Sanction Topic20

A Guide to Financial Sanctions

Sanctions are a critical tool in international policy, primarily affecting financial transactions. This guide breaks down what they are, who imposes them, and their impact on the global payments system.

1. What Are Sanctions?

A tool to persuade a country, group, or individual to conform to international laws or policies.

The primary focus for financial institutions is on financial sanctions, which have specific goals and characteristics.

• Primary Goal: To restrict or completely prohibit the flow of funds and access to economic resources.
• Motivation: Usually political or economic, aiming to change behavior without military action.
• Types: Can be preventative (to stop future actions) or reactive (in response to an event).

2. Who Creates Sanctions?

Sanctions are imposed by intergovernmental bodies and individual national governments.

These bodies publish lists of sanctioned individuals and entities that financial institutions must monitor.

• United Nations (UN): The Security Council imposes sanctions to maintain international peace and security.
• United States (US): The Department of the Treasury's OFAC enforces economic and trade sanctions.
• European Union (EU): Implements UN sanctions and can impose its own stricter measures.
• United Kingdom (UK): HM Treasury, through OFSI, implements financial sanctions in the UK.

3. Impact on Payments

Financial sanctions directly disrupt the ability to send or receive money involving sanctioned parties.

This disruption is achieved through several key actions:

• Asset Freezing: Preventing access to funds or economic resources held in financial institutions.
• Transaction Blocking: Intercepting and holding payments destined for or coming from a sanctioned entity.
• Network Disconnection: Removing banks from critical financial messaging networks like SWIFT.

4. How Sanctions Are Evaded

Circumvention is the act of deliberately disguising a transaction to avoid detection by sanctions controls.

This is a criminal offense and a common reason for sanctions breaches. Key methods include:

• Wire Stripping: Intentionally removing or altering key details (like names or locations) from payment instructions.
• Misuse of Cover Payments: Routing transactions through multiple banks to hide the ultimate origin or destination.
• Using Shell Companies: Employing special purpose entities to obscure the true parties involved in a transaction.

5. Penalties for Breaches

Breaching sanctions results in severe penalties for both organizations and individuals.

These penalties are designed to be a strong deterrent and can be civil or criminal.

• Massive Fines: Financial institutions have faced fines in the billions of dollars (e.g., BNP Paribas fined $8.9bn).
• Legal Action: Can include criminal charges leading to imprisonment for individuals involved.
• Reputational Damage: Public trust is eroded, leading to loss of customers and business.
• Business Restrictions: Regulators may issue cease and desist orders or ban firms from certain activities.

6. How Compliance Works

Financial institutions use sophisticated screening systems to detect and block illegal transactions.

This process is essential for compliance but can have operational impacts.

• Screening Filters: Software that scans inbound and outbound payment messages for matches against sanctions lists.
• Investigating "Hits": When a payment is flagged, a compliance team investigates to see if it's a true match (positive) or a false alarm (negative).
• Payment Delays: Investigations can delay payments, and positive hits can result in funds being frozen indefinitely.

The Accuracy Challenge

Incorrect data in sanctions lists can lead to legitimate individuals or entities being wrongly denied financial services, creating reputational risk for all involved.