Russian Sanctions Circumvention: Are You Asleep At The Wheel?

Introduction

In the wake of Russia's invasion of Ukraine in February 2022, a broad and unprecedented range of sanctions were imposed on Russia by various countries and international bodies to target the Russian economy and prevent further aggression. 

However, the circumvention of these regimes by Russia, and the involvement of Financial Institutions (FIs), large corporates, and trading partners within the EU in facilitating this, either unwittingly or intentionally, are now of major global concern. Therefore, despite the unified stance of the international community, sanctioned Russian entities and individuals continue to manipulate loopholes and alternative channels to circumvent sanctions and limit their intended impact.

What is Sanctions Circumvention? 

Circumvention is the practice through which economic operators, individuals, or legal entities, that are subject to sanctions restrictions, or prohibitions, seek to evade the relevant restrictive measures. Methods to evade sanctions can vary widely and evasion tactics continue to become more complex and sophisticated.

For global corporations, especially those within the EU, the evasion of Russian sanctions presents multifaceted risks. Beyond the moral obligations to limit Russia’s assault on Ukraine and the potential legal and regulatory ramifications for non-compliance, complicity in sanctions evasion can significantly tarnish reputations and undermine stakeholder trust. Moreover, the potential penalties associated with non-compliance, including substantial fines and the possibility of imprisonment, highlight the need for proactive measures to ensure adherence to sanctions regimes.

What Methods Is Russia Deploying To Circumvent Sanctions?

Russia has developed and employed various financial, commercial, and technological strategies to mitigate the impact of sanctions. However, one method that has gained significant prevalence recently, is the use of intermediary countries to facilitate Russian imports of various goods, especially those of “dual-use” (items, vehicles, software, technology, or materials that can be used for both civilian and military purposes. The intrinsic challenge with dual-use goods lies in their benign appearance, making them difficult to regulate without affecting legitimate civilian needs). If Russian entities are unable to purchase goods directly, alternative parties may facilitate the transactions on their behalf. The UK National Crime Agency (NCA) issued an alert to UK-regulated FIs that Russia was trying to procure UK-sanctioned goods through intermediary countries.¹

The scheme is relatively simple. Russian-linked companies set up shell companies and subsidiaries in these jurisdictions and through the falsification of trade-related documents and by re-routing international transactions and processing payments through these countries, Russia has been able to seek alternative markets, trade routes, and supply chains. This has not only supported their war effort through imports but has also helped sustain the Russian economy through their exports, particularly in energy. The countries being utilised tend to have strong political ties to Russia and include countries in the Baltics, the Caucasus region, Eastern Europe, the Middle East, and Central Asia. 

Analysis of the UK’s trade data from 2018 – 2023 highlights some worrying trends and underlines the challenge facing the West in preventing this method of sanctions evasion.²

Analysis of the UK’s Exports 2018 – 2023

Prior to the war, Russia was a significant importer of UK goods. However, in 2023, total exports to Russia decreased by 69% compared to pre-war levels.

While some categories of exports to Russia have stayed relatively static since the invasion (Chemicals, Beverages & Tobacco, Food & Live Animals), we see a large decline in exports that may possibly be classed as “dual-use” goods. Given the extent of the sanctions on such items, this large decline is rather unsurprising and at first glance may indicate that the sanctions regimes in place to limit Russia’s access to obtaining such goods are largely effective from a UK perspective. 

However, what is striking and potentially much more concerning, is the change in exports of the same classifications of goods to countries in locations close to, or with significant political ties to, Russia.

Figure A: UK Exports to Russia 2018 - 2023 (£ millions)

As highlighted by Figure A, the commodities exported by the UK which are most of note (due to the size of the trade reduction to Russia and the potential for categorisation as “dual-use” goods) are: 

1. Mechanical Machinery (which includes Mechanical Power Generators, “Specialised” Machinery, and General Industrial Machinery);
2. Road Vehicles; 
3. Electrical Machinery (which includes Electric Motors and Telecoms & Sound Equipment); and
4. Other Transport Equipment (which includes Railway Equipment, Ships, and Aircraft). 

From 2018 – 2021, prior to the invasion, the UK traded large amounts of these commodities to Russia, totalling approximately £1.4 billion a year across the four categories. In 2023, the exports to Russia reduced to less than £28 million, more than a 98% decrease from pre-war levels. 

