Tag: aircraft

LIBOR Benchmark Replacement – “It’s Time to Get Off the SOFR” – An Overview of the Impact of LIBOR Transition on Aircraft Financing and Leasing Transactions

It’s time to face up to the fact that financial market participants will soon no longer be able to rely on LIBOR.

No one can claim that this comes as a surprise. In 2014, in response to concerns about the reliability and robustness of the interest rate benchmarks that are considered to play the most fundamental role in the global financial system, namely LIBOR, global authorities called for the development of alternative “risk free” interest rate benchmarks supported by liquid, observable markets. Notably, in July 2017, the Chief Executive of the UK Financial Conduct Authority (FCA), the authority which regulates LIBOR, made a seminal speech about the future of LIBOR, indicating that market participants should not rely on LIBOR remaining available after 2021. To emphasize the point in the United States, the President and Chief Executive Officer of the New York Federal Reserve famously quipped during a speech in 2019, “some say only two things in life are guaranteed: death and taxes. But I say there are actually three: death, taxes and the end of LIBOR.”

Even the enormous pressures heaped on market participants by COVID-19 have not changed the picture. As the impacts of COVID-19 continue to evolve, there is speculation as to whether the pandemic will delay the projected LIBOR cessation timeline. At the end of March 2020, the FCA confirmed that no such delay was forthcoming, remarking, “The central assumption that firms cannot rely on LIBOR being published after the end of 2021 has not changed and should remain the target date for all firms to meet.”

More recently, the Alternative Reference Rates Committee (ARRC), the working group convened by authorities in the United States, has announced a set of “best practices” for completing the transition from LIBOR. Of particular note is the ARRC’s recommendation that hard-wired fallbacks should be incorporated into loan documentation from as early as 30 June 2020, and the target date for ceasing to write new LIBOR deals should be 30 June 2021.

This article explores the steps already taken by the Loan Market Association (LMA), the ARRC and the International Swaps and Derivatives Association (ISDA), the likely impact of LIBOR benchmark replacement on loan and lease documentation and some of the uncertainties which still fall to be resolved.

LIBOR

LIBOR (the London Inter-Bank Offered Rate) is a rate of interest, ostensibly used in lending between banks in the London interbank market. The LIBOR rate is calculated for various currencies and various terms. In the aviation financing market, 1-month or 3-month USD LIBOR is most commonly used. Note that these rates are forward-looking, are calculated based on repayment at the end of a specified term and represent a rate of interest for unsecured lending.

In aircraft transactions, LIBOR:

  • can form part of the interest (and default interest) calculation in loan agreements;
  • can represent the rate against which floating rate payments under interest rate swap agreements are calculated; and
  • can form part of the default interest calculation in aircraft lease agreements (and, where lease rental calculations are made on a floating rate basis, the determination of rent).

SOFR

A number of alternative benchmarks were considered as suitable replacements for USD LIBOR. The emerging winner, and the ARRC’s recommended alternative, is the Secured Overnight Financing Rate (SOFR). SOFR is a broad measure of the cost of borrowing cash overnight collateralized by U.S. Treasury securities.

Unlike term LIBOR rates, SOFR is an overnight, secured rate.

Aircraft loan and interest rate swap repayments are not typically made on an overnight basis, so how would we apply an overnight rate to a loan which provides for accrued interest to be paid monthly or quarterly?

In time, it is anticipated that forward-looking term SOFR rates will emerge – this is the stated preference of the ARRC – but this has not happened yet and it is not certain that satisfactory term SOFR rates will be available ahead of LIBOR discontinuation. Therefore, the ARRC does not recommend that financial market participants wait until forward-looking term SOFR rates exist to begin using SOFR in their loans. Instead, a simple average or compounded average of overnight SOFR rates for an interest period might be made to apply in lieu of a term rate.

A further complication with an overnight rate arises because, unlike term LIBOR rates, the amount of interest payable on a loan interest repayment date cannot be calculated until the last day of the applicable loan interest period. This makes loan administration (for banks) and payment processing (for borrowers) complicated. Various alternative calculation conventions remain under discussion. Selecting a final methodology is proving challenging in light of the lack of market convention and the operational challenges faced with making such a calculation.

Credit Adjustment Spreads

Because SOFR is an overnight, secured rate it does not include any term liquidity premium or any bank credit risk element, unlike a term LIBOR rate, where interest is paid at the end of a specified term and which represents an unsecured rate. As a result, SOFR prices lower than LIBOR.

