A cross-border distribution agreement is signed. Months later, a routine OFAC screening flags a beneficial owner of the counterparty. The contract contains no sanctions clause. The in-house team now faces a question with no clean answer: can performance continue, must it stop immediately, and who bears the cost of suspension? As of mid-2026, regulators on both sides of the Atlantic are scrutinising exactly these contractual gaps.
Sanctions clauses in contracts under OFAC are provisions that address what happens when a party to a commercial agreement is, or becomes, subject to US sanctions administered by the Office of Foreign Assets Control. A well-drafted clause does three things: it triggers a compliance review, it suspends or terminates performance where the law requires, and it allocates liability between the parties. Without that architecture, the contract can force a business to choose between a breach-of-contract claim and a sanctions violation.
This guide sets out how to approach sanctions clauses in commercial contracts governed by OFAC, where the cross-regime picture differs, and what a business should do before it signs. It covers the legal basis, the drafting sequence, the key provisions, regime comparisons, common failure points, and when to involve sanctions counsel.
Why sanctions clauses matter: the legal exposure without them
A contract without a sanctions clause does not remove OFAC liability – it simply leaves the parties without a mechanism to manage it. Under IEEPA, the underlying authority for most US sanctions programmes, the prohibition runs against the US person, any person in the United States, and, in some programmes, non-US persons exposed to secondary-sanctions risk. The contract cannot override that prohibition. What it can do is define the rights, obligations, and remedies of the parties when the prohibition bites.
Consider the practical effect. A US-nexus counterparty discovers mid-performance that its contractual partner has become designated. It must stop. The contract, however, may require continued performance or impose penalties for suspension. Without a sanctions clause, the non-defaulting party may argue for damages. With a well-constructed clause, performance suspension is expressly carved out, the trigger is defined, and the allocation of costs is agreed in advance.
In our experience, the greatest contractual risk sits not in the obvious scenario – a party designated before signing – but in the dynamic case: a designation, a change of ownership, or a new programme designation that occurs during the life of a multi-year agreement. That is the scenario a sanctions clause is primarily designed to address.
What are the consequences of getting this wrong? Civil monetary penalties under OFAC are substantial, and the regulator has been clear that voluntarily disclosed violations attract significantly lower base penalties than those discovered through other means. A contract that locks a business into continued performance makes a voluntary self-disclosure strategy much harder to execute.
Step 1 – Understand the governing regime and its reach before drafting
The first step in drafting a sanctions clause is to identify which OFAC programmes are relevant to the transaction and whether secondary-sanctions risk applies. OFAC administers multiple distinct programmes under IEEPA and other authorising statutes. Some are comprehensive; others are list-based. The scope of the prohibition – and therefore the scope of the clause – depends on which programme governs.
A list-based programme prohibits transactions with persons specifically designated on the SDN List (OFAC's list of Specially Designated Nationals and blocked persons) or entities caught by the 50 percent rule (OFAC's rule treating entities owned 50 percent or more, in the aggregate, by SDN-listed persons as themselves blocked). A comprehensive programme may prohibit transactions with an entire jurisdiction, meaning that the counterparty's location, incorporation, or the destination of goods or services is the operative fact.
Secondary-sanctions risk adds another dimension. Certain OFAC programmes impose consequences on non-US persons who engage in activity that the programme targets, even where no US person or US-dollar transaction is involved. A European or Asian counterparty may face US restrictions on its access to the US financial system if it engages in transactions with certain designated parties or sectors. Your contract's sanctions clause must reflect this if the counterparty or its affiliates have US business interests.
Cross-regime awareness is essential at this stage. The OFSI regime in the United Kingdom and the EU Council regulations use a combined ownership-and-control test that can catch entities not blocked under OFAC, and vice versa. A clause drafted solely around the OFAC SDN threshold may miss a party that is restricted under OFSI or EU rules. We regularly advise clients to ensure their clause references "applicable sanctions laws and regulations" in a defined term that expressly captures all relevant regimes – not OFAC alone.
Step 2 – Map the clause architecture: the four structural elements
A sanctions clause in a commercial contract needs four structural elements to function correctly: a representation, a covenant, a suspension right, and a termination right. Each does different work, and omitting any one creates a gap that enforcement will find.
Representations. Each party represents, as at the date of signing, that it is not designated, that it is not owned or controlled by a designated party, and that entering into the contract does not violate applicable sanctions laws. This establishes a baseline and, if false, gives rise to a contractual claim alongside any regulatory exposure. The representation should be defined to cover the party itself, its ultimate beneficial owners, and its affiliates to the extent required by the applicable ownership-and-control tests.
