This analysis was first appeared as a guest piece in Money Laundering Watch, published by the law firm of Ballard Spahr LLP. View the original here.
Business Update │July 16, 2019 │PDF
OFAC’s Expanded Sanctions Reporting Rules Apply to Financial Institutions, Businesses, Nonprofits, Individuals, and Foreign Entities Owned by U.S. Persons. Foreign Banks Reliant on U.S. Correspondent Services Should Also Take Note.On June 21, 2019, the Office of Foreign Assets Control (OFAC) issued an interim final rule (the “IFR”) amending provisions of the Reporting, Procedures, and Penalties Regulations applicable to OFAC-administered sanctions programs at 31 C.F.R. Part 501. The IFR became effective upon publication in the Federal Register on June 21. OFAC has requested public comments, which are due by July 22, 2019. In addition to effectuating technical and conforming amendments, the IFR revises Trading With the Enemy Act (TWEA) penalties and amends reporting requirements and procedures applicable to initial and annual blocked property reports, unblocked property reports, and the unblocking of funds due to mistaken identity. Additionally, the IFR revises reporting requirements applicable to “rejected transactions.” The rejected transactions amendment is the most substantial of the revisions, and is the focus of this update.
“Rejected Transactions” Reporting: Additional Compliance Obligations for Financial Institutions; New Compliance Obligations for Businesses, Nonprofits, Individuals, and Foreign Entities Owned or Controlled by U.S. PersonsThe most consequential revision made by the IFR is at 31 C.F.R. § 501.64, now titled Reports on rejected transactions. Previously titled Reports by U.S. financial on rejected funds transfers, pre-amendment § 501.604 was effective from August 1, 2016 to June 20, 2019. OFAC stated in the IFR that, by amending § 501.604, it was “clarifying the breadth of the existing requirement for reporting on rejected funds transactions.” But as the title change indicates, the June 21 amendment did more than clarify. The revised rule effectuated two significant changes. First, rejected transaction reporting requirements now apply to all “U.S. persons,” rather than only to financial institutions. Second, reportable “rejected transactions” are no longer limited to “funds transfers.”
- In Addition to Financial Institutions, U.S. Business Organizations, Nonprofits, and Individuals, As Well As Foreign Entities Under U.S. Ownership or Control, Must Report Rejected Transactions
- All “U.S. Persons” Must Report. Under pre-amendment § 501.604 only U.S. “financial institutions” were required to report rejected “funds transfers.” As of June 21, all “U.S. persons” must report. The change is expansive. Across OFAC-administered sanctions programs, the term “U.S. persons” means U.S. citizens and lawful permanent residents (wherever located); entities organized under the laws of a U.S. jurisdiction (and their foreign branches); and, any foreign person in the United States. (See, e.g., Iranian Transactions and Sanctions Regulations at 31 C.F.R. § 560.314; Ukraine Related Sanctions Regulations at 31 C.F.R. § 589.312).
- Foreign Entities Owned or Controlled by U.S. Persons Must Report. Amended § 501.604 also requires foreign persons “subject to U.S. jurisdiction” to report rejected transactions to OFAC. The term “persons subject to U.S. jurisdiction” is generally understood to include foreign corporations, partnerships, associations, and other organizations owned or controlled by U.S. individuals, companies, and other “U.S. persons.” (See, for example, Cuban Assets Control Regulations at 31 C.F.R. §515.329).
- It has been generally understood that foreign subsidiaries of U.S. companies have been required to comply with OFAC sanctions regulations when specifically required to do so by a particular sanctions program. The default rule is that foreign subsidiaries of U.S. companies are not required to comply. (See, e.g., OFAC FAQs, No. 11). If, as its text suggests, amended § 501.604 incorporates the definition of “person subject to U.S. jurisdiction” contained elsewhere in OFAC sanctions regulations or otherwise requires reporting by U.S.-owned or controlled foreign entities, the amended rule effectuates a substantive change to sanctions regulations, beyond reporting. Foreign entities owned or controlled by U.S. persons are now required by rule to not only report rejected transactions, but to reject transactions in the first instance (as may have been extrapolated ad hoc from prior OFAC enforcement action). Thus, for example, a French company owned or controlled by U.S. persons would be required to reject and report a sanctions-prohibited transaction benefitting a party in a country subject to comprehensive sanctions (namely Cuba and Iran at the present time).
