Impact of Russian sanctions on the aviation industry

United Kingdom

On 25 February 2022, following the Russian invasion of Ukraine,  the EU introduced a ban on certain exports into Russia impacting the aviation and the space industry. The EU has prohibited the provision of insurance and reinsurance and maintenance services to persons or entities in Russia or for use in Russia. The EU has also prohibited the provision of technical assistance and other related services as well as financing and financial assistance in relation to the goods and technology subject to this prohibition. 

The prohibitions do not apply to the execution until 28 March 2022 of contracts concluded before 26 February 2022, or ancillary contracts necessary for the execution of such contracts. The impact of this on insurance policies issued by EU (re)insurers containing AVN 111 will be that there is no coverage under the policy from 26 February 2022.  It is not clear what impact this would have on coverage for aircraft lessors and financiers under AVN 67B, which, in any event, permits the policy to be cancelled on notice to the broker.

While the UK has not yet imposed equivalent sanctions relating to insurances, the Government has announced at the time of writing (3 March) that it will be bringing in legislation to prevent Russian companies from making use of UK based (re)insurance services directly or indirectly. 

In light of these developments, aviation and insurance market participants will be considering their positions as regards Russian business, leaving a number of unanswered questions about the short and long term consequences. 

Insurance Ramifications

Russian controlled and operated aircraft are usually insured locally in Russia and then reinsured into the London Insurance Market. Even without the news of the impending UK ban on such activities, (re)insurers would have found it difficult to continue to provide reinsurance to Russian carriers. For example, making claims payments into Russia may be problematic. Cut through clauses will need to be considered and, in any event, the payee may be expressly included as a sanctioned entity or may have backing from sanctioned entities/ individuals. Therefore claims payments may require similar permission (which may not be granted).  This may also prompt reputational concerns.  Moreover, payments to or via Russian banks subject to asset-freeze sanctions may also not be possible. There may also be difficulties with Russian carriers and reinsured paying insurance premiums to UK/EU entities. 

Further, with many London Insurance Market (re)insurers and brokers having US headquarters and EU operations, they will need to consider not only UK, but also to EU and US sanctions. 

A number of practical difficulties arise in light of the above, including:

  1. Consideration of what cancellation rights are applicable to (re)insurers and whether they can rely on shorter periods for war risks. 

  2. What happens to Russian operated aircraft grounded outside of Russia and/or to leased aircraft/ parts that are currently within Russian territory. Given that there are over 500 financed or leased Russian aircraft, lessors and financiers will no doubt be considering their options (see further below).  This is particularly problematic for engines that may have been rotated and that are currently not installed on the aircraft with which they were leased. 

  3. How to move aircraft, given regulatory requirements, to ensure that they have appropriate insurances in place to cover third party and passenger liability.  Many countries will have air navigation orders requiring insurance to be in place.

  4. Lease and finance document requirements to maintain appropriate insurance and reinsurance arrangements.

  5. (In)ability to make claims payments relating to existing claims and events that pre-date the cancellation/ non-renewal of the (re)insurance. As a general principle, legal obligations arising prior to the imposition of sanctions may be permitted if a licence or exemption is granted by the relevant government. However a claim arising after the imposition of sanctions may not qualify as such an obligation.

  6. The impact of Russian governing law on the insurance policy and how that might impact claims handling and the application of AVN 67B.

Similar provisions and issues may also arise for Belarus, although the number of aircraft and lessors/creditors impacted will be smaller. 

In addition to the above, to the extent that any financed/leased aircraft remain on the ground in the Ukraine (at the time of writing it is reported to be less than 60) and insured in the London Insurance Market, any claims are likely to fall under the war risk policies rather than the hull all risks. While this makes little practical difference for insureds, it will have an impact on the loss ratios for London Insurance war risk market.

Russian Sanctions and Aircraft Repossession

For any leased or financed aircraft or parts remaining on the ground in Russia, there are likely to be a number of obstacles in seeking repossession:

  1. All leasing and financing documents will require insurances to be in place at all times, failure to do so will give rise to a termination event or event of default, entitling the lessor or mortgagee to repossess the aircraft, among other remedies.  Aircraft operated by Russian carriers will usually also be subject to a requirement to reinsure 90% of the insured value in the international insurance markets.  We also note that insurance coverage will terminate under AVN 67B if the lease or leasing of the aircraft thereunder is terminated.

  2. Repossession of Russian controlled, registered or operated aircraft is practically impossible if located in Russia: not least due to the possible lack of insurance cover as detailed above, but also due to restrictions on entering EU airspace (Ireland has granted an exception for aircraft being returned upon a lease termination but overflying other EU airspace is still prohibited for such aircraft).  The option of using non-Russian crew to operate the aircraft in place of the Russian operator is impeded by the inability to fly into Russia from the UK and EU. Even if Russian operated or registered aircraft are located outside of Russia, any lack of insurance cover would also prevent lessors or lenders from relocating an aircraft for the purposes of re-registering and re-deploying it, even if they are able to successfully take back physical possession.

  3. Russian counter-sanctions are also in place placing restrictions on certain foreign currency related transactions and fund transfers.

  4. There is also the potential for requisition by the Russian government adding further complications to ability to repossess. Leases and finance documents treat requisition of an aircraft as a total loss scenario, but while insurance policies usually cover requisition, to the extent that insurance has been cancelled and/or coverage has fallen away, the airline would be liable to the lessor or financier to pay the total loss amount. However, the financial sanctions and the closure of SWIFT payment system to Russian banks would prevent payments from being made to the lessor/financier, leaving them with potentially unrecoverable losses subject to bringing successful legal proceedings to recover damages.

  5. Maintenance and risk of cannibalisation: Whilst aircraft remain grounded following lease terminations but not repossessed, any lack of maintenance by an operator (despite any requirements under leasing and financing documents to continue maintenance and storage even after the leasing has terminated) will directly impact the aircraft value. Similarly, the aircraft is at risk of parts being removed for use elsewhere in the operator’s fleet, particularly given the impact of the export ban on supply chain of spare parts and materials. Further, with sanctions on the export of essential parts used in civil aircraft to Russia, even if insurance remains available and in place, with companies being unwilling and/or unable to provide maintenance and repair services to Russian operated aircraft, all non-Russian manufactured aircraft may be effectively subject to grounding.

Conclusions

A number of issues have arisen for the aviation industry and its insurers to grapple with in light of the Russia-Ukraine conflict.  At this early stage, more questions have arisen than answers and no doubt as this fast moving situation develops, further developments will come to light. 

Please get in touch with us if you would like to discuss any of the issues raised in this article.