Bankers therefore intend to apply a “credit adjustment spread” on top of SOFR, in order to account for the differences in which LIBOR and SOFR are determined, and in order to limit any transfer of economic value as a result of the transition between benchmark rates. The basis on which a credit adjustment spread is calculated is also the subject of continuing discussion. A further complicating factor for determining the spread adjustment is that the spread between LIBOR and SOFR fluctuates in rather meaningful ways over time. This fluctuation is, in part, due to the fact that Treasuries yields may be pushed down during times of crisis where there is a flight to quality.

LMA and ARRC Slot-in Provisions dealing with LIBOR Transition

The LMA and ARRC have both been working on slot-in drafting for various financial instruments in anticipation of transitioning away from LIBOR.

On 21 December 2018, the LMA issued “The Recommended Revised Form of Replacement Screen Rate Clause and Users Guide”.

On 25 April 2019, the ARRC recommended two sets of fallback language, also for syndicated loan documentation – the “Amendment Approach” fallback language and the “Hardwired Approach” fallback language.

Note that the ARRC has also prepared recommended fallback language for floating rate notes and securitization transactions.

LMA and ARRC Amendment Approach – creating a framework for future agreement

The LMA and ARRC Amendment Approaches (the Amendment Approaches) do not set out the replacement benchmark or credit adjustment spread which should apply, or set out the detailed basis on which interest should accrue or be calculated. Instead, a framework is set out in order to facilitate future agreement and related amendments to the loan documentation.

The LMA Amendment Approach does this by reducing the threshold for lender consent that might otherwise apply to relevant amendments.

The ARRC Amendment Approach provides that the borrower and the loan agent may identify a replacement rate (and spread adjustment), and the required lenders (typically 51%) have five days to object. If the required lenders reject the proposal, the loan goes to a prime-based rate until a successful amendment goes through.

ARRC Hardwired Approach

The alternative, the ARRC “Hardwired Approach”, provides that, when LIBOR ceases, the benchmark rate converts to a specified version of SOFR plus a credit adjustment spread. Failing this, a rate agreed between the parties would apply. Unlike the ARRC Amendment Approach, the Hardwired Approach is also “future-proofed”, to cover further benchmark replacement to the extent this occurs.

The Hardwired Approach sets out a “waterfall” of replacement benchmarks which are to apply – firstly, a term SOFR rate or, failing which, the next available term SOFR rate; secondly, a compounded SOFR rate; and thirdly, an alternative rate selected by the loan agent and the borrower which has given due consideration to any selection or recommendation made by a “Relevant Governmental Body”, or market convention. The credit adjustment spread is added to the applicable replacement benchmark in each case.

The Hardwired Approach also sets out a waterfall of options to calculate the credit adjustment spread – firstly, the adjustment selected or recommended by a Relevant Governmental Body; secondly, the adjustment that would apply to the fallback rate for a derivative transaction referencing the ISDA Definitions to be effective upon an index cessation event with respect to USD LIBOR for a period equal to the relevant loan interest period; and thirdly, an adjustment agreed between the loan agent and the borrower giving due consideration to the factors which apply to determining a replacement rate of interest and set out above.

So, which approach is the aviation industry using? For the time being, we are seeing the Amendment Approaches (or negotiated variations of those approaches) applying, but as noted in the ARRC “best practices” recommendations, this is something which must develop quickly.

The ARRC noted that many respondents to their consultations who prefer the use of the ARRC Amendment Approach at the current time generally believe that eventually some version of the Hardwired Approach will be more appropriate. The Amendment Approaches set out a more streamlined procedure for LIBOR transition, but they leave many of the difficult questions unanswered and provide for additional amendments to be made further down the road. Banks and counterparties will need to consider whether it is feasible to amend thousands of loan documents in short order, and the related disruption this could cause.

ARRC Hedged Loan Approach

Outside of the syndicated loan market, the ARRC recommends a third set of fallback language – the “Hedged Loan Approach”, to be considered for bilateral USD LIBOR loans which benefit from interest rate hedging.

The “Hedged Loan Approach” is the alternative approach for those who want to ensure that the fallback language in their loan agreement is consistent with the fallback language in any corresponding hedge they enter into with respect to their credit facilities. There is no reason that the language cannot be amended to accommodate syndicated loan transactions.

