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Sanctions Compliance11 November 2020

This is the last of a seven-part series on the application of US sanctions to the shipping community.

This article will focus on best practices for compliance with US sanctions. In doing so, this article relates back to the previous six articles in the series, which generally focussed on substantive US sanctions law, but did not address how to comply with it. The article also builds on our analysis of the sanctions Maritime Advisory released in May, which addresses many of the same compliance concerns.

"While a good sanctions compliance policy should be tailored to meet the actual operations of the company in question, the OFAC framework is a great place to start."

Sanctions Compliance: Background

Sanctions compliance has always been important to the maritime community, given that shipping involves trade with multiple different countries and parties. Historically however, many non-US shipping companies paid little attention to sanctions compliance, on the grounds that as non-US persons, they were not generally bound by US sanctions. While at one time this may have been true, over the past decade, it has become clear that US sanctions compliance is crucial to the worldwide shipping community. As described in earlier briefings, the US “maximum pressure” campaign against Iran and Venezuela led to multiple non-US parties being subject to secondary sanctions for trading with those countries, with disruptive effects worldwide. In addition, non-US persons can be subject to significant fines for sanctions violations that involve a US nexus, which may be as simple as using US dollars (which are cleared through US financial systems). As a result, sanctions compliance should be an utmost priority to all participants in the international shipping community.

Sanctions Compliance Policy

The first step in sanctions compliance is to adopt and maintain a robust sanctions compliance policy. There are two principal reasons to have a sanctions compliance policy:

  1. It helps individuals within the organization to comply with sanctions; and
  2. In the event of an accidental sanctions violation, maintaining and following a sanctions compliance policy is a significant mitigating factor for OFAC and other sanctions authorities to reduce penalties.

In 2019, OFAC published a framework for a sanctions compliance policy.¹ While a good sanctions compliance policy should be tailored to meet the actual operations of the company in question, the OFAC framework is a great place to start.

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"Shipping companies often operate through special purpose entities organized in offshore jurisdictions, with no record of beneficial ownership. A seach of such a company’s name may yield no results, but if it is owned by an SDN, it will still be treated as an SDN."

Counterparty Diligence

The first step in sanctions compliance is counterparty diligence, so as to identify whether your counterparty is sanctioned. Counterparty diligence overlaps heavily with other “know your customer” (KYC) diligence, including any anti-money laundering (AML) requirements.

At the most basic level, OFAC operates a website that can be searched for the name of any counterparty.² Commercially available subscription services can also run a more detailed search. However, merely searching the website (or even a for-pay service) for a counterparty’s name is not necessarily sufficient. For one thing, under the “50%” rule, an entity that is owned 50% or more by one or more Specially Designated Nationals (SDNs) is itself treated as an SDN. Shipping companies often operate through special purpose entities organized in offshore jurisdictions, with no record of beneficial ownership. A seach of such a company’s name may yield no results, but if it is owned by an SDN, it will still be treated as an SDN. There is also a risk of a conduit or “strawman,” where the “true” counterparty is not the listed entity but the sanctioned entity that stands behind it. As a result, it is important to ascertain the true identity of the counterparty, not just nominal ownership. Finally, OFAC guidance has made clear that transactions with sanctioned officers and directors may result in a violation even if the company itself is not an SDN.³ Therefore, officers, directors and similar parties should be subject to KYC diligence.

Even if it has been established that the counterparty itself (including its officers and directors) is not sanctioned, it would still be prudent to learn more about the counterparty in order to ascertain whether the counterparty is likely to be in violation of sanctions. This is sometimes referred to as “know your customer’s customer” (KYCC). By necessity, this is a more subjective determination than simply learning the counterparty’s identity. The counterparty may have engaged in activities that raise some red flags, but management may decide, after analyzing the risk, that such activities do not rise to the level that would require rejection of the transaction. The appropriate level of KYCC should be described in the sanctions compliance policy.

Two issues identified in the Maritime Advisory referenced above raise particular compliance challenges: AIS transponders and ship-to-ship (STS) transfers.

"Having good contractual language does two things: it minimizes the likelihood of a violation, and it demonstrates a good-faith attempt to comply, which is a mitigating factor if there is a violation."

AIS Transponders

Ships are generally required by International Maritime Organization (IMO) rules to use Automatic Identification System (AIS) transponders to transmit their location at all times. OFAC has identified a failure to transmit as a red flag for sanctions evasion, based on the fact that multiple ships that allegedly traded to Iran in violation of secondary sanctions apparently turned off their transponders to facilitate the illicit trade. However, there may be instances in which a transponder fails to transmit for technical reasons. In addition, there may be legitimate reasons for parties to turn off their transponders (e.g., where piracy is a concern). Therefore, not all instances of transponders failing to transmit should be treated as a per se violation. Rather, parties should decide what characteristics of AIS failures should and should not raise red flags.

STS Transfers

STS transfers of oil and other tanker cargo are a legimitate practice used by tankers worldwide. However, OFAC has determined that STS transfers can be used to disguise the origin or destination of illicit cargo. When engaging in STS transfers, it is important to do diligence on the counterparty ship to minimize the risk that the ship has engaged or will engage in any trading in violation of sanctions. As with AIS transponders, there is often uncertainty regarding the level of diligence that is appropriate. This should be dealt with in the sanctions compliance policy.

Contractual Language

Participants in the shipping community should ensure that their charterparties, loan agreements and other relevant contracts have robust sanctions clauses. Ideally, the contract should provide that the relevant party should not violate sanctions (or take actions that result in a risk of a sanctions violation to any party), and should permit a party to terminate the agreement if there is a sanctions violation, or if the other party is sanctioned. As with compliance generally, having good contractual language does two things: it minimizes the likelihood of a violation, and it demonstrates a good-faith attempt to comply, which is a mitigating factor if there is a violation.

"It is important for a company to be able to show the relevant authorities or other parties not just that it has adopted a compliance policy, but that it has actually followed the policy and done the work of compliance."

Records and Auditing

One of the most important, and most overlooked, aspects of compliance is recordkeeping. It is important for a company to be able to show the relevant authorities or other parties not just that it has adopted a compliance policy, but that it has actually followed the policy and done the work of compliance. Otherwise, if there is a violation, the mitigating effects of the compliance policy will be vitiated. It is therefore important that the company keep accessible records (whether in electronic or physical form) showing its diligence, searches and other activities undertaken to comply with sanctions. In general, records should be kept for at least five years (which is the standard statute of limitations for a sanctions violation). In addition, it is useful for a company to test or audit its sanctions compliance program, whether by means of internal checks or a more formal third-party audit, to confirm that the individuals tasked with enforcing compliance are in fact doing so.

Conclusion

Given the importance of US sanctions, it is crucial for all participants in the maritime community, including shipowners, charterers, technical and commercial managers, brokers, crewing companies, lenders and insurance companies, to adopt, maintain and follow a robust sanctions compliance policy, and to include appropriate sanctions language in relevant contracts.

If you have any questions about sanctions compliance as relates to you, please contact me or other qualified US sanctions counsel.

[1] https://home.treasury.gov/system/files/126/framework_ofac_cc.pdf

[2] https://sanctionssearch.ofac.treas.gov/

[3] https://www.wfw.com/wp-content/uploads/2017/07/ExxonMobil-sanctions-July2017.pdf

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