A coalition of countries, including the G7 nations (Canada, France, Germany, Italy, Japan, the United Kingdom, and the United States), the European Union, and Australia (the “Price Cap Coalition”), have recently released policies prohibiting a broad range of services related to the maritime transportation of Russian-origin crude oil sold above a soon-to-be established price cap. These policies are intended to maintain a reliable supply of oil to the global market while limiting the revenues Russia will receive from the sale of such products. The ban on specified services will take effect on December 5, 2022. The price cap for Russian oil will be set after a technical exercise conducted by the Price Cap Coalition. The coalition has announced its intent to apply similar price cap policies with respect to the maritime transportation of Russian-origin petroleum products, which are expected to come into effect on February 5, 2023.
Under the price cap policies, service providers subject to the jurisdiction of the Price Cap Coalition countries will be prohibited from providing a broad range of services related to the maritime transportation of Russian-origin oil, unless the Russian-origin oil is purchased at or below the price cap. The covered services include trading/commodities brokering, financing, shipping, insurance and other financial services, flagging, and customs brokering. Parties operating in the maritime supply chain for Russian-origin oil will be required to retain and share information or attestations as to the purchase price of the oil to confirm that it has been purchased at or below the cap. This recordkeeping and attestation process is in addition to standard due diligence relating to sanctions risks and is designed to create a “safe harbor” from liability for breach of sanctions where service providers inadvertently provide covered services related to the maritime transport of Russian-origin oil purchased at prices above the price cap in reasonable reliance on such price information or attestations.
This client alert discusses the U.S., EU, and UK legal authorities and guidance on the implementation of the price cap policies related to the maritime transport of Russian-origin oil.
U.S. Price Cap Policy
Determination Prohibiting Certain Services Related to Maritime Transport of Russian Oil
To implement the price cap policy for the maritime transport of Russian-origin crude oil, the U.S. Treasury Department issued a Determination Pursuant to Section 1(a)(ii) of Executive Order 14071 (the “Determination”) on November 21, 2022. The Determination prohibits “the exportation, reexportation, sale, or supply, directly or indirectly, from the United States, or by a United States person, wherever located,” to “any person located in the Russian Federation” of certain categories of services (hereinafter “Covered Services”) relating to the maritime transport of Russian-origin crude oil. Notwithstanding the prohibition, the Covered Services are authorized when the purchase price of the Russian-origin oil being transported does not exceed the relevant price cap determined by the Secretary of the Treasury in consultation with the Secretary of State. “U.S. persons” for purposes of the Determination are legal entities organized under the laws of the United States and their non-U.S. branches; individual U.S. citizens and lawful permanent residents (“green-card” holders), regardless of where they are located or by whom they are employed; and persons physically located in the United States. “Crude oil” is defined to include those items described at Harmonized Tariff Schedule of the United States subheading 2709.00.
The prohibition on Covered Services in the Determination comes into effect at 12:01 a.m. EST on December 5, 2022. However, Russian-origin crude oil loaded onto a vessel at the port of loading prior to 12:01 a.m. EST on December 5, 2022, and unloaded at the port of destination prior to 12:01 a.m. EST on January 19, 2023, is not subject to the Determination.
The Determination does not authorize the import of Russian oil into the United States, which is prohibited pursuant to Executive Order (“E.O.”) 14066 as described in our March 10, 2022 alert.
To assist with the implementation of the price cap policy, the U.S. Treasury Department’s Office of Foreign Assets Control (“OFAC”) has issued guidance on the Covered Services, discussing when the policy applies, the safe harbor from OFAC enforcement actions for U.S. service providers, and related compliance and implementation topics.
Covered Services
The OFAC guidance defines the Covered Services as follows:
- Trading/commodities brokering: “Buying, selling, or trading commodities and/or brokering the sale, purchase, or trade of commodities on behalf of other buyers or sellers.”
- Financing: “A commitment for the provision or disbursement of any debt, equity, funds, or economic resources, including grants, loans, guarantees, suretyships, bonds, letters of credit, supplier credits, buyer credits, and import or export advances.”
