OFAC’s Settlement with Commerzbank AG: Coerced Voluntary Settlements of the Competitively Disadvantaged

Nine months after the Office of Foreign Asset Control’s largest ever settlement with French BNP Paribas (see my previous post), OFAC is striking again. On March 11, OFAC settled for the first time with a German financial institution, Commerzbank AG, for alleged violations of the U.S. sanctions regulations. Commerzbank is the thirteenth foreign financial institution (and eleventh European one) to settle with U.S. authorities (see e.g. OFAC’s Selected Settlement Agreements) for processing electronic funds on behalf of its Cuban, Iranian, Burmese and Sudanese customers, among others. (Settlement Agreement [26-30]). In exchange for Commerzbank’s agreement to pay OFAC $258 million (less than a third of what BNPP agreed to pay OFAC alone), OFAC pardoned the bank of all civil liability in government-initiated cases for its alleged wrongful conduct, thought to have started in 2002. (See Settlement Agreement [39]).

The total amount paid to all relevant U.S. authorities (United States Department of Justice, New York County District Attorney’s Office, Federal Reserve Boards of Governors and the Department of Financial Services of the State of New York) is $1.45 billion. This post considers only OFAC’s actions toward Commerzbank and calls into question OFAC’s jurisdiction to enforce its sanctions regulations and penalties abroad.

Allegations against Commerzbank

Commerzbank allegedly violated the U.S. sanctions regulations by routing non-transparent payment messages for states, entities and individuals subject to U.S. sanctions through the U.S. financial system between 2002 and 2010. By removing or omitting references to U.S.-designated entities from SWIFT’s MT103 and MT202 payment messages, Commerzbank also allegedly caused U.S. financial institutions to violate U.S. law. (Settlement Agreement [3-5, 1-9, 11, 20]). The first question we must ask is why Commerzbank, a German entity, would have to follow U.S. sanctions regulations?

OFAC’s main argument is that the alleged wrongful transactions went through the U.S. financial system, and, therefore, under the territoriality principle, U.S. law applies. Without repeating myself (see my previous post), I would like to stress that Commerzbank, incorporated in Germany and initiating its transactions in Germany, has a much stronger jurisdictional link to German than to U.S. law. In the settlement, OFAC acknowledges that Commerzbank agrees to OFAC’s requests only to the extent permitted by local law. (Settlement Agreement [44]).

However, in my opinion, the simple reason that EU and German law cannot be reconciled with the U.S. sanction laws and regulations is the existence of the still-valid EU Blocking Statute (EC no. 2271/96), prohibiting European entities from following the U.S. sanctions laws. The EU Blocking statute explicitly prohibits following the Iran Sanctions Act (ISA) and the LIBERTAD Act  (also referred to as Helms-Burton Act). The U.S. sanctions regulations that OFAC administers (e.g. Iranian Transactions Regulations) are drafted pursuant to, among others, ISA, as amended by other laws (e.g. Comprehensive Iran Sanctions, Accountability, and Divestment Act, Iran Threat Reduction and Syria Human Rights Act, Iran Freedom and Counter-Proliferation Act). (See also Settlement Agreement [1]). The EU, on the other hand, imposed its first sanctions (restrictive measures) on Iran only in 2010 (EU Restrictive measures (sanctions) in force [27]), after the period for which Commerzbank was sanctioned. OFAC claimed Commerzbank omitted information from the payment messages involving Iranian banks between 2002 and 2010 (Enforcement Information for March 12, 2015). How, then, can OFAC claim these two legal systems (EU and U.S. law) could have been reconciled between 2002 and 2010?

Despite the absence of any EU restrictive measure against Iran up to 2010, Commerzbank decided to terminate all its Iranian business in 2007 (Settlement Agreement [15]). OFAC in the settlement agreement mentions Commerzbank’s relations with, for example, Islamic Republic of Iran Shipping Lines (IRISL) (Settlement Agreement [18, 19]), which the EU had not listed by 2010 and which was delisted by the EU General Court in 2013. Why would Commerzbank follow U.S. law?

OFAC’s Power Is Only Territorial

OFAC claims foreign financial institutions are penalized for having transacted payments through the U.S. financial system. Although OFAC has the authority to freeze assets in the United States (Settlement Agreement [1]), OFAC lacks the authority to enforce its sanctions regulations or claim compensation extraterritorially.

However, foreign financial institutions, by consenting and cooperating with OFAC, enable OFAC to enforce de facto its sanctions regulations and penalties abroad. According to the EU-U.S. SWIFT Agreement (2010), OFAC would have to rely on either an EU member State authority, Europol or Eurojust to receive relevant information concerning potential terrorist financing. But because of foreign financial institutions’ cooperation and their sharing of extensive internal investigations with OFAC, OFAC can access the information on the allegedly wrongful transactions without the involvement of EU authorities. (Settlement Agreement [20], Enforcement Information for March 12, 2015).

OFAC cannot obtain the information on the allegedly wrongful transactions from U.S. financial institutions, because the information in those payment messages were omitted or obscured. The information regarding its transactions supplied by foreign financial institutions to OFAC is therefore essential in OFAC’s finding of an alleged violation.

