End of 2020 Export Control and Sanctions Roundup: The US Government Made a Number of Significant Changes that Should Not Be Overlooked
The year ended with a flurry of significant steps by the US government related to trade sanctions and export controls, including: (1) redesignating Ukraine, Mexico and Cyprus country group status under the Export Administration Regulations (EAR); (2) finalizing a new Military End User list for exports to China and Russia; (3) removing Hong Kong as a separate destination from China under the EAR; (4) adding 77, mostly China-based, entities to the EAR's Entity List; (5) releasing FAQs on the EAR's Foreign Direct Product Rule for Huawei; (6) rescinding Sudan's State Sponsor of Terrorism designation; and (7) imposing sanctions on Turkey.
In short, these actions:
- Make many exports easier (with fewer compliance requirements and more licensing exceptions) to Ukraine, Mexico, Cyprus, and eventually Sudan (subject to implementing regulations);
- Make many exports more difficult (with more licensing requirements and restrictions, and fewer exceptions) to Hong Kong and Turkey; and
- Continue the US government's pressure on Huawei and other disfavored companies in China that are alleged to support the Chinese military or engage in other actions contrary to US foreign policy (as well as certain specific companies in other countries as well).
These actions will have significant impacts on trade in 2021 and beyond, and should be carefully evaluated by any companies globally that do business involving goods, software, or technology subject to US export controls.
We note that it is unclear whether and how President Biden may change trajectory on any of these recent actions, including by rescinding, altering, expanding, or narrowing any of them. We will continue to closely monitor any announcements by the new administration for indications as to how its approach to these issues may differ from its predecessors.
Country Group Redesignations for Ukraine, Mexico, and Cyprus
On December 28, 2020, the Bureau of Industry and Security (BIS), which oversees trade controls involving "dual use"1 commercial items under the EAR, published a final rule to revise EAR Country Group designations with respect to Ukraine, Mexico, and Cyprus. Pursuant to the EAR, BIS designates countries according to certain Country Groups (A, B, D, and E) (grouped in some cases within numerical sub-groups), which define the availability of certain limitations and exceptions to license requirements for cross-border and foreign trade transactions.2 A country's particular Country Group may also impact BIS' license review policy, including when license applications are subject to a presumption of denial, as well as certain end-user and end-use based controls.
Under the final rule, BIS moved Ukraine from Country Group D:1 (countries of concern) to Country Group B (less-restricted countries), while adding Mexico and Cyprus to Country Group A:6 (one of the most highly favored statuses). Practically speaking, this means that more license exceptions are available for each country and, in the case of Ukraine, certain blanket restrictions and adverse review policies no longer apply. As a result, businesses that regularly engage in cross-border and foreign trade involving items subject to the EAR3 in these countries may face less US regulatory burdens, provided certain conditions are met, including the general license restrictions set out in 15 C.F.R. § 740.2. We provide a brief description of the impact of these changes below.
- Ukraine (New Country Group B). As noted above, the final rule removes Ukraine from Country Group D:1 and places Ukraine in Country Group B. This new designation makes more license exceptions available for export activities with respect to Ukraine, including: Shipments of limited value (LVS)(§ 740.3); Temporary imports, exports, reexports, and transfers (in-country) (TMP)(§ 740.9); Servicing and replacement of parts and equipment (RPL)(§ 740.10); Gift parcels and humanitarian donations (GFT)(§ 740.12); Baggage (BAG)(§ 740.14); Aircraft and vessels (AVS)(§ 740.15); Additional permissive reexports (APR)(§ 740.16); and, critically, certain elements of Encryption commodities, software, and technology (ENC)(§ 740.17).
Further, Ukraine is no longer subject to a "case-by-case" licensing review policy for items controlled for national security purposes; instead, BIS will review applications for the export, reexport, and retransfer (in-country) of such items under a policy of approval. Finally, certain general restrictions associated with D:1 countries, including those set out in § 744.17, (microprocessors and associated software and technology for "military end uses" and to "military end users"), § 744.7 (exports to and for the use of certain foreign vessels or aircraft), and § 736.2(b)(3) (licensing requirements for reexports of the foreign-produced direct product of US origin technology and software) no longer apply to Ukraine.
