U.S. Sanctions Against Russians, Ukrainian Separatists and Iran What it Means For Insurers OFAC Compliance Programs

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1 Westlaw Journal insurance coverage Litigation News and Analysis Legislation Regulation Expert Commentary VOLUME 24, issue 34 / may 30, 2014 Expert Analysis U.S. Sanctions Against Russians, Ukrainian Separatists and Iran What it Means For Insurers OFAC Compliance Programs By Geoffrey Etherington, Esq., and A.J. Kritzman, Esq. Edwards Wildman Palmer LLP The United States and its allies have long countered threats to global stability and national security through the use of economic sanctions. Sanctions employed against those perpetrating the current crisis in Ukraine and those against Iran, which are aimed at curtailing the rogue nation s nuclear ambitions and sponsorship of terrorism, are the two sanction regimes grabbing headlines and fueling discussion in diplomatic circles. The effects of U.S. sanctions, however, go far beyond politics and global relations. Sanctions directly and indirectly affect the economic interests of those doing business in the United States as well as U.S. persons transacting business overseas. Insurers, both in the United States and abroad, should not only be aware of U.S. sanctions, but should also have effective and detailed policies and procedures in place to ensure they do not violate those sanctions, unknowingly or not. Background The Office of Financial Asset Control of the U.S. Treasury Department administers U.S. sanctions against certain countries and persons through a series of programs established via statute, regulation or executive order. The programs cover various countries (e.g., Russia and Iran) and specific activities (global terrorism, non-proliferation of WMDs, etc.). The countries, persons or types of transactions restricted change from time to time. OFAC administers a list of Special Designated Nationals, which contains the names of thousands of people for whom these sanctions apply. The SDN list is continually updated as circumstances warrant. OFAC sanctions apply to U.S. persons (entities and individuals), which include insurers, reinsurers, agencies, brokerages, reinsurance intermediaries, third-party administrators, independent adjusters, and their directors, officers and employees. Individuals who are U.S. citizens or permanent residents must comply, wherever they are located and for whomever they work. Further, anyone who is physically present in the U.S. must also comply. OFAC requires that any funds in which an OFAC target has a direct or indirect interest must be blocked, i.e., deposited into a U.S. bank in a separate interest-bearing account, and a report must be filed with OFAC within 10 days after the blocking. How OFAC sanctions apply to insurance Broadly speaking, OFAC prohibits companies and individuals from issuing insurance policies and reinsurance contracts involving insurable risks subject to a sanctions program. In some programs,

2 OFAC also prohibits actions approving, guaranteeing, financing or facilitating transactions involving OFAC targets. Specifically, claims cannot be adjusted or paid to an OFAC target. Premiums cannot be charged to or received from an OFAC target. Exemptions or exceptions can be made only by obtaining a license or license exception issued by OFAC. Challenges arise because OFAC targets can appear in transactions in various ways, such as insureds and additional insureds, policyholders, payers of premium, beneficiaries, intermediaries and administrators, third-party liability claimants, loss payees, banks as lien holders, or banks to which premiums and claims payments are routed or deposited. Penalties The specific restrictions and penalties vary based on the OFAC program. The facts of a particular transaction must be carefully scrutinized in the context of the specific program. Most OFAC programs are based on strict liability, meaning that even unintentional violations may result in civil and criminal penalties for persons involved in underwriting, administration and claims. Sanctions directly and indirectly affect the economic interests of those doing business in the United States as well as U.S. persons transacting business overseas. Civil penalties for the violation of OFAC sanctions can be up to $250,000 or twice the value of the transaction per violation, whichever is greater. Criminal penalties can be fines up to $10 million and/or up to 30 years in prison per violation. The value of an insurance transaction is typically measured by the amount of premium or the amount of a claim payment. The penalty amounts are assessed for each violation. A single policy issued to an OFAC target could result in multiple violations, occurring at, for example, policy issuance, each subsequent receipt of premium and payment of losses. Criminal referrals are made when the violation is intentional, resulting from a deliberate corporate policy known to senior management. Crisis in Ukraine In response to the ongoing crisis in Ukraine, the United States has imposed various trade sanctions, asset freezes and travel restrictions against designated persons, including high-ranking Russian and Ukrainian officials, with potential application to entire sectors of the Russian economy. On March 6, President Barack Obama issued Executive Order setting forth the foundation for imposing sanctions against any person responsible for or complicit in actions or policies that undermine democratic processes or institutions in Ukraine or threaten the peace, security, stability, sovereignty or territorial integrity of Ukraine. Sanctions under EO are also applicable to persons involved in the misappropriation of Ukraine state assets or who have asserted governmental authority over any part of Ukraine without the authorization of the Ukrainian government. The relevant sanctions include, but are not limited to, asset blocking and denial of entry into the United States. On March 18, Obama issued Executive Order 13661, which provided OFAC the ability to target Russian government officials and their supporters, and any individuals or entities that operate in the arms or related-material sector of the Russian Federation. EO came in the wake of a referendum in Crimea on March 17, in which over 90 percent of Crimea s voting population cast ballots in favor of seceding from Ukraine and joining Russia, though many in the diplomatic community, including the United States, condemned the referendum as illegitimate. 2 may 30, 2014 n volume 24 n issue Thomson Reuters

