Key takeaways
Public policy objectives
Economic sanctions serve public policy objectives that take precedence over private civil rights.
UK sanctions regulations
The Court gives these a broad interpretation to reflect the underlying purpose of putting pressure on Russia or other rogue nations.
Licensing system
The option of applying for a license is intended to mitigate any unintended consequences of sanctions.
The key issue raised in these two linked cases was whether payment under standby letters of credit (LCs) issued in connection with the leasing of aircraft for use in Russia was prohibited under UK sanctions regulations, such that payment did not have to be made under the LCs until such time as licenses were obtained from the relevant authorities.
The Commercial Court held that the applicable sanctions regulations did not relieve the German bank in question, acting through its London branch, from its obligation to make payment under the LCs. The Court of Appeal subsequently reversed this decision and found that the payment obligation was suspended until such time as the relevant licenses had been obtained: see Sanctions Impact on Letter of Credit Payments | Hill Dickinson.
The Supreme Court has upheld the Court of Appeal’s decision. The Supreme Court’s decision will be of considerable interest to those whose contractual rights and obligations may be affected by international economic sanctions. It will be of particular relevance to banks and other financial institutions who issue LCs and other financial instruments as part of their trade finance activities. Those financial institutions will be relieved at the outcome of this high-profile litigation.
The clear message from the Supreme Court is that the public policy objectives of trade and economic sanctions, aimed at pressuring Russia into ending its war in Ukraine, will supersede private contractual rights that might otherwise be enforceable in a civil action.
The background facts
The LCs
The two actions raised materially identical issues. The claimants in the actions, Celestial Aviation Services Ltd (Celestial) and Constitution Aircraft Leasing (Ireland) (Constitution), provided aircraft leasing services. The defendant was UniCredit GmbH (UniCredit), a German bank acting through its London branch.
Between 2017 and 2020, twelve irrevocable standby LCs were issued by a Russian bank, Sberbank Povolzhsky Head Office (Sberbank) and confirmed by UniCredit as confirming bank. Seven of the LCs were issued to Celestial and five to Constitution, all in connection with leases of aircraft to Russian airlines that were entered into between 2005 and 2014. Each of the 12 LCs was denominated in US dollars, governed by English Law, and incorporated the UCP 600.
At the time, the LCs were opened (and the aircraft leases were entered into), there was no restriction under any relevant sanctions regime which prohibited entry into the leases or the opening of (or payment under) the LCs. That remained the position until 1 March 2022, when amendments were made to UK sanctions regulations as a result of the Russian invasion of Ukraine in February 2022.
Sanctions Regulations
On 1 March 2022, regulation 28(3)(c) (regulation 28(3)(c)) in Chapter 2 of Part 5 of the UK’s Russia (Sanctions) (EU Exit) Regulations 2019, SI 2019/855 (Regulations) was amended by the Russia (Sanctions) (EU Exit) (Amendment) (No. 3) Regulations 2022, SI 2022/195 (Amended Regulations), such that the prohibition on financial services or funds relating to military goods and military technology now extended to critical-industry goods, described as 'restricted goods' and 'restricted technology.' Critical-industry goods included aircraft: see Regulation 21(1) and Schedule 2A.
Regulation 28(3)(c), as amended, and in so far as relevant, provided that:
2 'A person must not directly or indirectly provide financial services or funds in pursuance of or in connection with an arrangement whose object or effect is ... directly or indirectly making restricted goods or restricted technology available—
3 (i) to a person connected with Russia, or
4 (ii) for use in Russia ...'
S.44 of the Sanctions and Anti-Money Laundering Act 2018 (SAMLA 2018), headed 'Protection for acts done for purposes of compliance', provides that any act done or omission made in the reasonable belief that this was necessary in order to comply with applicable sanctions regulations will not result in civil liability for that act or omission.
Termination
Shortly after regulation 28(3)(c) was amended, the Lessors terminated the aircraft leases and demanded the return of the aircraft. However, most of the aircraft were not returned and they continue to be used by the Russian lessees in breach of the terms of each of the aircraft leases.
After the Bank received demands from the Lessors to make payment to them under the LCs, it applied for and subsequently obtained licences to make those payments. However, in the meantime, the Lessors had commenced English Court proceedings against UniCredit seeking payment under the LCs.
UniCredit paid the principal amounts under the LCs after it obtained the licenses. However, there remained in dispute interest on the principal amounts and the costs of the proceedings.
