international regulatory enforcement
New Targeted and Secondary Sanctions Regime For Hong Kong and the PRC
By Tom Best, Quinn Dang, Talya Hutchison, Derek Turnbull, Randall Johnston
In one of the latest developments in the fast-changing economic and foreign policy relationship between the United States and the People’s Republic of China (“PRC”), the Trump Administration on July 14, 2020 issued an executive order implementing economic sanctions against foreign persons who undermine Hong Kong’s autonomy. The President also signed the Hong Kong Autonomy Act (HKAA) into law on the same day.
The Executive Order provides for blocking sanctions against certain non-U.S. persons under the International Emergency Economic Powers Act (“IEEPA”) for undermining Hong Kong’s autonomy in connection with the imposition of the new Hong Kong National Security Law imposed by Beijing on July 1, 2020. It also provides for other U.S. federal agencies concerned with trade relations with the Hong Kong Special Administrative Region (“SAR”) to eliminate, or at least suspend, differential and preferential trade treatment for Hong Kong under the United States-Hong Kong Policy Act of 1992, under which Hong Kong is treated separately from mainland China.
These developments, including the authority in the HKAA to ultimately impose sanctions on foreign (i.e., non-U.S.) financial institutions (“FFIs”) which “knowingly” engage in “significant” transactions in support of parties undermining Hong Kong’s autonomy, are summarized in this post.
The Executive Order
Section 4 of the Executive Order authorizes the imposition of sanctions on natural and legal persons outside the United States (i.e., foreign persons) who the U.S. Secretary of State or the U.S. Secretary of the Treasury, in consultation with each other, determine have been “involved, directly or indirectly, in the coercing, arresting, detaining, or imprisoning of individuals under the authority of, or to be or have been responsible for or involved in developing, adopting, or implementing, the Law of the People's Republic of China on Safeguarding National Security in the Hong Kong Administrative Region” (e.g., the new National Security Law) and/or “responsible for or complicit in, [or] … engaged in”:
“(A) actions or policies that undermine democratic processes or institutions;
(B) actions or policies that threaten the peace, security, stability, or autonomy of Hong Kong;
(C) censorship or other activities with respect to Hong Kong that prohibit, limit, or penalize the exercise of freedom of expression or assembly by citizens of Hong Kong, or that limit access to free and independent print, online or broadcast media; or
(D) the extrajudicial rendition, arbitrary detention, or torture of any person in Hong Kong or other gross violations of internationally recognized human rights or serious human rights abuse in Hong Kong.”
Like most recent Executive Orders containing blocking sanctions, Section 4 also provides for so-called “secondary sanctions,” granting the authority to designate as Specially Designated Nationals (“SDNs”) natural and legal persons who are determined “to have materially assisted, sponsored, or provided financial, material, or technological support for, or goods or services to or in support of, any person” sanctioned under this Executive Order. Section 4 also grants the authority to sanction “any member of the board of directors or a senior executive officer” of a sanctioned entity under this Executive Order.
Foreign Financial Institutions and Secondary Sanctions
Separately, the HKAA provides for a secondary sanctions regime specifically targeting certain non-U.S. financial institutions, encompassing those FFIs engaging in “significant” transactions with parties determined by the U.S. Secretary of State to have been involved in undermining the autonomy of the Hong Kong SAR.
Under Section 5(a) of the HKAA, the U.S. Secretary of State, “in consultation with the Secretary of the Treasury,” must submit a report to Congress within 90 days of the date the HKAA is enacted (i.e., by October 12, 2020), that identifies any non-U.S. (“foreign”) person deemed “[to be] materially contributing to, [to have] materially contributed to, or [to have] attempt[ed] to materially contribute to” the failure of the PRC to live up to its commitments to Hong Kong’s autonomy under the 1984 Sino-British Treaty providing for the return of Hong Kong to the PRC, including 50 years of autonomy for the SAR. No sooner than 30 days and no later than 60 days after the submission of the Secretary of State’s report, HKAA Section 5(b) requires the Secretary of the Treasury, “in consultation with the Secretary of State,” to submit a report to Congress identifying any FFI that “knowingly” conducts a “significant” transaction with anyone designated under Section 4 of the Executive Order. The HKAA, under Section 5(d), provides the President discretion to leave an otherwise offending FFI out of the mandated Congressional report – and subsequent secondary sanctions – or remove a listed FFI if the offending activities of the FFI:
Do not “have a significant and lasting negative effect that contravenes the obligations of China under the [1984 Sino-British] Joint Declaration and [Hong Kong Basic Law];”
“Are not likely to be repeated”; and
Have been "reversed or otherwise mitigated through positive countermeasures."
A corresponding section of the HKAA requires the President to impose at least five of the secondary sanctions from a list (commonly referred to as a “menu”) of 10 punitive measures included at Section 7(b) of the statute within one year of identifying the FFI to Congress, if the FFI remains on the list. All 10 sanctions must be imposed on an FFI that is still listed within two years. The “menu” consists of:
U.S. financial institutions prohibited from lending or extending credit to the FFI;
Prohibition or revocation of primary dealer status of U.S. government debt;
Prohibition or revocation of eligibility to serve as a repository of U.S. Government funds;
Prohibition on engaging in foreign exchange transactions subject to U.S. jurisdiction;
Effective denial of access to any banking transactions subject to U.S. jurisdiction (i.e., transactions in U.S. dollars cleared through the U.S.);
Prohibitions on transactions in U.S. real property;
Restrictions on the exports, re-exports, and transfers (in-country) of U.S. goods, technology, or services from the United States to the FFI;
Restrictions or prohibitions of U.S. persons purchasing from or otherwise investing in equity or debt of the FFI;
Bans on travel by the FFI’s officers, principals, or shareholders to the United States; and
Any of the above sanctions being levied against the “principal executive officers” or individuals performing similar functions of the FFI.
Implications and Questions
While the revocation of Hong Kong’s special and separate trade status has potentially significant macro-economic consequences for the PRC and Hong Kong, the effects of the HKAA and the new Executive Order are less certain and depend on who – if anyone – the Trump Administration (including the Departments of State and Treasury) decides to designate under these new authorities.
As of the publication of this post – July 16, 2020 – the Administration had not made any designations and was reported in the press as being reticent to do so immediately, given trade tensions between the U.S. and the PRC. Notably, however, the President is not required to wait for any report to be filed with Congress to make such designations under his Executive Order.
While the HKAA authorizes sanctions upon designation on the Secretary of Treasury’s report, the Executive Order with respect to FFIs does not address whether FFIs are subject to designation immediately. Further, we believe it is highly likely that banks and other non-U.S. financial institutions will seek guidance from the Office of Foreign Assets Control (OFAC) and the State Department as to what will be considered a “significant transaction” for the purposes of the HKAA. (OFAC has previously issued guidance in other sanctions programs, defining “significant transactions” according to seven “broad” factors, including the size and frequency of transactions, management involvement, and any deception or perceived evasion of sanctions regulations involved, but it remains to be seen whether similar guidance will apply here.) As it is likely that Hong Kong and PRC officials, other government functionaries, and companies affiliated with such persons will be designated as SDNs under the Executive Order and HKAA, the precise scope of what will be deemed “significant” will have implications for banks in the region. This, in particular, given the potential that some individuals, should they be designated, may have significant personal and business interests in Hong Kong and abroad.
We will be actively updating you on these issues and regularly updating PHIRE with China and Hong Kong-related content as the situation develops.