Brexit and the Creation of UK sectoral sanctions targets
28 February 2019
In 2014 and 2015 the EU introduced sectoral sanctions against certain Russian and related entities. Those sectoral sanctions are primarily set out in Council Regulation (EU) No 833/2014 of 31 July 2014 (as amended) (the Regulation).
The measures established by the Regulation include restrictions under Article 5 against making new loans or credit available to, or dealing with certain transferable securities and money-market instruments issued by, 11 targeted Russian financial institutions and corporate entities. Broadly speaking, Article 5 sanctions also extend to targeted entities that are owned by, or otherwise act at the direction of, any of those 11 entities.
In the event that the UK leaves the EU on 29 March 2019 with no deal in place (a so-called Hard Brexit), the scope of the Article 5 restrictions potentially widens to cover certain UK entities connected to the 11 Russian entities already targeted. As a result, a number of UK entities may be deemed to be sectoral sanctions targets under the EU sanctions regime for the first time. This will have potentially significant consequences for those entities and for EU persons1 who do business with them.
The targeted entities
The entities expressly targeted by the sectoral sanctions are Sberbank, VTB Bank, Gazprombank, Vneshconombank (VEB), Rosselkhozbank, OPK Oboronprom, United Aircraft Corporation, Uralvagonzavod, Rosneft, Transneft and Gazprom Neft.
The sectoral sanctions also extend to certain other entities including: (a) any legal person established outside the EU and more than 50% owned, directly or indirectly, by an expressly targeted entity or acting at their direction, and (b) any entity acting at the direction of an entity targeted under limb (a).
The sectoral sanctions imposed by the EU
Articles 5(1) and 5(2) of the Regulation restrict EU persons from dealings involving certain kinds of transferable securities and money-market instruments issued by the directly, and/or indirectly, targeted entities. Broadly, the securities and instruments affected are those with a maturity exceeding either 90 days, issued between 1 August 2014 and 12 September 2014 inclusive, or 30 days, issued after 12 September 2014.
Since 12 September 2014, Article 5(3) of the Regulation has restricted EU persons from directly or indirectly making, or being part of any arrangement to make, new loans or credit available to a sectoral sanctions target with a maturity exceeding 30 days.
The impact of a Hard Brexit
The UK is scheduled to leave the EU at 11pm GMT on 29 March 2019. Under the terms of the current draft Withdrawal Agreement between the UK and the EU, there would be a transition period until at least 31 December 2020. Consequently, we would not envisage any significant impact on the Article 5 sanctions during that transition.
In a Hard Brexit scenario, however, there would clearly be no transition period and the potential impact on the Article 5 sanctions as set out below would take immediate effect.
From a UK perspective, most EU law will be preserved in UK domestic law on a Hard Brexit, and the new Sanctions and Anti-Money Laundering Act 2018 is designed to allow the UK Government to create sanctions going forward. As a matter of policy, the UK Government has also stated that it will “look to carry over all EU sanctions at the time of [the UK’s] departure”2 upon a Hard Brexit.
The impact on the sectoral sanctions on Russia would therefore appear, at first glance, to be minimal. However, there will be a crucial difference around what constitutes a targeted entity from an EU perspective.
Although the wording of Article 5 is ambiguous, the European Commission3 has historically indicated that Article 5 is not intended to catch EU entities acting at the direction of an entity otherwise targeted by the sectoral sanctions, and the UK Government has confirmed its agreement with that position4. As noted, non-EU entities can be caught as sectoral sanctions targets if they are directly or indirectly more than 50% owned by one of the 11 listed entities.
In the event of a Hard Brexit, UK entities will de facto be treated as non-EU entities for these purposes. As a result, they will be potentially caught as sectoral sanctions targets under Article 5 for the first time. This raises a number of issues for the entities themselves and their EU counterparties.
Risks for the entities concerned
Aside from wider reputational concerns, UK entities that have become sanctions targets on 29 March 2019 may have provided representations and/or undertakings in their finance or capital markets documents or other contracts that they are not a restricted person or sanctions target. Depending on the precise definitions, this may no longer be the case immediately after a Hard Brexit. These entities should therefore carefully review these commitments in light of the change in application of Article 5.
Risks for financial institutions and other contractual counterparties
Financial institutions in the EU and other contractual counterparties to UK entities affected by this change will also need to carefully review their current and future interactions with those entities as they would with other sectoral sanctions targets. Such institutions should further bear in mind that the Article 5 restrictions will apply not only to the business itself, but also to any employees who are EU persons.
Whilst much focus has been given to the potential for policy divergence between the UK and EU after Brexit, we are now starting to see more granular issues emerging as the unintended consequences of a Hard Brexit become clearer.
Should you have any questions on the matters discussed in this bulletin, please contact Matthew Townsend (Partner), Jonathan Benson (Senior Associate), Tom d’Ardenne (Senior Associate) or your usual contact at Allen & Overy LLP.
1 For the purposes of this bulletin, an EU person means (i) any national of an EU Member State or any natural person in the territory of the EU, (ii) any legal person, entity or body, inside or outside of the territory of the EU, which is incorporated or constituted under the law of an EU Member State and (iii) any legal person, entity or body in respect of any business done in whole or in part within the EU.
2 See the UK’s guidance entitled “Sanctions policy if there’s no Brexit deal” which is available here.
3 The European Commission’s guidance is available here
4 The UK Government’s guidance is available here