US Government Imposes New Sanctions And Novel Export Controls Targeting Russian Financial Markets And Circumvention Networks

On June 12, 2024, the US government announced a broad package of measures aimed at increasing the extent of economic pressure on Russia and curtailing Russian circumvention of US sanctions and export controls. The measures are a joint effort by the US Department of the Treasury's Office of Foreign Assets Control (OFAC), the US Department of Commerce's Bureau of Industry and Security (BIS), and the US Department of State to target Russia's use of financial services and procurement networks based in third countries, particularly those based in China. The package includes hundreds of new sanctions designations, including sanctions targeting Russia's financial infrastructure; a new BIS rule that adopts a novel approach to the Entity List; greater limitations on the provision of certain software to Russia; and an expansion of the grounds for imposing secondary sanctions on Foreign Financial Institutions (FFIs). These actions were published on the eve of the G7 Summit, which centered on the G7's support for Ukraine and efforts to further isolate Russia and its supporters from the global economy.

I. New Secondary Sanctions Risk for Foreign Financial Institutions

OFAC is expanding the scope of its secondary sanctions authorities under Executive Order (EO) 14114 in a move that – while not limited to China – has been widely reported to be a warning sign to China's smaller banks to stop facilitating transactions from sanctioned Russian financial institutions. EO 14114 provided OFAC with the authority to impose secondary sanctions on Foreign Financial Institutions (FFIs) determined, among other things, to have engaged in any significant transaction or provided any service involving the Russian military-industrial base. We analyzed EO 14114 in a previous blog post that may be found here. OFAC is broadening the definition of Russia's military-industrial base under EO 14114 to include all persons blocked pursuant to EO 14024. Thus, FFIs risk being sanctioned for conducting or facilitating significant transactions or providing any service to a wide range of Russian entities and individuals, including some of Russia's largest financial institutions. In conjunction with this new development, OFAC published updated guidance for FFIs on OFAC Sanctions Authorities Targeting the Russian Military-Industrial Base. The updated guidance is notably detailed in its descriptions of high-risk FFIs, and in its recommendations to FFIs on how to reduce their secondary sanctions risk. OFAC also issued new FAQs and amended other FAQs to provide guidance about the change. Additionally, OFAC has updated the Specially Designated Nationals and Blocked Persons List (SDN List) information for five sanctioned Russian financial institutions to include addresses and aliases of their foreign locations, including locations in China, the Kyrgyz Republic, and India.

II. Extensive New Sanctions Designations on Russia's Financial Markets and Procurement Networks

OFAC announced that it had designated several Russian entities central to the functioning of Russia's financial markets pursuant to Executive Order (EO) 14024. The Treasury Department stated that the "architecture of Russia's financial system . . . has been reoriented to facilitate investment into its defense industry and acquisition of goods needed to further its aggression against Ukraine." US government officials labeled Russia as operating a "full war economy," perhaps reflecting a view by regulators that no area of the Russian economy is currently without ties to Russia's war effort in Ukraine.

The new sanctions primarily target the Moscow Exchange (MOEX), which operates Russia's largest publicly traded markets, and two of MOEX's subsidiaries, the National Clearing Center (NCC) and National Settlement Depository (NSD), which provide MOEX with transaction clearing and depository services. The designations resulted in the immediate suspension of trading in dollars and euros on MOEX. Last month, Chinese yuan passed the dollar to become MOEX's most traded currency, a development that reflects the growing economic ties between Russia and China as the US and its partners continue their push to isolate the Russian economy.

OFAC issued several general licenses authorizing certain transactions involving the newly sanctioned entities. Similar to previous designations of large Russian financial institutions, OFAC is providing a short wind down period. General License (GL) 99 authorizes certain transactions that are ordinarily incident and necessary to the wind down of any transaction involving MOEX, NCC, and NSD until August 13, 2024. Likewise, GL 100 authorizes certain transactions that are ordinarily incident and necessary to the divestment of debt or equity to a non-US person or the conversion of currencies involving MOEX, NCC, and NSD until August 13, 2024. Additionally, OFAC issued GL 8J, which updated the general license authorizing certain transactions related to energy to also cover certain energy-related transactions involving the NCC. Further, certain wind down transactions are authorized until July 27, 2024 under GL 98 for some of the newly designated entities described below.

OFAC designated 55 entities and seven individuals based outside of Russia pursuant to EO 14024. OFAC explained that these entities and individuals were designated, in part, for their involvement in transnational supply chain networks designed to evade or circumvent Russian sanctions and, in some instances, backfill Russia's defense sector. There are a few notable takeaways from OFAC's designations:

• There is a wide geographic scope for the designations, but there is a focus on entities and individuals based in Hong Kong and China. The designations include 20 Hong Kong-based SDNs and 17 China-based SDNs—nearly two-thirds of the third-country designations. The other countries associated with the new SDNs are: Türkiye (14), Belarus (2), South Africa (2), British Virgin Islands (1), Bulgaria (1), Kazakhstan (1), Kyrgyz Republic (1), Serbia (1), Thailand (1), and the United Arab Emirates (1).