Interest rate swaps are commonly used in aircraft lessor financings in order to mitigate basis risk between operating lease payments (typically calculated on a fixed rate basis) and scheduled interest rate payments under the related loan agreement (typically calculated on a floating-rate basis).

The Hedged Loan Approach aligns the trigger events, replacement rate, and any spread adjustments under a subject loan with those as determined in accordance with the soon-to-be finalized revisions to the ISDA Definitions.

Trigger Events for LIBOR Transition

There is some variation between the trigger events for LIBOR transition between the LMA and ARRC approaches. As you would expect, both cover events relating to an immediate or upcoming LIBOR cessation. Both also include an early opt-in election which may be made by the parties. The ARRC Hedged Loan Approach trigger events are tied to those that will apply under any relevant ISDA documentation.

The LMA has also included a “material change” event, such that a trigger event can apply if the methodology, formula or other means of determining the LIBOR screen rate has materially changed. The LMA offers both objective and subjective language (in the opinion of the Majority Lenders and, where selected, the Obligors) for making the material change determination.

The ARRC includes as an additional event an announcement from the supervisor of a benchmark administrator that the applicable benchmark is no longer representative. This is intended to reflect the requirements of, and the procedures which apply under, the EU Benchmarks Regulation (the BMR). Where such a determination is made, it is possible that the loan parties would want to accelerate LIBOR transition, and EU-supervised entities could be prohibited from referencing LIBOR in new derivatives and securities. U.K. and U.S. authorities have also stated that it might be prudent for market participants to include this pre-cessation trigger in their loan documentation.

The early election triggers that apply under the ARRC Amendment and Hardwired Approaches are also drafted differently. Note that a term SOFR rate only can apply if an early election trigger applies under the Hardwired Approach.

ISDA Benchmarks Supplement

ISDA published its Benchmarks Supplement in 2018 primarily to facilitate compliance with the requirements of Article 28(2) of the BMR, but it has been drafted so that market participants can use it to incorporate fallbacks for reference rates into derivative transactions, whether or not they or the transactions are subject to BMR. The Supplement includes a number of trigger events relating to benchmarks and fallbacks which apply upon the occurrence of one of those triggers. Currently, ISDA has provided for benchmark replacement in two scenarios: (i) a permanent cessation of the then applicable benchmark; or (ii) if applying an applicable benchmark would breach applicable law. These broadly align with the corresponding trigger events in the ARRC documentation, but there are some important variations, discussed below.

Ultimately, ISDA intends to update the ISDA Definitions to include fallbacks to selected alternative interest rate benchmarks, and work on this is ongoing, but in the meantime incorporation of the Supplement into transactions referencing LIBOR could form part of a wider strategy for the transition away from LIBOR, even if it is not required by BMR.

Tensions between the Loan and Derivatives Markets?

As described above, aircraft lessor financings will very often be hedged pursuant to an ISDA Agreement in order to avoid basis risk.

But what if the approach taken by loan markets in relation to the timing for LIBOR transition and the calculation of floating rate interest differs from the approach taken by derivatives markets under swap agreements? Payments are no longer fully hedged and basis risk is re-introduced.

The major issue goes to the rate itself – the ARRC is hoping for term SOFR rates to emerge which will be used to calculate floating rate loan interest payments, but it is almost certain that ISDA will not apply term SOFR rates to floating rate payments under derivatives transactions and a version of compounded SOFR will instead apply.

Trigger events for benchmark replacement also vary between the two markets, but work is ongoing to converge differing approaches.

Under the ISDA Benchmarks Supplement, no early opt-in election applies. This would tend to make it less likely that early opt-in elections for hedged loans would in fact be exercised.

Note also that no pre-cessation trigger event currently applies under the Supplement – so “material changes” to the benchmark calculation (as contemplated by the LMA Amendment Approach), and the non-representativeness test included in the ARRC provisions, are not included as trigger events, albeit that ISDA has consulted on the latter and an amendment to the Supplement to include the non-representativeness test is expected to be published in July.

Since the FCA has already announced the expected procedures that would apply if it were to make a determination that LIBOR was no longer representative and how such a determination would be communicated to the markets, it seems that the ARRC approach towards trigger events would be the preferred approach for hedged loan documentation.

