From Targeted Sanctions to Targeted Settlements: International Law-Making Through Effective Means

Marija Đorđeska, LL.M., is a Thomas Buergenthal Scholar and an S.J.D. Candidate at the George Washington University Law School, in Washington D.C.

The U.S. Office of Foreign Assets Control of the Department of Treasury (OFAC) has again shocked the international financial community with a recent settlement with BNP Paribas, France’s largest financial institution. BNP Paribas was accused of violating U.S. sanctions against Iran, Sudan, Burma and Cuba from 2005 to 2012. For $8.9 billion in compensation – the priciest settlement to date – OFAC pardoned BNP Paribas and its subsidiaries from their civil liability under U.S. law. (Settlement Agreement [30], see also Enforcement Information for June 30, 2014).

OFAC is aggressively and effectively applying U.S. sanctions law to foreign institutions incorporated and doing business abroad, without taking into consideration foreign domestic legal regimes or international standards. French President François Hollande expressed his disapproval of the penalty imposed on BNP Paribas. The settlement should also cause concern among European and international lawyers, as BNP Paribas is the ninth European financial institution to be sanctioned since 2006 for processing funds for entities subject to U.S. sanctions. By threatening to cut off foreign financial institutions from the U.S. market, OFAC precludes these financial institutions from publicly and transparently arguing their case in legal proceedings (Settlement Agreement [31]). OFAC is establishing a precedent of a new, efficient, and not yet legal method for asserting U.S. laws abroad, bypassing the traditional territoriality principle of jurisdiction.

In the documents that are publicly available, OFAC does not mention any legal grounds on which it claims jurisdiction, leaving it unclear on what basis the U.S. can sanction transactions initiated abroad by foreign entities or the clearing of US dollars outside the U.S. (Factual Statement [34]) or regulate foreign exchange transactions (Settlement Agreement [12, 13]). Because the settlement negotiations were not made public, and BNP Paribas also waived its right to “any possible legal objection,” (Settlement Agreement [31]) the substantive public debate on the issue is necessarily limited.

Being in Paribas’ shoes

The settlement’s short 39 paragraphs, describing seven long years of investigation of wrongful transactions, do not mention any of the potential arguments Paribas might have raised in its defense. Paribas’s transactions originated in Europe and were sometimes cleared through the U.S. BNP Paribas might have argued that because it is an entity incorporated in France, French laws have a stronger jurisdictional link in relation to Paribas’s transactions than U.S. law would have under an objective territorial theory or the protective principle establishing jurisdiction. The U.S. uses the objective territoriality theory (also referred to as the effects doctrine) to justify the exercise of extraterritorial jurisdiction over conduct occurring outside the U.S. that has a direct, foreseeable and substantial effect in the U.S. (see e.g. United States v. Aluminum Company of America). The protective principle justifies the exercise of jurisdiction if an offence committed by a foreign national abroad threatens the internal or external security of a country. TheRestatement (Third) of U.S. Foreign Relations Law (Section 403, ‘Limitations on the jurisdiction to prescribe’) confirms that foreign law might prevail over U.S. law where the foreign State has a clearly stronger interest or the activity is linked to its territory.

Multiple regulatory regimes

Paribas could have also argued that adhering to U.S. law from 2005 to 2010 would have contravened the still-valid EU blocking statute (Council Regulation (EC) No. 2271/96) that prohibits compliance of European entities with the U.S. embargo against Cuba and Iran. EU restrictive measures against Iran (much narrower than U.S. sanctions) were adopted only in 2010. The settlement document gives examples of European banks rejecting Paribas’s Iranian-related payments in 2011 and 2012, after the EU had adopted its own restrictive measures against Iran (Factual Statement [46]). By doing so, the U.S. makes it seem as though foreign financial institutions are accepting the U.S. sanction regime to the greater extent than they actually are.

Which regulatory regime should be followed or how should banks reconcile the multiple regulatory regimes? The murkiness of the regulatory environment is demonstrated by the recent revelation that the U.S. law firm Cleary, Gottlieb, Steen & Hamilton in 2004 “incorrectly” advised Paribas that if it would clear the payments through a U.S. financial institution, not its U.S. subsidiary, Paribas would not be violating U.S. economic sanctions (Factual Statement [30, 34], e.g.Settlement Agreement [6, 10, 17]). The law firm’s advice changed in favor of OFAC’s interpretation after the first European bank (the Dutch ABN AMRO) was sanctioned in 2006. BNP Paribas tried to accommodate the changes to maintain good business practices, believing their previous conduct was still lawful (Settlement Agreement [8, 10, 11]).

Ex post facto application of legal and financial standards

In defending itself from the accusation that it was transacting “obscured” financial payments since 2005, Paribas might also have relied on international law. BNP Paribas was sanctioned for transferring funds to beneficiary entities sanctioned by the U.S. OFAC claims that U.S. financial institutions were tricked into clearing the payments because of the incomplete payment messages. But Paribas could have argued that international financial institutions, such as the Society for Worldwide Interbank Financial Telecommunication (SWIFT), provider of secure transactions, and the Financial Action Task Force (FATF), an inter-governmental body promoting the implementation of financial standards, did not require specific information to be included in the payment messages exchanged between banks across the globe when clearing payments and transferring funds. The MT202 format of payment messages, the standard format in use at the time of the conduct at issue, does not contain information about the funds’ beneficiary (e.g. a potential sanctioned entity in Iran) when transacting funds through an intermediary bank (e.g. a U.S. financial institution).

