Whether US Sanctions Prevent Payment In England Of Sums Contractually Due In Dollars

CELESTIAL AVIATION SERVICES V UNICREDIT BANK [2023] EWHC 633

With sanctions an increasingly routine part of business life, the courts have been considering the circumstances in which US sanctions prevent a contracting party from making a payment that they would otherwise be legally obliged to make in the English jurisdiction. The recent cases emphasise the difficulty of relying on US sanctions in such situations. 

The facts of the Celestial Aviation case were that, between 2005 and 2014, certain aircraft were leased to two Russian companies.  The payment obligations of the Russian companies were secured by standby letters of credit (“LOCs”) issued in favour of Celestial and another Irish aircraft-leasing company.  As of 2017, the LOCs were issued by Sberbank, a Russian bank, and confirmed by the London branch of UniCredit, a German bank.

In 2022, following the invasion of Ukraine, events of default were declared under the leases and Celestial demanded payment under the LOCs.  It was common ground that, subject to the question of sanctions, UniCredit was liable to pay under the LOCs. 

As to the question of sanctions, the LOCs were governed by English law and payable in US Dollars.  Celestial demanded that payment be made into accounts held in London and Dublin.  However, at the time that payment was demanded, the financing of aircraft leasing had been made the subject of UK trade sanctions. Sberbank itself was then listed as a “designated person” for the purposes of the UK sanctions restricting use of funds or economic resources, which, amongst other matters, prohibited paying out under LOCs. Sberbank also became the subject of US and EU sanctions.

After several months, UniCredit paid out, following receipt of a licence issued by the UK’s Office of Financial Sanctions Implementation (“OFSI”).  UniCredit paid the amount due under some of the LoCs in US Dollars and then the remaining ones by paying equivalent sterling amounts to accounts held at non-US banks in London.

The dispute that remained was as to whether Celestial was entitled to interest and costs. In order to determine these aspects, the Commercial Court was asked to determine certain matters giving rise to issues of general interest, as follows.

Prior to the granting of the OFSI licence, had UniCredit been prohibited from making payment by the UK sanctions regulations?

The court concluded that UniCredit had not been prohibited from making the payments under the LOCs.  This was because the purpose of the UK’s trade sanctions against Russia was to prevent financial assistance from being provided to Russian entities in relation to the supply of aircraft.  However, in the present case, any services of that type had been provided many years previously.  All that remained to be done as at the time the prohibition came into effect was for UniCredit to perform the obligation that it had taken on long before as confirming bank, which obligation would benefit the Irish companies, rather than any Russian entity.  Therefore, paying out under the LOCs would not have been in breach of the trade sanctions.

Nor had UniCredit been prevented by the economic resource sanctions from paying out, both because these sanctions had not come into effect at the time that payment fell due and also because the payment by UniCredit was in discharge of its own independent obligations under the LOCs and did not affect Sberbank’s property.

Did US law suspend or otherwise excuse non-performance of UniCredit’s obligations under the letters of credit?

The issue of the potential relevance of US law arose because inter-bank transfers of US dollars are routed through the New York banking system, thereby bringing them within the US jurisdiction. 

The court found that there had been no relevant US sanctions in force as at the date that the payment obligations fell due.  However, a directive issued by the US’s Office of Foreign Asset Control (“OFAC”) which subsequently came into effect could be read as prohibiting US financial institutions from processing transactions involving Sberbank in the broadest sense.

The court held that, to the extent that the OFAC directive had a bearing on UniCredit’s pre-existing obligation to pay, and it would be an offence under US law for UniCredit to pay Celestial under the LOCs, the starting point under English law is that a breach of US sanctions, as with breach of any other foreign law,  is generally irrelevant to the enforceability of an obligation governed by English law.

More specifically, English law draws a distinction between cases where performance of the act which is illegal under foreign law would take place in the foreign country, and cases where a party would merely be equipping itself in the foreign country, to perform the obligation in England (for example, to make a payment in London) where the act would not be illegal.  Under English law, only the former would relieve a party from performing the obligation.

The court held further that it was established under English law that, where a dollar payment is required under the contract, the payee is in principle entitled to demand such payment in cash.  This is the basis for the principle that, where the fundamental obligation is to make payment, and where it is possible to make such payment legally, then the bank must do so.  UniCredit had accordingly been under an obligation to find a means of paying, albeit in another currency.

In case that analysis was wrong, the court went on to consider whether payment out under the LOCs was in fact prohibited under the OFAC directive.  UniCredit put in evidence as to the broad approach that they said that OFAC would take, by implementing the directive with the purpose of cutting Russia off from the US banking system.  However, the court found this evidence unpersuasive because the examples given as to the approach taken by OFAC in previous cases were regarded as distinguishable on the facts.  Celestial Aviation was accordingly entitled to interest and costs.

In another recent case, Gravelor Shipping v GTLK Asia M5 (2023, Commercial Ct), the court took a similar approach, finding that contract wording governed by English law and providing for payment in US dollars could, in the circumstances of sanctions, be performed satisfactorily by payment by other means.

However, note that the outcome of the issues discussed above could be different, depending on the terms of any sanctions clause in the agreement.

For more information, please contact Wendy Miles, Chris Earl or William Sturge at Lovetts.