• Thirty of the SDNs were determined to be operating or have operated in the technology sector of Russia. Many of these SDNs were designated for facilitating the import of high-priority technology items into Russia, including electronic integrated circuits, transformers, capacitators, lasers, and unmanned aerial vehicles (UAVs).

• OFAC sanctioned 20 SDNs for operating in or having operated in other sectors of the Russian economy, which suggests that OFAC is also monitoring circumvention and evasion outside of the technology sector. The designations include five SDNs in the defense and related materiel sector, ten SDNs in the manufacturing sector, and five SDNs in the metals and mining sector. Additionally, six SDNs were sanctioned for being owned or controlled by, or having acted or purported to act for or on behalf of, directly or indirectly, an SDN, and six others were sanctioned for materially assisting, sponsoring, or providing financial, material, or technological support for, or goods or services to or in support of, an SDN.

Additionally, OFAC designated more than 100 Russia-based entities pursuant to EO 14024 for operating in the defense and related materiel, manufacturing, technology, transportation, or financial services sectors of Russia. OFAC also designated seven Russia-based entities involved with Russia's Obsky LNG, Arctic LNG 1, and Arctic LNG 3 liquified natural gas projects for operating or having operated in either the construction, metals and mining, or manufacturing sectors of the Russian economy.

Similarly, the State Department announced its imposition of sanctions on more than 100 individuals and entities in an effort to hinder sanctions evasion and backfilling through third countries, including China. The State Department said that its designations target producers, exporters, and importers of items "critical to Russia's military-industrial base," including items on the Common High Priority List, which is a list of items jointly identified by BIS and US allies. Like OFAC, the State Department sanctioned numerous individuals and entities outside of Russia pursuant to EO 14024, including:

• A China-based entity, a Belarus-based entity, and a Belarus-based individual for operating in the defense and related materiel sector of Russia.

• Seven UAE-based entities, five Türkiye-based entities, three China-based entities, a Hong Kong-based entity, a Kyrgyz Republic-based entity, and a Singapore-based entity for operating in the technology sector of Russia.

• Three Moldova-based entities, a China-based entity, and a UAE-based entity for operating in the aerospace sector of Russia.

• A China-based entity for operating in the manufacturing sector of Russia.

• Three Belarus-based entities, a China-based entity, and a Türkiye-based entity for having materially assisted, sponsored, or provided financial, material, or technological support for, or goods or services to or in support of, an SDN.

The numerous sanctions designations by the State Department underscore that non-US persons should be mindful of State Department designation risks and not just the risk of a designation by OFAC.

III. BIS Broadens Controls on Certain Items and Targets Export Control Circumvention

BIS announced a new package of actions as part of the broader US strategy to degrade Russia's military capabilities by limiting access to critical military-industrial components and technology, particularly semiconductor chips, and by increasing the costs of circumventing US export controls. A central goal of BIS's recent efforts is to hinder the circumvention of export controls through the manufacture or sale of controlled items in third countries, particularly in China. BIS is taking many of these steps through a new rule, "Implementation of Additional Sanctions Against Russia and Belarus Under the Export Administration Regulations (EAR) and Refinements to Existing Controls," which was published on June 18, 2024. BIS is also acting through the use of other authorities and direct contact with certain US businesses. BIS's recent actions include the following:

• New reforms to permit the listing of an address, without a corresponding entity name, on the Entity List. Under the new rule, BIS may publish a "high diversion risk address" on the Entity List, thus triggering a license requirement for all entities that use that address, including any purchaser, consignee, or end-user. The rule describes a "high diversion risk address" as an address "that is repeatedly used by companies engaged in activity contrary to US national security or foreign policy interests." BIS intends for these address listings to help prevent the use of shell company services to evade export controls. BIS added eight addresses to the Entity List—all of which are in Hong Kong—that BIS identified as "associated with significant transshipment of sensitive goods to Russia." As a result, exporters, reexporters, and transferors of items subject to the EAR should consider how to screen against addresses on the Entity List, as checking denied party names may lead to gaps in US export control compliance.