3 Obama expanded his earlier orders March 20, issuing Executive Order 13662, which imposed sanctions on individuals and entities that operate in critical sectors of the Russian economy such as financial services, energy, metals and mining, engineering, and defense-related materials. To date, several dozen people (e.g., high-level Russian government officials, their supporters and Ukrainian separatists) and entities (e.g., Russian financial institutions and a Ukrainian oil and gas company) have been named to the SDN list under OFAC s Ukrainian-related sanctions program. While some designations appear obvious, such as Bank Rossiya, a leading Russian bank with close ties to personal allies of Russian President Vladimir Putin, other sanctions, such as those against Aquanika, a mineral water and soft drink company, are less obvious. Aquanika is owned or controlled by the Volga Group, which was designated an OFAC target April 28 because it is owned or controlled by Gennaddy Timchenko, who was designated an OFAC target under EO for his close association with senior Russian government officials. Insurers must pay special heed to the ownership and control of potential insureds and claimants as the list of OFAC targets grows under the Ukraine-related program. While many of the individuals recently added to the SDN list are deeply ingrained in the politics and policies of the Russian Federation, they also have large investments outside Russia. As a result, recent SDN list designations may affect a number of foreign companies not currently listed on the list. To help with the ambiguity this creates, OFAC has released special guidance regarding entities owned by OFAC targets, which is summarized as follows: An OFAC target is considered to have an interest in all property and interests in property of an entity in which the target owns, directly or indirectly, a 50 percent or greater interest. The property and interests in property of such an entity are blocked regardless of whether the entity itself is listed on the SDN list. Accordingly, a U.S. person generally may not engage in any transactions with such an entity unless authorized by OFAC. Broadly speaking, the government prohibits companies from issuing insurance policies and reinsurance contracts involving insurable risks subject to a sanctions program. U.S. persons are advised to act with caution when considering a transaction with a nonblocked entity in which an OFAC target has a significant ownership interest that is less than 50 percent or which an OFAC target may control by means other than a majority ownership interest. Such entities may be the subject of future designation or enforcement action by OFAC. Furthermore, a U.S. person may not procure goods, services or technology from, or engage in transactions with, an OFAC target directly or indirectly (including through a third-party intermediary). The insurance industry should be in wait-and-see mode. Although nothing in the current Ukraine-related sanctions points specifically to insurance, insurers should confirm that their procedures for screening for sanctioned persons are updated with respect to the individuals and entities recently added to the SDN list and gather information about major stockholders of customers and loss payees. Insurers should not receive insurance policy premiums from or pay claims to such persons. Insurers should also monitor any Ukraine-related additions to the SDN list as the Obama administration has indicated more may be added and future executive orders or congressional actions. Insurers would be advised to scrub their existing customer and claimant databases on a routine basis for those on the SDN list. Recent activity regarding sanctions against Iran The U.S. has imposed various trade sanctions against Iran since the Iranian Revolution in On July 1, 2013, the latest U.S. sanctions against Iran, the Iran Freedom and Counter-Proliferation 2014 Thomson Reuters may 30, 2014 n volume 24 n issue 34 3

4 Act of 2012 took effect. IFCA, signed into law to deter Iran s growing nuclear ambitions, imposes sanctions against transacting in goods or services used in connection with the energy, shipping or shipbuilding sectors of Iran. IFCA also imposes sanctions against the provision of underwriting services or insurance or reinsurance: For any activity with respect to Iran for which sanctions have been imposed by IFCA or any other provision of law. To or for any person engaged in transactions prohibited under IFCA. To or for any person on the SDN list. The apparent success of IFCA and its European counterparts brought Iran to the bargaining table in late On Nov. 24 the United States, China, the Russian Federation, France, Germany and the United Kingdom (known as the P5+1 ) entered into a joint plan of action with Iran to suspend, among other things, U.S. and E.U. sanctions on Iran s petrochemical exports and associated services, which it defines as insurance, transportation or financial services. In particular, the agreement would suspend sanctions on insurance and transportation services regarding Iran s crude oil sales. A single policy could result in multiple violations, occurring at, for example, policy issuance, each subsequent receipt of premium and payment of losses. In exchange, the JPOA calls for a roll-back of Iran s nuclear program and for the program to be monitored by the International Atomic Energy Agency. On Jan. 12 the P5+1 and Iran arrived at technical understandings for the JPOA, which began implementation Jan. 20 and expires July 20, after which it is subject to renewal and calls for a final step of comprehensive solution to be agreed upon by the parties within one year after the adoption of the JPOA. To date, a final step of comprehensive solution has not been achieved. To implement the sanctions relief outlined in the JPOA, the U.S. Treasury Department has issued, among other items, limited waivers to IFCA sanctions (with specific exceptions) for transactions by non-u.s. persons during the JPOA period involving Iran s exports of crude oil to China, India, Japan, the Republic of Korea, Taiwan and Turkey. To the extent that the provision of insurance or reinsurance is an associated service of an activity for which the JPOA provides temporary relief, the provision of that insurance or reinsurance during the JPOA period would not be sanctionable. Conversely, coverage for perils before or after the JPOA remains impermissible. Sanctions on the provision of insurance or reinsurance for other types of activities involving Iran are still in place. To date, OFAC has not issued any official guidance on whether claim payments made to policyholders or claimants after the termination of the JPOA period will be permissible for polices in force during the JPOA period. New York subpoenas In early April the New York Department of Financial Services issued subpoenas to four insurers as part of an ongoing probe into violations of U.S. trade sanctions against Iran. The issuance of these subpoenas follows an investigation that began last year of several non-u.s.-based reinsurers certified under New York Insurance Regulation 20 (Credit for Reinsurance from Unauthorized Insurers) into potential violations of IFCA. The Department of Financial Services regulates insurers that transact insurance in the state of New York and has the authority to rescind an insurer s ability to write policies on New York risks if it finds the insurer has violated the law. 4 may 30, 2014 n volume 24 n issue Thomson Reuters

