On January 13, 2020, the U.S. Department of Treasury (Treasury) finalized implementation of the Foreign Investment Risks Review Modernization Act (FIRRMA) by issuing two final rules that expand the authority and responsibility of the Committee on Foreign Investment in the United States (CFIUS) to determine whether a foreign investment in U.S. businesses poses a risk to national security.
As explained below, the first rule covers CFIUS's jurisdiction to review investments by foreign persons in U.S. businesses, including sections previously covered by the critical technologies pilot program; the second rule covers CFIUS's jurisdiction to review transactions involving certain U.S. real estate. Except for a few notable changes, the final rules substantially track the proposed rules published on September 17, 2019 and will go into effect on February 13, 2020.
Overview of CFIUS and the FIRRMA Amendments
Established in 1975, CFIUS is an interagency committee charged with protecting national security by reviewing economic transactions involving foreign entities. It is chaired by the secretary of the treasury, with the day-to-day functions carried out by the Office of the Assistant Secretary for Investment Security at the Department of Treasury. Before FIRRMA, CFIUS's jurisdiction was limited to transactions "by or with any foreign person that could result in foreign control of any U.S. business." 31 C.F.R. § 800.207. Accordingly, the review focused primarily on determining whether the acquiring party qualified as a "foreign person" and whether the resulting governance structure would result in "foreign control."
Congress increased CFIUS's authority with FIRRMA. Designed to "modernize and strengthen" CFIUS, FIRRMA expanded CFIUS's jurisdiction to include two additional transaction types:
- Transactions involving non-controlling investments in certain U.S. businesses involving "critical technologies," "critical infrastructure," or "sensitive personal data" of U.S. citizens; and
- Purchases or leases of land, air, or sea ports, or of land located near U.S. military installations and other sensitive locations.
In addition, FIRRMA and proposed rules made a CFIUS review mandatory for certain foreign government-related transactions and "critical technology" investments, as discussed further below.
CFIUS holds the power to review, modify, or unwind a covered transaction at any time—even years after the closing of a deal. Although notifying CFIUS of a proposed transaction has generally been voluntary, eliminating the risk of CFIUS review by receiving approval pre-closing is typically preferred. With the final rules, Treasury has refined the proposed rules and clarified certain ambiguities, using clarifying examples and explanations.
Key Takeaways from the New CFIUS Rules
"Excepted Foreign States" and "Excepted Investor"
The final rules identify Australia, Canada, and the United Kingdom in the initial list of approved excepted foreign states based on the United States' robust intelligence sharing and defense industrial base integration with those countries. CFIUS notes that this list may expand in the future.
The final rules relax the requirements for "excepted investor" classification. To be an "excepted investor," the following criteria must be met: (1) 75% or more of the board members and observers must be U.S. nationals or nationals of an excepted foreign state; (2) holders of 10% or more of the outstanding voting interest must be U.S. nationals or nationals of an excepted foreign state; and (3) at least 80% of the ownership interest must be held by U.S. nationals or nationals of an excepted foreign state.
Defining "Principal Place of Business"
Under the new rules, the "principal place of business" is defined as an entity's "nerve center." In other words, the principal place of business is "the primary location where an entity's management directs, controls, or coordinates the entity's activities, or, in the case of an investment fund, where the fund's activities and investments are primarily directed, controlled, or coordinated by or on behalf of the general partner, managing member, or equivalent." However, even if an entity claims its nerve center to be within the United States, the principal place of business will be found to be outside of the United States if the entity has represented otherwise in a recent U.S. (federal or state) filing or submission or other filing to a foreign government. This remains an interim rule, and Treasury invites public comments through February 13, 2020.
Mandatory Declarations for Certain Foreign Government-Related Transactions and "Critical Technology" Investments Become a Permanent Requirement
For two types of transactions, the final rules make permanent the mandatory filing requirements introduced in the proposed rules. The first type of covered transaction is one that results in a "substantial interest" of a technology, infrastructure, or data (TID) U.S. business being transferred to a foreign government. The rule defines "substantial interest" via a two-prong test: (1) a foreign entity obtains 25 percent or greater voting interest in a U.S. business; and (2) a foreign government holds 49 percent or greater voting interest in the foreign entity's general partner, managing partner, or equivalent. For both prongs, the voting interest may be held either directly or indirectly.
The second type of covered transaction is a transaction designated in the pilot program—an investment, either noncontrolling or controlling, in a U.S. business that produces, designs, tests, manufactures, fabricates, or develops critical technology. Notably, the final rule steps away from the use of the North American Industry Classification System (NAICS) codes, a self-designated classification, and Treasury "anticipates issuing a notice of proposed rulemaking" to set forth a new classification system "based on export control licensing requirements." The final rule exempts certain transactions previously covered under the pilot program. One exempt transaction involves companies developing items controlled solely for mass market encryption reasons.
CFIUS's Jurisdiction Over Real Estate
Under the final rule, the definitions of "excepted real estate investor" and "excepted real estate foreign state" are parallel to those of "excepted investor" and "excepted foreign state." The emphasis remains with the potential national security vulnerabilities arising from foreign investment in real estate located near airports, maritime ports, military installations, and other key U.S. government properties. Treasury plans to release a web-based tool for the public to identify CFIUS's geographic coverage.
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Venable will continue to track ongoing developments with CFIUS, the final rules, and other related developments. Please contact Ed Wilson, Alexander Koff, or Andrew Bigart if you have any questions about CFIUS, the new rules, or making a CFIUS filing for a pending transaction.