Notably, Ukraine's new Country Group designation comes with two caveats. First, the final rule specifically provides that license exceptions Shipments to Country Group B countries (GBS) (§ 740.4) and Technology and Software Under Restriction (TSR) (§ 740.6) are not available for Ukraine. Second, the status of the Crimea Region of Ukraine under the EAR is not impacted by the final rule. Therefore, a BIS license is still required to export or reexport all EAR-controlled items to Crimea, with the exception of certain food and medicine.4
- Mexico (Added to Country Group A:6). By adding Mexico to Country Group A:6, license exception Strategic Trade Authorization (STA) is available for less sensitive items controlled for national security reasons, as set forth in 15 C.F.R. § 740.20(c)(2). This change is in addition to Mexico's designation in Country Group B, which provides for the availability of multiple license exceptions, including GBS and TSR.
- Cyprus (Added to Country Group A:6). Similar to Mexico, the addition of Cyprus to Country Group A:6 makes license exception STA available for less sensitive items. Cyprus' previous Country Group B designation also permits use of the license exceptions discussed above, including GBS and TSR. However, Cyprus is also subject to a US arms embargo and designated as such in Country Group D:5. Therefore, the use of license exceptions classified under a 9x515 or "600 series" ECCN may be restricted.
It is important to note that while the final rule relaxes certain regulatory burdens by permitting the use of additional license exceptions for Ukraine, Mexico and Cyprus, it stops short of modifying each country's corresponding "reasons for control" on the EAR's Commerce Country Chart. Therefore, interested parties will still need to consider whether a license requirement applies to potential export activities prior to use of any newly available exception to such a requirement.
New Military End User List for Exports to China and Russia
On December 23, 2020, BIS finalized the creation of a Military End User (MEU) List (the MEU List), which will be a new supplement to Part 744 of the EAR. The MEU List, which BIS describes as including the first tranche of entities, identifies 102 end users (consisting of 57 end users in China and 45 in Russia)5 that BIS has determined are military end users under the EAR's new China, Russia, and Venezuela Military End User Rule, 15 C.F.R. 744.21.6 Thus, a license is required for the export, reexport, or in-country transfer of any item controlled under Supplement No. 2 to Part 744, which includes many commercial items such as consumer-grade laptops and smartphones and other low-controlled items like basic commercial aircraft parts. Further, license applications for the export, reexport, or in-country transfer of these items to entities identified on the MEU List are also subject to a presumption of denial.
Importantly, the MEU List is non-exclusive, and "does not imply that other parties not included on the list are exempt from regulatory prohibitions. For example, parties not listed on the MEU List but included on the Department of Defense's Section 1237 list [concerning 'Communist Chinese Military Companies'] of the National Defense Authorization Act would raise a Red Flag under the EAR and require additional due diligence by exporters, reexporters, or transferors." In other words, diligence is still required before the transfer of any items covered under the rule to companies in China, Russia, or Venezuela because this list is only a positive statement of companies that Commerce has confirmed are MEUs, not a complete list of all such companies. Many other companies are "military end users" under the broad definition in the 744.21 rule (including any company that "supports" the development, production, maintenance, or operation of military items, among others), and therefore interested parties should not take comfort that a particular recipient is not on the new MEU List. On the other hand, the MEU List is helpful to clarify that these 102 companies (so far) are considered MEUs under the rule, and there is no ambiguity that a license is required to transfer covered items to these companies.
BIS also amended the EAR to provide additional clarity on the process for altering the MEU List. Specifically, the decision to add, modify, or remove an MEU List entry (including the 102 entities in the initial MEU List) is vested in the End-User Review Committee (ERC), an existing interagency group composed of representatives of the Departments of Commerce (Chair), State, Defense, Energy and, where appropriate, the Treasury. Entities are added to the MEU list by a majority vote of ERC members. In contrast, the decision to remove or modify an entity on the list must receive unanimous consent. In order for an entity on the MEU List to be modified or removed, the entity must petition BIS with an explanation of "why the entity is not a 'military end user' for the purposes of § 744.21."