However, there has also been a substantial increase in UK exports of these goods to Eastern European countries near Russia, such as Kyrgyzstan, Georgia, Armenia, Turkey, and Azerbaijan, as well as numerous countries located in the Middle East. The significant changes in trading patterns for each of these four commodities are highlighted in the Tables below:

Figure B: UK Exports of “Mechanical Machinery” to selected countries (£millions)

Figure C: UK Exports of “Road Vehicles” to selected countries (£millions)

Figure D: UK Exports of “Electrical Machinery” to selected countries (£millions)

Figure E: UK Exports of “Other Transport Equipment” to selected countries (£millions)

There is also a growing collection of third-party research that complements this analysis and sheds light on similar concerns regarding the circumvention of Russian sanctions via intermediary nations. For example:

• In May 2023, an analysis by The Wall Street Journal found that “the U.S. and the EU exported more than $8.5 million worth of integrated circuits to Armenia last year [2022], more than 16 times the $530,000 exported in 2021. At the same time, Armenia’s exports of the circuits to Russia jumped to $13 million from less than $2,000 in 2021.” ³
• In March 2023, Sky News’ analysis of HMRC trade data uncovered that “the UK exported £273 million of vehicles to Azerbaijan last year [2023], a 1,860% increase compared with the five-year period preceding the invasion.” ⁴
• In May 2024, research conducted by CEIC found that “by the end of 2022, EU exports to Kyrgyzstan had surged by 953% year-over-year.” At the same time they noted a “sudden increase, disproportionate with the rest of the country, in freight activity in Talas, a region bordering Kazakhstan, one of Russia's closest allies in the region,” consequently leading them to question concerns of potential sanctions evasion.⁵
• In March 2023, Oxford Analytica asserted that “Middle Eastern states’ ambivalent take on the Ukraine war has mitigated the effects on Russia’s international isolation.” ⁶
• In July 2023, the Nordic Monitor reported that “Turkey’s exports to Russia in June have shown an 88.6 percent increase since the beginning of the year, compared to last year’s [2022] data” and that “Turkey’s exports to Russia witnessed remarkable growth. Russia has maintained its position as Turkey’s largest trading partner in terms of goods purchased.” The report also highlighted that “the number of Russian trucks that transported goods [from Turkey] to Russia had increased to 10,956 as of November 30, 2022, as opposed to an average of 2-3,000 in previous years.” ⁷
• In March 2024, The Carnegie Endowment for International Peace stated that the UAE “has become an essential transshipment node for Russia;” this was demonstrated by the fact that “in 2022, the UAE exported fifteen times more chips to Russia than in the previous year.” ⁸
• In August 2023, The IPS (International Politics and Society) Journal highlighted the results of an independent investigation that found “two-thirds of the components recovered from Russian weapons on the frontline contain chips and microprocessors produced by American and other Western companies.” ⁹
• In September 2023, King’s College London highlighted that “sanctions have not cut supplies to Russia but have instead empowered trade networks and intermediaries of various kinds by creating additional sources of income for them.” In addition, they reported that researchers found that “Georgia and Kazakhstan were facilitating the transit and re-export of sanctioned Russian products to third countries, including oil, wood and wheat, which was helping to finance its military while proving sizeable boosts in income for their own countries.” ¹⁰
• In November 2023, RUSI referenced prior reports in which they highlighted “manufacturers deliberately or inadvertently shipping important military and technological components from sanctions-imposing countries to intermediaries in third countries that then ship them onward to military end-users in Russia and Belarus.” ¹¹
• In February 2024, an OCCRP investigation discovered that high-tech goods (such as semiconductor production equipment) totalling approximately $5.9 million, were ordered by Kazakhstan from Europe. These goods were then delivered to a storage facility in Belarus before being shipped to Russia.¹² This “scheme known as “false transit” that takes advantage of lighter or non-existent sanctions against two of Russia’s closest economic partners, Kazakhstan and Belarus. Both countries are members of the Eurasian Economic Union, a Russian-led trade bloc that integrates the economies of five former Soviet republics, allowing goods to flow freely across national borders with no customs checks.”

Responses From Regulators and Implications for Financial Institutions

Governments and regulatory bodies continually try to bolster sanctions enforcement mechanisms:

• In the U.S., the Office of Foreign Assets Control (OFAC) issued 17 public enforcement actions in 2023, involving violations of seven different OFAC sanctions programs, with the overwhelming majority of these actions involving violations of Russia- or Iran-related sanctions.¹³ 

On top of the significant penalties that can be issued by OFAC, in December 2023, President Biden issued Executive Order (EO) 14114 to address Russian sanctions evasion. Under this order, among other things, Foreign Financial Institutions (FFIs) could face secondary sanctions if the U.S. (economic penalties issued by the U.S. against companies or individuals who do business with sanctioned individuals or corporations. They include penalties such as limiting or restricting foreign financial institution's correspondent accounts in the U.S.) determined they had conducted or facilitated a "significant" transaction for or on behalf of a U.S.-sanctioned individual or entity. Notably, unlike many secondary sanctions, EO 14114 does not require FFIs to have knowledge of the prohibited activity. In addition, the order lacks a precise definition of what constitutes a "significant" transaction, leaving the scope open to interpretation. As such, corporations must assess their risks to ensure they do not unknowingly run afoul of the regulations.¹⁴ 

• In the UK, sanctions breaches already carry severe penalties, including up to 7 years in prison and fines that could reach the greater of £1 million or 50% of the transaction value.¹⁵  

This legal framework was further strengthened in March 2022 when the UK introduced legislation to allow the Office of Financial Sanctions Implementation (OFSI) to impose monetary penalties without proving that an individual knowingly or had reasonable cause to suspect they were breaching financial sanctions. This change again highlights a more rigorous approach to compliance, underscoring the critical need for financial institutions to adopt proactive and comprehensive oversight practices to navigate this increasingly stringent regulatory environment.

