A mid-sized trading business operating between Canada and several third markets signed a long-term supply agreement. The contract contained no sanctions clause. Eighteen months later, a counterparty in one of those markets was designated under the Special Economic Measures Act ("SEMA"), Canada's primary legislative instrument for autonomous sanctions administered by Global Affairs Canada ("GAC"). The contract was live. Payments were outstanding. And no mechanism existed within the agreement to suspend, terminate, or re-price without triggering substantial breach claims.
This matter illustrates a recurring pattern in our cross-border practice: businesses treat sanctions clauses in contracts as boilerplate rather than operative risk tools. Under the Canada sanctions regime, a SEMA-triggered prohibition on dealing with a designated person operates automatically – the absence of a contractual mechanism does not soften the legal position, and the commercial consequences can be severe. The Canada matter described here, handled anonymously, produced lessons that apply equally under OFAC, the EU Council regulations, and OFSI.
This case comment walks through the situation, the legal questions it raised, the Canada sanctions regime analysis, the cross-regime comparison, the options the business faced, and the practical lessons for businesses that routinely contract across borders.
The situation: a contract caught by a mid-term designation
The trading business had contracted with a distributor for a rolling programme of supply and payment. When GAC added the distributor's parent company to its autonomous sanctions list under SEMA, the Canadian-nexus prohibitions engaged immediately. The business – incorporated in Canada and operating through a Canadian subsidiary – could no longer lawfully receive payments from the distributor, process invoices, or deliver goods under the existing terms without risking a breach of Canada's sanctions obligations.
The difficulty was contractual, not merely regulatory. The supply agreement contained no force majeure clause broad enough to encompass sanctions designations. It contained no sanctions termination right – a provision allowing either party to terminate without penalty upon the imposition of sanctions affecting performance. Critically, it contained no sanctions compliance obligation clause requiring the counterparty to represent, on a continuing basis, that it was not itself a designated person and that no designated person owned or controlled it at the threshold that triggered the prohibitions.
The counterparty, for its part, disputed that the designation of its parent triggered any obligation on the trading business at all. It argued that the subsidiary with which the contract had been signed was not itself listed. This raised the ownership and control question directly.
The Canada sanctions regime: authority, scope, and the ownership test
Canada's autonomous sanctions regime operates primarily through SEMA and its implementing regulations, with a second instrument – the Freezing Assets of Corrupt Foreign Officials Act ("FACFOA") – for a distinct category of designations. GAC is the administering authority. SEMA permits the Governor in Council to make regulations imposing measures against a foreign state or a national of a foreign state; those regulations define the prohibited dealings and the designated persons or entities to whom they apply.
The ownership and control test under the Canadian regime does not apply a mechanical percentage threshold equivalent to OFAC's 50 percent rule (OFAC's rule treating entities owned 50 percent or more by blocked persons as themselves blocked). Canada's prohibitions typically attach to the designated entity itself and to entities "owned or controlled" by it, but the operative language and the threshold depend on the specific SEMA regulations in force for the relevant programme. In our experience, this creates a gap: businesses that have calibrated their screening to the OFAC 50 percent rule may miss a Canadian-law prohibition that turns on a different formulation of control, one that can engage at lower ownership levels or through de facto direction of an entity.
In this matter, the applicable SEMA regulations provided that the prohibitions applied to entities "owned or controlled, directly or indirectly" by the designated person. GAC's guidance – which is qualitative rather than bright-line – indicated that control could be established through ownership, through board representation, through contractual rights, or through the capacity to direct the financial or operational affairs of the entity. The subsidiary with which the trading business had contracted was majority-owned by the designated parent. The control question, on these facts, was not seriously arguable.
The trading business therefore faced a live SEMA prohibition. The absence of a contractual mechanism did not change the regulatory position. What it did was remove the clean commercial exit.
How does the Canada position compare with OFAC, OFSI, and the EU?
The divergence between the major regimes on the ownership and control question is one of the most practically important features of cross-border sanctions work. Getting it right for one regime does not mean getting it right for all of them. Does your contract reflect the regime that actually governs the counterparty relationship, or the one that is most familiar to your legal team?
Under OFAC, the test is mechanical: 50 percent or more aggregate ownership by one or more blocked persons treats the owned entity as blocked, regardless of control. There is no formal OFAC "control" test operating independently of the ownership threshold; control-type arguments surface in OFAC's general practice guidance but the bright-line ownership rule dominates in screening and compliance work.
