Primary and Secondary Sanctions | LegaMart Articles
sanctions - primary and secondary sanctions in Commercial and Business Law

Primary and Secondary Sanctions

What are Sanctions?!

Sanctions are an official order, such as banning trade, that is taken against a state. This is done to make that state obey the international law principles. When a state breaks international law regulations, or it causes a threat to the security of international peace, such sanctions are imposed. After sanctions, the state tends to obey the law because of the deterrence created by such sanctions. 

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Different Types of Sanctions Imposed by the US

There are two broad categories of sanctions imposed by the USA, which are primary sanctions and secondary sanctions. These sanctions discourage any on-US person from an activity to be specified. They impose these sanctions even on the issues which have no nexus to the US but to secure international peace and security. All the economic sanctions are primary sanctions, and all penalties imposed on persons and organizations not subject to the sanctioning country’s legal jurisdiction are applied against entities engaged in the same dealings prohibited under Primary sanctions. 

Definition of Primary and Secondary Sanctions

There are economic restrictions that are imposed on countries to compel them to comply with international law principles; Such restrictions are known as Primary sanctions. Some examples of such economic restrictions are embargoes and asset freezes, which are imposed by the Office of Foreign Assets Control (OFAC). 

Secondary sanctions are an indirect form of sanction; They prevent third parties from trading with states that are subject to sanctions issued by another state. If the third party does business with such a state, it will face a penalty or restrictions for doing business. 

sanction - primary and secondary sanctions in Commercial and Business Law

Primary Sanctions

Traditionally, US sanctions apply only to US persons which means citizens or permanent residents of the US, which also includes foreign branches and anyone in the US. It is imposed according to the sanctions’ regime of the US. It is imposed on states, organizations, and individuals who are guilty of international crimes or working against the national security interest of the US.

They can also be relevant for non-US persons. It has a substantial extraterritorial effect due to the prominence of the use of US dollars across the world. Any violation of Primary sanctions can result in a fine. US individuals and entities must adhere to Primary sanctions as a matter of US law, or face potential criminal or civil penalties. 

The US imposes primary penalties by freezing or banning the country’s assets (the Specially Designated National (SDN)). The SDN’s assets in the United States can no longer be reclaimed without the permission of OFAC (Office of Foreign Assets Control). Transactions between US citizens and NDAs are normally prohibited under this type of penalty. Primary sanctions can sometimes be used to target entire countries or geographic regions. As a result, US citizens are prohibited from doing business with these countries.

The term “US person” refers to I US citizens, (ii) US permanent residents, (iii) US-based entities (including overseas subsidiaries), and (iv) anyone in the United States (which mostly includes US branches of foreign entities and as well as any individuals who are based in the US).

While the primary sanctions are limited to transactions involving US individuals with SDNs, the scope of such restrictions will be expanded by taking into account the “facilitation” element. This rule states that a US person may not utilize a non-US person to execute a transaction that is illegal under the penalties. The US dollar transactions account for the majority of the facilitation factor.

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Secondary Sanctions

They target the non-US persons to threaten non-US persons with various levels of exclusions from the US and its markets. It can be explained with an example of the inability of a country to import goods from the US.

There is an SDN (Specially Designated Nationals) list that includes all the primary risks which can happen to non-US persons. They generally target the economic sectors of the targeted country, like the gas and shipping sectors.

These Secondary sanctions were imposed strictly against Iran after 2010. President Trump’s administration has expanded the use of Secondary sanctions dramatically against Iran. It was lifted in 2016 post the Iran nuclear deal. Secondary sanctions have been imposed since then against North Korea, Russia, Syria, China, Venezuela, etc.

Any violation of Secondary sanctions results in a non-US person being barred from transacting with the US at varying levels. Secondary sanctions present non-US targets with a choice of either doing business with the US or with the sanctioned target, or both. It has provided leverage over foreign entities, as the threat of isolation from the US financial market almost always outweighs the value of commerce with the sanctioned state. 

According to CNAS, Out of total Secondary sanctions designations, Iran accounts for 68% of the sanctions imposed by the US. The US is using these sanctions as a tool to push through its foreign policy agenda. The agenda is to make the US a global economy. The US has penalized foreign firms several times for breaching US sanctions legislation.

The lawfulness of these sanctions is being contested before domestic and international judicial mechanisms. The European Union makes use of various non-judicial mechanisms such as blocking statutes, special purpose vehicles to circumvent the reach of sanctions, or countermeasures. Although the effectiveness of this mechanism is not certain. 

Secondary sanctions target non-US individuals by threatening them with exclusion from the US market if they engage in SDN transactions. Secondary sanctions have been around for a long time. They have, however, been more discussed since 2010 (due to the use of such sanctions against Iran). North Korea, Russia, Venezuela, and Syria are among the countries targeted by secondary sanctions.

 Things to keep in mind when watching US sanctions regulations that may affect your business:

• The 50% Rule: If an SDN controls 50% or more of a company, that company is classified as an SDN.

• The SDN list is updated on a regular basis, and ownership is the criterion, not the governing factor of the company, according to this rule.

An updated SDN list is available from OFAC. The most recent list and updates can be found in here.

OFAC has stated that the sanctions prohibiting financial transactions related to Iranian proceedings before the International Criminal Court (ICC) have been lifted. Iranian nationals who have chosen the ICC as the arbitral tribunal in their international commercial dealings will not have any difficulty submitting the arbitral fees to the ICC starting this month. It’s fantastic news for Iranian businesspeople to have access to the ICC’s trustworthy dispute resolution services. The is to what will happen to overseas firms which breached contracts by taking advantage of Iranian parties’ inability to file their claims before the ICC.

