Russian sanctions and the law of unintended consequences

On 21 July 2022, in a further measure to sharpen its sanctions regime, the government brought into force a prohibition on Russian businesses receiving certain UK professional services, including management consulting, accounting and PR services. UK legal services, by contrast, remain exempt from these prohibitions. 

The Russia Regulations designate certain persons (DPs) if the government considers that they threaten this objective and creates three main prohibitions in relation to them, including: (1) an asset freeze; (2) a benefit prohibition; and (3) a circumvention prohibition.

Whilst the Office of Financial Sanctions Implementation (OFSI), the Law Society and the Solicitors Regulation Authority have published guidance about these prohibitions, much of it simply repeats the statutory language. There is little case law and much political advantage in ensuring that the prohibitions remain ambiguous. But legal uncertainty breeds commercial insecurity, exposing legitimate businesses to unintended consequences. The successive waves of Russia-related financial sanctions introduced in the past four months have also presented increased risks for lawyers advising clients with links to Russia. This article considers three of these risks.

The first is where lawyers act for a DP. The DP will typically want advice about: (i) how to comply with the sanctions; (ii) how to apply for licences from OFSI to authorise certain expenditure; and (iii) how to apply for de-listing. All of this advice is expressly permitted under the Russia Regulations, subject to the lawyers receiving a licence for their fees.

In practice, obtaining licences from OFSI for legal fees is far from straightforward. OFSI’s general guidance is that they will respond to licence applications for legal fees in four to six weeks – a timeframe OFSI generally adhered to for previous (non-Russian) sanctions regimes. Nowadays, by contrast, responses are taking around three times longer and last week OFSI openly confirmed that they are unable to provide substantive engagement on specific licences within four weeks.

The second area of risk arises where lawyers do not act for the DP but an entity associated with them, typically a company in which the DP holds a minority direct or indirect interest. These entities typically seek legal advice as to whether they are 'controlled' by a DP because, if so, their assets are frozen – and handling frozen assets is a criminal offence. In giving this advice, lawyers and their clients can rapidly find themselves trapped in a Catch-22.

Lawyers cannot accept funds upfront from these clients because, at the beginning of the retainer, they will not know whether a DP controls them. The lawyers must either take the risk of working on credit for the client or find a source of third-party funding that does not breach the asset freeze or benefit prohibition. If the lawyers conclude that the client is not controlled by a DP, the challenge is trying to elicit a view from OFSI that it agrees. However, given the perceived risk of criminal prosecutions or civil fines for breaching sanctions, financial institutions are refusing to process payments on behalf of these entities without concrete reassurance from OFSI.

Non-sanctioned companies are thus cornered: their banks insist on a green light from OFSI, but OFSI refuses to give them one in all but the largest cases. Businesses with no links to Russia find themselves in a financially corrosive purgatory, unable to pay their employees or pensions (insurance payments were recently permitted by a general licence), having no option but to go into administration.

The third area of risk arises from the obligation imposed on law firms to file reports to OFSI if they know or have reasonable cause to suspect that a person is a DP, if the information on which this knowledge or suspicion is based came to the law firm while carrying on its business. Law firms must report the information on other matters which it bases its knowledge, suspicion and any information it holds about the DP by which they can be identified. Failure to do so is a criminal offence.

It is sufficient to trigger the reporting obligation if the lawyer knows or has reasonable cause to suspect that a person is a DP; suspicion that the DP (or anyone dealing with the DP’s assets) may have committed a criminal offence is unnecessary. This type of information is usually protected by legal professional privilege and is therefore exempt from reporting. The circumstances in which the obligation is triggered – and the precise nature of the non-privileged information that must be reported – remain vague. Indeed, the Law Society has recently suggested that solicitors should report relevant information arising from tentative or abortive instructions. OFSI and the SRA should give more detailed guidance explaining what solicitors must do to comply with this obligation.

With no history of prosecutions and only a few civil fines under its belt, the questions as to how OFSI might enforce alleged sanctions breaches have recently assumed an existential significance for certain businesses and their banks.

OFSI needs to follow the example of the European Commission, which is more adept at providing comfort letters to businesses which are not caught by EU sanctions, and need to persuade their banks of this fact. Although OFSI staff are working hard and trying to be helpful in exceptionally difficult circumstances, until OFSI increases in size and expertise, the laws it is responsible for overseeing risk unintended and disastrous consequences for legitimate businesses – and the law firms advising them.

Andrew Smith is partner and Tasha Benkhadra, associate, at Corker Binning