How trade sanctions impact English contracts

1. Trade sanctions represent significant instruments in international relations, employed by nations and multinational organisations to exert economic pressure in pursuit of political and diplomatic objectives. One prominent example is the European Union’s sanctions against Russia, which were intensified in response to the 2022 invasion of Ukraine. These measures include import bans on commodities such as steel and diamonds, as well as export restrictions on luxury goods, advanced technologies, and industrial machinery. Additionally, the EU has implemented restrictions on providing various business and financial services to Russian entities.

Although the true nature of trade and economic sanctions is ambiguous, they serve primarily as a political tool. Trade sanctions can be defined as measures imposed by one or more states—the ‘sanctioning states’—to restrict imports from, exports to, and often overall trade with another state—the ‘target state.’ By depriving the target state of access to export markets and essential imports, sanctioning states aim to exert pressure, typically to deter the target from breaching international obligations or to compel changes in its domestic or foreign policies. 

Trade sanctions also carry a symbolic dimension, serving as a denunciation of the target state’s conduct, and in many cases they are perceived as punitive. To fulfil their political objectives, trade sanctions aim to disrupt transactions between public and private operators, prohibiting new trade agreements, impeding the performance of existing contracts, and imposing severe penalties on violators, thereby directly affecting individuals and corporate entities.

While the efficacy of trade sanctions as political instruments has been extensively debated in legal literature, their impact on pre-existing commercial contractual obligations has received comparatively less attention. This piece, situated at the intersection of private international law and commercial contract, tackles the effect of trade sanctions on commercial contracts governed by English law.

Limited exceptions to illegality under English law

Under English law, the validity and enforceability of a contract are, as a general proposition, not determined by whether the contract would be regarded as valid or its performance lawful under the law of another state. That principle is, however, subject to limited exceptions. One such exception, described in the authorities as presenting only “a narrow gateway,” arises where a contract governed by English law is to be performed in a foreign country and, after formation but before performance, the act of performance becomes unlawful under the law of the place of performance (lex loci solutionis). In those circumstances, English courts, applying common law principles, will ordinarily decline to enforce the obligation to the extent that performance would be unlawful. 

The debate on illegality has focused on two authorities. The first of those is the well-known Court of Appeal decision of Ralli Bros v Compania Naviera Sotay Aznar [1920] 2 KB 287. It is authority for the proposition that the Court will not enforce a contract if the performance of that contract necessarily requires an act in a friendly foreign state which would be unlawful by the law of that state. 

The rule does not require the parties to intend the illegality or even to be aware of the fact that what they have contracted for will involve an act unlawful by the place of performance. It simply requires it to be shown that their agreement necessarily involves such an act. Ralli was a case concerning carriage of jute for delivery in Barcelona where freight was to be paid in Spanish currency to a Spanish company. The freight for delivery in Barcelona of a cargo of jute fell above the maximum price set by Spanish law. 

The receivers of the cargo declined to pay above that threshold and the Spanish owners sued in London for the balance. The Court stated that "A contract…is, in general, invalid in so far as…the performance of it is unlawful by the law of the country where the contract is to be performed". The Court did not decide which freight the ship owner could have enforced – i.e. whether the obligation to pay the freight up to the limit was severable.

The second principle is established in Foster v Driscoll [1929] 1 KB 470. This principle is viewed in some ways as the "flip side" of the Ralli Bros principle, in that Ralli looks to action, Foster v Driscoll looks to intention. Foster involved a sophisticated scheme comprised of several members, which planned to purchase and outfit a steamship, load it with Scotch whisky, and transport it across the Atlantic for sale in the United States during the Prohibition era, or, failing that, to deliver it to another location from which the whisky could be smuggled into the United States. 

To this end, the syndicate contracted to buy and equip a steamship and executed two memoranda of agreement. When the project encountered difficulties at an early stage and the whisky never left Scotland, different members of the syndicate initiated three separate sets of proceedings against one another. The commercial court decided that the primary memo was illegal, void, and contrary to public policy, and that this was known to all parties.

The bases for decisions in these two cases are nothing other than comity, which has influenced the courts to refuse as a matter of public policy to enforce, or to award damage for the breach of, a contract which involves the violation of foreign law on foreign soil. In other words, to recognise and enforce such contracts between the parties would furnish a just cause for complaint by friendly governments against the UK Government, which should be regarded as contrary to conceptions of international comity. The real question is one of public policy in English law, which draws on international law and international relations, often referred to as the comity of nations. 

