Do Sanctions Constitute Force Majeure?

Abstract

Economic sanctions are measures imposed by a country to restrict transactions between its natural and corporate persons on the one hand, and targeted individuals, entities, or countries on the other. They typically arise in pursuit of a country's foreign policy and national security objectives, but have important commercial consequences. When the economic sanctions a country imposes cause difficulties for one party to fulfill its contractual obligations, can the affected party invoke force majeure as a defense to avoid liability? Under Chinese law, the validity of a sanctions clause depends on whether the circumstances outlined in the clause meet the essential criteria of force majeure. Only when the sanction-related circumstances are "unforeseeable, unavoidable, and insurmountable" can the defaulting party be exempted from liability. In the legal systems of the United Kingdom, Singapore, and the United States, "sanctions clauses" are generally recognized as reflective of party autonomy. Whether sanctions constitute force majeure primarily depends on the specific terms agreed upon in the contract. If a "sanctions clause" is not included, the determination will be made based on the force majeure doctrines of the respective jurisdictions, combined with the particular circumstances of the case. The fundamental criterion is whether the sanctions have rendered the performance of the contract illegal, and whether the defaulting party has taken adequate measures to fulfill its obligations.

I.Introduction

Economic sanctions typically refer to the restrictions imposed by a country on transactions involving targeted individuals, entities, or countries, as a measure to advance its foreign policy and national security objectives[1]. Sanctions encompass both unilateral and multilateral sanctions. For instance, in the case of unilateral sanctions imposed by the United States, various government agencies have developed multiple sanction lists and trade restriction measures in accordance with their respective mandates.

Table 1: List of Major U.S. Sanctions and Trade Restrictions

The extraterritorial effect of economic sanctions laws increases the unpredictability of sanctions risks in commercial contexts. Some international enterprises may face difficulties in production and sales due to supply disruptions, leading to obstacles in the performance of contracts. When one party to a contract is suddenly added to a sanctions list, can they invoke force majeure as a defense to refuse to perform the contract but nonetheless be exempt from liability?

II. An Analysis of the Legal Effects of Economic Sanctions Clauses Across Different Jurisdictions

(1)When the Governing Law is Chinese Law

In judicial practice under Chinese law, judges determine whether a case constitutes force majeure based on whether the situation is "unforeseeable, unavoidable, and insurmountable."

In the (2020) Chuan 06 Min Zhong No. 43² case, Wanda Heavy Industry failed to fulfill its payment obligations under the subcontract for a steel project involving Iran. The company cited U.S. sanctions against Iran and the inclusion of a Chinese bank in the sanctions list, which prevented the buyer from making the payment, as a force majeure event. The appellate court held that although the contract stipulated "bank acceptance" as the payment method, the contract did not specify that the range of acceptable banks was limited to the sanctioned Kunlun Bank. Moreover, the plaintiff's notice was given before the suspension of payments by Kunlun Bank, and Wanda Heavy Industry's delayed payment fell due before the contract was obstructed. Therefore, the U.S. sanctions did not, objectively, constitute an insurmountable situation, and did not amount to force majeure.

In the (2021) Lu 0691 Min Chu No. 423³ case, the seller failed to deliver goods after the expiration of the delivery period specified in a sales contract. The buyer sought to terminate the contract and claimed damages from the seller. The seller argued that its inability to deliver was due to U.S. sanctions against Iran, which included the relevant shipping company conducting the carriage in the contract. This was said to constitute force majeure. The court found that the seller could neither provide evidence that the sanctions were against the specific Iranian shipping company specified in the contract or its Chinese branch, nor could it prove that there were no alternative channels for the goods to be transported internationally or domestically. Furthermore, evidence showed that the defendant was capable of supplying the goods and could continue to fulfill the contract, meaning that the situation was not sufficiently severe and insurmountable as to constitute force majeure.

