On November 22, 2022, the US Department of the Treasury’s Office of Foreign Assets Control (OFAC) published a determination pursuant to Executive Order 14071 (EO 14071) (the Determination) and a guidance on the implementation of the price cap policy for Russian-origin crude oil (the Guidance). These followed OFAC’s preliminary guidance released on September 9 (see Steptoe’s earlier blog post here). The Determination sets forth the categories of services relating to the maritime transport of Russian-origin crude oil (Covered Services) that US persons are prohibited from providing directly or indirectly to a person located in Russia, unless the Russian crude oil is purchased at or below the price cap. The Guidance addresses issues relating to the implementation of the price cap policy for Russian-origin crude oil.
The Determination prohibits the exportation, reexportation, sale, or supply, directly or indirectly, from the United States, or by a US person, wherever located, of any of the Covered Services to any person located in Russia, unless licensed or authorized by OFAC. The Covered Services are: (i) trading/commodities brokering, (ii) financing, (iii) shipping, (iv) insurance, including reinsurance and protection and indemnity, (v) flagging, and (vi) customs brokering. The Determination states that Covered Services are authorized if the Russian oil is purchased at or below the price cap. We anticipate similar services to be covered by the price cap policy for petroleum products that OFAC says will be published in the near future.
The prohibitions on Covered Services in this Determination will become effective at 12:01 a.m. EST on December 5, 2022. Consistent with FAQ 1094, the Determination excludes Covered Services with respect to Russian-origin crude oil that is loaded onto a vessel at the port of loading prior to 12:01 a.m. EST, December 5, 2022, and unloaded at the port of destination prior to 12:01 a.m. EST, January 19, 2023. In other words, within those time and date parameters, US service providers can continue to provide the otherwise prohibited Covered Services related to the maritime transport of Russian-origin crude oil, regardless of its purchase price.
1. Covered Services
The Guidance includes definitions for crude oil as well as each type of Covered Service. Of note, one of the covered services, “financing,” does not include the processing, clearing, or sending of payments by banks that are operating solely as intermediaries that do not have any direct relationship with the persons providing services related to the maritime transport of the Russian oil in the underlying transaction, i.e., when the person is a non-account party. The term “financing” also does not include services with respect to foreign exchange transactions and the clearing of commodities futures contracts either.
In practical terms, this means that US intermediary banks could process payments for the purchase of Russian crude oil under a letter of credit issued by a non-US bank, even if the purchase price was above the price cap, provided that the US intermediary bank has no direct relationship with the person providing services related to the maritime transport of the Russian oil. However, the OFAC Guidance indicates that the US intermediary bank could not have any role in the underlying trade finance transaction as an issuing, advising, or negotiating bank.
2. The Price Cap
How is it set and what is included in the price?
The price cap for Russian oil will be set by the Price Cap Coalition, an international coalition that includes the Group of Seven (G7), the European Union, and Australia. Shipping, freight, customs, and insurance costs are not included in the price cap and must be invoiced separately and at commercially reasonable rates.
When does it start and stop?
The Guidance addresses the question of when the price cap “starts” and “stops.” It notes that the price cap “applies from the embarkment of maritime transport of Russian oil,” i.e., when the Russian-origin crude oil is sold for maritime transport, through the first landed sale outside Russia through customs clearance. Once the oil has cleared customs in a place other than Russia, the price cap does not apply to any further onshore sale. However, if the Russian oil is reexported using maritime transport after clearing customs without being substantially transformed outside of Russia, the price cap will still apply, meaning that US persons can only provide the otherwise prohibited Covered Services in relation to such Russian oil if the oil is sold at or below the price cap. In short, according to the Guidance, the price cap will apply as long as the oil is seaborne, regardless of the number of sales at sea until it is substantially transformed after a landed sale, or it clears through customs with no more maritime transport.
OFAC explains that crude oil is considered to be “substantially transformed” if it “is refined or undergoes other substantial transformation such that the product loses its identity and is transformed into a new product having a new name, character, and use.” OFAC notes that the blending of crude oil alone is not a substantial transformation. Once crude oil is substantially transformed in a jurisdiction other than Russia, OFAC no longer considers it to be of Russian origin, and therefore the price cap no longer applies (and Covered Services that would otherwise be prohibited may be provided) even if the substantially transformed oil is further exported using maritime transport.
De Minimis Blending
OFAC also notes that it will not consider crude oil to be of Russian origin solely because it contains a de minimis amount of Russian-origin crude oil left over from a container or tank (e.g., an unpumpable amount that cannot be removed from the container without causing damage to the container). OFAC does not consider as Russian-origin any crude oil that transits through a pipeline in Russia that is loaded and certified with a certificate of origin verifying its non-Russia origin.
3. “Safe Harbor” for Good Faith Compliance
The Guidance establishes a “safe harbor” for US service providers complying in good faith. It allows US service providers following the safe harbor’s recordkeeping and attestation process to provide Covered Services without concern that they will be penalized for “inadvertently deal[ing] in the purchase of Russian oil sold above the relevant price cap owing to falsified or erroneous records provided by those who act in bad faith or make material misrepresentations.” This recordkeeping and attestation process requires each party in the supply chain of Russian oil shipped via maritime transport to demonstrate or confirm that the Russian oil has been purchased at or below the price cap and retain relevant records for five years, in addition to standard due diligence.
