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What are we freezing?


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Germán López Espinosa

Director Academic of the Master in Banking and Financial Regulation. Director Academic of the CIF of the IESE Business School.

Due to Russia's invasion of Ukraine, on 28 February the European committee added 26 persons and one entity to the list of persons, entities and bodies subject to restrictive measures in Annex I of Regulation (EU) No 269/2014. The aim is to freeze any subject of funds, assets or financial benefits, and any other economic resource that can be used to obtain funds, goods or services. The freezing ensures that these funds and economic resources cannot be used to finance war.

The freezing of funds and economic resources of certain natural or legal persons, entities or bodies is a basic and effective instrument to reduce the possibilities of war financing.

However, it is important to mention that there are differences in the restrictive measures imposed by Australia, Canada, South Korea, the United States, the United Kingdom, Japan, New Zealand, Switzerland and the 27 countries of the European Union, as well as in their implementation. On the other hand, it is also necessary to note that since Russia has a veto right in the UN, it has not been possible to impose sanctions on Russia by the UN, which would have meant that, for example, the freezing of assets would have to be implemented by the member countries (193) of that organisation.

Having said that, what does the freezing of financial assets and economic resources consist of? From agreement with the guide Implementation and Best Practices document, the freezing management assistant does not entail a judicial freezing, seizure or confiscation. Therefore, they are not punitive measures but seek to limit as much as possible the use of such funds or economic resources to finance the ongoing war.

It is intended to freeze financial assets or economic resources owned (with more than 50% ownership or a majority economic interest in the asset) or controlled by listed persons or entities. Control can be direct, or indirect, through other persons, natural or legal persons or entities. It is therefore very important to analyse situations in which listed persons or entities, while not being owners, control, by whatever means, financial assets or economic resources. This will require the application of professional judgement by analysing the economic substance of the structure in which the financial assets or economic resources are included.

In the event that a financial asset or economic resource asset is owned by a listed and an unlisted natural or legal person, it would be frozen in its entirety. However, the non-listed person may apply for an authorisation to use its part.

On the other hand, an asset given to a bank as collateral for payment of a loan remains effective collateral for the bank but if in the future it were to be provided as new collateral, authorisation would be required. The use staff of a frozen house is not prohibited. However, if such a house were to be rented out, authorisation would be required, and the funds obtained would also be frozen.

Cryptoassets, of course, are also susceptible to being frozen. The pseudonymous nature of these assets makes it difficult to have the real identity of an account holder behind an alphanumeric code, and its related parties. However, it is important to note that when a Username opens an account with the centralised exchange and delegates custody of the assets to the exchange, it is in fact doing something similar to bank deposits. Therefore, if the exchange were to freeze the funds held in custody on its platform, this could be done. On the contrary, if a Username has the custody of its assets outside a centralised exchange, i.e. in its wallet of which it has the private keys (non-custodial wallet), it would not be possible to freeze the funds. What can be done is to track the wallet (wallet address) and see which other wallets it interacts with. In this case, what is usually done is that these "Blacklisted wallets" are not allowed to interact with anyone. Therefore, a person who holds their cryptoassets in a non-custodial wallet cannot have their account frozen, but in these cases what is usually done is to try to limit their interoperability and they would be trapped because they would not be able to transfer it to the "real/fiat" world, as the centralised exchanges are the bridge for the transfer and operate with powerful identification and monitoring tools for the prevention of money laundering.

Consequently, all the analysis required for freezing imposes a cost on certain businesses and professions which are obliged to verify the identity of their clients and to refrain from anonymous economic transactions. All persons and entities are obliged to report to the competent authority any information that could facilitate the freezing of financial assets and economic resources. Of course, financial institutions are essential, as they are for money laundering issues, for the identification of persons given the knowledge of their customers. This is undoubtedly an essential service to society.