OFSI, the UK's Office of Financial Sanctions Implementation, applies a different standard. The UK regime imposes asset-freeze obligations on persons "owned or controlled" by a designated person. OFSI's guidance confirms that ownership covers direct and indirect holdings, while control is assessed by reference to whether the designated person has the ability to ensure that the affairs of the entity are conducted in accordance with its wishes. This is a qualitative, facts-and-circumstances test. An entity held at 49 percent may still be caught if a designated person can direct its decisions through contractual mechanisms or board rights.
The EU Council regulations similarly apply an "owned or controlled" standard. The EU General Court has addressed the control limb in a series of cases, and the position – supported by EU guidance – is that control can arise from rights, agreements, or other means that confer the ability to direct management. The EU and OFSI approaches are, in this respect, structurally similar to each other and structurally different from OFAC's purely numerical rule.
Canada's position, as noted, depends on the specific SEMA regulations but is generally aligned with the "owned or controlled" formulation, placing it closer to the OFSI and EU approach than to OFAC's mechanical threshold. For a business operating across all four regimes – as the trading business in this matter effectively did – the practical implication is that a single counterparty may be caught by some regimes and not others, depending on the ownership percentage and the nature of the designated person's influence.
In our cross-border practice, we regularly advise clients to maintain a regime-specific ownership and control matrix for their material counterparties, rather than a single global screening standard. A single standard calibrated to the most permissive test creates legal exposure under stricter regimes; where regimes diverge, the stricter prohibition governs for the business with exposure under that regime.
The options the business faced – and why the absence of a sanctions clause mattered
Once the SEMA prohibition was confirmed, the trading business had a narrow set of options. None of them were comfortable. The question was which was least damaging and legally defensible.
A first option was to seek a specific licence (a case-by-case authorisation to conduct an otherwise prohibited transaction) from GAC. SEMA and its implementing regulations permit GAC to issue permits authorising otherwise prohibited transactions in defined circumstances. The grounds are limited; they typically include transactions necessary to satisfy pre-existing legal obligations, although the precise grounds vary by regulatory programme. A licence application requires a clear articulation of the legal basis, the transaction at issue, and why the facts meet the applicable test. Processing timelines are not guaranteed and can extend over a number of weeks; the business could not simply assume that a licence would issue promptly enough to allow it to discharge its contractual obligations without breach.
A second option was to seek to terminate the contract. The difficulty, as noted, was the absence of a sanctions termination right. A force majeure argument – that the SEMA prohibition constituted a supervening illegality discharging the contract – was available under Canadian contract law, but its outcome before a court or arbitral tribunal was uncertain. The counterparty would contest it. The commercial stakes were significant. Even if the argument ultimately succeeded, the litigation risk and cost were real.
A third option was to negotiate a consensual variation or termination of the contract with the counterparty. This was complicated by the fact that any negotiation or dealing with the counterparty was itself subject to the SEMA prohibition. Engaging with the counterparty required advice on the scope of the prohibition and whether preliminary communications for the purpose of winding down the relationship fell within any exception or were themselves prohibited. We advised the business on the scope of permitted communications, the documentation required to evidence the purpose of those communications, and the record-keeping obligations that would be relevant to any subsequent regulatory review.
Ultimately, the business pursued a combination of the second and third options, supported by a licence application for the limited dealings necessary to wind down outstanding obligations in an orderly manner. The position above covers the standard case. Your facts – the counterparty structure, the governing law of the contract, the nature of the outstanding obligations, and the specific SEMA programme in play – change the analysis materially.
For an assessment of your exposure under the Canadian sanctions regime or any other applicable regime, contact Calder & Vance at info@caldervance.com.
Risk flags: what a properly drafted sanctions clause would have provided
A well-drafted sanctions clause (a contractual provision designed to manage the legal and commercial consequences of sanctions designations affecting a party or a transaction) performs several distinct functions. It does not provide immunity from the regulatory prohibition; a sanctions clause cannot override a statutory obligation. What it does is create a mechanism for orderly exit, allocate risk between the parties, and provide a documentary record demonstrating that both parties understood and intended to comply with their sanctions obligations.
The risk flags identified in this matter map directly to the elements that were missing from the contract.
First, there was no sanctions representation and warranty. A properly drafted clause would have required the counterparty to represent, on the date of signing and on a continuing basis, that neither it nor any person owning or controlling it at the relevant threshold was a designated person under any applicable sanctions regime. A continuing representation creates a mechanism for the non-defaulting party to terminate where the representation becomes false, and it creates a documentary trail demonstrating that the business took active steps to confirm the counterparty's sanctions status.