The Guidance sets forth specific process requirements for actors in each of the three “tiers” to qualify for the safe harbor. The due diligence guidance for the safe harbor is substantially similar to what was stated in OFAC’s Preliminary Guidance on September 9, as described in our previous blog post. However, there are some slight changes, which we discuss below.
Tier 1 Actors are those who regularly have access to direct access to price information in the ordinary course of business. These actors now include commodities brokers and traders, but not customs brokers (moved to Tier 2). To be afforded the safe harbor, Tier 1 Actors must retain price information such as invoices, contracts, receipts, and proof of payments (instead of accounts payable), and provide information/attestation to Tier 2 or Tier 3 Actors, as needed.
Tier 2 Actors now include financial institutions, ship/vessel agents, and customs brokers. These actors are those who are sometimes able to request and receive price information from their customers in the ordinary course of business. To be afforded the safe harbor, Tier 2 Actors must (i) request and retain price information (to the extent practicable) or (ii) obtain and retain a signed attestation from Tier 1 or the customer/counterparty (when direct receipt of price information is not practicable). As a result, in addition to standard due diligence, financial institutions providing transaction-specific trade finance should request documentation from their customers, such as invoices and contracts, to show the origin, date, and unit price. Where obtaining such information is not practicable for transaction-specific financing, or when a financial institution is providing general financing, the financial institution should obtain and retain signed attestations from downstream customers or subcontractors.
Tier 3 Actors now include insurers, reinsurers, and P&I clubs, as well as two more categories of actors that were not identified in the Preliminary Guidance on September 9: shipowners and flagging registries. These actors are those who do not regularly have access to price information in the ordinary course of business. To be afforded the safe harbor, Tier 3 Actors must obtain and retain attestations from Tier 1, Tier 2, or the customer/counterparty. In the insurance sector, this can be done by using existing standard sanctions exclusion clauses, or by incorporating new clauses to exclude coverage for activities related to the maritime transport of Russian oil purchased above the price cap.
Along with the Guidance, OFAC issued three general licenses:
- GL 55 authorizes transactions related to the maritime transport of crude oil originating from the Sakhalin-2 project (Sakhalin-2 byproduct), if the Sakhalin-2 byproduct is solely for importation into Japan, through September 30, 2023.
- GL 56 authorizes transactions related to the importation of Russian-origin crude oil into the Republic of Bulgaria, the Republic of Croatia, or landlocked EU member states as described in Council Regulation (EU) 2022/879 of June 3, 2022.
- GL 57 authorizes transactions ordinarily incident and necessary to addressing vessel emergencies related to the health or safety of the crew or environmental protection, including safe docking or anchoring, emergency repairs, and salvage operations. This authorization includes the offloading of Russian-origin crude oil if that offloading is ordinarily incident and necessary to address such vessel emergencies.
US persons that seek to continue to provide covered services prohibited by the Determination should contact OFAC and request a specific license.
OFAC notes that it intends to focus its enforcement actions on actors who “willfully violate or evade” the price cap. In the Guidance, OFAC makes it clear that it will not pursue a penalty against a US service provider that reasonably relies on the documentation or attestations as described in the Guidance, unless the US provider “knew or had reason to know” that such documentation was falsified or erroneous or that the Russian oil was purchased above the relevant price cap. For example, if the US service provider did not have direct access to the price information and reasonably relied in good faith on a customer attestation, OFAC will not penalize the service provider for the violations attributable to the conduct of an actor who causes that US person to unknowingly violate the Determination.
Persons that make purchases of Russian oil above the price cap and that knowingly rely on US service providers who provide Covered Services; persons that knowingly provide false information, documentation, or attestations to such a service provider; and persons using side deals to obfuscate the “real” purchase price paid by an intermediary or the ultimate consignee may be deemed to have violated the Determination, and may become the targets of OFAC or criminal enforcement actions.
With respect to evasion, OFAC notes that shipping, freight, customs, and insurance costs are not included in the price cap and must be invoiced separately at “commercially reasonable rates.” OFAC would view commercially unreasonable shipping, freight, customs, or insurance costs as a sign of potential evasion of the price cap.
6. Reporting Requirement for US Persons
US persons providing Covered Services are required to reject participating in an evasive transaction or a transaction that violates the Determination, and report such a transaction to OFAC in accordance with 31 CFR § 501.604. Reports must be filed within 10 business days of the rejected transaction and be submitted to OFAC via email, mail, or any other official electronic reporting option specified on OFAC’s website.
7. Applicability to Covered Services Provided to Non-Russian Persons
Of note, the Guidance does not refer to the fact that the Determination prohibits the direct or indirect provision of Covered Services “to any person located in the Russian Federation,” even though this language is included both in EO 14071 and in the Determination. The Guidance’s lack of reference to that limiting language, and the descriptions of the Covered Services in the Guidance, appear to suggest that OFAC may be adopting a broader interpretation of when a service is covered by the prohibition. Indeed, the Guidance appears to embody an unstated (and debatable) assumption that any provision of a Covered Service is ultimately to “a person located in the Russian Federation” if the service relates to Russian-origin oil, even if the direct counterparty receiving the service is from a third country. It is possible that OFAC will issue a clarification on how the prohibitions apply to services provided to non-Russian persons in relation to Russian-origin crude oil.