It is also possible that the basis on which credit adjustment spreads are calculated will vary between the two markets but, on this point, it has been the ARRC’s turn to re-consult on the proposal made by ISDA; i.e. that the same spread adjustment value is used across all of the different fallback rates. It is hoped that a consistent credit adjustment spread can be made to apply between loan and derivative markets, although given that there is a range of methodologies for calculating pre-cessation credit adjustment spreads that could apply in loan markets, this might be more difficult to achieve where an early opt-in election is exercised and might make the actual exercise of early opt-in elections less likely for hedged loans.

Where Does That Leave Us?

Thus far, most borrowers/lessees within the aviation finance market have favoured some version of the LMA or ARRC

“Amendment Approach” fallback language in their loan or lease documentation – the advantage being that it does offer flexibility.

Parties have entered into a number of variants but the underlying principle behind the Amendment Approaches appears to be adhered to – it serves as a placeholder to the issue and aims to bring the commercial parties back to the table once the loan market has broadly accepted a replacement standard for LIBOR. Key reasons for this are the absence of a term SOFR rate and an absence of consensus as to the basis on which alternative SOFR rates and credit adjustment spreads might be calculated. People are not yet ready to commit to SOFR or a Hardwired Approach since at the moment no one knows exactly what they might be getting.

Notwithstanding the above, the “Hedged Loan Approach” should not be discounted for bilateral (or syndicated) aircraft lessor financings which are hedged by way of an interest rate swap. Lenders/borrowers that are concerned with “basis risk” upon LIBOR cessation may prefer this approach since it is designed to eliminate any basis risk between the loan and the related hedge. However, it remains to be seen whether loan markets will be able to accommodate a departure from whatever becomes settled loan markets convention, commercially and operationally.

If the floating rate under the swap and the floating rate under the loan are aligned, then the change from LIBOR to a different benchmark should theoretically be cost neutral for that borrower, except where a swap premium is payable as a result of transition to a replacement benchmark rate. The requirement to pay a swap premium may be considered more likely if a swap is required to pay a floating rate that reflects a term SOFR rate or another loan market convention where the same is at odds with the default position in the derivatives market. Commercial parties will follow this issue with particular interest.

Note also that on 6 March 2020, the ARRC released a proposal for New York State Legislation for USD LIBOR contracts, which would operate to replace LIBOR by the recommended alternative benchmark included in the legislation and other related matters.

Operating Leases

Lessors and lessees will need to consider how LIBOR transition is achieved under their operating leases.

Most operating leases do not make provision for LIBOR transition, nor do they provide for a fallback rate in the event of LIBOR cessation beyond requesting reference bank rates (which is not itself an effective fallback, since a shrinking number of reference banks are prepared to quote a rate even now).

At this stage, where LIBOR is referenced in operating leases, it would be prudent for leasing companies to take a similar approach in their operating leases to that taken in the Amendment Approaches referred to above. This will ensure that LIBOR transition triggers are broadly consistent between operating leases and any related financing and hedging arrangements; it will also ensure that appropriate interest calculation methodologies and market approaches can be introduced into operating leases by amendment at the appropriate time.

Where fixed rate operating lease rentals are payable, the parties might also consider an alternative basis on which to calculate default interest under the lease which avoids SOFR and credit adjustment spreads altogether, but this would require careful thought, particularly regarding the way in which this interacts with any upstream financing.

Leasing parties will need to consider an appropriate costs allocation for amendments of existing leases.

Another point to note is that fixed rate operating lease rental calculations are usually constructed from a swap screen rate for an agreed term (taken an agreed number of business days ahead of the rent calculation date), and lease rentals cannot be adjusted after the event.

The swap screen rate will itself have been constructed from an interest rate exchange which assumed that 1-month LIBOR rates would remain available for the duration of the swap period, which means that such correlation as previously existed for leasing companies between outgoings (funding costs) and income (lease rental) is lost. Whether this creates a windfall or a loss for leasing companies will depend on what happens to SOFR rates in the future.

So, some real food for thought and some important decisions lie ahead. Discussions should start now and action should be taken soon in order to ensure an orderly transition.

© 2020 Vedder Price

For more on LIBOR/SOFR see the National Law Review Financial Institutions & Banking law section.