- Notably, OFAC clarifies that the processing, clearing, or sending of payments by intermediary banks is not considered “financing” where “the bank (1) is operating solely as an intermediary and (2) does not have any direct relationship with the person providing services related to the maritime transport of the Russian oil (i.e., the person is a non-account party) as it relates to the transaction.”
- Financing” also does not include services related to foreign exchange transactions and the clearing of commodities futures contracts.
- Shipping: “Owning or operating a ship for the purpose of carrying or delivering cargo and/or freight transportation; chartering or sub-chartering ships to deliver cargo or transport freight; brokering between ship-owners and charterers; and serving as a shipping/vessel agent.”
- Insurance: “The provision of insurance, reinsurance, or protection and indemnity (“P&I”) services; satisfying claims related to underwriting insurance policies that protect policyholders against losses that may occur as a result of property damage or liability; assuming all or part of the risk associated with existing insurance policies originally underwritten by other insurance carriers, including the reinsurance of a non-U.S. insurance carrier by a U.S. person; and liability insurance for maritime liability risks associated with the operation of a vessel, including cargo, hull, vessel, P&I, and charterer’s liability.”
- Flagging: “Registering or maintaining the registration of a vessel with a country’s national registry of vessels. This definition does not include the deflagging of vessels transporting Russian oil sold above the price cap.”
- Customs brokering: “Assisting importers and exporters in meeting requirements governing imports and exports. This definition does not include legal services or assisting importers and exporters in meeting the requirements of U.S. sanctions.”
The following are not Covered Services:
- Medical evacuation or other emergency services for crew members;
- Health, travel, or liability insurance for crew members; and
- Classification, inspection, bunkering, and pilotage.
Importantly, E.O. 14071, under which the Determination was issued, prohibits “any approval, financing, facilitation, or guarantee” by a U.S. person of a transaction by a foreign person where such transaction would be prohibited if performed by a U.S. person. Therefore, it appears that the Determination also would prohibit U.S. persons from facilitating the provision of Covered Services by non-U.S. persons to persons located in Russia in support of maritime transportation of Russian-origin oil sold above the relevant price cap.
When the Price Cap Applies
According to the OFAC guidance, the price cap applies from “the embarkment of maritime transit” (i.e., the time when the Russian-origin crude oil is sold by a Russian entity for maritime transport) through the first landed sale (through customs clearance) in a jurisdiction other than Russia. Once the Russian-origin oil has cleared customs in a third country, the price cap does not apply to any further onshore sales of the oil. If the Russian-origin oil clears customs and is subsequently taken back out on the water without being “substantially transformed,” however, the price cap would apply to further sales of the oil, presumably until it lands again in a jurisdiction and clears customs. During periods when the price cap applies, Covered Services can be provided by U.S. persons only if such Russian-origin oil is sold at or below the relevant price cap.
OFAC guidance provides that once crude oil is “substantially transformed” outside of Russia, it is no longer considered to be of Russian origin and the price cap no longer applies even if the oil product is further transported using maritime transport. “Substantial transformation” occurs when the crude oil loses its identity and is transformed into a new product having a new name, character, and use, such as when it is refined.
Importantly, OFAC does not consider blending of crude oil alone to be “substantial transformation.” However, the presence of a de minimis amount of Russian-origin oil left over from prior use of a container (or vessel) would not render the oil in the container (or vessel) Russian origin. This de minimis amount includes the “tank heel,” or the unpumpable quantity of oil that cannot be removed from the tank or vessel without causing it damage. Any amount of Russian oil in a vessel or container in excess of these de minimis amounts presumably could result in the entire load being deemed Russian-origin oil.
OFAC guidance indicates that shipping, freight, customs, and insurance costs are not included in the price cap and must be invoiced separately and at commercially reasonable rates. Commercially unreasonable shipping, freight, customs, or insurance costs should be considered a sign of potential evasion of the price cap.
If the price cap changes in the future, then OFAC has indicated it will authorize a period for service providers to complete the provision of Covered Services in accordance with the previous price cap.
OFAC guidance notes that crude oil that transits through a pipeline in Russia that is loaded and accompanied by a certificate of origin verifying that it is not of Russian origin, such as Kazakh- origin oil transported through the Caspian Pipeline Consortium or the Atyrau-Samara pipelines, will not be considered of Russian origin and thus will not be subject to the price cap.
