Currently, there is no complete prohibition on doing business with Russian business partners. Instead, different jurisdictions have announced sanctions to directly target specific sectors of the Russian economy and specific individuals and entities. The sanctions will directly and indirectly impact the real estate sector. Sanctions against individuals and companies have been significantly expanded already and we expect further additions to be made to the list of blocked business partners. While the following Q&A relates to Russia sanctions, we strongly recommend you consider the same measures when dealing with business partners from (i) Eastern Ukraine, (ii) Crimea and (iii) Belarus, due to their close association with Russia.

Can you accept rent from a sanctioned tenant and if you don’t can you allow them to stay in occupation?

Yes, in principle receiving payments from a non-sanctioned Russian tenant is not prohibited. 

However, if the tenant is designated on any sanctions list, no economic resources (such as real estate) may be made available and hence the landlord cannot allow the sanctioned tenant to stay in occupation. The same applies to non-listed entities which are subject to the same restrictions as listed entities if they are owned at least 50% or controlled by a listed party. Payments received from sanctioned tenants under existing agreements will be frozen by any receiving EU bank and will only be released upon authorisation by the competent national authority after it has been confirmed that the payment relates to a grandfathered agreement.

In addition, EU, UK and US banks will not engage with sanctioned Russian banks, so even if the Russian tenant is not sanctioned it may need to use a financial institution for payment which is not sanctioned itself. It is also important for EU, UK and US companies to consider the consequences of engaging with Russian banks themselves, since far-reaching sanctions against the Russian banking sector are expected. The first seven banks have already been excluded from the SWIFT system and more institutions might follow. Finally, the European Union is limiting Russian bank deposits to prevent Russian elites from hiding their money in Europe which may prevent them from being able to pay rent on expensive real estate.

If a tenant were made a designated person for the purposes of asset-freezing then a landlord would not be able to accept payment of rent and service charge from them.  That would, on the face of it, constitute dealing in the tenant’s frozen funds.  In the face of this uncertainty, the landlord would be advised to apply to the Office of Financial Sanctions Implementation (OFSI) for licence to accept rent and not accept rent until that licence was obtained. 

Can you pay rent to a Russian landlord?

Yes, payments to Russian landlords and Russian nationals are in principle permitted, provided that these are not sanctioned individuals or entities. Be careful: non-listed entities are subject to the same restrictions as listed entities if they are owned at least 50% or controlled by a listed party.   Ownership refers to whether a listed party possesses at least 50% of the proprietary rights of an entity or has a majority interest in it. Control is assessed on a case-by-case basis on the basis of various criteria looking at how decision-making in the non-listed entity is done. In practice, this increases the risk of unknowingly dealing with a sanctioned person or entity. Such payments should be subject to know your customer/business partner (KYC) checks and sanctions screening to find out whether the Russian landlord or any owning or controlling party is designated on any sanctions list. Otherwise, a sanctions breach may follow from – directly or indirectly – making economic resources available to a targeted person.

Practically, most companies rely on commercial databases which offer IT and software solutions to run such KYC checks.  These are regularly updated and take the constantly evolving nature of sanctions into account. Manual checks are possible, but significantly more burdensome and risky due to the risk of oversights, e.g. because of different spellings or deviating lists in different jurisdictions.

Can you enter into Real Estate financing with a Russian lender?

This will depend on the identity and background of the Russian lender, i.e. Russian financial institutions will either be sanctioned already or may be included in future sanctions lists. This may lead to issues for later payments. Certain grandfathering rules may apply to contracts concluded before future sanctions come into force, but cannot be taken for granted. We would not recommend entering into business relationships with Russian financial institutions at this point without an individual sanctions risk assessment. In any case, sanctions checks should be carried out to identify any sanctioned banks.

Can you take enforcement action (e.g., in case of non-payment of rent or default under a loan agreement) if a sanctioned tenant/borrower fails to perform?

Yes. Since the sanctioned tenant/borrower would in principle not benefit from such enforcement action, which is typically targeted by sanctions. Should any enforcement action result in a settlement which could result in making economic resources available as part of the settlement, an individual assessment should be sought.

A sanctioned tenant under a commercial lease may not be able to tender the rent because the tenant's bank is likely to be in breach of an asset freeze if it transfers a sanctioned person's funds to a landlord to pay the rent.   If that were the case, then the landlord could forfeit for non-payment of rent.  We are of the opinion that forfeiture when the sanctioned tenant doesn’t pay the rent does not breach an asset-freeze as it does not amount to changing the character of the lease or dealing with an economic resource in exchange for funds, goods or services.  The same analysis is likely to apply to operating a break clause, provided that there is no payment of funds to the tenant or release from past and current liabilities. 

If the tenant pays the rent and is not in arrears then it is unlikely that the landlord can forfeit simply because it cannot accept the rent.  By accepting rent, the landlord would be using a sanctioned person's funds which it is unable to do under the current regime without first obtaining an OFSI licence. 

We have considered frustration as a possible alternative remedy.  The landlord would have to argue that the lease had been frustrated.   Frustration occurs when the contract becomes physically, legally or commercially impossible to fulfil or the obligations ae radically transformed.   The landlord would have to argue that being legally unable to accept the rent frustrates the lease.  There are discretionary exceptions to the legal prohibition and it is not yet tested in the UK courts as to how these would apply to the current sanctions.   To frustrate the lease, it appears that the landlord would need to apply for but be refused an OFSI licence before it could terminate a lease with a sanctioned tenant.  This would be time consuming and costly for landlords.  To date, the bar for frustration of leases has been set very high and would likely have to go to the Supreme Court. 