In December 2023, the UK government also established the Office of Trade Sanctions Implementation (OTSI); a specialised unit dedicated to enhancing enforcement efforts and cracking down on entities attempting to sidestep Russian sanctions.¹⁶ 

As these enforcement efforts against sanctions evasion intensify globally, collaboration across different agencies and international borders is on the rise. Regulatory bodies have published numerous guidance documents which highlight the expectations regarding the role of the private sector as the “first line of defence” and the need for robust implementation of risk-based sanctions compliance programs. In this environment, companies and FIs are expected to continually assess their Russia-related exposure, and the emphasis on conducting thorough risk assessments, along with the need for effective monitoring and compliance strategies, has reached an unprecedented level of importance.¹⁷

How Ankura Can Help

While numerous methods exist for evading sanctions, there are equally numerous means of detecting it. The private sector has a strong obligation to understand what their customers are doing and what payments are being processed and therefore play a critical role in enforcing sanctions and preventing their circumvention. Identifying and tracking individuals and businesses that are complicit in evading sanctions against Russia requires a comprehensive approach that combines regulatory compliance, advanced technology and analytics, and ongoing vigilance. 

Ankura is well-equipped to help companies ensure compliance and navigate the complexities of sanctions regulations effectively by:

• Enhancing Know Your Customer (KYC) practices to identify high-risk customers and mitigate circumvention;
• Implementation of a KYC “Network” involving the performance of Enhanced Due Diligence (EDD) on customers’ connected parties;
• Executing lookbacks to identify customers who are circumventing sanctions and taking remedial actions;
• Deploying sophisticated automated screening tools for ongoing monitoring and vetting of customer transactions against the latest sanctions lists;
• Utilising advanced Transaction Monitoring systems capable of detecting unusual patterns suggesting potential sanctions evasion, such as abrupt changes in business operations or transaction behaviours without logical reasons;
• Offering timely and insightful guidance on new evasion tactics, complex circumvention typologies, threats, and compliance expectations;
• Providing customised training designed for your team;
• Auditing internal processes and controls to verify their efficacy in spotting and mitigating the risks of sanctions evasion. This includes evaluating the sufficiency of KYC/EDD procedures, sanctions screening, and transaction monitoring systems.

For assistance with a detailed risk assessment, aimed at uncovering potential vulnerabilities in your company's sanctions compliance program, or if you have any other questions or concerns, please get in touch with Lee Hale – Senior Managing Director at Ankura in London and Global Head of Ankura’s Anti-Financial Crime practice.

<sup>1. UK warns of Russia attempting to circumvent sanctions to purchase restricted goods and services, National Crime Agency, 6 December 2023
2. Trade in goods: country-by-commodity exports, Office for National Statistics, 10 May 2024
3. How Sanctioned Western Goods Are Still Flowing Into Russia, The Wall Street Journal, 14 May 2023
4. Surge in sale of UK-made cars to Russia's neighbours shows how it's beating sanctions, Sky News, 12 March 2024
5. EU's Exports to Kyrgyzstan Surge, Signalling Russian Sanctions Evasion, CEIC, accessed 10 May 2024
6. Russia uses Middle Eastern ties to mitigate isolation, Oxford Analytica, 7 March 2023
7. Turkey’s exports to Russia continue to rise amid declining trade with other countries, Nordic Monitor, 5 July 2023
8. Why Russia Has Been So Resilient to Western Export Controls, Carnegie Endowment for International Peace, 11 March 2024
9. How to get away with sanctions, Russian-style, IPS, 16 August 2023
10. Russia evading sanctions thanks to 'shadow trade deals', King’s College London, 19 September 2023
11. Track and Disrupt: How to Counter Sanctions-Evasion Networks, RUSI, 10 November 2023
12. In ‘False Transit’ Loophole, Russia’s War Machine Is Supplied Through Kazakh Companies and Belarusian Warehouses, OCCRP, 21 February 2024
13. U.S. Sanctions Enforcement: 2023 Trends and Lessons Learned, Morrison Foerster, 4 March 2024
14. Executive Order Creates New Secondary Sanctions Risks for Non-U.S. Financial Institutions, Debevoise & Plimpton LLP, 10 January 2024
15. Financial sanctions enforcement and monetary penalties guidance, UK Gov, 16 May 2024
16. New unit to crack down on firms dodging Russian sanctions, Gov UK, 11 December 2023
17. U.S. Sanctions Enforcement: 2023 Trends and Lessons Learned, Morrison Foerster, 4 March 2024</sup>

^{© Copyright 2024. The views expressed herein are those of the author(s) and not necessarily the views of Ankura Consulting Group, LLC., its management, its subsidiaries, its affiliates, or its other professionals. Ankura is not a law firm and cannot provide legal advice.}