Three-Tier Safe Harbor System
OFAC has established a “safe harbor” from OFAC enforcement for U.S. service providers who comply in good faith with a recordkeeping and attestation process. The safe harbor serves as a shield from strict liability in cases where such service providers inadvertently provide Covered Services in connection with the maritime transport of Russian-origin oil sold above the relevant price cap due to falsified or erroneous records supplied by bad-faith actors.
OFAC’s recordkeeping and attestation process is designed for each relevant party in the supply chain to demonstrate or confirm that the Russian-origin oil has been purchased at or below the price cap. The OFAC guidance divides service providers into three tiers of actors and specifies which requirements apply to each tier:
- Tier 1 Actors are those who regularly have direct access to price information in the ordinary course of business, such as commodities brokers and oil traders. To be afforded the safe harbor, Tier 1 Actors must retain documents showing that Russian oil was purchased at or below the relevant price cap and provide such information/attestation to Tier 2 or Tier 3 Actors, as needed.
- Tier 2 Actors are those who are sometimes able to request and receive price information from their customers in the ordinary course of business, such as financial institutions, ship/vessel agents, and customs brokers. To be afforded the safe harbor, Tier 2 Actors must, to the extent practicable, request and retain price information from Tier 1 Actors. Alternatively, if obtaining price information is not practicable, Tier 2 Actors must obtain and retain customer or counterparty attestations confirming that the Russian-origin oil was purchased or will be purchased at or below the relevant price cap.
- Tier 3 Actors are those who do not regularly have direct access to price information in the ordinary course of business, such as insurers, P&I clubs, ship owners, and flagging registries. To be afforded the safe harbor, Tier 3 Actors must obtain and retain attestations from Tier 1 or Tier 2 Actors or from customers or counterparties confirming that the Russian-origin oil was or will be purchased in compliance with the relevant price cap. For example, this can be done as part of the annual insurance policy renewal process or updates to insurance policies, or through a sanctions exclusion clause in policies or contracts.
The OFAC guidance provides a sample attestation that service providers can—but are not required to—use in their dealings.
The guidance states that OFAC will not pursue a penalty against a U.S. service provider that reasonably relies on the foregoing documentation or attestations, unless the U.S. service provider knew or had reason to know that such documentation or attestation was falsified or erroneous or that the Russian-origin oil was purchased above the relevant price cap. The OFAC guidance also notes that a customer’s or counterparty’s refusal or reluctance to provide the necessary documentation or attestation should be considered a red flag that may indicate the entity has purchased Russian oil above the relevant price cap.
The guidance specifies that OFAC’s enforcement actions will be focused on willful violators and evaders of the price cap. Although officials from the Treasury Department have indicated that the Administration is not establishing a secondary sanctions framework to target non-U.S. persons who provide services related to the maritime transport of Russian-origin oil that was purchased above the price cap, non-U.S. persons that cause U.S. persons to violate the Determination will be exposed to penalties under U.S. law.
To be afforded the safe harbor, U.S. service providers must retain relevant records for five years.
Reporting of Rejected Transactions
U.S. persons providing Covered Services are required not only to reject participating in evasive transactions or transactions that violate the Determination, but also to report any such transaction to OFAC in accordance with 31 CFR § 501.604.
General Licenses
OFAC has issued the following general licenses related to the Determination and price cap policy:
- General License No. 55 authorizes, through 12:01 a.m. EST on September 30, 2023, all transactions prohibited by the Determination related to the maritime transport of crude oil originating from the Sakhalin-2 project solely for importation into Japan.
- General License No. 56 authorizes all transactions prohibited by the Determination related to the maritime transport of Russian-origin crude oil into the Republic of Bulgaria, the Republic of Croatia, or landlocked European Union Member States, as described in Council Regulation (EU) 2022/879 of June 3, 2022.