Another OFAC enforcement action against a foreign corporation (headquartered in Hong Kong) with no US nexus in its contacts with a sanctioned jurisdiction (Iranian-origin items purchased from Thailand), other than the fact that the goods were paid for in US dollars. When the US financial system is used (even indirectly) for transactions that may involve sanctioned persons or jurisdictions, non-US entities risk violating US sanctions.

The company revised its sanctions screening methods to include mandatory screening of all counter-parties in its transactions, which was an interesting remedial approach. The main cause of the infractions, on the other hand, were limited to a few workers intentionally bypassing company-wide sanctions compliance measures, such as being unable to make U.S. currency payments in connection with Iran-related business transactions. All of them were fired, and the corporation bolstered its sanction’s compliance team by relocating it to its Legal Department and adding more experts.

Financial Transactions Sanctions

Secondary sanctions are economic sanctions which are a political tool. They are used to forcing sanctions targets to fall in line with the targeting state’s political preferences relating to disarmament, human rights compliance, or even the choice of the regime. They can take the form of trade, finance, investment, and asset restrictions. 

Between the territory of the targeting state and the state targeted by the sanctions, or between nationals of the target state and the target state, Primary sanctions prohibit or condition economic relations . Secondary sanctions are the retaliatory sanctions that do not impose monetary penalties, but rather seek off foreign parties from getting access to the US financial and commercial markets if these entities conduct business in a manner considered detrimental to US foreign policy. 

In Iran, these sanctions have played a destructive role in the economy and financial market. For instance, the Iranian Transactions and Sanctions Regulations (ITSR) prohibit, among other things:

The export, re-export, supply or sale, indirectly or directly, by a US person or from the US, wherever located, of any technology, goods, or services to Iran; and

The facilitation by a US person of transactions by a foreign person that they would otherwise be prohibited from engaging in under the ITSR. 

For foreign entities owned or controlled by a US person, the prohibitions in the ITSR is also applied.

Foreign investment has been kept away from the Iranian market due to these sanctions by the US. This means that foreign competition will avoid Iran, and it will be difficult to raise funds in Iran. Apple has removed all Iranian apps including Snapp from its App Store.

As a result, the company started cooperating with the Android marketplace. Some other Iranian start ups with apps on the App store were affected by this decision. There were attempts made to resolve the conflict, but nothing happened. They also went to social media to stop this banning of apps.

The valuation of the company suffered a lot, and its shareholders and employees suffered. The hardware was supplied by the US to Iran for the working of Iranian apps, and now they have to make sure that there was no sanctioned senior executive at Snapp. It also has to find alternatives for advertisements that were earlier done on Instagram and Google. The US also withdrew from the JCPOA due to which Iran entered a hyperinflationary period!

Due to the imposed sanctions on Iran, investing in Iran might have always been a source of doubt for foreign investors. What should be considered is the post-sanctions possibilities and opportunities that come with factors such as the country’s vast population and geographic location.

Refer to this article about doing business for further information.

According to an overview by US Congressional Research Service, there are various forms of restrictions that can be imposed, including:

  1. Denial of export-import bank loans, credit, or credit guarantees for US export to the sanctioned entity
  2. Denial of licenses for the US export of military or militarily useful technology to the entity.
  3. Denial of US bank loans which is exceeding $10 million in one year to the entity
  4. If the entity is a financial institution, a prohibition on its service as a primary dealer in U.S. government bonds; and/or a prohibition on its serving as a repository for U.S. government funds
  5. Prohibition on U.S. government procurement from the entity
  6. Prohibition on U.S. government procurement from the entity
  7. Prohibition on any credit or payments between the entity and any U.S. financial institution
  8. Prohibition of the sanctioned entity from acquiring, holding, using, or trading any US-based property in which the sanctioned entity has a (financial) interest in
  9. Restriction on imports from the sanctioned entity, in accordance with the International Emergency Economic Powers Act
  10. A ban on a US person from investing in or purchasing significant amounts of equity or debt instruments of a sanctioned person
  11.  Exclusion from the United States of corporate officers or controlling shareholders of a sanctioned firm
  12. Imposition of the ISA sanctions on principal offices of a sanctioned firm

President Trump has also restricted travelling to the US from countries like some Arab states, i.e., Israel. The US is so vigorously issuing denials and prohibitions in the context of Secondary sanctions. US Secondary sanctions are based on penalties rather than access denials. There are four jurisdictional triggers for the access denial, such as control by a US company, use of US technology or of the US financial system, and trafficking in confiscated US property. The issue is these triggers might be compatible with the customary international law of jurisdiction, as the relevant conduct that is subject to US sanctions appears to be extraterritorial.  

Conclusion

The penalties imposed by the US must be proportionate in nature. Thus, when we question the penalty or restriction imposed as a sanction, we must focus on the proportionate principle of offense and penalties rather than questioning the jurisdiction of the US under international law.

Post the reinstatement of US sanctions against Iran in 2018, a more active attitude amongst foreign states and the EU is apparent. The EU blocking Statute appears to officially condemn the imposition of penalties on foreign firms for violations of Secondary sanctions is incompatible with international law.

This aggressive use of Secondary sanctions may harm rather than further US interests if economic operations pivot away from the financial system of the US or third-party states retaliate. There is a need for international dialogue on the role of, and limits to, unilateral sanctions to prevent further escalations to the detriment of the international legal order.

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