In sum, interested parties should take care when transferring any goods, software, or technology subject to the EAR that are captured in Supplement No. 2 to China, Russia and Venezuela as a license would be required to complete the transfer to any "military end user," even if it can be confirmed that the items will be used for purely civil or commercial purposes. We are aware that licenses have already been issued for transfers caught by the MEU Rule, so while the rule is not a blanket ban on exports to these companies, it does raise compliance costs and risks associated with doing business with entities identified on the MEU List or those otherwise qualifying as MEUs under the EAR. As noted above, there is a policy of denial for transfers of covered items to a MEU that must be overcome by demonstrating that the items are for civil end use, that this can be confirmed, and that there are countervailing policy reasons why the export should be permitted.
Hong Kong Removed as a Separate Destination from China
Also on December 23, 2020, BIS issued a final rule to remove Hong Kong as a separate destination listed in the EAR. Until recently, the United States-Hong Kong Policy Act of 1992 allowed Hong Kong to receive preferential treatment in recognition of the former British colony's autonomy under Chinese authority. However, the US government recently accelerated retaliatory efforts against the People's Republic of China (the PRC or China) for alleged attempts to undermine Hong Kong's autonomy in connection with activities that China deems to be acts of secession, subversion, terrorism, or collusion with a foreign country. Specifically, on July 14, 2020, former president Trump issued Executive Order 13936 (EO 13936), effectively eliminating the decades-long preferential trade relationship between Hong Kong and the United States. Among other requirements, EO 13936 directed agencies to remove all regulatory trade preferences for Hong Kong as compared to China.7
In accordance with EO 13936, BIS amended the EAR to remove all provisions that provide differential and preferential treatment for exports, reexports, and retransfers (in-country) for Hong Kong.8 These provisions include Hong Kong's prior independent identification on the Country Group Chart, meaning that Hong Kong is now treated as part of China in Country Group D:1. As a result, Hong Kong is also subject to certain broader restrictions associated with D:1 countries, including those set out in:
- ·§ 744.17, (Restrictions on certain exports, reexports, and transfers (in-country) of microprocessors and associated "software" and "technology" for `military end uses' and to `military end users');
- ·§ 744.7, (Restrictions on certain exports to, and for the use of, certain foreign vessels or aircraft); and
- ·§ 736.2(b)(3), (General Prohibition Three, licensing requirements for reexports of the foreign-produced direct product of US-origin technology and software).
Similarly, as discussed above, treating Hong Kong under the same US trade policy as China subjects Hong Kong exports, reexports, and retransfers (in-country) to the military end use and end user provisions of § 744.21—Restrictions on certain "military end use" or "military end user" in the People's Republic of China, Russia, or Venezuela. Therefore, interested parties should consider whether a Hong Kong entity qualifies as a MEU when transferring any goods, software, or technology subject to the EAR that are captured in Supplement No. 2 to Part 744.
Commerce Adds 77 Companies and Individuals to the Entity List
Effective December 18, 2020, BIS amended the EAR to add 77, mostly China-based, entities to the Entity List. The Entity List, Supplement No. 4 to Part 744 of the EAR, identifies companies and individuals that BIS has reasonable cause to believe "ha[ve] been involved, [are] involved, or poses a significant risk of being or becoming involved in activities that are contrary to the national security or foreign policy interests of the United States."
The 77 newly designated entities include 60 Chinese companies,9 as well as entities from Bulgaria, France, Germany, Italy, Malta, Pakistan, Russia, and the United Arab Emirates (U.A.E.). Specifically, the newly designated Chinese entities and the reasons for designation include, but are not limited to, the following:
- The Semiconductor Manufacturing International Corporation, Inc. (SMIC) and ten related entities. SMIC and its related entities were added to the Entity List "as a result of China's military-civil fusion (MCF) doctrine and evidence of activities between SMIC and entities of concern in the Chinese military industrial complex."
- Four entities, AGCU Scientech, China National Scientific Instruments and Materials (CNSIM), DJI, and Kuang-Chi Group, were added for engaging in activities "contrary to US foreign policy interests" including wide-scale human rights abuses abusive genetic collection and analysis, "high-technology" surveillance, and/or facilitating exports that aid repressive regimes.