- General License No. 57 authorizes all transactions prohibited by the Determination that are ordinarily incident and necessary to address vessel emergencies related to the health or safety of the crew or environmental protection, including safe docking or anchoring, emergency repairs, or salvage operations. This general license authorizes the offloading of Russian oil only to the extent it is ordinarily incident and necessary to address vessel emergencies; the license does not authorize any transactions related to the sale of Russian oil in violation of the Determination.
Specific Licenses
The OFAC guidance states that if a U.S. person becomes aware that it is providing a Covered Service related to the maritime transport of Russian-origin oil purchased above the price cap, the U.S. person must stop providing the service
and contact OFAC, presumably for guidance and/or licensing in order to complete the ongoing activities.
U.S. persons who have complied with the safe harbor process outlined above but subsequently discover that someone has caused them to inadvertently provide Covered Services related to the maritime transport of Russian-origin oil purchased above the price cap should seek a specific license from OFAC if the U.S. persons want to continue providing such Covered Services. OFAC will consider such license requests on a case-by-case basis.
EU Price Cap Policy
The EU had introduced the legislative basis for the price cap related to Russian oil and petroleum products as part of its eighth package of sanctions against Russia on October 6, 2022. (We outlined the details of the EU measures in this alert.) The October 6 regulations do not, however, actually impose a price cap—rather, they establish legal mechanisms for the Council to do so in the future. While the EU had announced that it intends to introduce the actual price cap before December 5, the details of how the EU will implement the cap remain undefined. On December 2, 2022, diplomats from EU Member States reportedly agreed on a $60 a barrel price cap.
UK Price Cap Policy
The Russia (Sanctions) (EU Exit) (Amendment) (No. 16) Regulations 2022 amend the UK’s Russia sanctions legislation in order to give effect to the oil price cap. The amendment advances to December 5, 2022 the entry into force of a pre-existing ban on transactions relating to the import into the UK of Russian-origin oil and oil products (that ban initially was scheduled to come into effect on December 31, 2022), and introduces new restrictions on the maritime transportation of certain oil and oil products between third countries, and the provision of associated services. The relevant services within the scope of the UK prohibitions include the following:
- Provision of financial services or funds, which includes (consistent with other aspects of the UK sanctions regime) the provision of insurance-related services, as well as banking and other types of financial services, together with transfers of funds or any other financial assets or benefits; and
- Provision of brokering services, which includes (also consistent with other UK sanctions measures) “any service to secure, or otherwise in relation to, an arrangement,” including without limitation “(a) the selection or introduction of persons as parties or potential parties to the arrangement; (b) the negotiation of the arrangement; (c) the facilitation of anything that enables the arrangement to be entered into; and (d) the provision of any assistance that in any way promotes or facilitates the arrangement.”
The maritime transport prohibition notably applies not only to persons directly involved in the transportation activity, but also to persons who own, control, charter, or operate a ship in which such transportation occurs.
The above restrictions will come into force on December 5, 2022, with respect to oil and oil products which fall under Harmonized System (“HS”) commodity code 2709 and originate in or are consigned from Russia, and from February 5, 2023, for Russian oil and oil products which fall under HS commodity code 2710. Whether or not oil or oil products “originate” in Russia will be determined in accordance with standard non-preferential rules of origin implemented under UK customs laws.
The UK price cap regime will be implemented in UK sanctions through the introduction of a Price Cap General License. The General License will authorize, subject to certain preconditions, otherwise-prohibited transactions relating to the transfer between third countries of oil and oil products sold at or below the price cap.
On November 14, 2022, UK HM Treasury’s Office of Financial Sanctions Implementation (“OFSI”) issued guidance relating to the UK implementation of the price cap (the “OFSI Guidance”), which provides further information on various aspects of the UK price cap regime. On November 21, 2022, the UK Department for Business, Energy & Industrial Strategy (“BEIS”) also published its own further guidance that focuses on the UK restrictions relating to the import of Russian oil and oil products into the UK (the “BEIS Guidance”).
The Price Cap
Once the Price Cap General License is in force, the cap will apply from receipt of cargo on a ship until the cargo is delivered and passes through customs controls in a country other than the UK, Isle of Man, or Russia (i.e., any third country), or until the oil or oil product is “substantially transformed” into a product with a different HS commodity code. The OFSI Guidance notes, in this regard, that “non-Russian oil or oil products which are blended with Russian oil or oil products will be subject to the prohibitions and price cap. Blending alone does not count as substantial transformation.”
