comprehensive approach, this book approaches trade based financial crime from the ground up: establishing the fundamentals of trade, and working up to the various types of trade based crime, including practical solutions to navigating the tricky compliance landscape for compliance staff, bank managers, and practitioners. Used as the source material for the aforementioned CTFC course, as well as for much of the information provided in this blog post, Trade Based Financial Crime Compliance is currently the most comprehensive written resource available on the topic. To learn more about this title and to purchase, click here.
The Certificate in Trade Finance Compliance (CTFC)
Recently, the London Institute of Banking & Finance (the organization responsible for the CDCS, CITF, and CDSG trade finance certifications) unveiled its new Certificate in Trade Finance Compliance, or CTFC. Geared toward Trade Finance Operations Staff, Relationship Managers, Bank Audit and Compliance Staff, and Risk Managers, this professional certification program covers key areas in trade based financial crime, including:
- Anti Money Laundering
- Countering Terrorism Financing
- Sanctions & Anti Boycott Provisions
- Weapons of Mass Destruction
- Bribery & Corruption
- Commercial Fraud
Wolfsberg Trade Finance Principles
Published in cooperation between the Wolfsberg Group, the ICC, and BAFT, this 66 page document provides useful guidance for compliance in trade transactions. This free resource is helpful in promoting standardization in trade finance compliance.
Trade compliance matters are regularly covered by the IIBLP blog, as well as Documentary Credit World. Non-subscribers always get a trial issue. See previous blog posts on the BAFT Anti Money Laundering Paper, Back to Back LCs and Money Laundering, and the Wolfsberg Paper. We have a brief introduction to Trade Based Money Laundering, and more recently a more sweeping overview of TBML by Tat Yeen Yap.
- Dr. Karl Marxen, LLD (Johannesburg) LLM (Stellenbosch) is a Research Associate at the Faculty of Law, University of Johannesburg, and former Director of Research at IIBLP.
- Council Regulation (EC) No 2271/96 of 22 November 1996.
- Commission Delegated Regulation (EU) 2018/1100 of 6 June 2018.
- LG Hamburg, 28.11.2018, ref.: 319 O 265/18.
- OLG Hamburg, 06.06.2019, ref.: 11 U 257/18.
- https://curia.europa.eu/juris/showPdf.jsf?text=&docid=225701&pageIndex=0&doclang=EN&mode=lst&dir=&occ=first&part=1&cid=14824233 [last accessed 03 August 2021].
- https://eur-lex.europa.eu/legal-content/en/TXT/?uri=CELEX:62020CC0124 [last accessed 03 August 2021].
- Advocate General’s opinion, paragraph 89.
- Advocate General’s opinion, paragraph 111.
- OLG Cologne, 07.02.2020, ref: I-19 U 118/19, 19 U 118/19.
- Order No. 1 of 2021 on Rules on Counteracting Unjustified Extra-Territorial Application of Foreign Legislation and Other Measures by the Ministry of Commerce of the People’s Republic of China.