Can you buy real estate from a Russian entity?

In principle, yes, unless the property is located in a disputed area covered by sanctions such as Crimea or Eastern Ukraine or the entity is sanctioned. This list might change depending on the developments in Ukraine. As buying real estate will make economic funds (the purchase price) available to the entity, it is important to conduct KYC and sanctions checks in relation to the seller at the beginning of any negotiations, particularly if the seller is a Russian bank. Non-sanctioned entities are subject to the same restrictions as listed entities if at least 50% of them are owned or controlled by a sanctioned party. 

Can you sell real estate to a Russian entity?

In principle, yes as long as the purchasing entity is not sanctioned. Selling real estate to an entity will make economic funds (including occupational tenant rents) available to that entity. Again, it is very important to conduct KYC and sanctions checks in relation to the purchaser in this case, including non-listed entities which can be subject to the same restrictions as listed entities if they are owned at least 50% or controlled by a listed party.

Ultimate Beneficial Owners – how do you know if you are dealing with someone subject to sanctions?

When dealing with business partners, it may not necessarily be the direct person you are dealing with that is sanctioned. The individual or entity registered at the land registry may not be the ultimate beneficial owner. It may be a person indirectly involved in the business, e.g. a shareholder, parent company or the ultimate beneficial owner of an entity or a close relative of a natural person. Sanctions against persons do not only concern making economic resources directly available to them, but also making economic resources indirectly available to such indirectly involved persons. It is therefore important to carry out KYC and background checks regarding business partners in the context of sanctions screenings, including controlling persons and entities and their ultimate beneficial owner. These checks may and should be aligned with checks conducted to widely applicable money laundering requirements in the real estate sector. Practically, most companies rely on commercial databases which offer IT and software solutions to run such KYC checks and these are regularly updated and take the currently quickly evolving nature of sanctions into account. Manual checks are possible, but significantly more burdensome and risky due to the risk of oversights, e.g. because of different spellings or deviating lists in different jurisdictions.

In the UK, when dealing with registered land, there is no way of knowing who is the beneficial owner. New legislation will set up a register of beneficial ownership for overseas companies to address this.  Reforms of Companies House are expected to make it harder to remain anonymous when setting up and running companies, as anyone setting up or controlling a company will have to have a verified identity with Companies House or an anti-money laundering third party agent. 

Do similar issues apply to construction contracts?

Yes. All of the above also applies to construction contracts. This is especially in relation to the recommended KYC checks and sanctions screenings, restrictions on making economic resources available and non-involvement of Russian financial institutions.

Will companies have to terminate contracts because of sanctions?  What if the relevant contract doesn’t have an appropriate termination right? 

The response to this question will depend on the contract type in question as those are covered by different sanctions schemes. Some sanctions regulations provide for grandfathering provisions regarding contracts agreed in the past, others include an authorisation mechanism pursuant to which parties to existing agreements can apply for an exemption (which may need to be exercised within a certain time-frame). 

If the relevant contract does not provide for an appropriate termination right this doesn’t mean that it can still be executed by the parties. Depending on the governing law of the contract and the applicable jurisdiction, the parties need to assess if they have to rely on a different interpretation of existing general termination clauses, force majeure or other legal instruments which give effect to the sanctions regulations.

For commercial leases, there are no existing alternative remedies for the landlord to end a commercial lease other than a break right (exercisable if a tenant is sanctioned so highly unlikely to exist in most commercial leases)  or a forfeiture clause triggered by sanctions (unlikely in most leases) or non-payment of rent but see comments on frustration above.

The rules relating to making funds or economic resources available would apply equally here. 

Other considerations

US and UK sanctions need to be considered even if the transaction takes place in the EU. For instance, any USD-denominated transaction routes through a US clearance system and hence is subject, in principle, to US sanctions. The US have imposed correspondent and payable-through account, and payment processing sanctions on various financial institutions restricting their access to US dollar transactions. Moreover, the US have designated various Russian banks as sanctioned entities, requiring US persons to freeze those banks’ assets and prohibiting US persons from dealing with them. This means no US person must be involved in any such transaction even if it takes place outside the US.  The UK government has also sanctioned various Russian entities.  As a result, all UK individuals and entities will be prohibited from providing funds and/or economic resources to those targeted entities. Like the US sanctions, UK financial and economic sanctions have an extra-territorial effect. UK financial sanctions apply to all persons within the territory of the UK and to all UK persons, wherever they are in the world.

In an official notice published by OFSI, UK individuals and entities have been instructed to:

• check whether they maintain any accounts or hold any funds or economic resources for the sanctioned banks and individuals;

• freeze such accounts, and other funds or economic resources and any funds which are owned or controlled by these individuals or banks;

• refrain from dealing with the funds or assets or making them available to such individuals or banks (unless licensed by OFSI);

• report any findings to OFSI, together with any additional information that would facilitate compliance; and

• provide any information concerning the frozen assets of designated persons that OFSI may request.

The Russia sanctions situation is very fluid and requires regular monitoring as well as consideration of any local rules where the property is located such as in Switzerland or Canada. As always, please contact us for the latest guidance.

Authored by Jane Dockeray, Ingrid Stables, Mathew Ditchburn, Falk Schoening, and Stefan Kirwitzke.