- The China Communications Construction Company Ltd. and four other entities for supporting China's maritime claims in the South China Sea.
- Twenty-five entities associated with the China State Shipbuilding Corporation, Ltd (CSSC), the Beijing Institute of Technology, and four additional entities were added in connection with activities related to "acquiring and attempting to acquire" US origin items for Chinese military programs.
- Tongfang Technology Ltd. (NucTech) was added for producing "lower performing equipment" which hinder US efforts to counter illicit trafficking in nuclear and related materials.
- The Beijing University of Posts and Telecommunications was added for "directly participating" in Chinese military efforts to produce advanced weapons and weapons systems. The Tianjin University and certain business and individuals were also added in connection with a conspiracy to steal US trade secrets.
Non-Chinese entities were primarily added to the Entity List for violating US national security laws including providing aircraft parts and other items without proper authorization, evading licensing requirements, and falsifying information related to trade involving US-origin items.
Designation on the Entity List does not prohibit US and foreign persons from transacting with a designated entity. However, once designated, an entity is subject to stringent licensing requirements, including requiring a BIS license for any exports, reexports or in-country transfers of all commodities, software, and technology "subject to the EAR" where such an entity is the purchaser, intermediate consignee, ultimate consignee, or end-user, without regard to location of transaction or counterparties involved. Companies and individuals identified on the Entity List are also ineligible for otherwise available license exceptions, and BIS generally adversely reviews license applications for transactions involving Entity List designees.
BIS Releases FAQs on Foreign Direct Product Rule for Huawei
Also on December 18, 2020, BIS published updated Frequently Asked Questions (FAQs) related to its August 2020 expansion of restrictions on transfers of certain non-US products that are made using certain US origin technology, equipment or software to Huawei Technologies Company, Ltd. (Huawei) and its affiliates listed on the US Entity List. As discussed in our prior Advisory, the rule carries broad restrictions on sales of non-US made semiconductors and other goods that are produced using (1) specified US origin technology, equipment or software and (2) Huawei and affiliates' design specifications.
Notable clarifications in the December 2020 FAQs include:
- FAQ 9 provides that the expanded foreign direct product rule generally does not require a license for the servicing or repair of an item lawfully exported prior to the implementation of the August 2020 rule. BIS notes, however, that other EAR provisions may apply.
- FAQ 12 clarifies that the incorporation of a part that is subject to the expanded direct product rule into a larger foreign product does not necessarily mean that the larger foreign product is necessarily subject to the EAR (e.g. the EAR's de minimis rules in 15 C.F.R. § 734.4 still apply).
- FAQ 13 confirms that if a supplier knows at least some of its products will be incorporated by a customer into larger assemblies that, directly or indirectly, will eventually be for Huawei, such supplier needs to get a license for the percentage of its products eventually destined for Huawei by way of the customer (even if there are subsequent intermediaries as well). Moreover, if the supplier does not know the percentage the customer will use that will be destined for Huawei, it needs to get a license for its total supply to the customer.
- FAQ 24 provides that if US software is used in the engineering stages of a product, "the direct product would be whatever the US software produces." BIS further elaborates that "[i]n most cases the direct product of the US software would be the product design, which may be subject to paragraph (a) of the [foreign direct product] rule." BIS also notes that the end product engineered using US software may also be subject to the EAR under the EAR's de minimis rule or another provision of the foreign direct product rule.
Sudan's State Sponsor of Terrorism Designation Rescinded
On December 14, 2020, the US Department of State officially rescinded Sudan's designation as a State Sponsor of Terrorism (SST) after nearly 20 years.10 The widely anticipated move comes at the end of the legally mandated 45-day review period, 22 USC. § 2780(f)(B), from President Trump's initial notification and certification to Congress on October 26, 2020. According to the US Department of State, the move was made possible by the "efforts of Sudan's civilian-led transitional government", which was established after Sudanese Armed Forces ousted former President Omar al-Bashir.
