Sanctions: fear of breach not enough – impact on aviation insurers

Mamancochet Mining Limited v Aegis Managing Agent Limited and Others [12.10.2018]

On 12 October 2018, judgment was handed down in the High Court in a case concerning whether insurers under a marine policy could rely on a sanctions clause to avoid payment of a first party claim.

The claim concerned the interpretation of a Sanctions Limitation and Exclusion clause in a marine insurance policy. The policy protected the insured against the risk of theft of steel billets, worth US$3.8 million, shipped from Russia to Iran on 23 and 25 August 2012. On arrival in Iran, the cargoes were placed in storage and subsequently stolen. The consignee, an Iranian national, was not a “Specially Designated Person” subject to sanctions by the US Treasury Department.

In March 2013, the insured made a claim on its insurance policy for the theft of the cargo. The defendant underwriters resisted payment on the basis that payment “would expose” them to sanction pursuant to US and/or EU sanctions regimes and relied on the “Sanctions Limitation and Exclusion Clause” which read as follows:

"No (re)insurer shall be deemed to provide cover and no (re)insurer shall be liable to pay any claim or provide any benefit hereunder to the extent that the provision of such cover, payment of such claim or provision of such benefit would expose that (re)insurer to any sanction, prohibition or restriction under United Nations resolutions or the trade or economic sanctions, laws, or regulations of the European Union, United Kingdom or the United States of America."

The United States sanctions regime

Judgment was handed down in an expedited manner due to the timeframe in which payment could be lawfully made to the insured, on the basis of the defendant underwriters being owned or controlled by a US parent and therefore subject to the President Trump’s recent decision to end the US participation in the Joint Comprehensive Plan of Action (JCPOA).

The re-imposition of sanctions is subject to a “wind-down” period, the practical effect of which is that all of the US sanctions that were in place prior to the JCPOA being agreed, would snap back into place at the end of the applicable “wind down” period. It was therefore common ground between the parties that after the expiration of the “wind down” period, in the absence of a specific licence from OFAC, it would not be permissible to pay the insured’s claim.

The EU sanctions regime

The EU has its own sanctions regime applicable to Iran and also, since 1996, a “Blocking Regulation” intended to counter the extra-territorial impact of some US Sanctions (the Blocking Regulation).

The Blocking Regulation was amended on 7 August 2018 to counter the secondary sanctions re-imposed by the US. The effect of the Blocking Regulation is to prohibit compliance by EU persons/entities with certain US sanctions on Iran, re-imposed following the US withdrawal from the JCPOA.

Specifically, the Blocking Regulation:

  • Purports to nullify the effect in the EU of any foreign decision, including court rulings or arbitration awards, based on the extra-territorial legislation listed in the Annex to the Blocking Regulation.
  • Makes it an offence for EU persons/entities to comply with the listed extra-territorial legislation.
  • Allows EU persons/entities to recover damages arising from the application of the listed extra-territorial legislation from the natural or legal persons or entities causing such damage.
  • Allows EU persons/entities to request an authorisation from the European Commission to comply with the listed extra-territorial legislation, if not doing so would cause serious harm to their interests or the interests of the EU.
  • Requires EU persons/entities to report to the European Commission within 30 days of any circumstances arising from the listed extra-territorial legislation that affect their economic or financial interests.

Penalties for breaches of the Blocking Statute are set down in national legislation enacted by each EU Member State. In the UK, non-compliance with the Blocking Regulation is a criminal offence.

Judgment

The court held that it was insufficient for insurers to simply demonstrate that there was a risk of payment being prohibited, but rather the defendant underwriters must evidence that, on the balance of probabilities, payment would be prohibited.

More controversially, Teare J held that on a proper construction, the sanctions clause did not extinguish underwriters’ liability to pay but rather suspended it until such point where payment could be made, subject to the effect of limitation.

Impact on aviation

This judgment, while not binding on other judges, has ramifications for aviation underwriters as the standard wording in the Sanctions and Embargo Clause (AVN 111) performs a similar function to the sanctions clause in this case. AVN 111 states that:

If, by virtue of any law or regulation which is applicable to an Insurer at the inception of this Policy or becomes applicable at any time thereafter, providing coverage to the Insured is or would be unlawful because it breaches an embargo or sanction, that Insurer shall provide no coverage and have no liability whatsoever nor provide any defence to the Insured or make any payment of defence costs or provide any form of security on behalf of the Insured, to the extent that it would be in breach of such law or regulation.

The judgment confirmed that an underwriter is unlikely to be permitted to rely on a sanctions clause unless there is a legal prohibition on making a payment or providing coverage under the policy. A sanctions clause may not be used as a hiding place for tricky situations or where an insurer has developed an internal policy that goes further than the legal obligation. Underwriters will have to be able to demonstrate why they are prevented, by law, from making payment.

The more controversial aspect of the decision concerns the suspension of the obligation to make payment. Many underwriters upon reading AVN 111 might have concluded that once a sanctions clause was triggered, its effect was to extinguish any liability to pay the claim. However, the effect of this decision is that an insurer has to keep a sanctions restricted claim on its books until it becomes possible to make the payment. That could mean maintaining open claims indefinitely.

This is potentially commercially undesirable and underwriters may give careful consideration to exercising a right to cancel a policy where they consider themselves exposed to sanctions restricted claims.

Insurers will also, to avoid falling foul of the Enterprise Act, need to monitor various sanctions regimes to ensure any suspended claims are paid within a reasonable time of any lifting of sanctions restrictions.

Another consideration is that insured’s may seek to argue that a reliance on AVN 111, in respect of relevant US sanctions, falls foul of the EU Blocking Regulation.

While the court was not required to consider this issue in depth, underwriters may be encouraged by Teare J acknowledging “considerable force” in the defendant underwriters’ submissions that the Blocking Regulation was not engaged where the insurer’s liability to pay a claim is suspended, such as where insurers seek to rely on AVN 111.

In any event, both insurers and insured would be committing an offence by not reporting circumstances where their financial interests are affected by applicable US sanctions to the EU Commission within 30 days.

In light of the current global political uncertainty, it is likely that sanction provisions over many lines of business will become the subject of further judicial consideration in the future.

Read other items in the London Market Brief - October 2018