- Substantial Expansion of Scope of Reportable Rejected Transactions
- Rejected Transactions Reports Now Require Greater Detail
- a description of the transaction;
- the identities of parties “participating in transaction” including “customers, beneficiaries, originators, letter of credit applicants, and their banks”;
- names of intermediary, correspondent, issuing, and advising or confirming banks;
- a description of the property “that is the subject of the transaction”;
- account or reference numbers;
- the identities of “associated sanctions targets” (g., sanctioned parties who are not direct or disclosed parties to a transaction);
- the actual known or estimated value of the transaction;
- a “narrative description” of the “value of a shipment” related to “rejected trade documents” (g., letters of credit); and,
- copies of transaction documentation, such as bills of lading, invoices, or “other relevant documentation received in connection with the transaction.”
- Revised Rejected Transactions Form
FOIA and Public Disclosure: Legal and Non-Legal ConsiderationsReporting and licensing submissions made to OFAC are subject to the Freedom of Information Act (FOIA), and amended § 501.604 contains new language clarifying FOIA’s applicability. Information provided to OFAC in and with reports of rejected transactions (along with reports pertaining to blocked property and specific license applications) will generally be released by OFAC upon the receipt of a “valid” FOIA request, “unless OFAC determines that such information should be withheld in accordance with an applicable FOIA exemption.” (See, e.g., 31 C.F.R. §§ 501.603 (blocked and unblocked property), 501.604, and 501.801 (licensing)). Parties submitting reports (or licensing applications) to OFAC, as well as those mentioned in reports (such as foreign intermediary banks), should be mindful that information about their specific transactions, customers, and business generally is subject to public access. They should bear in mind also that the public disclosure of information can create reputational and other commercial risks, or collateral legal risks, such as where reports submitted to OFAC contain information having evidentiary or other value to third parties (e.g., businesses, individuals, or enforcement authorities other than OFAC).
Issues for Foreign Banks Reliant on U.S. Correspondent Services, De-Risking ContextGiven the importance of correspondent (or intermediary) banking to trade and other cross-border transactions, foreign banks that rely on U.S. correspondent services have an indirect interest in understanding OFAC’s amended rejected transactions rule. For example, foreign banks that appear in rejected transaction reports that yield information about sanctions violations (including sanctions evasion) or other financial crimes should understand that such information is now more likely to be readily available to OFAC (and, potentially, to other enforcement authorities, such as the Financial Crimes Enforcement Network (FinCEN, also a part of the Treasury Department)). Considering the stifling climate of de-risking, foreign banks seeking to avoid new or further withdrawals of correspondent banking relationships—whether driven by commercial or legal motives—should take steps to adapt recordkeeping and documentation practices to avoid disruptive actions by U.S. banks in response to rejected transaction reports.
Substantive and Compliance Burden Issues for Public CommentGiven the substantive scope and wide applicability of amended § 501.604, as well as some of its ambiguities, parties with interests in submitting comments on the IFR should formulate comments that invite clarification of the amended rules and provide practical input as to the burden of compliance with the IFR. Select issues for comment might include the following.
- When Must a Transaction be Rejected and Reported by a Non-Financial Institution?
- Compliance Burden; Administrative Law
- Compliance Burden for U.S. Businesses, Nonprofits, and Foreign Entities “Subject to U.S. Jurisdiction”; Potential Conflicts of Law for Foreign Entities Owned or Controlled by U.S. Persons
- Additional Compliance Burdens for U.S. Financial Institutions.
Submission of Comments to OFAC and/or the OIRAComments on the substantive sanctions provisions of the IFR should be submitted to OFAC, by mail or through the Federal eRulmaking Portal, in accordance with the instructions provided in the IFR published in the Federal Register. Comments on the compliance burdens associated with the IFR should be submitted to the OIRA as instructed in the IFR. OFAC has invited comments on the compliance justification and burdens associated with the IFR, including “the accuracy” of its “estimate of the burden of the collection of information” and the “estimated capital and start-up costs of the operation, maintenance, and/or purchase of services to provide information.”
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