Apollo Settles Alleged Sanctions Violations: Aircraft Lessors Pay Attention

The Office of Foreign Assets Control (OFAC) of the U.S. Department of the Treasury has broad delegated authority to administer and enforce the sanctions laws and related sanctions programs of the United States. As a key component of its enforcement authority, OFAC may investigate “apparent violations” of sanctions laws and assess civil monetary penalties against violators pursuant to five statutes, including the Trading with the Enemy Act and the International Emergency Economic Powers Act.1

An “apparent violation” involves “conduct that constitutes an actual or possible violation of U.S. economic sanctions laws.”2 An OFAC investigation of an “apparent violation” may lead to one or more administrative actions, including a “no action” determination, a request for additional information, the issuance of a cautionary letter or finding of violation, the imposition of a civil monetary penalty and, in extreme cases, a criminal referral.3 Investigations of apparent violations by OFAC often lead to negotiated settlements where a final determination is not made as to whether a sanctions violation has actually occurred.4

Upon the conclusion of a proceeding that “results in the imposition of a civil penalty or an informal settlement” against or with an entity (as opposed to an individual), OFAC is required to make certain basic information available to the public.5 In addition, OFAC may release on a “case-by-case” basis “additional information” concerning the penalty proceeding,6 and it often does. Such additional information will sometimes include informal compliance guidance, cautionary reminders and best practices recommendations. Such information is routinely consumed by corporate compliance officers seeking fresh insight on ever-evolving compliance and enforcement trends, particularly in the context of proceedings relating to industries with which they are involved.

On November 7, 2019, OFAC released enforcement information that has caught the attention of the aircraft leasing community, particularly U.S. aircraft lessors and their owned or controlled Irish lessor subsidiaries.7 The matter involved a settlement by Apollo Aviation Group, LLC8 of its potential civil liability for apparent violations of OFAC’s Sudanese Sanctions Regulations (SSR) that existed in 2014–5.9 Although the amount of the settlement was relatively modest, the enforcement activity by OFAC in the proceeding has attracted scrutiny by aircraft lessors because, for the first time in recent memory, a U.S. aircraft lessor has paid a civil penalty to OFAC for alleged sanctions violations.

At the time of the apparent violations, Apollo was a U.S. aircraft lessor which became involved in two engine leasing transactions that came back to haunt it.

In the first transaction, Apollo leased two jet engines to a UAE lessee which subleased them to a Ukrainian airline with which it was apparently affiliated. The sublessee, in turn, installed both engines on an aircraft that it “wet leased”10 to Sudan Airways, which was on OFAC’s List of Specially Designated Nationals and Blocked Persons within the meaning of the “Government of Sudan.” Sudan Airways used the engines on flights to and from Sudan for approximately four months before they were returned to Apollo when the lease ended. Meanwhile, in a separate transaction, Apollo leased a third jet engine to the same UAE lessee, which subleased the engine to the same Ukrainian airline, which installed the engine on an aircraft that it also wet leased to Sudan Airways. Sudan Airways used the third engine on flights to and from Sudan until such time as Apollo discovered how it was being used and demanded that the engine be removed from the aircraft.

Both leases between Apollo and its UAE lessee contained restrictive covenants “prohibiting the lessee from maintaining, operating, flying, or transferring the engines to any countries subject to United States or United Nations sanctions.”11 Thus, by allowing the engines to be installed by its sublessee on aircraft that were eventually wetleased to Sudan Airways, and flown to and from Sudan during the country’s embargo, the lessee presumably breached the operating restrictions and covenants imposed by Apollo in the leases. Moreover, once Apollo learned that the first two engines had been used, and the third engine was being used, for the benefit of Sudan Airways, it demanded that the third engine be removed from the aircraft that the sub-lessee had wet-leased to Sudan Airways, and this was done.12

One might reasonably conclude from these facts that Apollo acted like a good corporate citizen. So what did Apollo do wrong from a sanctions compliance standpoint?

OFAC stated that Apollo may have violated section 538.201 of the SSR, which at the time “prohibited U.S. persons from dealing in any property or interests in property of the Government of Sudan,”13 as well as section 538.205 of the SSR, which at the time “prohibited the exportation or re-exportation, directly or indirectly, of goods, technology or services, from the United States or by U.S. persons to Sudan.”14

What are the takeaways and possible lessons to be drawn by aircraft lessors from this settlement based upon these alleged violations and the facts upon which they were based?

