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UK Court Rules that Entities Cannot Earn Interest on Outstanding Arbitration Awards While Designated Under EU Sanctions

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I.  Summary

The Commercial Court of England and Wales has ruled that interest does not accrue on arbitration awards to persons/entities during the period in which the persons/entities are designated under EU sanctions. The judgment was issued in the context of an arbitration award in favour of the Iranian Ministry of Defence (“MODSAF”), which is designated under EU sanctions.  The Court based its conclusion on a clause – present in many EU sanctions regimes – which prevents claims against parties who cannot perform a contract or transaction due to sanctions.  The judgment provides comfort to companies that are engaged in arbitration with, or that already have outstanding arbitration awards (or similar liabilities) to, sanctioned entities.

II.  Introduction

In the context of a long-standing dispute between the Iranian and the UK ministries of defence, the Commercial Court of England and Wales recently ruled that interest does not accrue on arbitration awards to persons or entities during the period in which the persons or entities are designated under EU sanctions.1   This judgment provides comfort to companies that are engaged in arbitration with, or that already have outstanding arbitration awards (or similar liabilities) to, sanctioned entities.  While the judgment relates specifically to the EU sanctions against Iran, it has broader significance because the key language relied on by the Court is also present in many other EU sanctions regimes.

III.  Background to the dispute

In February 1979, following the Iranian Revolution, two contracts for the supply of military vehicles between International Military Services Limited (“IMS”), a UK company owned by the Ministry of Defence and HM Treasury, and the Ministry of Defence & Support for Armed Forces of the Islamic Republic (“MODSAF”), were terminated.  Following arbitrations in 1990 and in 1996, the International Chamber of Commerce (“ICC”) issued two awards in favour of MODSAF in 2001.2  The award rendered in ICC proceeding No. 7071 (the “7071 Award”), at issue in the present case, required IMS to pay MODSAF £140 million, plus interest “from 28 July 1984 to the date of payment."3  MODSAF was also awarded costs.  The amount of the 7071 Award was later lowered to £127 million by a Dutch court.4

MODSAF sought to have the awards enforced in the UK, pursuant to the Arbitration Act 1996, but this action was adjourned due to the Dutch proceedings mentioned above.  In the meantime, MODSAF was designated in 2008 under Council Regulation (EC) No 423/2007.  This Regulation, and its successor, Council Regulation (EU) No 267/2012, freezes MODSAF’s assets, and specifies that  “no funds or economic resources” can be “made available […] to or for the benefit of” MODSAF.5

In the hearing before Phillips J, it was “common ground” that IMS could not pay MODSAF the sums owed without violating the sanctions.  However, in anticipation of a time when it would be possible for MODSAF to enforce the awards, the Court was asked to determine whether IMS would be liable to pay the interest that had accrued on the 7071 Award during the period in which MODSAF was designated by EU sanctions (the “sanctions period”).

IV.  Judgment

IMS argued that it was not liable to pay any interest during the sanctions period based on Article 38 of Council Regulation (EU) No 267/2012 (the “Regulation”).  Article 38(1) provides that:

No claims in connection with any contract or transaction the performance of which has been affected, directly or indirectly, in whole or in part, by the measures imposed under this Regulation […] shall be satisfied, if they are made by […] designated persons, entities or bodies […].

Article 38(2) further specifies that “the performance of a contract or transaction shall be regarded as having been affected by the measures imposed under this Regulation where the existence or content of the claim results directly or indirectly from those measures”. 

Phillips J applied two methods of interpretation to Article 38: (1) a textual approach; and (2) a purposive approach.

Under the textual approach, he divided the elements of Article 38(1) and (2) into five separate criteria, and concluded that each criterion was satisfied in the present case, with the result that IMS was not liable for interest during the sanctions period.  In particular, he concluded that the term “transaction” includes an arbitration award.  He also held that the “content” of the current claim (i.e., the amount of interest), “results directly or indirectly” from the sanctions, with the meaning of Article 38(2).

Under the purposive approach, Philipps J reviewed a number of UK and EU precedents, as well as purposive language in an earlier iteration of the Regulation.  He concluded that “the purpose of Article 38 is to prevent civil claims being brought against a party as a result of the fact that their performance of a contract or transaction was impeded by the operation of the sanctions.”  Consequently, it would “run counter to the object of Article 38” if IMS were liable for interest that accrued during the sanctions period.

