AGEFI Luxembourg - avril 2024

AGEFI Luxembourg 16 Avril 2024 Fiscalité / Economie ByPatrickGOERGEN, Founder&CEO, RespectUs (1) (Luxembourg) Part 1 (2) I n a globalizedworld, where trade transcends borders effortlessly, ex- port control compliance stands as a critical safeguard against the proliferation of sensitive technologies andmaterials to unauthorized entities. Export control refers to the set of regulations and procedures im- plemented by governments to manage andmonitor the export of goods, services, and technolo- gies with the aimof protecting na- tional security, preventing the proliferationofweaponsofmassdestruc- tion, and ensuring adherence to international agree- ments. These regulations encompassvarious aspects, including the classification of controlled items, the screening of parties involved in transactions, and the reporting of suspicious activities. Financial institutions have long asked how —and to what extent — they need to comply with export controls. The reply to that question is now definitely clear. After its invasion of Ukraine, Russia is obliged to get theindustrialgoodsrequiredtoprosecuteitswarand to build weapons of war. To source those materials, theymust use the financial system, whichmakes it a potential chokepoint. Financial institutions are thus responsible for ensuring that they are not becoming thefacilitatorsofthetransferoftheinputsthatRussia needs, andmust take actions. (3) Funds, the primary asset of financial institutions, were until recently not subject to general trade re- strictions. In the banking sector, for that reason, few trade control risk assessments seem to have been conducted, perhaps because of an underestimation of the risks connected to the increasing complexity and interconnections between trade controls and economic sanctions. On the other hand, banks serve as the linchpinof in- ternational trade transactions, as they facilitate the movement of funds across borders. Consequently, they become instrumental in ensuring compliance withexport control regulations. Banks andfinancial institutionsmust therefore conduct duediligenceon their customers and transactions tomitigate the risk of inadvertently aiding illicit activities such as the proliferation of controlled items to sanctioned enti- ties or countries. These reinforced requirements have been dealt with in the United States, where the U.S. Department of the Treasury’s Financial Crimes Enforcement Net- work (FinCEN) and the U.S. Department of Com- merce’s Bureau of Industry and Security (BIS) have issued since June 2022 three specific alerts (4) . On 22 December 2023, the BidenAdministration took also furtheractiontoaddsignificantlytoitsRussia-related sanctions by issuing a new Executive Order (“EO”) 14114 that, amongother things, nowsubjects foreign financial institutions (5) to secondary sanctions risks whentheyconductorfacilitatecertainRussia-related transactions, even unwittingly. Thesenewregulationsarenoteworthynotsimplybe- cause they expose these financial institutions to new secondary sanctions risks based on the facilitation of trade of certain enumerated goods, and do so under a standard of strict liability. TheEuropeanUnion(EU)hasaswellchosentoclose legal loopholes and improve effective implementa- tionandenforcementofsanctionsagainstRussiaand Belarus,whichhavebeenstrengthenedafterRussia’s illegalfull-scaleinvasionofUkraineinFebruary2022. ViolationofEUrestrictivemeasureswillinthefuture be subject to harmonized criminal offences and penalties, and the new rules will refer, for example, to failing to freeze assets, breaching arms embargoes andprovidingprohibitedorrestrictedfinancialserv- ices (6) .TheEUCommissionhasalsoissuedaguidance to support EUoperators’ compliance efforts (7) . TheguidanceissuedbyU.S.andEUauthoritiesisfar strengtheningexportcontrolsandpreventingevasion by: 1) providing financial institutions with lists of prod- uctsofconcernandred-flagindicatorsforexportcon- trol evasion, 2)obligingfinancialinstitutionstoapplyarisk-based approach to trade finance. 