The General License authorizations under the price cap will not extend to the import of Russian oil or oil products to the UK and will not provide a safe harbor with regard to “any prohibitions enacted by third countries on the import of Russian oil and/or oil products into their own jurisdictions.”
Oil or oil products of Russian origin or consigned from Russia will be deemed to fall below the price cap where the unit price is at or below the price cap in effect on the date of the most recent transaction in the period between the oil or oil product being loaded onto a ship and the product passing customs in a third country. The OFSI Guidance notes that the price cap will relate only to the unit price of the relevant oil or oil product and will not factor in ancillary costs of transportation or legal fees, provided that those fees are commercially reasonable and do not have the object or effect of circumventing the price cap.
Attestation
All parties subject to UK jurisdiction operating any part of the maritime supply chain will be required, as part of the Price Cap General License, to retain and share price information or attestations as to price. The UK attestation process, similar to the U.S. safe harbor mechanism outlined above, divides the market into three distinct tiers and imposes different requirements on those in each tier of the supply chain.
- Tier 1 parties are those that have access to pricing information, such as commodity brokers or traders, importers, or refiners. These parties must hold and share price information and provide attestations as to price to Tier 2 or Tier 3 counterparties.
- Tier 2 parties are those that interact with Tier 1 parties but do not have access to price information themselves, such as providers of trade finance or charterers. These parties must request and retain price information or an attestation from a Tier 1 counterparty and conduct due diligence as to the reliability and accuracy of the information provided by such Tier 1 counterparty. Tier 2 parties must also share price information and associated attestations with other parties in the transactional chain, and obtain confirmation from the Tier 1 party that they have submitted necessary reports to OFSI (see below).
- Tier 3 parties are those with no access to price information, such as reinsurers, insurance brokers, or ship owners, among others. These parties must take measures to ensure that their counterparty has committed not to purchase Russian oil at above the price cap (such as through contractual safeguards), and if transacting with a Tier 1 actor, obtain confirmation that the Tier 1 party has made necessary OFSI reports.
Attestations must set out: the name and address of both parties involved in the transaction; details of the person providing the attestation based on their knowledge of price information; and any associated documentation. The OFSI Guidance includes an example attestation.
Attestations must be retained for a period of four years beyond the end of the calendar year in which they are created and must be provided to OFSI upon request. The provision of false or misleading information in an attestation will be considered a breach of UK sanctions licensing requirements.
Reporting and Record Keeping
Tier 1 parties undertaking activity under the Price Cap General License must report separately each such activity to OFSI (including where several activities are to take place under a single contract). Activities must be reported within 30 days of each transaction and where a party has multiple reportable activities within a 30-day period, these may be reported in a single consolidated report.
Tier 2 and Tier 3 parties must request from any Tier 1 counterparty confirmation that the activity has been reported to OFSI. Where confirmation of such a report is not received, the Tier 2 or Tier 3 party must inform OFSI within 30 days and “withdraw their services as soon as reasonably practicable.”
All parties should retain records that “demonstrate adherence to the conditions and obligations of the relevant general license,” including details regarding the activity, the date on which it took place, the value and quantity of goods to which the activity relates, the names and details of parties involved in the activity, and copies of any attestations, among other information. All records should be retained for a minimum of four years beyond the end of the calendar year in which the records were created and should be capable of being produced “in a timely fashion” in response to a request by OFSI.
Involved Persons
The regulations also impose special reporting obligations on so-called “involved persons,” meaning any person involved in either the supply and delivery of oil or oil products, or the provision of restricted financial services, funds, or brokering services relating to the supply or delivery of oil and oil products. Involved persons must, in particular, report to OFSI as soon as practicable if, in the course of carrying on business, they develop knowledge or a reasonable cause to suspect that a breach of the maritime transport or associated services prohibitions noted above has occurred. The OFSI Guidance also indicates that involved persons should “withdraw their contracted services” with persons engaged in breaches “as soon as reasonably practicable.”
