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10 Years After: It's Not a Merlot, It's the Brokering Regs

By John Black

Ten Years After was a great band in its day. And I know many of you enjoy a 10-year-old Merlot. Call me eccentric, but for me, there is nothing better than sitting in the sun in late August savoring a revised regulation that has been 10 years in the making. I just finished the savoring, so now I will begin the writing.

In 2003, the State Department told Congress it was reviewing its brokering regulations “to assess the need to modify the regulations in light of the experience gained in administering them.” Well, suffice it to say, since 2003 DDTC and companies have gained a lot more experience attempting to review, understand, use and administer the ITAR 129 brokering rules. The new brokering regulations are different in several key respects from the previous regulations, and, if you ask my opinion, they have a complex body, a slightly more relaxed than usual aftertaste and are relatively light on the compliance palate.

Specifically, the new ITAR Part 129 rules enter into force on October 25, 2013, so the current regulations are still in force today. The new rules either relax, change, or clarify controls in several important aspects. Admittedly, it is often difficult to determine if certain aspects are changes or clarifications, because it was never all that clear what the prior version meant.  Let’s run through the key new aspects of the rules focusing on where the rules differ in significant or important ways from the current rules. 

First, let’s look at “broker” and “brokering activities,” which establish the scope of persons and activities the rules control. 

ITAR 129.2(a) says a broker is any person who engages in brokering activities and includes:

  1. Any U.S. person wherever located
  2. Any foreign person in the United States
  3. Any foreign person outside the United States who is owned or controlled by a U.S. person.

Note to paragraph (a)(3):  For purposes of this paragraph, ‘‘owned by a U.S. person’’ means more than 50 percent of the outstanding voting securities of the firm are owned by a U.S. person, and ‘‘controlled by a U.S. person’’ means one or more U.S. persons have the authority or ability to establish or direct the general policies or day-to-day operations of the firm. U.S. person control is rebuttably presumed to exist where U.S. persons own 25 percent or more of the outstanding voting securities unless one foreign person controls an equal or larger percentage.

 

This definition clarifies the existing rules, because currently it is unclear how they apply to foreign persons.

The new ITAR 120.2(b) is similar to the current definition of brokering activities, and it clarifies several points.  First, 129.12(b)(2) says that brokering activities do not include:

(i)    Activities by a U.S. person in a U.S. domestic sale;

(ii)  Activities by U.S. Government employees;

(iii) Activities by employees on behalf of their employer;

(iv) Activities that do not extend beyond administrative services, such as providing or arranging office space and equipment, hospitality, advertising, or clerical, visa, or translation services, collecting product and pricing information to prepare a response to Request for Proposal, generally promoting company goodwill at trade shows, or activities by an attorney that do not extend beyond the provision of legal advice to clients;

(v)  Activities performed by an affiliate, as defined in § 120.40…, on behalf of another affiliate;

(vi) Activities that do not extend beyond acting as an end-user or making a reexport or retransfer

Other than some clarification, perhaps the biggest difference in the definition of brokering activities is (v) that says that brokering does not include a case where one affiliate assists another affiliate.

The new requirements for when prior DDTC approval is required for brokering activities are significantly different from the current requirements.  129.4(a) says that prior DDTC approval is required before a person required to register as a broker may do brokering of any of the following:

(1) Any foreign defense article or defense service (see § 120.44 of this subchapter, and § 129.5 for exemptions); or

(2) Any of the following U.S. origin defense articles or defense services:

(i) Firearms and other weapons…;

(ii) Rockets, bombs, grenades and their launchers as well as launchers for such defense articles of … Category IV(a), and launch vehicles and missile and anti-missile systems …(including man-portable air-defense systems);

(iii) Vessels of war …;

(iv) Tanks and military vehicles…;

(v) Aircraft and unmanned aerial vehicles…;

(vi) Night vision-related defense articles and inertial platform, sensor, and guidance-related systems...;

(vii) Chemical agents and precursors…, biological agents and biologically derived substances…, and equipment …for dissemination of the chemical agents and biological agents…;

(viii) Submersible vessels…; and

(ix) Miscellaneous articles of a nature described by Category XXI…r.

If your brokering activity is not in 129.4(a) it does not require authorization (but it still may require annual reporting). When it is in 129.4(a), it is exempt from authorization if it satisfies any of the exemptions in 129.5:

(a)  Activities for an agency of the U.S. Government under a contract in certain cases; and

(b)  Brokering foreign defense articles and foreign defense services wholly within and exclusively destined for NATO, Australia, Israel, Japan, New Zealand, or South Korea in certain cases.

Next, let’s take a look at registration issues. In the current rules, a company who is a broker and an exporter/manufacturer has to obtain two separate registrations, one for brokering and one for exporting/manufacturing. Now, that company may cover all of that in a single registration. In addition, when a U.S. company registers, it may include its “affiliates” in its registration so they do not have to register separately.  For example, if BSG Inc. registers as a U.S. exporter, it may include on its registration BSG Gmbh, which is a broker who is BSG’s subsidiary. It is optional for BSG to do this.

To completely understand this registration issue, we should look at the new ITAR definition of “affiliate”:

120.40 Affiliate.   An affiliate of a registrant is a person that directly, or indirectly through one or more intermediaries, controls, or is controlled by, or is under common control with, such registrant.

 

Note to § 120.40:  For purposes of this section, ‘‘control’’ means having the authority or ability to establish or direct the general policies or day-to-day operations of the firm. Control is rebuttably presumed to exist where there is ownership of 25 percent or more of the outstanding voting securities if no other person controls an equal or larger percentage.

So, for example, BSG Inc.’s affiliates would include its parent company, sister companies, and subsidiaries that BSG owns or controls. ITAR 122.2(a) says that BSG Inc.’s registration may include subsidiaries and affiliates when BSG Inc. owns more than 50% of the voting securities of the affiliate or subsidiary or when BSG Inc. otherwise controls the affiliate or subsidiary for various reasons including only having to pay a single registration fee.

So, BSG Inc., might want to BSG GmbH and its other affiliates who are brokers to its registration for various reasons including only having to pay a single registration fee. The ITAR makes life a bit easier for BSG, Inc. and says it may wait until it renews its registration to add BSG GmbH instead of having to do it immediately.  BSG Inc. might want to find out which of its subsidiaries are brokers and add them to its registration.  Before just adding every subsidiary to the registration, BSG should take into account that is has to file an annual report for every subsidiary that is registered as a broker. 

In the reports section 129.10 DDTC changed the ITAR to now require that you submit the annual brokering report along with your annual registration each year. DDTC also stated that the report is required for all brokering activities, regardless of whether they required approval and if you had no brokering activities during the year, you must certify that is the case.

The annual report must include:

  • A description of each brokering activity including the DDTC license/agreement approval number or ITAR exemption citation
  • All persons who participated in the activities, including each person’s name, address, nationality, and country  where located and role or function;
  • The quantity, description, and U.S. dollar value of the defense articles or defense services;
  • The type and U.S. dollar value of any consideration received or expected to be received, directly or indirectly, by any person who participated in the brokering activities, and
  • the source thereof.

Finally, DDTC threw in a few other adjustments to various parts of the ITAR. One somewhat contentious change is that DDTC clarified the scope of ineligible parties who may not participate in ITAR transactions by amending 120.1 to include source or manufacturer to the list of ineligible parties. 

As always, it is not enough to read this article to understand the rules.  If you have ITAR compliance responsibilities, you really need to take a look at the Federal Register notice for the new rule at:  http://www.pmddtc.state.gov/FR/2013/78FR52680.pdf