The EU amends its best practices for the effective implementation of restrictive measures

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On July 3, 2024, the Council of the European Union updated its best practices for the effective implementation of restrictive measures (“EU Best Practices”).

The EU Best Practices are considered non-exhaustive recommendations of a general nature for effective implementation of restrictive measures in accordance with applicable Union law and national legislation, and are not legally binding. However, in practice they are largely taken into consideration by the national competent authorities (“NCA”) and EU operators as soft law.

Some of the changes significantly affect the scope and extent of the EU's restrictive measures (sanctions). The key updates relate to the EU “ownership” and “control” test, as outlined below.

Ownership Threshold

The definition of the EU “ownership test” is provided for in Council Regulation (EC) No 2580/2001 and reads as follows:

“‘Owning a legal person, group or entity’ means being in possession of 50% or more of the proprietary rights of a legal person, group or entity, or having a majority interest therein.”

While the definition has not changed, the EU “ownership” test threshold has been explained in the EU Best Practices. A legal person or entity is considered to be owned by another person or entity if such person (i) owns 50% or more of the proprietary rights of an entity or (ii) has a majority interest in it.

Furthermore, an additional clarification on the aggregation has been added in the EU Best Practices chapter on the ownership test to clarify that shareholdings of designated persons shall be aggregated. Whilst the aggregation rule has already been set out as soft law in the context of the Russia sanctions, the EU Best Practices extend it also to other EU sanctions programs.

With the aggregation rule confirmed in EU Best Practices and extended to all EU sanctions programs, albeit in the form of soft law, the EU aligns itself with the so-called 50% Rule of the Office of Foreign Assets Control of the U.S. Department of the Treasury (“OFAC”), the authority in charge of implementing and enforcing sanctions in the United States. According to the OFAC 50% Rule any entity owned in the aggregate, directly or indirectly, 50% or more by one or more blocked persons is itself considered to be a blocked person.

The EU “ownership” test is different from the UK approach, which (for now) refers to “more than 50%” and does not generally require an aggregation, unless, for example, the shares or rights are subject to a joint arrangement between the designated parties or one party controls the rights of another.

Updated Control Criteria

EU Best Practices have also updated criteria for assessing and determining the control of a designated entity or person over a legal person or entity.

Among the existing criteria, it has been clarified that the power to exercise a dominant influence over a legal person or entity (without being the holder of that right) highlights a situation of control even when it is a “de facto” power - including, for example, by means of a front company.

Moreover, the EU Best Practices provide a new non-exhaustive list of examples that may qualify as indications of control. Such examples are not exhaustive and are intended only as illustrative guidance:

• Majority shareholding: the largest shareholder of a company compared to other shareholders is a designated person. Such situation may require further analysis whether the designated person meets any of the control criteria (for example, has the power to appoint the majority of the directors).
• Buyback option: if a management buyout took place, whereby the previous designated owner can buy back the company under favorable conditions (especially if they can be easily invoked).
• Transfer of shares at a time close to the designation: a transfer of a relevant number of shares in the non-designated entity to a new owner shortly before or after (if allowed by EU restrictive measures) the person has been designated. This may suggest retained control by the designated person and may trigger further investigation as to the previous owner’s influence over the new owner.
• Use of front persons closely connected to the previous designated owner or as a cover for an effective control exercise by the designated person.
• Use of trusts, shell companies and limited liability companies linked to a designated person (e.g., one or several trusts are used as receiver(s) of assets from an entity owned or controlled by a designated person).

The new criteria bring the EU notion of control closer to the UK one which assesses the ability of a person to exercise a dominant or decisive influence over another. It remains to be seen how the jurisprudence concerning the control test will evolve in the EU. Importantly, some of the new criteria of control, such as transfer of shares in a time period close to the designation, the use of front companies and complex company structures, have been identified by the international Russian Elites, Proxies and Oligarchs (“REPO”) Task Force as red flags for evasion risks.

Legal advisors have already been confronted with challenges of determining control by a sanctioned person, which is a case-by-case analysis that requires taking into account all relevant circumstances. To the complexity of the analysis, we add that different NCAs may reach different conclusions on the matter of control which could lead to the unfair imposition of barriers to trade and competition within the internal market. The new factors in the control test may also lead market operators to adopt a more cautious approach when dealing with entities which may fall under one of the aforementioned categories. The impact for the business can be significant without taking time to analyze the issue.

Clarification of the notion of “acting on behalf or at the direction”

The notion of “acting on behalf or at the direction” of a natural or legal person is referred to in several provisions.

EU Best Practices clarify that such notion differs from those of ownership and control, and should be determined independently. However, according to the EU Best Practices, the effects of the notion of “acting on behalf or at the direction” can be placed on an equal footing in respect of ownership and control.

The following criteria may be considered in determining if an entity acted on behalf or at the direction of another entity or person:

• the precise ownership/control structure;
• the nature and purpose of the transaction and in relation to the stated business duties of the legal person;
• previous instances of acting on behalf or at the direction of the listed natural or legal person, entity or body; and
• disclosure made by third parties and/or factual evidence indicating that directions were given.

These criteria therefore may be relevant to the “control” assessment too, as the EU Best Practices state that both concepts are on equal footing. This might bring an additional layer of confusion to the EU analysis which now considers as automatically sanctioned not only an entity that is controlled by a sanctioned person but also an entity that “acts for or on behalf” of a sanctioned person even if not specifically listed under any Council Regulation. As noted above, there is a high risk that NCAs and market operators may adopt different positions in relation to an entity that is not included in a sanctions list, which might have a significant repercussion on the entity’s operations.

The United States has never adopted such an aggressive stance in relation to the test of “control” by or “acting on behalf or at the direction” of a sanctioned person. OFAC will only target a person controlled by or acting on behalf of a designated individual or entity where it adopts an affirmative action, which involves some reasoning on the part of the agency. So far, OFAC designations have actually focused on “ownership or control” resulting in the imposition of sanctions against subsidiaries which were already blocked under OFAC’s 50% Rule, but were not yet listed under the Specially Designated Nationals and Blocked Person List. There are limited instances of designations on the basis of control or acting for or on behalf that do not implicate subsidiaries, or are not accompanied by evasion practices such as creation of front companies or acting as a broker of an SDN to conceal the identity of the SDN indirectly participating in the transaction.

It remains to be seen how NCAs will be enforcing the new “control” and “acting for or on behalf” of a sanctioned person tests. This provides additional complexity in this already entangled and continuously changing area of law.