MODSAF tried to resist this interpretation of Article 38, in particular by reference to Article 29(2)(a) of the Regulation, which states that the prohibition of providing funds or economic resources to sanctioned entities does not apply “to the addition to frozen accounts of […] interest or other earnings on those accounts.”  However, Phillips J held that Article 29(2)(a) was not relevant.  While Article 29(2)(a) allows interest or other earnings to accrue on funds in a frozen account, it is “not concerned with the nature of a party's entitlement to interest."

V.  Implications  

Unlike a judgment of the EU Courts, this judgment of the UK Commercial Court is not binding throughout the EU.  Nonetheless, in practice, we would expect the judgment to be highly influential beyond the UK due to the very limited volume of case-law interpreting the kind of EU sanctions provisions at issue in this case.  Therefore, we have considered the implications of the judgment on: (1) EU sanctions law; (2) UK sanctions law; and (3) the parties themselves.

From the perspective of EU sanctions law, we note that other EU sanctions regimes contain language that is similar – if not identical to – the language in Article 38(1) described above.Examples include the EU sanctions regime regarding cyber-attacks,7 and the restrictive measures against each of the Democratic Republic of Congo,8 Libya9 and Russia.10  The broad interpretation of the “no claims” clause in this case may have an impact on the interpretation of no claims clauses in other EU sanctions regimes.

From the perspective of UK law, as noted by Phillips J, the overall conclusion in this case – that MODSAF cannot enforce interest that accrued during the sanctions period – is consistent with the sanctions guidance provided by the UK Office of Financial Sanctions Implementation (“OFSI”).[11]  The judgment therefore provides comfort to companies that have already relied on this guidance.
Finally, from the perspective of the parties involved, this is obviously a significant victory for IMS, as the judgment shields IMS from liability for over ten years of interest (and counting) on a very significant sum, although MODSAF may appeal this decision.  MODSAF is also pursuing a licensing application to OFSI, whereby IMS would make the payment to the Central Bank of Iran, which was delisted as part of the Joint Comprehensive Plan of Action (commonly known as the “Iran Nuclear Deal”).  This application was still pending at the time the judgment was issued.  

The 1990 arbitration was commenced by MODSAF, while the 1996 arbitration (ICC proceeding No. 9268) was commenced by IMS.

The ICC also dismissed IMS’s claim in ICC proceeding No. 9268.

The Court of Appeal in the Hague partially annulled the 7071 Award insofar as it related to the amount of interest that accrued between 1979 and 1983, and termination costs incurred in 1983.  This decision was upheld by the Supreme Court of the Netherlands in 2009.

5 See Articles 7(1) and 7(3), Council Regulation (EC) No 423/2007 of 19 April 2007 concerning restrictive measures against Iran; and Articles 23(2) and 23(3), Council Regulation (EU) No 267/2012 of 23 March 2012 concerning restrictive measures against Iran and repealing Regulation (EU) No 961/2010.

6 Interestingly, the language in Article 38(2) is not always included in these other regimes.

7 Article 11, Council Regulation (EU) 2019/796 of 17 May 2019 concerning restrictive measures against cyber-attacks threatening the Union or its Member States.

8 Article 7(a), Council Regulation (EU) 2015/613 of 20 April 2015 amending Regulation (EC) No 1183/2005 imposing certain specific restrictive measures directed against persons acting in violation of the arms embargo with regard to the Democratic Republic of the Congo, and repealing Regulation (EC) No 889/2005.

9 Article 11, Council Decision (CFSP) 2015/1333 of 31 July 2015 concerning restrictive measures in view of the situation in Libya, and repealing Decision 2011/137/CFSP.

10 Article 11, Council Regulation (EU) No 208/2014 of 5 March 2014 concerning restrictive measures directed against certain persons, entities and bodies in view of the situation in Ukraine.
11 See Frequently Asked Questions, “Financial Sanctions: Guidance,” OFSI, 2018. “If a court has ordered a judgement in favour of a person subject to an asset freeze […] the third party cannot be made subject to any further liability (such as accruing interest) for their non-payment while the sanctions continue to apply.” 

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