An important indication for this discussion is OFAC’s determination that Commerzbank did not “voluntarily self-disclose” the alleged violations (Settlement Agreement [31]). In other words, this means that OFAC received the information regarding Commerzbank’s allegedly unlawful transactions from other foreign financial institutions. OFAC’s first-ever settlement with a foreign financial institution that is publicly available—the settlement with Dutch bank ABN Amro in 2006 (Enforcement Information for January 3, 2006)—may have provided the relevant information for OFAC’s effective prosecution of other financial institutions conducting business with ABN Amro. Although ABN Amro may not have been the direct source of information leading up to Commerzbank’s allegedly wrongful conduct, other financial institutions sanctioned between 2006 and 2014 might have given OFAC leads on Commerzbank’s “obscured” payment practices.,

“Not-so-Voluntary” Settlement Agreements

Commerzbank might have sent unclear or non-transparent payment messages not to evade U.S. sanctions regulations but to avoid the risk of delay or rejection of otherwise lawful transactions by U.S. banks. The discontinuation of Commerzbank’s business with all Iranian customers (sanctioned or not) in absence of any EU sanctions against Iran, might have been offered as a gesture of maintaining good business relations with the United States (Settlement Agreement [15]) and should be seen as Commerzbank’s effort to reconcile its local law and the EU law with the U.S. sanctions regulations. Another such gesture is Commerzbank’s willingness to comply with OFAC by conducting an internal investigation into its alleged wrongful transactions. Commerzbank’s efforts to maintain good business practices, when it could have simply acted in accordance with its local and applicable law, show that Commerzbank did not act in “willful disregard” of U.S. law. (See e.g. DOJ Press Release, March 12, 2015).

As an example, Commerzbank received a legal advice in 2005 from a U.S. law firm, similar to the one received by BNPP in 2004 from Cleary Gottlieb Steen & Hamilton LLP (BNPP, Statement of Facts [30, 34]), that confirmed Commerzbank’s ability to conduct business on behalf of its U.S.-designated customers, under the condition the transactions are not cleared through Commerzbank’s U.S. branch (Settlement Agreement [14]). However, OFAC in the BNPP settlement clarified that Cleary Gottlieb Steen & Hamilton LLP’s advice to BNPP was “incorrect”. How would it be possible for a foreign financial institution to reconcile its local law and EU law with the U.S. sanctions regulations to reach an OFAC-favorable solution?

There is another possible explanation for Commerzbank’s omission of the names of the U.S.-sanctioned entities from its payment messages. Including those names might have caused U.S. financial institutions to reject or delay Commerzbank’s otherwise lawful transactions, just because of the reference to an Iranian individual or entity. (See Meshkat, The Burden of Economic Sanctions on Iranian-Americans [936]). To avoid the risk of penalization, U.S. financial institutions have discontinued or severely restricted their business connections with sanctioned countries or with a particular sector. (See e.g. Processing Transactions between U.S. and Cuban Banks, Holland&Knight LLP). Would it not be reasonable to assume foreign financial institutions would introduce manual processes for the purpose of omitting any reference to Iranian entities (Settlement Agreement [4]) that were not sanctioned by the EU and presumably also not designated by the United States, for the sake of providing its customers a good service?

OFAC threatens to exclude foreign financial institutions from the U.S. financial system if they do not comply with U.S. foreign relations and national security policies. (Cf. Levine & Paretzky). Foreign financial institutions are “competitively disadvantaged” by being equated to U.S. financial institutions and having to reconcile the conflicts of law and harmonize their local and EU law with the U.S. sanctions regulations on their own, without any intervention from the EU. OFAC determines how the conflicts of law should be solved only on a case-by-case basis, often when it is already too late to comply [Cf. OFAC Economic Sanctions Enforcement Guidelines [44]]. On the other hand, EU authorities are not stepping in to solve the conflict of laws or to defend their financial institutions, as they did their for European entities in the past (see e.g. Fruehauf v. Massardy (1968), Compagnie Europeenne des Petroles S.A. v. Sensor Nederland B.V. (1982), Dresser controversy (1982), 1982 European Community’s protest against Export Regulations; EU Demarches Protesting the Cuban Liberty and Democratic Solidarity Act, to list a few).

“Practice what you preach”

OFAC penalizes foreign financial institutions for their non-transparent practices. But, in fact, OFAC is not transparent either. The short settlement agreements drafted by OFAC do not include any reference to arguments foreign financial institutions might have raised in their defense. Additionally, OFAC requires Commerzbank, as other financial institutions, not to raise any legal objections or make any comments in relation to the settlement in future. (Settlement Agreement [40]). We may therefore never know what arguments Commerzbank raised in countering OFAC’s allegations.

In trying to achieve U.S. national security and foreign policy objectives, OFAC has gone beyond levelling the playing field, and has put foreign financial institutions of other friendly governments at a competitive disadvantage. Using the settlement agreements as a foreign policy tool is generating more pressure on foreign financial institutions. As the pressure increases, this might in the future turn into a boomerang effect directed towards the United States, if other countries decide to adopt the same approach to enforcing their own foreign policy objectives against U.S. institutions.

Commerzbank’s settlement is only the latest development in the extension of OFAC’s enforcement capabilities. Foreign financial institutions’ willingness to cooperate with OFAC created a domino effect that only an intervention from EU authorities might reverse.