Despite the U.S.’s efforts, the MT202 payment message was – and still is – a valid method of exchange of payment information. Only in 2009, to accommodate the U.S. call for greater financial transparency, did SWIFT introducethe more transparent MT202COV payment format, which required originating banks (e.g. BNP Paribas) to include the beneficiary’s name (e.g. Iranian entity sanctioned by the U.S.) when transacting money though the U.S. intermediary financial institution, as shown in the image below (click image to enlarge).

Greater transparency in payment messages was required internationally five years after the Paribas’s sanctioned conduct. The settlement implies that Paribas should have put itself in a worse position than its competitors by self-imposing more stringent standards than required.

The U.S. usually relies on FATF standards (see the settlement with HSBC, ABN AMRO, Lloyds, ING, SCB, Credit Suisse, and Barclays etc.). But FATF’s International Standards on Combating Money Laundering and the Financing of Terrorism (the FATF Recommendations) by requiring more transparency in the payment messages (wire transactions) in 2012, seven years after the controversial transactions began. (See e.g., Recommendation 16 [17, 71-76]). The gradual change of international standards that occurred between 2009 and 2012 demonstrates that the international community was not expected to swiftly adapt to the standards the U.S. was advocating.

In addition to international standards, U.S. laws were also applied ex post facto. For example, Section 1705 of the International Emergency Economic Powers Act (IEEPA) was amended in 2007 to include a penalty for conspiracy to violate or causing to violate U.S. law but applied in relation to BNP Paribas’s Sudan-related transactions from 2002. (Factual Statement [cf. 2-6, 14, 17]). The amendment is not mentioned in the Factual Statement ([6]).

Contradicting international law

BNP Paribas might have also questioned the overall compatibility of U.S. sanctions with international law. In Barcelona Traction ([1970] ICJ Rep. 3 [71], and ELSI ([1989] ICJ Rep 15 [69-72]; interpreting a FCN Treaty between the U.S. and Italy), the ICJ held that shareholders’ nationality does not have an impact on the nationality of a company under international law. Thus, BNP Paribas could have argued thatinternational law does not support the assertion of U.S. jurisdiction over foreign subsidiaries of U.S. parent companies (e.g. Enforcement Information, April 18, 2014, cf. EO 13224, EO 13628, CISADA, 31 C.F.R. 515.329, etc.). Another concept used by OFAC, the attribution of nationality to goods, is also incompatible with this rule (see e.g. Enforcement Information, June 5, 2014, and An overview of OFAC Regulations [5]) (see also Alexander, Extraterritorial U.S. Banking Regulation and International Terrorism [308, 311]). BNP might have also argued that international law also does not recognize the notion of “state sponsor of terrorism” under which Sudan, Iran, Cuba and Syria are currently listed by the U.S., because this notion–if applied internationally–would contravene the principle of equality of states by introducing a different treatment of certain states towards others and encouraging ‘un-friendly’ relations among nations. (See U.N. Charter [art.1, 2/1, 78]).

The U.S. is also extending its powers to Paribas’s future conduct. For example, Paribas agreed to avoid any currency exchange with the sanctioned countries (Settlement Agreement [23]), including exchanges not in US dollars or transactions not passing through the U.S.

Tilting at windmills?

OFAC acknowledges the obligations and the requirements of the agreement (and U.S. law) are applicable to the extent that is permissible by foreign legislation (Settlement Agreement [35]) which implicitly recognizes the existence of other laws and potential blocking statutes. However, this statement does not give a clear answer as to how these multiple regimes and the ex post facto application of laws should be reconciled. Adding to the complications, EU Courts have been recently delisting entities sanctioned by the UN Security Council, U.S. and the EU, causing even more confusion with regard to which sanctions European companies should follow.

European entities having to harmonize multiple, and sometimes contradicting, legal regimes are put at a competitive disadvantage by being de facto equated with U.S. financial institutions. In fear of being cut off from a profitable and once free market, and of hurting their reputation (see Statement by the DOJ’s Attorney General Holder), foreign financial institutions will continue to comply with OFAC requirements, establishing a dangerous precedent of new international jurisdictional basis for extraterritorial application of domestic law. Diplomacy prevented the extraterritorial application of the U.S. embargo against the Soviet Union or China to U.S. subsidiaries in Europe (see e.g. Fruehauf v. Massardy (1971), Compagnie Europeenne des Petroles S.A. v. Sensor Nederland B.V. (1982), and the solution of the Dresser controversy (1982)); contributed to the solution of the EU-U.S. dispute before the WTO (European Union Demarches Protesting the Cuban Liberty and Democratic Solidarity Act, 35 ILM 397 (1996)), and mitigated the consequences of the recent expulsion of Cuban guests from the Sheraton hotels in Norway and Mexico (Hilton holes lift European ban on Cubans, andMexican hotel ‘reopens’ after US-Cuban spat). Now, the diplomatic antidote seems to have lost its effect.

What was once bona fide voluntary compliance with U.S. law has now become a compulsory requirement for foreign financial institutions. Considering the possibility of the ex post facto application of international standards and U.S. legislation where the law on sanctions is “created-as-you-go”, the question now is whether the financial institutions should start worrying about the future changes in U.S. law that will sanction their current activities.