Second, there was no sanctions termination right. This is the provision that allows either party to terminate without penalty in the event that sanctions make continued performance unlawful or commercially impracticable for that party. Without it, a party seeking to exit faces the full weight of the contract's termination provisions, which in this matter included a substantial liquidated damages clause.
Third, there was no sanctions compliance obligation. This requires each party to maintain its own sanctions compliance programme throughout the life of the contract and to notify the other promptly upon becoming aware of any designation, or any change in its ownership or control, that would affect performance. In our experience, this provision is the most frequently omitted. It converts the counterparty into an active participant in the compliance process rather than a passive subject of screening at the time of contract execution.
Fourth, there was no payments suspension mechanism. A clause providing for the automatic suspension of payment obligations upon the occurrence of a designation event, pending a legal assessment and any licensing process, can prevent the accumulation of technical breaches during the period between the designation and the completion of the regulatory analysis.
If a transaction has already been flagged, or a contract is already live without these provisions, an early review can preserve options that narrow with time. Contact us at info@caldervance.com.
The myth: that a sanctions clause is legal boilerplate rather than a risk tool
A common view among contract managers and procurement teams is that a sanctions clause is a piece of standard boilerplate – something to insert in the schedule, tick off the compliance checklist, and forget. This matter illustrates why that view is wrong.
A sanctions clause that is drafted generically – covering "applicable sanctions laws" without specificity as to which regimes govern the relationship, without a clear definition of "designated person" calibrated to the regimes in scope, and without operative mechanics for termination and suspension – provides little practical protection. It may satisfy an internal policy requirement. It does not give the business a workable commercial mechanism when a designation occurs.
The better approach is to treat the sanctions clause as a bespoke risk-allocation tool. The starting point is identifying which regimes actually apply to the contractual relationship. A business with Canadian, US, UK, and EU exposure needs a clause that reflects the ownership and control tests of each regime, not a single lowest-common-denominator formulation. The termination right needs to be drafted to engage on a designation by any of those authorities, not just one. The representation and warranty needs to address direct and indirect ownership under each applicable test.
Where a contract has a long term – multiple years, or auto-renewal provisions – the clause should also address the mechanism for periodic re-screening and the obligation to notify on any change in ownership or control of either party. Designations do not always occur at the time of signing. In this matter, the designation occurred eighteen months into the contract. A notification obligation and a continuing representation would have altered the commercial dynamic significantly.
We regularly advise clients on the drafting and negotiation of sanctions clauses in long-term supply agreements, financing documents, joint-venture arrangements, and acquisition agreements. The analysis differs by contract type, by the regimes engaged, and by the counterparty's sector and geography.
The lesson and what similar businesses should do now
The central lesson of this matter is that sanctions clauses in contracts are an operational compliance tool, and their absence creates concrete legal and commercial exposure when a designation occurs. The lesson holds across regimes – the Canada matter is one illustration of a pattern that we have seen arise under OFAC, OFSI, and the EU Council regulations as well.
For a business reviewing its contract portfolio in light of this analysis, the practical steps are as follows.
A first step is to identify all long-term or high-value contracts with counterparties in or connected to jurisdictions where designations are a live risk. This is not limited to counterparties themselves in jurisdictions subject to a comprehensive sanctions programme; it includes counterparties with ownership chains that trace back to persons or entities at risk of designation under autonomous sanctions programmes operated by Canada, the UK, the EU, or the US.
A second step is to assess whether each contract contains a sanctions clause and, if so, whether it is operative and calibrated to the regimes that actually apply. A generic clause that references "applicable laws" without specificity should be treated as inadequate until reviewed.
A third step is to prioritise contracts for renegotiation or supplemental agreement. Where a counterparty will agree to a re-papering exercise, the cost of doing so is substantially lower than the cost of managing a live designation event without contractual mechanisms in place.
A fourth step is to review the ownership and control position of material counterparties against the Canadian, OFSI, and EU "owned or controlled" standards – not only the OFAC 50 percent threshold. The divergence between regimes means that a counterparty cleared under one test may not be clear under another.
A fifth step is to confirm that the firm's sanctions screening programme addresses mid-contract designation events and not only pre-transaction screening. Screening at the time of signing addresses the counterparty's status at that moment. It does not address a designation that occurs during the life of the contract. A monitoring obligation, combined with a contractual notification requirement, addresses that gap.
Related practices
- Compliance audit and testing – stress-testing your screening programme and sanctions controls against a live regime
- EU sanctions clauses in contracts – a parallel case comment on EU regime exposure in long-term agreements
- OFAC sanctions risk assessment – how a structured OFAC review surfaces ownership-chain exposure before a transaction completes