In the (2020) Liao 02 Min Zhong No. 7152⁴ case, Mr./Ms. Ren signed a cooperation contract with Bai Chuan Company, investing RMB 80,000, with Bai Chuan Company. The Company was, under the terms of the contract, responsible for conducting fishing operations and procuring the return of the investment. After Bai Chuan Company failed to make the requisite re-payment, Mr./Ms. Ren sued for the the return of their investment, along with interest. The court found that, due to U.S. Sanctions, North Korea had been comprehensively banned from exporting seafood in mid-June of 2017, and that Bai Chuan Company ceased fishing operations in June 2017. The appellate court ruled that changes in international policy had prevented Bai Chuan Company from continuing business under the investment contract. These changes were not under Bai Chuan Company's control, and could not be overcome by the Company's efforts. This situation met the criteria for force majeure, and the court therefore ordered the return of the investment to Mr./Ms. Ren, albeit without the payment of interest.

(2)When the Governing Law is English Law

In the case of Mamancochet Mining Ltd v. Aegis Managing Agency Ltd & Others [2018] EWHC 2643⁵, the claimant (Mamancochet Mining Ltd) filed a lawsuit against the defendant (Aegis Managing Agency Ltd) for refusing to pay out on an insurance claim on the basis of sanctions measures imposed by the United States and the European Union. The core issue of this case revolved around the Sanctions Limitation and Exclusion Clause in the insurance contract, and whether the insurer was permitted to refuse to pay a claim due to the risk of sanctions.

The court's judgment was primarily based on the following three points: First, the clause in question must have clear legal applicability; in this case, the clause must explicitly state that the insurer can decline to perform the payment obligation solely due to the "risk" of sanctions. Second, the insurer must prove that the payment would indeed result in a violation of law, rather than being based on abstract risks or speculation. Third, when interpreting the sanctions clause, the court should focus on understanding the mutual intent of both parties to the contract. If the sanctions clause does not clearly define the circumstances under which non-payment can be exempted, the court generally will not permit an insurer's arbitrary refusal to pay, where such refusal is based solely on the clause.

In this case, the English court acknowledged the validity of the sanctions clause. However, whether it can be used to excuse the performance of the contract depends on its proper construction. This will entail, inter alia, an examination of whether the clause is explicit, whether the sanctions have actually occurred and would bite as against the party in question, and whether the clause is reasonable.

(3)When the Governing Law is Singaporean Law

In the case of Kuvera Resources Pte Ltd v. JP Morgan Chase Bank, N.A.⁶, Kuvera entered into a contract with the seller and the buyer for 35,000 tons of coal. The contract stipulated that the buyer would apply to a Dubai bank (the issuing bank) to issue two letters of credit in favor of Kuvera, with JP Morgan acting as the confirming bank and adding a confirmation containing sanction clauses. Upon review, JP Morgan discovered that the vessel Omnia, used to transport the 35,000 tons of coal, was formerly named Lady Mona, and might be associated with a Syrian entity, potentially triggering U.S. sanctions against Syria. Consequently, JP Morgan refused to honor the payment to Kuvera.

The Singapore Court of Appeal recognized the validity of the sanction clause, holding that such clauses should be interpreted objectively, strictly, and in line with their clear terms. JP Morgan's reason for refusing payment was based on the bank's internal list, which had identified the vessel (the Omnia), formerly the Lady Mona, as possibly giving rise to U.S. sanction risks. However, according to the sanctions clause in the contract, the condition for refusing payment under the sanctions clause was being listed on the U.S. sanctions list, not merely appearing on the bank's internal list. As matters transpired, the original registration of the Lady Mona had been in Syria in 2015. However, its new ownership registration in 2019 (as the Omnia) was in Barbados. This did not necessarily imply that the new ownership registration would still be on the U.S. sanctions list. The evidence provided by JP Morgan was therefore insufficient to prove that the sanction clause could be activated. Accordingly, the defendant was ordered to fulfill the payment obligation to the plaintiff, Kuvera.