Additional Licenses and Exemptions
The OFSI Guidance indicates that a wind-down period will be introduced, via a general license, which will apply to oil already loaded on ships before December 5. The general license will permit contracts to ship Russian oil traded at above the price cap that are loaded before 5:01 a.m. GMT on December 5 and will be delivered and clear customs in a third country before 5:01 a.m. GMT on January 19, 2023. The general license will be subject to certain reporting requirements.
The UK regulations also provide for exemptions for the provision of maritime transportation and associated services in the case of emergencies, and with regard to transactions concerning oil and oil products that do not originate in Russia, are not owned by a person connected with Russia, and are only being loaded in, departing from, or transiting through Russia. With regard to the latter exemption, the OFSI Guidance notes that the exemption will apply even if the oil transited through Russia contains “minimal Russian oil residue.” The Guidance notes, further, that in light of the foregoing transit exemption, the prohibitions will not apply where Russia is identified as the state of export in customs declarations, provided that the country of origin for the oil or oil products is identified in the relevant customs declaration as a third country, and the goods are not owned by a person connected with Russia. (For example, the OFSI Guidance states expressly that it is OFSI’s intention that oil from the Caspian Pipeline Consortium pipeline that traverses Russia can be transported on the basis that it is of Kazakh origin and contains “unavoidable Russian residue.”)
The OFSI Guidance also notes that restrictions on Russian oil and oil products, including the price cap, will not apply to the “tank heel” of Russian oil that might remain at the base of a container that has previously been used to transport or store Russian oil or oil products.
Enforcement
OFSI announced that HM Treasury has established a “new [u]nit” that will “prepare for the UK’s restriction on the provision of services associated with the maritime transport of Russian oil and oil products, and the shipments themselves.” The new unit will be responsible for: licensing and enforcement in relation to the price cap, engaging with industry regarding the price cap, and monitoring the impact of the price cap. OFSI has also set up a specific email address to which queries regarding the price cap can be directed.
Following changes to OFSI’s enforcement powers earlier this year (detailed in our previous alert), OFSI has the power to impose civil monetary penalties of up to £1,000,000 for breaches of UK sanctions on a strict liability basis. The BEIS Guidance reiterates in particular the circumvention risks and “advise[s] all parts of the supply chain for oil imports to the UK to undertake the necessary due diligence to ensure that sanctions are not being circumvented directly or indirectly.” The OFSI Guidance similarly raises the possibility of costs of ancillary services relating to the transport of oil or oil products being used as a mechanism to circumvent the price cap and states that there will be a “robust enforcement regime backed up by a criminal prosecution” in relation to the price cap.
Nonetheless, the OFSI Guidance indicates that it “does not anticipate taking enforcement action” against parties that can demonstrate to OFSI that they have fulfilled the attestation process in a timely manner to OFSI’s satisfaction and undertaken “appropriate due diligence,” including where there is a suspected breach involving a counterparty that has falsified an attestation. As such, it will be important for parties seeking to rely upon the Price Cap General License after December 5, 2022, to ensure full compliance with the foregoing attestation, record keeping, and reporting requirements.
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We are closely monitoring developments concerning the U.S., UK, and EU sanctions and export controls against Russia, and will issue further updates in the event of material developments. In the meantime, we would be happy to address any questions you may have.
Covington’s International Trade Controls team—which includes lawyers in the firm’s offices in the United States, London, Brussels, and Frankfurt—regularly advises clients across business sectors, and would be well-placed to provide support in connection with Russia sanctions and export controls. Our trade controls lawyers also work regularly with Covington's Global Public Policy team—consisting of over 120 former diplomats and policymakers in the United States, Europe, the Middle East, Latin America, Africa, and Asia—many of whom have had substantial government experience in sanctions and export controls matters, and who regularly advise our clients on emerging sanctions policy matters and related engagements with government stakeholders. Moreover, as the Ukraine crisis continues to unfold, Covington is exceptionally well-positioned to assist clients in navigating their most complex challenges, drawing on the multidisciplinary capabilities of additional practices in areas such as international arbitration and disputes, cybersecurity, anti-money laundering, insurance, and corporate restructuring.
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