On December 30, 2014, the U.S. Department of Commerce, Bureau of Industry and Security (“BIS”) issued its first-ever published guidance on the Short Supply Controls, the regulations that limit the export of crude oil out of the United States. The guidance, provided in the form of Frequently Asked Questions (“FAQs”), is of particular interest to many because it addresses the timely question of what kind of distillation process is sufficient to transform crude oil into a product that is exportable without a BIS license.1 The FAQs, however, also address the important but often misunderstood legal issue of “commingling.”
The Commingling Prohibition
In order to obtain and comply with a BIS license to export foreign-origin crude oil from the United States, one must be able to demonstrate that the foreign crude will not be commingled with U.S.-origin crude oil prior to export. The rationale for this rule is clear. It prevents exporters from using licenses to export foreign crude (which are readily obtainable) to evade the more restrictive ban on domestic crude exports by blending domestic crude with shipments of foreign crude.
This rule has been the source of some confusion because, as a practical matter, it is almost impossible to ship foreign crude oil over long distances in the United States without any exposure to domestic crude. For example, if a pipeline carries both U.S. and Canadian crude, it is very likely that a shipment of Canadian product will come into contact with some residual oil from domestic shipments. Such contact also occurs frequently in storage tanks that have so-called “tank heels”—oil deposits (sometimes several feet deep) that collect at the bottom of the storage tank. Even after a tank has been drained, batches of foreign crude stored in the tank will come into contact with any domestic crude deposits present in the tank heel.
BIS Guidance on Commingling
Given the circumstances described above, the question arises: “What is the acceptable level of domestic crude that can be mixed with foreign crude and still be eligible for export?” BIS addresses this question publicly for the first time in FAQ No. 6. Unfortunately, as BIS acknowledges in the FAQs, the Export Administration Regulations that govern the Short Supply Controls, “do not specify any de minimis amount of U.S.-origin oil that can be commingled with the foreign oil.” For this reason, BIS has shied away—both in private consultations and in the FAQs—from declaring any specific quantity of mixing to be acceptable.
At the same time, BIS officials have acknowledged in the past that the agency has no interest in interpreting and applying the regulations in a manner that ignores the practical limitations of the infrastructure for transporting crude oil. Consistent with this, BIS now states in FAQ No. 6 that it “understands that a minimal amount of mixing may occur due to incidental contact in pipelines and/or storage tanks when foreign and U.S. origin-oil is sequentially transported or stored in the same pipeline or tank.” Accordingly, BIS requests that license applicants provide “an explanation of the precautions they are taking to ensure that U.S. crude oil is not mixed with the foreign-origin crude, other than incidental contact.”
BIS makes two important points in this guidance. First, while BIS may permit a minimal amount of “incidental” contact between foreign and domestic crude, there is no such tolerance for deliberate blending, even on a very small scale. Second, one of the keys to obtaining and complying with a license to export foreign-origin crude is to demonstrate that sufficient safeguards are in place to avoid commingling during the transportation and storage of the oil prior to export.
The specific precautions one must take to avoid commingling vary based on the route and mode of transportation at-issue. With the recent rise in crude exports, BIS has become increasing familiar with the best practices in various transportation contexts, including the availability of segregated storage and batch-based pipeline systems. It is essential, therefore, that exporters utilize the advice of counsel to ensure that their license applications (and the transactions proposed therein), give BIS confidence that commercially reasonable steps will be taken to minimize the exposure of foreign crude oil to domestic crude prior to export.2
Jeffrey Orenstein is an attorney at Reed Smith LLP, where he provides clients with strategic counsel on the export, sale, and transportation of crude oil and petroleum products.
- See generally, Jeffrey Orenstein and Leah Rudnicki, BIS Issues First Published Guidance on the Short Supply Controls, Reed Smith Client Alert (Dec. 30, 2014).
- It should be noted that parties to a transaction other than the “exporter of record” may be liable for a commingling violation. See Jeffrey Orenstein, Condensate Exports Raise Compliance Questions for Purchasers, Reed Smith Client Alert (Nov. 7, 2014).
Client Alert 2015-004