However, the Foster v Driscoll and Ralli Bros principles are different in this crucial way: the latter is concerned only with whether the contract between the parties necessarily involves performance of an act which is illegal by the law of the place of performance, disregarding the object and intention of the parties. The former is only concerned with whether the object and intention of the parties is to perform their agreement in a manner which involves an illegal act in the place of performance. It is not concerned with whether the contract necessitates the undertaking of such an act.

Trade sanctions as an example of illegality or impossibility of performance

Against that backdrop, in Banco San Juan Internacional Inc v PDVSA [2020] EWHC 2937 (Comm), the Commercial Court considered whether US sanctions imposed after the parties entered into credit agreements could excuse or suspend PDVSA’s obligation, under English law, to repay principal and interest. PDVSA contended that the sanctions rendered performance legally or practically impossible. The court rejected that defence and granted summary judgment for the bank. It stressed that the contracts contained no sanctions-based suspension mechanism, and that PDVSA had adduced insufficient evidence that payment would in fact have contravened the relevant sanctions. The court also noted that PDVSA had not sought an OFAC licence or meaningfully explored alternative payment routes. English law, it held, does not imply a suspension merely because a sanctioned party fears enforcement risk, absent a clear legal prohibition on performance.

By contrast, in Celestial Aviation Services Ltd v UniCredit Bank AG [2024] EWCA Civ 628, the Court of Appeal addressed UK sanctions introduced following Russia’s invasion of Ukraine. The dispute concerned letters of credit (LCs) issued to support aircraft leases to Russian airlines. After the lessees defaulted, the Irish lessors demanded payment under the LCs, but UniCredit declined to pay, relying on the Russia (Sanctions) (EU Exit) Regulations 2019. The Court of Appeal held that the LCs were both factually and legally “in connection with” the leasing of restricted goods (aircraft), notwithstanding that the leases had been terminated. Payment without a licence would therefore have been unlawful under Regulation 28. 

The court further accepted that UniCredit reasonably believed performance was prohibited, bringing it within the protection of section 44 of the Sanctions and Anti-Money Laundering Act 2018. That statutory defence, however, did not relieve UniCredit of liability for interest and costs, which were not themselves caught by the prohibition.

A key feature of Celestial is its reliance on the principle in Ralli Bros: English courts will not compel contractual performance if that performance would be unlawful under the law of the place where it must be performed. In Celestial, the relevant “law of performance” was domestic UK law, under which payment by the bank was illegal absent a licence. This was a classic Ralli Bros scenario: the contract is not necessarily invalid, but the obligation is suspended to the extent that performance would be unlawful. In Banco San Juan, however, the court held that Ralli Bros did not assist PDVSA because there was no clear legal prohibition on performance under English law, and no adequate evidential basis for saying US law rendered payment impossible for a non-US entity. The divergence between the cases illustrates that Ralli Bros is not a general doctrine of hardship or impracticability; it is a narrow rule responding to objective illegality of performance in the relevant jurisdiction.

Taken together, the decisions underline the premium English law places on precision in sanctions-related drafting and argument. Courts will not infer a contractual right to suspend performance from general sanctions risk. Instead, they look for either an explicit statutory bar (as in Celestial) or clear contractual language allocating sanctions risk (absent in Banco San Juan). Celestial also reflects the strictness of the laws concerning documentary letters of credit: attempts to recast performance, whether by using different payment mechanics or currencies, sit uneasily with the autonomy principle and the sanctity of the agreed mode of performance. Parties should therefore structure and document financing arrangements with sanctions exposure in mind not only at the borrower/lessee level, but also across the chain of payment participants, including issuing and confirming banks.

These cases highlight the uneven effects sanctions can have across different financing structures. In bilateral lending, as in Banco San Juan, lenders can generally expect enforcement unless the borrower shows genuine legal impossibility—a demanding threshold. In trade finance, as in Celestial, sanctions may suspend performance even after the underlying transaction has unravelled, given the breadth of “connection” concepts in modern sanctions regulations. Financial institutions therefore face not only counterparty risk but also regulatory risk. Robust sanctions diligence, carefully drafted sanctions clauses (including designation triggers, licensing obligations and timetables, and agreed alternative payment pathways where lawful), and early engagement with licensing authorities are increasingly essential risk-management tools as sanctions regimes expand and their extraterritorial effects intensify.

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