• The rule expands the scope of items subject to the Russian and Belarusian industry sector sanctions. The new rule adds more than 500 Harmonized Tariff Schedule (HTS)-6 Code entries to the list of items in supplement no. 4 of part 746, which are controlled pursuant to the Russian and Belarusian Industry Sector Sanctions. These items, if subject to the EAR, will now require a license for export to, reexport to, or transfer (in-country) within Russia or Belarus, unless a license exception or exemption applies. BIS has stated that these new additions will minimize the opportunities for circumvention of US export controls through misclassification of an item's HTS-6 code.

• The rule amends the License Exception Consumer Communications Devices (CCD) to narrow the scope of items covered by the license. Notably, certain consumer devices, such as consumer disk drives and solid-state storage equipment, memory devices, digital cameras (including webcams), and recording devices classified under ECCN 5A992 or as EAR99, lower-level/EAR99 graphics processing units (GPUs), as well as certain other communication devices and batteries, chargers, carrying cases, and accessories are no longer eligible for export to Russia or Belarus pursuant to License Exception CCD.

• BIS recently informed over 130 US distributors of additional restrictions on shipments to known suppliers to Russia. BIS contacted the distributors with respect to export controls on US- and foreign-produced electronic components destined to Russia through intermediaries.

• BIS issued two Temporary Denial Orders (TDOs) against two Russian procurement networks that allegedly facilitate the export of aircraft parts to Russia through third countries. One procurement network is located in the UAE and the other network is located in Hong Kong, the British Virgin Islands, Türkiye, Serbia, Indonesia, and Russia. The TDOs deny export privileges, including the ability to receive or participate in exports from the US or reexports of items subject to the EAR, for a period of 180 days.

• Five entities in Russia and China were added to the Entity List for the shipment of controlled items and components to Russia in support of the Russian military and Russia's defense sector.

• BIS revised section 740.2(b), regarding its authority to revise, suspend, or revoke a license exception, to add the language that it may do so to protect US national security or foreign policy interests. Further, BIS provides two examples of the circumstances under which it may revoke a license exception for certain entities: (1) one is that BIS may revoke a license exception for a particular foreign airline that changes its ownership structure to circumvent the national security and foreign policy objectives underlying the restrictions on the use of License Exception AVS for temporary sojourns to Russia ; and (2) another example is that BIS may revoke license exception availability for a company under investigation for fraudulent use of license exceptions on export control documents to avoid scrutiny of its shipments.

These actions reflect the US government's increased focus on disrupting Russian circumvention by targeting facilitators overseas. In its announcement of these actions, BIS stated that it "will more extensively target foreign companies who supply US-branded products to Russia through Entity List additions and other related sanctions." BIS further noted that products of US-headquartered companies are "often reliant on US technology, software, or tooling even though they may not be of US-origin, they may nonetheless be subject to US jurisdiction." This set of actions may herald a shift in BIS's enforcement focus from US-origin items to EAR-controlled items that are produced abroad. The task of tracing foreign-made goods and enforcing violations of the EAR will likely be a test for the ability of US regulators to apply the export controls regime in countries averse to cooperating with US authorities.

IV. Restrictions on Russian Access to US Software and IT Services

BIS and OFAC both acted to expand restrictions on Russian access to certain US software and IT services in an effort to disrupt the use of modern software infrastructure by Russia's military industrial base.

• The new BIS rule requires a license to export, reexport, or transfer (in-country) of certain types of EAR99-designated software, including software for enterprise resource planning, customer relationship management, supply chain management, project management software, computer aided design, and enterprise data warehousing. Notably, a license is also required for software updates to the covered software. Certain exclusions apply, including for activities solely in support of the medical and agricultural sectors.

• OFAC published a new determination under Executive Order (EO) 14071 prohibiting exports to Russia of IT consultancy and design services and IT support services and cloud-based services for enterprise management and design and manufacturing software. Accordingly, these services generally may not be exported, reexported, sold, or supplied, directly or indirectly, from the US or by a US person to any person in Russia, absent a license or authorization from OFAC. Notably, the determination excludes any service to an entity located in Russia that is owned or controlled, directly or indirectly, by a US person and services associated with certain wind down and divestiture activities. The determination will take effect on September 12, 2024. In conjunction with the determination, OFAC issued a new General License 6D which authorizes transactions related to the covered services for certain agricultural and medical purposes. OFAC also issued a new General License 25D which continues to authorize transactions related to certain telecommunications and internet-related transactions. Additionally, OFAC published a new set of FAQs regarding the determination.

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This joint action by OFAC, BIS, and the State Department reflects greater coordination by US agencies to ensure compliance with US sanctions and export controls against Russia. Moreover, it demonstrates the US government's focus on entities in third countries, especially China, that are alleged to be facilitating the circumvention of export controls and sanctions or otherwise supporting Russia's military-industrial base. For further information on the measures described above and their implications for companies, please contact a member of Steptoe's export controls or economic sanctions teams.