1 -Actions in response to the Russian invasion of Ukraine Since February 2022, a coordinated international en- deavor under the Global Export Control Coalition (GECC) (8) , an international coalition of 39 nations from North America, Europe, andtheIndo-Pacificregion,hasapplied economic pressure on Russia and Be- larus. These stringent export controls primarily target Russia’s defense, aerospace,andmaritimesectors,with thepurposetodegradethemilitaryca- pabilitiesthatRussiausestowageitswar, and to restrict Russia’s access to items that can support the country’s de- fense industrial base and military and intelli- gence services (9) . The sanctions also in- cludeothertargetssuch as Russia’s energy pro- duction sector as well as luxury goods used by Russian elites. This increases as well the costs on Russian and Belarusian persons who support the gov- ernment of Russia and its invasion of Ukraine. (10) The restrictions applied to Belarus are in response to its substantial enabling of Russia’swar effort (11) . In the last months, additional export control restric- tionswereimposedtofurthercutoffRussia’sdefense industrialbaseandmilitaryfromcriticalitemsitseeks to obtain to sustain Russia’s ongoing, unprovoked war against Ukraine. Specifically, these restrictions aim to cut off Russia’s access to critical components used for aircraft and tanks, semiconductors, other itemsneededforadvancedmilitaryapplications,and low technology consumer goods needed for Russia to sustain itswar effort (12) . These additional restrictions also target third coun- tries suchas IranandChina, that have servedas sup- plynodes to theRussianwarmachine.Measures are targetingthirdcountriesandimpedingRussia’sabil- ity globally to obtain commercially available items, suchassemiconductorsthatarecomponentsforIran- ianUnmannedAerial Vehicles (UAVs) usedbyRus- sia inUkraine. 1.1. United States On 24 February 2022, the U.S. Department of Com- merce’s Bureau of Industry and Security (BIS) amended the Export Administration Regulations (EAR) to apply strengthened export control rules to Russia and Belarus including extended scope of the ForeignDirectProduct(FDP)Rules.TheEARapplies extraterritoriallytoitemssubjecttotheEARand“fol- lows the goods’’ anywhere in theworld. The EAR regulates exports, re-exports, and in-coun- trytransfersofcovereditemsglobally,evenifatrans- action does not involve U.S. entities and takes place outsidetheU.S.ItemssubjecttotheEARcaninclude: - items anywhere in the world produced or manu- factured in theU.S.; - items in or exported from the U.S., regardless of where theyweremanufactured; - itemsmanufactured outside the U.S. that include more than de minimis of controlled U.S.-origin content; - itemsmanufacturedoutside theU.S. that are thedi- rect product of certain controlled U.S. technology or software, or aremanufactured by a plant, or amajor component of aplant, that is itself adirect product of such technology or software. An EAR license is required for the export, re-export, or transfer (incountry) of all items subject to theEAR with Export Control Classification Numbers (ECCNs) on the Commerce Control List (CCL) to or withinRussiaandBelaruswhenthepartiesknow,or have reason to know, that a foreign-produced item meetingthedirectproductcriteriaisdestinedforRus- sia or Belarus orwill be incorporated intoor used for production/development of parts, components, or equipment that isproduced inordestined forRussia or Belarus unless a license exception applies. License applications are subject to a policy of denial. In February 2023, a new Iran ForeignDirect Product Rule addressed the use of Iranian unmanned aerial vehicles byRussia in itswar against Ukraine. BIS has five lists of parties of concern: 1)Deniedpersonslist (13) —alistofindividualsanden- tities that have been denied export privileges; 2) EntityList (14) —a list of foreignparties that arepro- hibited from receiving some or all controlled items unless export license is granted. License applications in this case are normally subject to policy of denial; 3) Unverified List (15) —a list of parties whose bona fidesBIShasbeenunable toverify.No licenseexcep- tionsmaybeusedforexports,re-exports,ortransfers (in-country) to unverifiedparties; 4) Military EndUser List (16) —a list of foreign parties that are prohibited from receiving controlled items unless export license is granted; 5)ConsolidatedScreeningList (17) —alistofpartiesfor whichtheU.S.Governmentmaintainsrestrictionson certain exports, reexports or transfer of items. 