Covenants. Each party undertakes, for the life of the contract, to notify the other promptly if its sanctions status changes, to screen its own supply chain or subcontractors where the agreement requires that, and to cooperate with the other's compliance procedures. The covenant converts the static representation into a dynamic, ongoing obligation.
Suspension right. Either party should have the right to suspend performance, without penalty, if it has a reasonable belief that continued performance would violate applicable sanctions laws or expose it to regulatory action. The trigger should be defined carefully: "reasonable belief" is preferable to "actual violation", because the latter delays the suspension until the legal analysis is complete – by which point the violation may already have occurred. Suspension pending legal review is the operationally sound position.
Termination right. If the sanctions issue is not resolved within a defined period – commercial practice varies, but the period should be short enough to limit regulatory exposure while allowing a genuine compliance review – either party should be entitled to terminate without liability. This prevents the contract from becoming an instrument that compels a continued violation. The liability allocation on termination is a negotiating point; what matters is that the mechanism exists.
Step 3 – Draft the defined terms with precision
Imprecise defined terms are the most frequent single cause of a sanctions clause failing in practice. The clause performs only as well as its definitions allow.
The defined term for "Sanctions" or "Applicable Sanctions" should capture: OFAC regulations under IEEPA and any other authorising statute in force during the contract term; UK sanctions (the Sanctions and Anti-Money Laundering Act and the relevant thematic regulations); EU Council regulations; and United Nations Security Council measures. Many practitioners add a catch-all for "any other applicable national sanctions or export-control regime". The specific list should be calibrated to the jurisdictions of the parties, the governing law, and the route of any goods or services.
The defined term for "Sanctioned Person" should track the relevant ownership-and-control tests precisely. Under OFAC, this means any SDN-listed person and any entity 50 percent or more owned, in the aggregate, by SDN-listed persons. Under OFSI and the EU, it extends to entities owned or controlled. A single defined term that captures both avoids the gap between the regimes. The failure to replicate the 50 percent aggregation rule is a recurring drafting error: a clause that refers only to "directly listed" parties misses the indirect ownership case entirely.
The defined term for "Sanctioned Territory" – where a comprehensive programme is in scope – should be defined by reference to the relevant OFAC programme, not by naming a country in the clause itself. Programmes change. A static country-name can become over- or under-inclusive as the regulatory position evolves.
How does the OFAC position compare with the OFSI and EU approach?
The OFAC ownership test is binary and threshold-based: 50 percent or more ownership by a blocked person triggers the block on the entity, regardless of who controls management. The OFSI and EU tests add a control limb. A non-listed entity can be caught in the UK and EU if a designated person has dominant influence over it, even where the ownership percentage sits below 50 percent. This divergence has direct drafting implications.
A sanctions clause calibrated only to the OFAC test will not catch a counterparty that is controlled but not majority-owned by a designated person and that is therefore restricted under OFSI or EU rules. For a business operating across these regimes – a US parent with a European subsidiary, or a UK company contracting with a US counterparty – the clause must be regime-stacked: the representations and covenants must speak to all applicable tests in parallel.
The licensing environment also differs. OFAC issues both specific licences (case-by-case authorisations for an otherwise prohibited transaction) and general licences (standing authorisations for defined categories of activity). OFSI issues licences by defined purpose categories. The EU operates through Council Decision exemptions and Member State licensing. A sanctions clause in a multi-regime transaction should address which party bears the obligation to seek a licence, and what happens to the contract while a licence application is pending. Leaving this point to implication is a material gap.
Switzerland, Singapore, and Japan each administer their own sanctions regimes with distinct designation lists and ownership tests. For contracts involving counterparties or supply chains connected to those jurisdictions, the defined "Applicable Sanctions" term must reach those regimes too. We regularly advise clients whose contracts were drafted with only the OFAC and EU positions in mind, only for a Singapore-regulated counterparty to raise a gap at a critical transaction moment.
What are the most common failure points in sanctions clauses?
The most common failure is the static clause: a representation that speaks only to the state of the parties at signing, with no ongoing covenant and no suspension or termination mechanism. It records compliance at one moment but provides no tool for the dynamic case. Designations happen during contract performance; programmes expand; ownership structures change. A static clause leaves the parties with only general contractual and common-law remedies, which may not be adequate or timely.
The second frequent failure is definitional mismatch. The "Sanctions" definition references only OFAC. The counterparty is UK-incorporated, the goods pass through an EU member state, and the payment route touches the UK financial system. The clause covers 40 percent of the applicable regulatory perimeter. The rest is unaddressed contractual risk.
