Overview
On March 7, 2016, the United States District Court for the District of Columbia granted the US Government’s motion for summary judgment in Epsilon Electronics, Inc. v. United States Department of the Treasury, Office of Foreign Assets Control, upholding a $4.073 million civil penalty imposed the Office of Foreign Assets Control (“OFAC”) on Epsilon Electronics, Inc. (“Epsilon”) for violations of Iranian economic sanctions. This rare decision serves as an important reminder that resellers and distributors can generate liability for US exporters that fail to exercise adequate due diligence.
Background
OFAC imposed the penalty on Epsilon, a California-based, closely-held car audio and video equipment manufacturer, for exporting approximately $3.4 million of equipment to Asra International Corporation LLC (“Asra”), a Dubai company, despite having reason to know that these goods were intended for reexport to Iran. Between August 2008 and May 2012, Epsilon or its affiliate, Power Acoustik Electronics, Inc. (“Power Acoustik”), issued thirty-nine invoices for sales of car audio and video equipment to Asra. In addition, five of the transactions post-dated a January 26, 2012 cautionary letter OFAC issued to Power Acoustik after the company sent a shipment to an address in Tehran in 2008 (which was later determined to match the Tehran address on Asra’s website).
Though OFAC did not find any direct evidence linking Epsilon’s sales to Asra to specific transactions or end users in Iran, OFAC found statements and images on Asra’s English-language website indicating that the company and its affiliate, Asra Electronic Trading Co. (“Asra Electronic”), distributed car audio and video products in Iran. In fact, it appeared to OFAC that Asra was doing business “exclusively or predominantly” in Iran during the period in question. Photographs on Asra’s website also indicated that the company sold “Sound Stream” products in Iran, and Sound Stream is one of Epsilon’s business brands.
OFAC concluded that Epsilon violated the Iranian Transactions and Sanctions Regulations (“ITSR”), 31 C.F.R. Part 560, which prohibit “the exportation, reexportation, sale, or supply, directly or indirectly, from the United States, or by a United States person, wherever located, of any goods, technology, or services to Iran.” See § 560.204. OFAC issued a pre-penalty notice in July 2014 that set forth its findings and listed a base penalty of $4.073 million, which was based on 34 “nonegregious” violations and five “egregious” violations—transactions that took place after the January 2012 cautionary letter, for which OFAC assigned the maximum statutory civil penalty of $250,000 per violation. OFAC’s final penalty notice, issued in July 2014, sustained the preliminary findings and penalties.
Decision
Epsilon filed a lawsuit against OFAC on December 31, 2014, seeking a ruling from the US District Court that the penalty was unlawful or excessive, and a writ of mandamus to remove or reduce the penalty. Specifically, Epsilon asserted claims based on the Administrative Procedure Act (“APA”) as well as the Fifth and Eighth Amendments to the US Constitution. The Court was highly deferential to OFAC because it operates “in an area at the intersection of national security, foreign policy, and administrative law.” Applying the “arbitrary and capricious” standard of review to Epsilon’s APA claim, the Court held that OFAC’s penalty was neither unlawful nor excessive.
The Court rejected Epsilon’s argument that its sales complied with the ITSR pursuant to the so-called “inventory exception,” which can be traced back to OFAC’s 2002 “Guidance on Transshipments to Iran.” Quoting the guidance, the Court stated that “prohibited sales to Iran through a non-US person in a third country … includes those situations where the seller had reason to know that the goods were specifically intended for Iran, including when the third party deals exclusively or predominantly with Iran …” The Court held that OFAC’s finding of a violation was reasonable based on ample evidence in the record that Epsilon had reason to know Asra distributed car and audio equipment in Iran during the time Epsilon was sending shipments to Asra.[1]
The Court also held that the amount of OFAC’s penalty was reasonable, rejecting Epsilon’s argument that the five transactions post-dating OFAC’s January 2012 cautionary letter should not have been deemed “egregious” violations for purposes of calculating the base penalty amount. Furthermore, OFAC adhered to its Economic Sanctions Enforcement Guidelines when it applied the statutory maximum penalty amount to the egregious violations because they were not voluntarily disclosed. See 31 C.F.R. Part 501, App. A, § V.B.2.a.iv. The Court also rejected Epsilon’s claim that OFAC disregarded mitigating factors it was required to consider under the enforcement guidelines. After identifying three mitigating factors and seven aggravating factors, OFAC had concluded that no adjustment from the base penalty amount was warranted. Therefore, the Court said, there was no basis to find that OFAC improperly weighed the mitigating factors to Epsilon’s detriment.
Finally, the Court also rejected Epsilon’s Fifth Amendment procedural due process and Eight Amendment claims. Epsilon argued that OFAC failed to provide adequate notice of its position, which the Court found “patently baseless.” The Court also dismissed Epsilon’s claim that the penalty was excessive in violation of the Eight Amendment, focusing on the fact that OFAC’s penalty was only a third of the statutory maximum penalty and was not “grossly disproportionate to the gravity of the plaintiff’s repeated violations of United States sanctions against Iran.” The fact that the equipment was “non-sensitive” under the Export Administration Regulations (“EAR”) was irrelevant.
Conclusion
The Epsilon Electronics case is a rare marks a relatively rare instance of judicial review of the scope of the prohibition on reexports of US goods and technology to Iran. The District Court’s decision highlights the importance of performing adequate due diligence on customers, including seeking out publicly available information on whether a customer does business with sanctioned countries. The decision also makes clear that OFAC need not provide any direct evidence that goods or technology are reexported a sanctioned country so long as there is sufficient circumstantial evidence.
[1] Note: In stating its case, Epsilon contended that despite the prohibition contained in 31 C.F.R. 560.204 on exports and reexports of US origin goods, services, and technology to Iran, that US persons can freely export goods to a third country knowing that such goods may go to Iran provided that the goods are not subject to the Export Administration Regulations, that the US person is not filling a specific order for export to Iran, and the majority of the buyer’s business and sales are not to Iran.