The arguments
UniCredit argued that: (a) the aircraft leases were arrangements whose object or effect was making aircraft available to persons connected with Russia or for use in Russia; and (b) the provision of funds by the Bank under the LCs was 'in connection with' the aircraft leases. Accordingly, UniCredit maintained that by virtue of the amendment of Regulation 28(3)(c), its obligation to make payments to the Lessors under the LCs was prohibited until it obtained licences to do so. Therefore, it contended that interest should not accrue during any period that it was prohibited from paying the principal amount.
The Lessors on the other hand contended that on its true interpretation, Regulation 28(3)(c) had never prohibited UniCredit from making payments under the LCs.
UniCredit also contended that its omission to pay the principal amounts under the LCs was done in the reasonable belief that it was prohibited from making the payments by virtue of Regulation 28(3)(c). UniCredit argued that the protection in s.44(2) of SAMLA 2018 included protection against: (a) claims in debt; (b) awards of interest on debts; and (c) associated costs.
The Lessors submitted that UniCredit did not hold the requisite reasonable belief under s.44(1) and that on the true construction of s.44(2) it did not extend to protection against claims in debt, awards of interest on debts, and associated costs.
The Court of Appeal had held that s.44 did not assist UniCredit and UniCredit had cross-appealed on this issue.
The Supreme Court decision
The Supreme Court unanimously dismissed the appeal and allowed the cross-appeal.
Interpretation of Regulation 28(3)(c)
The Supreme Court stated that the prohibition applied to a person who provides financial services or funds 'in pursuance of or in connection with' an arrangement the 'object or effect' of which was (among other things) the supply of any goods falling within the definition of restricted goods to a person connected with Russia or for use in Russia. The wording used was broad and was intended to cast the net more broadly than financial services or funds provided under or in accordance with the terms of the relevant arrangements.
On its true interpretation, Regulation 28(3)(c) did not require a causal connection between the provision of financial services or funds and the prohibited supply of aircraft. Rather, it required a connection between the provision of financial services or funds and an arrangement.
'Funds' were broadly defined in s.60(1) of SAMLA to mean 'financial assets and benefits of every kind', a definition which was followed by a non-exhaustive list which includes cash, payment instruments, and LCs. 'Arrangement' was also broadly defined in Regulation 2 and included 'any agreement, understanding, scheme, transaction or series of transactions, whether or not legally enforceable'.
In the Supreme Court’s view, the aircraft leases were 'arrangements' for these purposes. The object and effect of the aircraft leases was to make aircraft available to Russian airlines for use in Russia. The fact that the leases were subsequently terminated did not retrospectively alter the object of the leases, which remained unchanged.
The Supreme Court highlighted that the very broad purpose of the Regulations and Amended Regulations was to put pressure on Russia, for example by disrupting strategic industries such as aviation. One way of achieving this purpose was to cast a wide net prohibiting payments but with the safety valve of a licensing system available to mitigate any unintended consequences. The net was cast wide because vital public interests were involved and the arbiter of those interests should be public authorities involved in the licensing process. Those public authorities had institutional competence and were accountable through the relevant Minister to Parliament.
The Court also gave a practical example to illustrate why public authorities, rather than private entities, should make such decisions. UniCredit receiving a compliant demand for payment under the LCs would not know whether the aircraft were still being made available by the Lessors to persons connected with Russia or for use in Russia and any inquiries UniCredit made might not produce the required information. UniCredit would then be in breach of Regulation 28(3)(c) if it made payment. Where UniCredit applied to the licensing authorities (as it had done) for a license permitting payment, those authorities might well have information of which UniCredit was unaware.
Accordingly, the Supreme Court decided that statutory interest on the principal amounts owing under the LCs did not start to accrue until the UK license process was completed. The prohibition on payment was also a relevant factor in relation to the award of costs.
Finally, the Supreme Court indicated that had it found against UniCredit on the interpretation of Regulation 28(3)(c), s.44 of SAMLA 2018 would have provided protection to UniCredit against an action to recover a debt, an award of interest on the amount of the debt, and an award of associated costs.
Comment
The Supreme Court has confirmed that public policy objectives such as national security, international peace, and compliance with international obligations are duly served by enacting and stringently implementing sanctions regulations. If this requires the English courts to interpret sanctions regulations broadly, and to impinge on civil and private rights, then that is the price to be paid. Ultimately, the purpose of the licensing regime is ameliorate any perceived hardship or injustice.
