Court of Appeal decision on the effect of sanctions on letters of credit

14 June, 2024

On 11 June 2024, the Court of Appeal handed down judgment in Celestial Aviation Services v UniCredit [2024] EWCA Civ 628, one of The Lawyer’s Top 10 appeals for 2024.

The central issue was whether the payment obligation of a confirming bank under letters of credit was suspended by the operation of sanctions introduced against Russia in March 2022. The Court of Appeal decided that it was so suspended, and allowed the appeal on that issue.

The claimants were beneficiaries under the letters of credit, which served as security for the payment obligations of certain Russian companies under a series of aircraft leases. The letters of credit were issued by a Russian bank, Sberbank, and confirmed by UniCredit, the defendant. Following the Russian invasion of Ukraine in February 2022, the lessors terminated the leases and served payment demands on UniCredit.

UniCredit declined to pay on the basis that it was prohibited from doing so, principally as a result of reg. 28(3)(c) of the Russia (Sanctions) (EU Exit) Regulations 2019. Reg. 28(3)(c) prohibits the provision of financial services or funds in pursuance of or in connection with an arrangement whose object or effect is directly or indirectly making restricted goods or technology available to a person connected with Russia, or for use in Russia.

The first instance judge rejected UniCredit’s contention, holding that payment under the letters of credit would not be a payment in connection with the underlying leases and relying on the fact that the supply of aircraft had taken place prior to the imposition of sanctions and on the autonomy principle, by which a letter of credit creates a legal relationship separate from the underlying transaction. He also rejected UniCredit’s defence under s.44 of the Sanctions and Anti-Money Laundering Act 2018 that its decision not to pay was an act done in the reasonable belief that it was complying with reg. 28(3)(c).

The Court of Appeal allowed UniCredit’s appeal on these issues. Giving the lead judgment, Falk LJ (with whom Males and Snowden LJJ agreed) held that the judge had failed properly to engage with the wide words “in connection with” in reg.28(3)(c) and that neither the fact that the supply of aircraft pre-dated the imposition of sanctions, nor the autonomy principle, could detract from the straightforward fact that payment under the letters of credit would be in connection with the underlying leases.

On s.44, the court held that UniCredit had in any event established a reasonable belief that the sanctions applied. It went on to hold that s.44 did not operate to prevent UniCredit from being made liable for costs or statutory interest. The court also made a number of interesting observations about the application of the rule in Ralli Bros (that the court will not enforce a contract which necessarily requires an act to be done in a place where such act would be unlawful) to payment obligations in US dollars, and about the possibility of payment under a letter of credit being made in cash or in an alternative currency to that provided for in the credit.

James Sheehan KC acted for the appellant, UniCredit, with David Quest KC and Rachel Barnes KC, instructed by Davina Given at RPC.

A copy of the judgment can be found here.