A third failure point is the missing allocation of licensing costs. Where a party needs a specific licence to continue performance, who bears the cost and the timeline risk? If the contract is silent, the parties must negotiate under stress – at exactly the moment when the commercial relationship is already strained by the sanctions issue.
A fourth pattern we see regularly is the clause that is too broadly drafted to be enforceable. A suspension right triggered by "any connection to a sanctioned jurisdiction" – without defining what "connection" means – can be weaponised to exit a contract for commercial reasons under a sanctions pretext. Counterparties and courts take a dim view of that. The drafting should be precise enough to capture genuine regulatory risk and no broader.
The myth that a sanctions clause alone discharges the compliance obligation is worth addressing directly. A well-drafted clause is a contractual mechanism; it is not a substitute for a compliance programme. It does not replace counterparty screening, ownership-chain mapping, or ongoing monitoring. It operates alongside those controls, not instead of them. Relying on the clause without the underlying compliance infrastructure leaves the business without the intelligence needed to trigger the clause's suspension right in the first place.
Step 4 – Integrate the clause with the wider compliance programme
A sanctions clause produces value only if the business has the operational infrastructure to activate it. That means three things: a screening programme that catches the trigger event, a clear internal escalation path when a hit is identified, and a documented record of the steps taken.
Screening should cover the counterparty, its ultimate beneficial owners, its affiliates identified in the contract, and any key subcontractors where the agreement imposes a supply-chain obligation. Screening at signing is necessary but not sufficient. Ongoing monitoring – at a frequency calibrated to the risk level of the counterparty and the programme in play – is what catches the dynamic designation.
Record-keeping is an independent regulatory requirement under most OFAC programmes. The compliance record should document when the clause was triggered, what analysis was undertaken, what legal advice was taken, and what action followed. In the event of a regulatory review, the contemporaneous record is the primary evidence of good-faith compliance. A VSD (voluntary self-disclosure to a regulator) strategy, if needed, is built on that documentation.
In a recent matter, a manufacturing business identified mid-contract that a logistics subcontractor used by its counterparty had been designated under a US programme. The clause in the underlying agreement covered only the counterparty itself and did not extend to subcontractors. The business faced a gap: the prohibition ran to the subcontractor's involvement in its supply chain, but the contractual mechanism gave it no remedy against the contracting counterparty. Counsel assisted in renegotiating the clause and restructuring the supply chain through a licensed route. The matter was resolved without regulatory action, but the renegotiation consumed significant time and cost that a better-drafted clause would have avoided.
The position above addresses the standard commercial contract. Your facts – the counterparty's jurisdiction of incorporation, the ultimate beneficial ownership structure, the goods or services involved, and the programmes in play – change the analysis materially.
For a review of your contract templates or a specific transaction's sanctions clause, contact Calder & Vance at info@caldervance.com.
When to involve sanctions counsel
Sanctions counsel should be involved at three points in the contract lifecycle: at template design, at the point of a specific high-risk transaction, and immediately when a potential hit is identified during performance.
Template design is the highest-leverage intervention. A well-drafted template clause, calibrated to the regimes relevant to the business's markets and counterparty base, avoids the drafting failures described above and reduces the per-transaction cost of compliance review. We assist clients in building clause libraries that cover the OFAC, OFSI, and EU positions in a single integrated definition set, with tiered suspension and termination mechanics suited to the contract type.
For a specific high-risk transaction – one involving a counterparty with complex beneficial ownership, a cross-border supply chain touching a restricted region, or a goods category with dual-use export-control implications – a transaction-level review before signing is the appropriate step. That review covers the ownership-and-control analysis, the applicable programme scope, the licensing position, and whether the clause as drafted is adequate for the identified risk.
If a potential sanctions hit is identified during contract performance, early involvement of counsel preserves options that narrow with time. An early review can determine whether a violation has occurred, whether a specific licence is available, whether a VSD is appropriate, and what the contractual rights and obligations of the parties are. Delay is the single factor that most consistently makes these situations more difficult to resolve.
If a transaction has already been flagged or a contract has been suspended on sanctions grounds, a prompt legal review can preserve the commercial relationship and limit regulatory exposure. Contact us at info@caldervance.com for a confidential assessment.
Related practices
- Sanctions compliance audit and testing – programme design, screening logic review, and gap analysis across major regimes
- Sanctions clauses in contracts under OFAC: advanced drafting – deeper analysis of complex multi-party and supply-chain clause structures
- Sanctions clauses in contracts under OFSI – the UK ownership-and-control test and OFSI-specific clause mechanics