5 Avoid penalties with effective OFAC compliance policies and procedures Although there is no requirement that companies implement an OFAC compliance program, every insurer should consider establishing a set of written OFAC policies and procedures. OFAC increasingly wants to see meaningful compliance programs, not just manuals that are largely left unread. An effective compliance program must contain a thorough and continuous risk assessment of the insurer s business by class of business. It must take into consideration the geographic region of the risks involved and screen selectively for transactions in restricted countries and for transactions that involve restricted persons or activities (e.g., international petrochemical shipments, transactions going through Russian banks, etc.). Insurers should consider instituting the following internal controls to ensure compliance: Maintain an OFAC compliance point person to run OFAC screening, handle OFAC inquiries and provide regular OFAC training to employees, insurance agents, brokers, reinsurance intermediaries and independent adjusters. Continually monitor the SDN list for changes and update the insurer s own SDN list. Require sufficient related information from claimants with regard to claims and from applicants with regard to policy issuance and renewals to screen for sanctioned persons. With regard to risks located in high risk regions or industries, use comprehensive OFAC interdiction screening software to run checks against the most recent SDN list when an application for coverage is submitted, premium is received, a request to change account information is made, a claim is presented, and before any and all payments are issued. Scrub the current list of policyholders and covered property and activities for potential matches against the SDN list. Insurers would be advised to scrub their existing customer and claimant databases on a routine basis for those on the list of special designated nationals. When an apparent match is found, determine whether it is accurate or a false positive, which will require human research and analysis by those familiar with OFAC sanctions. If a match proves to be accurate, the property (e.g., insurance policy, premium, claim, claim payment, etc.) must be blocked and OFAC must be notified within 10 days after the property is blocked. The policyholder and/or claimant should be notified that the property has been blocked in the ordinary course of business and OFAC has approved the language for this purpose. Perform periodic independent audits of the compliance program to make sure it is working effectively. Issue routine advisory notices or statements of policy regarding OFAC compliance to insurance agents, brokers, reinsurance intermediaries and independent adjusters. Negotiate representations of OFAC compliance from insurance agents, brokers, reinsurance intermediaries and independent adjusters in vender or marketing agreements. Use policy exclusions such as the following one set forth in the joint form promulgated by the Lloyd s Market Association and the Independent Underwriters Association, released Sept. 1, 2010: No (re)insurer shall be deemed to provide cover and no (re)insurer shall be liable to pay any claim or provide any benefit hereunder to the extent that the provision of such cover, payment of 2014 Thomson Reuters may 30, 2014 n volume 24 n issue 34 5

6 such claim or provision of such benefit would expose that (re)insurer to any sanction, prohibition or restriction under United Nations resolutions or the trade or economic sanctions, laws or regulations of the European Union, United Kingdom or United States of America. It is important to remember that these requirements are ongoing. If a policy is issued or a claim is made at a time when none of the parties involved are OFAC targets, but that changes after policy issuance or the claim is made, all related transactions must cease, and a report must be filed with OFAC. Geoffrey Etherington (L) is a New York-based partner in Edwards Wildman LLP s insurance and reinsurance department. He focuses his practice on M&A and capital markets transactions involving insurance and reinsurance companies, other financial services firms, and hedge funds. He advises his clients on insurance-linked securities, captive insurance programs and other forms of alternative risk transfer, and the impact of sanctions on the insurance business. He can be reached at getherington@ edwardswildman.com. Alfred J. Kritzman (R) is an associate in the firm s Hartford, Conn., office. A member of the insurance and reinsurance department, he focuses his practice on advising insurance companies and banking and financial institutions on regulatory, compliance and transactional issues. He can be reached at akritzman@edwardswildman.com Thomson Reuters. This publication was created to provide you with accurate and authoritative information concerning the subject matter covered, however it may not necessarily have been prepared by persons licensed to practice law in a particular jurisdiction. The publisher is not engaged in rendering legal or other professional advice, and this publication is not a substitute for the advice of an attorney. If you require legal or other expert advice, you should seek the services of a competent attorney or other professional. For subscription information, please visit www. West.Thomson.com. 6 may 30, 2014 n volume 24 n issue Thomson Reuters