First, according to OFAC, Apollo did not “ensure” that the engines “were utilized in a manner that complied with OFAC’s regulations,” notwithstanding lease language that effectively required its lessee to comply.15 OFAC is clearly suggesting here that aircraft lessors have a duty to require sanctions compliance by their lessees. And, in view of the fact that many sanctions programs are enforced on a strict liability basis, OFAC’s comment that Apollo failed to “ensure” compliance by its lessee and sublessees makes sense. Apollo was not in a position to avoid civil liability by hiding behind the well-drafted language of its two leases. If a sanctions violation occurred for which Apollo was strictly liable, the mere fact that its lessee’s breach of the lease was the proximate cause of the violation would not provide a safe harbor.

As an example of Apollo’s alleged failure to “ensure” legal compliance, OFAC observed that Apollo did not obtain “U.S. law export compliance certificates from lessees and sublessees,”16 a comment which is somewhat puzzling. To our knowledge, there is nothing in the law requiring a lessor to obtain export compliance certificates, at least not in circumstances where an export or re-export license is not otherwise required in connection with the underlying lease transaction. Moreover, as a practical matter, it would be difficult, at best, for an aircraft lessor to force the direct delivery of certificates from a sublessee or sub-sub-lessee with whom it lacks privity of contract. In view of the foregoing, one assumes that OFAC was looking for Apollo to install procedures by which its lessee would self-report on a regular basis its own compliance (and compliance by downstream sublessees) with applicable export control laws and the relevant sanctions restrictions contained in the lease.

Second, OFAC found that Apollo “did not periodically monitor or otherwise verify its lessee’s and sublessee’s adherence to the lease provisions requiring compliance with U.S. sanctions laws during the life of the lease.”17 In this regard, OFAC observed that Apollo never learned how and where its engines were being used until after the first two engines were returned following lease expiration and a post-lease review of engine records, including “specific information regarding their use and destinations,” actually conducted.

In view of the foregoing, OFAC stressed the importance of “companies operating in high-risk industries to implement effective, thorough and on-going, risk-based compliance measures, especially when engaging in transactions concerning the aviation industry.”18 OFAC also reminded aircraft and engine lessors of its July 23, 2019, advisory warning of deceptive practices “employed by Iran with respect to aviation matters.”19 While the advisory focused on Iran, OFAC noted that “participants in the civil aviation industry should be aware that other jurisdictions subject to OFAC sanctions may engage in similar deception practices.”20 Thus, according to OFAC, companies operating internationally should implement Know Your Customer screening procedures and “compliance measures that extend beyond the point-of-sale and function throughout the entire business of lease period.”21

As a matter of best practices, aircraft lessors should implement risk-based sanctions compliance measures throughout the entirety of a lease period, and most do. Continuous KYC screening by lessors of their lessees and sublessees is a common compliance practice. Periodic reporting by lessees as to the use and destination of leased aircraft and engines appears to be a practice encouraged by OFAC.22 Lessors can also make it a regular internal practice to spot check the movement of their leased aircraft through such web-based platforms as Flight Tracker and Flight Aware. If implemented by lessors, such practices may enable early detection of nascent sanctions risks and violations by their lessees and sublessees.

Finally, OFAC reminded lessors that they “can mitigate sanctions risk by conducting risk assessments and exercising caution when doing business with entities that are affiliated with, or known to transact business with, OFAC-sanctioned persons or jurisdictions, or that otherwise pose high risks due to their joint ventures, affiliates, subsidiaries, customers, suppliers, geographic location, or the products and services they offer.” Such risk assessment is an integral part of the risk-based sanctions compliance program routinely encouraged by OFAC, as outlined in its Framework for OFAC Compliance Commitments on May 2, 2019.23 For aircraft and engine lessors, conducting pre-lease due diligence on the ownership and control of prospective lessees and sublessees, as well as the business they conduct, the markets they serve, the equipment they use and the aviation partners with whom they engage, are key to identifying and understanding the sanctions risks that a prospective business opportunity presents.

1 See U.S. Department of the Treasury, Office of Foreign Assets Control, Inflation Adjustment of Civil Monetary Penalties, Final Rule, 84 Fed. Reg. 27714, 27715 (June 14, 2019).

2 31 C.F.R. Part 501, Appendix A, Section I.A.

3 31 C.F.R. Part 501, Appendix A, Section II.