The removal of Sudan's SST status significantly lessens the regulatory burdens for US and foreign exporters seeking to do business in Sudan. Specifically, on January 19, 2020, BIS published a final rule to remove AT controls (Country Group E:1) on Sudan and add the country to Country Group B. As a result, Sudan is eligible for several new license exceptions under the EAR. However, as with Ukraine, license exception GBS and TSR remain unavailable for exports and reexports to Sudan. Moreover, Sudan's continued placement in Country Group D:5 (U.S. Arms Embargoed Countries) impacts the availability of certain license exceptions related to specific items, including certain a 9x515 or "600 series" ECCNs. That said, many less sensitive commercial items, including consumer-grade software and electronics, may be exported, reexported, or retransferred (in-country) to Sudan without a license.
US Imposes Sanctions on Turkey
Also on December 14, 2020, the US government imposed long-awaited sanctions on the Presidency of Defense Industries (SSB), Turkey's primary defense procurement agency, and four SSB executives, in connection with SSB's purchase of a S-400 surface-to-air missile system from Rosoboronexport (ROE), Russia's main arms export entity, in 2017. Pursuant to Section 231 of the US Countering America's Adversaries Through Sanctions Act of 2017 (CAATSA), the President is required to impose sanctions with respect to a foreign person if the US President determines that the foreign person knowingly engages in a "significant transaction" with a person that is part of, or operates for or on behalf of, the defense or intelligence sectors of the Government of the Russian Federation, which includes ROE.11 This marks the first time that US sanctions have been imposed on a member of the European Union or a NATO ally.12
Likely due to the novelty of imposing sanctions on an allied-state, OFAC created a new "Non-SDN Menu-Based Sanctions List" exclusively for SSB, which contains five menu-based sanctions:
- A prohibition on granting specific US export licenses and authorizations for any goods or technology transferred to SSB (Section 235(a)(2));
- A prohibition on loans or credits by US financial institutions to SSB totaling more than $10 million in any 12-month period (Section 235(a)(3));
- A ban on US Export-Import Bank assistance for exports to SSB (Section 235(a)(1));
- A requirement for the United States to oppose loans benefitting SSB by international financial institutions (Section 235(a)(4)); and
- Full blocking sanctions and visa restrictions (Section 235(a)(7), (8), (9), (11), and (12)) on the four SSB executives.13
It is important to note that the first provision, prohibiting authorization of US export licenses, may potentially have the largest practical impact for SSB. Under Section 235(a)(2), the US government is now prohibited from granting new export licenses or other authorizations where SSB is a party to the transaction, including as related to licenses sought pursuant to the EAR or the International Traffic in Arms Regulations (ITAR), which primarily regulates the export, reexport, or retransfer (in-country) of military items on the US Munitions List.
According to the US Department of State, the new sanctions on Turkey's defense procurement agency are "not intended to undermine the military capabilities or combat readiness of Turkey", however such actions were necessary because "[t]he United States made clear to Turkey at the highest levels and on numerous occasions that its purchase of the S-400 system would endanger the security of US military technology and personnel and provide substantial funds to Russia's defense sector" prior to the weapons transaction taking place.
Significant January 2021 Updates
The US government also started the new year off strong with a steady stream of measures intended to further guard US national security interests. These measures include, but are not limited to, the following:
- Cuba redesignated as a State Sponsor of Terrorism. On January 11, 2021, the US Department of State redesignated Cuba as a SST, citing the Caribbean country's "support for acts of international terrorism in granting safe harbor to terrorists."[[Cuba was originally designated as an SST in 1982 but its status was removed in 2015 under the Obama Administration.]] The return of Cuba's SST status will likely have little legal impact on doing business with Cuba, as many of the trade restrictions and sanctions associated with SST status have remained in place, or were reinstituted by the Trump Administration following Cuba's removal from the SST List in 2015.
- New Election Interference Sanctions for Russian-linked Ukrainians. Also on January 11, 2021, OFAC instituted sanctions on seven individuals and four entities for supporting efforts to leverage "U.S. media, U.S.-based social media platforms, and influential U.S. persons to spread misleading and unsubstantiated allegations that current and former U.S. officials engaged in corruption, money laundering, and unlawful political influence in Ukraine." The individuals sanctioned include former government officials who helped spread false information regarding President Biden's son, Hunter Biden.
