February 17, 2016

Reestablishment of Scheduled Air Service Between the United States and Cuba: What Is the Impact on Aircraft Finance?

Holland & Knight Aviation Law Blog
Jonathan M. Epstein

On February 16, 2016, the United States and Cuba penned an agreement reestablishing scheduled air service between both countries. This is just the latest in a series of steps by the Obama administration that have substantially increased the demand for air transportation to Cuba. While historically many aircraft financers prohibited lessees/borrowers from flying to Cuba, because of these changes financers are being asked to reexamine such prohibitions.  

Complex Restrictions Remain in Place

While the relaxations of sanctions are significant, many of the U.S. embargo restrictions on Cuba are statutory and will remain in place until Congress acts. This means that:

  • Under economic sanctions administered and enforced by the U.S. Treasury Department's Office of Foreign Assets Control (OFAC), "persons subject to U.S. jurisdiction" (including U.S. citizens, residents, U.S. companies, and their "owned or controlled" foreign subsidiaries) remain prohibited from dealing directly or indirectly with Cuba, unless authorized under an OFAC general or special license.   
  • Under U.S. export controls administered by the U.S. Department of Commerce's Bureau of Industry and Security (BIS), no person can export or re-export goods (including temporary export of aircraft) subject to U.S. export jurisdiction to Cuba unless licensed or excepted by BIS regulations.

What Has Changed for Operations Between the United States and Cuba?

On February 16, 2016, the United States and Cuba signed a memorandum of understanding  (MOU) reestablishing scheduled service between the countries, subject to certain frequency restrictions (in particular limiting flights to Havana to twenty-round trip flights per day). On the same day, the U.S. Department of Transportation initiated a proceeding to allocate these "slots" to U.S. air carriers. While U.S. carriers were already authorized to fly charter flights to Cuba, subject to a number of regulatory requirements for an operator to fly to Cuba, this will certainly increase demand and interest. This MOU expressly did not limit charter flight frequencies.  Furthermore, changes over the last 14 months now allow:

  • Air carriers carrying "authorized" travelers directly between the United States and Cuba no longer need to be specially licensed by OFAC, or have to make payments through OFAC licensed entities.
  • While tourist travel between the United States and Cuba remains prohibited, OFAC has expanded the scope of authorized travel, and some travel that previously required special license is now generally authorized.  This has led to a substantial increase in travel between both countries.
  • General aviation and air ambulances no longer need special authorization from OFAC, or "temporary sojourn" licenses from the BIS, to fly to Cuba (provided they are carrying authorized travelers).
  • The restrictions on "temporary sojourns" were clarified and aircraft and crew can now remain in Cuba for up to seven days.  
  • An airline could seek a BIS license to pre-stage fly-away kits in Cuba, and a BIS license exception now allows one-for one replacement for most aircraft parts. An OFAC general license would allow U.S. operators to send (and even base) mechanics in Cuba to support air carrier services between both countries.
  • An airline can now enter into block-space, code-sharing, or leasing arrangements with Cuban airlines relating to the provision of air services between the United States and Cuba (although leasing to a Cuban entity will require separate authorization from BIS).

Operations between the United States and Cuba, to the extent they are authorized under OFAC/BIS regulations, also generally authorize ordinary and incident transactions thereto. Hence, the provision of insurance, banking transactions, and financing for such operations by persons subject to U.S. jurisdiction would also generally be authorized.

What Has Changed for Foreign Operators Operating from Third Countries to Cuba?

The relaxations by the U.S. primarily addressed travel and trade between the United States and Cuba. The principal areas that affect foreign operators are:

  • The U.S. has historically asserted export jurisdiction over virtually all major western aircraft for purposes of U.S. export restrictions on Cuba, Iran, Syria, Sudan and North Korea. In addition to U.S.-origin aircraft, the U.S. asserts jurisdiction on foreign-made aircraft containing more than de-minimus U.S. content by value or other controlled U.S. content. 
  • The "temporary sojourn" exception to U.S. export laws has for many years allowed foreign carriers to fly to Cuba on aircraft subject to U.S. export jurisdiction. However, the scope of the exception has now been expanded and clarified as discussed above.
  • A foreign air carrier/lessor could now seek a BIS license to sell or lease a U.S.-origin aircraft or aircraft parts to Cuban carriers.

Significantly, while persons subject to U.S. jurisdiction can support the carrier services between the United States and Cuba, such persons cannot generally facilitate flights by foreign air carriers between third countries and Cuba. Hence, in general U.S. banks could not process transactions related to flights between Mexico and Cuba, and a U.S. insurer could not insure such risk.

What Are the Legal Implications for the Aircraft Finance Community?

Aircraft financers will likely be receiving more requests from their borrowers/lessees to fly to Cuba and/or wet lease aircraft to Cubana or other Cuban airlines. And as Cuba travel becomes more regular, we expect allowing such flights to become more routine.

Air Carriers Flying Between the United States and Cuba. 

In the case of air carriers flying authorized travelers between the United States and Cuba, this poses limited, if any, sanctions risk for U.S. or non-U.S. financers. There are practical considerations, however. For example, before affirmatively consenting to flights to Cuba, a lessor or lender should:

  • conduct diligence or obtain assurances that the air carrier will be operating in accordance with applicable restrictions (for example, having processes to vet passengers to ensure they are "authorized" travelers)
  • verify insurance is valid for Cuba operations (in particular war-risk (expropriation) and breach of warranty provisions)
  • check other finance parties' or trustee agreements to ensure there are no prohibitions in those documents

In addition, while Cuba is a signatory to the Cape Town Convention, and the MOU reiterates the commitment of both countries to act in conformity with the Convention, a repossession in Cuba likely would require a license from OFAC for a U.S. lessor, in addition to presenting practical challenges if, for example, the Cuban government had liens against the airline. 

Foreign Carriers Flying Between Third Countries and Cuba

For foreign air carriers seeking to fly to Cuba, or wet-lease, sublease to a Cuban operator, the analysis becomes more complex and fact-specific, particularly for financers that are persons subject to U.S. jurisdiction. For example:

  • A non U.S. lessor, owned by a U.S. parent company likely could not affirmatively assent to a Mexican air carrier flying temporary sojourns from Mexico to Cuba, because a U.S. person could not operate those flights itself.
  • A non-U.S. lessor (not owned or controlled by a U.S. person) could consent to such flights. However, payment under the lease in USD specifically related to such flights would be prohibited as it would involve the U.S. banking system.

The latter example highlights an often misunderstood distinction between the U.S. export restrictions (which except the temporary sojourn of U.S.-origin aircraft flying to Cuba) and the economic sanctions which prohibit persons subject to U.S. jurisdiction from facilitating transactions with Cuba that they could not engage in directly. Given the easing of sanctions with respect to air transportation and sale, lease of civil aircraft, there is now additional pressure on the U.S. government to further clarify the restrictions on U.S. lessors relating to flights by foreign lessees to embargoed countries like Cuba and Iran.

Leasing to Cuba Carriers

As a policy matter, the U.S. would favorably consider a license to dry lease a commercial aircraft to a Cuban carrier. However, there are practical considerations, including risk that U.S. plaintiffs would seek to arrest such aircraft to satisfy judgments against the Cuban government. The MOU signed on February 16, 2016, tangentially addresses this issue implying the U.S. government would likely intervene in any private proceeding against a Cuba airline. We expect the more likely scenarios that aircraft lessors will face will be foreign airlines seeking to wet lease (ACMI) aircraft to Cuban airlines.

For additional information on this topic, please contact Jonathan Epstein at jonathan.epstein@hklaw.com or 1.202.828.1870.

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