4 31 C.F.R. Part 501, Appendix A, Section V.C.

5 31 C.F.R. §501.805(d)(1). Such information includes “(A) [t]he name and address of the entity involved, (B) [t]he sanctions program involved, (C) A brief description of the violation or alleged violation, (D) [a] clear indication whether the proceeding resulted in an informal settlement or in the imposition of a penalty, (E) [a]n indication whether the entity voluntarily disclosed the violation or alleged violation to OFAC, and (F) [t]he amount of the penalty imposed or the amount of the agreed settlement.” Id. OFAC communicates all such information through its website. 31 C.F.R. § 501.805(d)(2).

6 31 C.F.R. § 501.805(d)(4).

7 See OFAC Resource Center, Settlement Agreement between the U.S. Department of the Treasury’s Office of Foreign Assets Control and Apollo Aviation Group, LLC (Nov. 7, 2019) (https://www.treasury.gov/resource-center/sanctions/OFAC-Enforcement/Page…) (the Settlement Announcement).

8 In December 2018, Apollo was acquired by The Carlyle Group and currently operates as Carlyle Aviation Partners Ltd. According to the Settlement Announcement, neither The Carlyle Group nor its affiliated funds were involved in the apparent violations at issue. See id. at 1 n.1.

9 See 31 C.F.R. Part 538, Sudanese Sanctions Regulations (7-1-15 Edition). Note that most sanctions with respect to Sudan were effectively revoked by general license as of October 2, 2017, thereby authorizing transactions previously prohibited by the SSR during the time period of the apparent violations by Apollo. However, as is true when most sanctions programs are lifted, the general license issued in the SSR program did not “affect past, present of future OFAC enforcements or actions related to any apparent violations of the SSR relating to activities that occurred prior to the date of the general license.” Settlement Announcement at 1 n.2. See also OFAC FAQ 532 (https://www.treasury.gov/resource-center/faqs/Sanctions/Pages/faq_other.aspx#sudan_whole). 

10 A “wet lease” is “an aviation leasing arrangement whereby the lessor operates the aircraft on behalf of the lessee, with the lessor typically providing the crew, maintenance and insurance, as well as the aircraft itself.” See Settlement Announcement at 1 n.3.

11 Id. at 1.

12 Unfortunately, Apollo did not learn that the first two engines were used in violation of lease restrictions until they were returned following lease expiration and it conducted a post-lease review of the relevant engine records. 

13 The alleged application of section 538.201 to Apollo in the circumstances confirms the broad interpretive meaning that OFAC often ascribes to terms such as “interest,” “property,” “property interest” and “dealings,” which appear in many sanctions programs.

14 The alleged application of section 538.205 to Apollo in the circumstances suggests that a U.S. lessor of aircraft and jet engines may be tagged with the “re-export” of such goods and related services from one foreign country to another, notwithstanding the existence of a contractual daisy-chain of lessees, sub-lessees, and/or wetlessees that actually direct and control such flight decisions. In the context of U.S. export control laws, the Export Administration Regulations (EAR) define the term “re-export” to include the “actual shipment or transmission of an item subject to the EAR from one foreign country to another foreign country, including the sending or taking of an item to or from such countries in any manner.” 15 C.F.R. § 734.14(a)(1). Thus, for export control purposes, the flight of an aircraft subject to the EAR from one foreign county to another foreign country constitutes a “re-export” of the aircraft to that country. 

15 Settlement Announcement at 1.

16 Id.

17 Id., at 1–2.

18 Id. at 3. (emphasis added).

19 Id. See OFAC, Iran-Related Civil Aviation Industry Advisory (July 23, 2019) (https://www.treasury.gov/resource-center/sanctions/OFAC-Enforcement/Pages/20190723.aspx)

20 Id.

21 Id. (emphasis added).

22 In Apollo, OFAC reacted favorably to certain steps alleged to have been taken by Apollo to minimize the risk of the recurrence of similar conduct, including the implementation of procedures by which Apollo began “obtaining U.S. law export compliance certificates from lessees and sublessees.” Id.

23 See https://www.treasury.gov/resource-center/sanctions/Documents/framework_ofac_cc.pdf.

© 2019 Vedder Price

ARTICLE BY John E. Bradley of Vedder Price.
More sanctions actions on the National Law Review Antitrust & Trade Regulation law page.