1.2. EuropeanUnion In the European Union (EU), export control regula- tionsareestablishedbothbyEUlegislationandregu- lationsatthenationallevelwithinMemberStates.The EUDual-Use Regulation (18) serves as the overarching frameworkfordual-useexportcontrolsacrosstheEU. This regulation provides EU-wide rules directly ap- plicable in allMember States, encompassing controls onlisteddual-useitemsandexportspertainingtocon- trolledenduse.Italsooutlinesprovisionsforgranting individual andglobal export licenses.Member States must enforce these rules adequately, and implement effective, proportionate, anddissuasive penalties. Regarding military items, export controls are man- aged individuallybyEUMember States.While there exists anEUcommonmilitary list, adopted annually by the Council, its authority is non-binding, and Member States retain the competence to legislate for national military export controls. Specific export re- strictions targeting Russia are delineated in Council Regulation (EU) No. 833/2014 (19) . This regulation im- poses limitations on the sale, supply, transfer, or ex- port of various listed items to entities in Russia or for usewithinRussia. The covered items include dual-use items (20) ; energy- relateditems (21) ;itemswhichmightcontributetoRus- sia’s military and technological enhancement, or the development of the defense and security sector (22) ; goodsandtechnologysuitedforuseinoilrefiningand liquefaction of natural gas (23) ; items aimed for use in aviationorthespaceindustry (24) ;maritimenavigation and radio-communication items (25) ; luxury goods (items valuedaboveEUR300per item) (26) ; jet fuel and fueladditives (27) ;anextensivelistofitemswhichcould contributeinparticulartotheenhancementofRussian industrialcapacities (28) ;banknotesdenominatedinany officialcurrencyofanEUMemberState;andfirearms, their parts and essential components and ammuni- tion (29) andfirearms andother arms (30) . Thisregulationfurtherprohibitstheprovisionoftech- nical assistance, brokering services, financing, or in- tellectual property rights related to these listed items to entities in or for use in Russia. Additionally, there arerestrictionsonprovidingtechnicalassistance,bro- kering services, and financing related to goods and technology listed in the EUCommonMilitaryList. To the contrary of the EU Dual-Use Regulation 2021/821 (31) ,thenegotiationorarrangementoffinancial services has been specifically included, in the Russia sanctions regulation, in the definition of “brokering services” (32) . Financing or financial assistance has been defined as being“anyaction,irrespectiveoftheparticularmeans chosen”, whereby aperson “disburses or commits to disburseitsownfundsoreconomicresources,includ- ing but not limited to grants, loans, guarantees, sure- tyships,bonds,lettersofcredit,suppliercredits,buyer credits, import or export advances” (33) . 2 –Result of theRussia-related sanctions As a result of the sanctions, Russia’smilitary-indus- trial complex anddefense supply chains have been significantly degraded (34) . According to U.S. Gov- ernment assessments, Russia has lost over 10,000 pieces of equipment on the battlefield and is strug- gling to replace them. This has resulted in Russia tasking its intelligence services with finding ways to circumvent sanctions and export controls to re- place neededequipment. TheU.S. Government has also brought several enforcement cases against en- tities and individualswhoviolatedU.S. export con- trols against Russia (35) . According to an analysis by the KSE Institute (36) , Russia continues tobe able to import large amounts of goods needed formilitaryproduction. But export controls remain a powerful instrument. Russia has not been able tofind substitutes formanyproducts from coalition countries, in particular advanced electronics, as the continued involvement of these producers shows. A common tactic used by illicit actors to evadeRussia-related sanctions and export controls consists inusing third-party intermediaries and transshipment points (37) . This tactic is also used to disguise the involvement of persons on Treasury’s Office of ForeignAssets Con- trol (OFAC) List of Specially Designated Nationals and Blocked Persons (SDN List) (38) , or parties on the BIS EntityList in transactions and to obscure the true identitiesofRussianendusers.Attemptstoobfuscate the involvement of such listed parties in transactions and obscure the true identities of Russian end users may involve the use of shell and front companies (39) . 3 – Products of concern Theauthoritiesofdifferentcoalitioncountries,aswell as some NGOs, have identified lists of commodities aspresentingspecialconcernbecauseoftheirpotential diversiontoandendusebyRussiaandBelarustofur- ther theirmilitary anddefense capabilities. 