(4)When the Governing Law is American Law

In the case of Siemens Energy Inc v. Petróleos de Venezuela SA⁷, Siemens' subsidiary, Dresser-Rand, entered into a $120 million promissory note agreement with the defendant, PDVSA. The agreement stipulated that PDVSA would make payments in U.S. dollars in 12 installments. However, after receiving the second payment, Dresser-Rand did not receive any further payments. PDVSA argued that fulfilling the payment obligation was impossible due to U.S. sanctions and the unwillingness of banks to process its transactions. The court ruled that, first, the U.S. sanctions under Executive Order 13808, which prohibit the repayment of new debts to sanctioned entities, do not apply to the existing debt between PDVSA and Dresser-Rand. Second, bank payments are not impossible, as some banks, such as CITIC Bank, have accepted PDVSA's banking business. Therefore, PDVSA failed to provide sufficient evidence that it had taken all feasible actions to fulfill its contractual obligations. To the contrary, its payment obligation could still be fulfilled. The court held that being subject to U.S. sanctions does not constitute a reasonable justification for exempting a borrower from contractual liability for default. Consequently, the court ruled that the borrower had to repay the principal (with interest) to the lender. This case underscores that, subject to the specific terms of the contract, a sanctioned party may well need to demonstrate that it has taken all reasonable measures to fulfill its contractual obligations.

In summary, courts in multiple jurisdictions will conduct case-by-case examinations to determine whether sanctions were truly unforeseeable, unavoidable, and insurmountable. The sanctioned party must provide sufficient evidence to justify exemption from liability. Even if a sanctions clause is expressly stipulated—whereby liability is exempted upon the occurrence of sanctions—the court may still, subject to the wording of the relevant clause, consider factors such as the enforceability of the contract after the sanctions are imposed, and whether the risk of sanctions was clearly foreseeable. In practice, therefore, the burden of proof is likely to be on the sanctioned party in establishing that it satisfies the potentially onerous conditions before a sanctions clause is triggered.

III. Suggestions for Cross-Border Trading Enterprises

(1)Considerations When Including Sanction Clauses in a Contract

Sanctions clauses must be clear and unambiguous, specifying the circumstances as to which sanctions will trigger their operation, and the legal consequences thereof. In practice, this is likely to entail explicitly outlining which sanctions can exempt the parties from their contractual obligations, and making provision for the adding to and removal from various sanctions lists over the relevant time period. It may also be useful to consider incorporating alternative performance mechanisms within the sanctions clauses to mitigate sanctions risks and ensure the achievement of the contractual objectives.

(2)Approaches to Handling Sanctions

First, at least as a question of Chinese Law, the evidence provided must demonstrate that the sanctions circumstances meet the criteria of being "unforeseeable, unavoidable, and insurmountable." Generally, the evidence should include the specific content of the sanctions regulations, the timing of their implementation / entry into effect, and the scope of their impact.

Second, when sanctions circumstances arise, active efforts should be made to seek alternative performance solutions. This will be relevant in proving that all possible measures have been taken to fulfill one's contractual obligations, but that performance nonetheless remains impossible, such that the sanctions circumstances are "insurmountable."

Third, if sanctions are imposed after the completion of the transaction, the contractual obligations should still be performed, unless the sanctions circumstances meet the requirements of force majeure.

Footnotes

1The U.S. Department of the Treasury's Office of Foreign Assets Control (OFAC) website.

2 (2020) Chuan 06 Min Zhong No. 43.

3 (2021) Lu 0691 Min Chu No. 423.

4 (2020) Liao 02 Min Zhong No. 7152.

5 Mamancochet Mining Ltd v. Aegis Managing Agency Ltd & Others, [2018] EWHC 2643 (Comm).

6 Kuvera Resources Pte Ltd v JPMorgan Chase Bank, NA, [2023] SGCA 28.

7 Siemens Energy Inc v. Petróleos de Venezuela SA, No. 1:20-cv-23946, 2021 U.S. Dist. LEXIS 157336 (S.D. Fla. Aug. 20, 2021).

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.