It is still unclear what change in approach, if any, the Biden Administration will take on these new measures. Although it is unlikely that we will see full-scale reversal, President Biden could reverse, alter, or modify (or leave as is) any of the specific measures, particularly in regards to Cuba, instituted in the waning months of the Trump Administration. In any case, interested parties should take care to consider these issues before taking any action that may violate US national security law.
For questions about US export control and sanctions law, international trade, or broader national security issues, please reach out to the authors or any of their colleagues in Arnold & Porter's National Security or White Collar Defense & Investigations practice groups.
© Arnold & Porter Kaye Scholer LLP 2021 All Rights Reserved. This Advisory is intended to be a general summary of the law and does not constitute legal advice. You should consult with counsel to determine applicable legal requirements in a specific fact situation.
Dual-use items regulated by the EAR have predominantly commercial uses, but also have military applications. The regulations governing exports of dual-use items are contained in the EAR, 15 C.F.R. Parts 130-774.
The applicability of destination-based license requirements for items controlled by the EAR is set forth in the Commerce Country Chart. When read together with the EAR's Commerce Control List—which enumerates and categorizes the majority of dual use items controlled by the EAR according each item's Export Control Classification Number (ECCN)—the Commerce Country Chart generally defines whether a license is required for a particular export, reexport, or retransfer (in-country) of a US origin item.
Including US origin items and non-US origin items that contain certain US origin content or are made using certain US origin technology, equipment, or software under the EAR's "foreign direct product rule."
Most of the Chinese entities on the MEU List are in the aerospace industry, including many entities associated with the Aviation Industry Corporation of China (AVIC) and the AeroEngine Company of China. Russian entities include the Russia's Foreign Intelligence Service (SVR), the suspected entity behind last year's massive breach of US government systems.
On January 15, 2021, BIS subsequently published a rule adding one additional Chinese entity, the Beijing Skyrizon Aviation Industry Investment Co., Ltd., and removing two Russian entities, Korporatsiya Vsmpo Avisma OAO and Molot Oruzhie, from the MEU List.
Pursuant to this requirement, on January 15, 2021, OFAC published a final rule to implement Hong Kong-related sanctions regulations (31 C.F.R. part 585). That said, the full details of these new sanctions regulations are still under development, and OFAC intends to supplement the final rule with "a more comprehensive set of regulations, which may include additional interpretive and definitional guidance, general licenses, and statements of licensing policy."
Certain non-preferential EAR provisions retain individual references to Hong Kong. BIS explains that the retention of these references are intended to support US national security and foreign policy objectives, and to recognize that Hong Kong still operates a separate customs system and a separate export control system.
The US government previously imposed sanctions on a Chinese entity, Equipment Development Department, and its director, Li Shangfu, for engaging in significant transactions with ROE. See Notice of OFAC Implementation of Certain Sanctions Imposed on Two Persons by the Secretary of State Pursuant to the CAATSA, 83 Fed. Reg. 52051, Oct. 15, 2018. However, most sanctions designations under CAATSA have related to non-US persons knowingly engaging in significant activities undermining cybersecurity against any person, democratic institution, or government on behalf of the Russian government under section 224 of CAATSA.
While the term "required" implies the imposition of such sanctions are mandatory, the President retains significant discretion because CAATSA also requires the President to first "determine" whether a particular transaction is "significant" prior to trigging mandated sanctions.
OFAC also added the four SSB executives to OFAC's Specially Designated Nationals (SDN) list. This means that any "property" (or any interest in property) involving these individuals, which is transferred to the United States, otherwise comes within the jurisdiction of the United States, or is under the control or possession of a US Person, must be blocked, i.e., segregated and frozen, unless or until OFAC authorizes the release of that blocked property. In addition, US persons are generally prohibited from transacting with them. Any entities that are owned, directly or indirectly, 50 percent or more by one or more of these individuals are also subject to these sanctions under OFAC's "50 Percent Rule".