3.1. U.S. Commodities of Concern BISremainsconcernedaboutexportsthatsupportthe developmentofmaritimetechnology,microelectron- ics,andothertechnologiesthatcanbeusedtosupport Russia’smilitaryanddefensesector.Ithasissuedalist of commodities that present special concern and sought by or prohibited for end-users in Russia and Belarus. (40) AlloftheseitemsrequireaBISlicenseprior to export or re-export toRussia or Belarus.Addition- ally,theuseofcertainoftheseitemsbythirdcountries to create final products thatmaybe subsequently ex- portedtoRussiaorBelarusisalsoprohibited.Thislist canassistintherisk-basedscreeningofexport-related financial transactions. The list contains aircraft parts / equipment (ECCN 9A991),antennas(7A994),breathingsystems(8A992), cameras (6A993), GPS system(7A994), inertialmeas- urement units (7A994), integrated circuits (3A001, 3A991, 5A991), oil field equipment (EAR99), sonar systems (6A991), spectrophotometers (3A999), test equipment (3B992), thrusters (8A992), underwater communications (5A991), vacuum pumps (2B999), waterfabricationequipment(3B001,3B991)andwafer substrates (3C00x). 3.2. EUEconomicallyCritical Goods List The sectoral sanctions aimat curtailingRussia’s abil- ity to wage the war, depriving it of critical technolo- gies and markets and significantly weakening its industrial base. Regulation 833/2014 imposing sanc- tionsagainstRussiaincludesprohibitionstosell,sup- ply, transfer or export, directly or indirectly, goods which could contribute to the enhancement of Russ- ianindustrialcapacities.Therefore,theEconomically Critical Goods List (41) is comprised of mainly indus- trial goods subject to EU restrictive measures for which anomalous trade flows through certain third countries toRussia have been observed. These economically critical goods included in the list derive from selected groups of mainly industrial goods classified under HS chapters: 28 (Chemicals); 84 (Machinery); 85 (Electronics); and 87 (Vehicles). 3.3. High Priority Items List byHarmonized System Code TheEuropeanCommission, incoordinationwith the competentauthoritiesintheU.S.,theUKandJapan (42) , haveidentifiedseveralprohibiteddual-usegoodsand advanced technology items used in Russianmilitary systems foundon thebattlefield inUkraineor critical to thedevelopment, productionor useof thoseRuss- ian military systems. These items include electronic components suchas integratedcircuits andradio fre- quencytransceivermodules,aswellasitemsessential for the manufacturing and testing of the electronic components of theprintedcircuit boards, andmanu- facturing of high precision complex metal compo- nents retrieved fromthe battlefield. The High Priority Items List is not an exhaustive list of all items Russia is attempting to procure, but pro- videsprioritizedtargetsforcustomsandenforcement agencies around the world. The List of Common High Priority Items (43) is divided into four Tiers con- tainingatotalof50(HarmonisedSystemcodes)dual- use and advanced technology items involved in Russianweapons systemused against Ukraine. The current version (February2024) contains among others electronic integrated circuits, radio naviga- tional aidapparatus, fixedcapacitors, static convert- ers, television and digital cameras, transistors, semiconductor devices, ball bearings, navigational instruments and appliances, units for automatic data-processing machines, printed circuits, signal generators, oscilloscopes, oscillographs,multimeters with recording device. (44) 3.4. Critical components TheKSE Institutehaspublisheda list of critical com- ponents to which export controls should be ex- tended, because important inputs for the Russian military industry are still not export controlled (45) . The list, referring to the 10-digit customs code, con- tains automotive components (83 entries), bearings and transmission shafts (31), communications equipment (80), computer components (15), drones (5), electric and electronic equipment (159), naviga- tion equipment and sensors (62), semiconductors (37) and other components (13). (46) 3.5. U.S. Disruptive Technology On 16 February 2023, theU.S. authorities announced the formation of a Disruptive Technology Strike Force (47) . This group works to protect U.S. advanced technologiesfrombeingillicitlyacquiredandusedby nationstateadversariestosupporttheirmilitarymod- ernizationeffortsdesignedtocounterU.S.nationalse- curity interests or their mass surveillance programs that enable human rights abuses. Continuedon right page Export Control Compliance: The Imperative for Banks and Financial Services Providers